The EU Sustainable Finance Disclosure Regulation (SFDR) is a pending European regulation mostly requiring ESG disclosure from EU-based investment managers at a firm level and on individual products. Once this regulation is in force, EU investment managers may expect or require portfolio companies to disclose this information.

What is it? When is it happening?

The EU SFDR is a pending regulation that would require all financial market participants in the EU to disclose ESG principles and data, with increased disclosure requirements on financial products that market themselves as having ESG characteristics or have sustainable objectives. It also has requirements for investment managers who market products to European investors, regardless of where they are based.  Additionally, investment firms will be expected to disclose certain items at the individual fund or product level.

There are 2 general levels to the EU SFDR. Level 1 will go into effect on March 10th, 2021, and can be thought of as the “principle-level.” Disclosure here is not precise but largely requires investment managers to disclose if they consider sustainability risks in their investment process, and the policies they use to do so. This is a high-level disclosure.

Level 2 is more specific and is referred to as the Regulatory Technical Standards (RTS). Here, investment managers will be expected to provide disclosure of “Principal Adverse Impact (PAI)” indicators. Basically, this is the list of data points investment managers will be concerned with disclosing. Some data points will be mandatory, others voluntarily.

It is important to note that the RTS has not yet been finalized by the European Commission. The final draft of the RTS was just submitted by the European Supervisory Authorities on February 5th. The European Commission is roughly expected to endorse the RTS within 3 months. As of now, disclosure of some PAIs will be expected January 1, 2022. Others will be delayed one more year.

There have been complaints and pushback from the investment management community that these regulations are being implemented too quickly. Even without these complaints, any type of regulation timeline is always subject to change.

Why does the new regulation matter?

When European investment managers are finally required to disclose these metrics, they will accordingly need disclosure from portfolio companies.

Why is MSCI requesting information?

Issuers have received multiple emails from MSCI, and likely other providers as well. MSCI and similar companies recognize that if this regulation goes through, investment managers will need a lot of ESG data from portfolio companies. As an ESG data provider, MSCI is aiming to build a platform that will collect portfolio company data required from EU SFDR for investment managers.

How to prepare.

The earliest that disclosure of actual PAI’s will be required from some investment managers is 2022. That timeline is subject to change. The final RTS with the list of data points being evaluated has not yet been approved. There is a lot of pushback from the investment community on implementing such a regulation so quickly.

Despite this uncertainty, continued monitoring of how the EU SFDR progresses is recommended. It would be good practice to analyze the set of proposed PAIs and take stock of what data is readily available within your company. Publicly disclosing this data in an annual or CSR report would be considered best practice going forward. At a minimum, beginning to collect this data internally and having it readily available for the future would mitigate risk.

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