At this stage, the work done by the EU Sustainable Finance Action Plan and Technical Expert Group cannot be ignored anymore. Instead, what investors and the financial community can take action on is to provide constructive feedback on how to execute the regulation most efficiently.
Key takeaways
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“How high?” – What is the European ambition on sustainability and what role do investors play?
The EU ambition for sustainable finance is tri-fold. It is to
At this stage, the work done by the EU Sustainable
Finance Action Plan and Technical Expert Group
cannot be ignored anymore. Instead, what investors
and the financial community can take action on is to
provide constructive feedback on how to execute the
regulation most efficiently.
The EU has mobilised many resources in getting the
first attempt as right as possible. For example, 160
additional technical sector experts were invited to
ensure EU Taxonomy is sufficiently in-depth with the
most scientific knowledge available and peer
reviews. Noteworthy, the first movers are not only
coming, they are already here – EuropeanInvestment Bank’s Climate Awareness Bonds areissued in alignment with the EU Taxonomy.
Our expectations from the EU Sustainable Finance regulation proposals
While the EU Action Plan should be viewed as one whole, we aim to dissect the current developments, how each piece of
legislation interlinks, and most importantly – What are the investment implications?
Timeline
| Disclosures and Investment Selection | Benchmark Regulation | Green Bond Standards | Taxonomy | |
|---|---|---|---|---|
| What changes? | Funds to disclose on their ESG integration and risk management; MiFID II, IDD, IORP II to include ESG considerations | ESG disclosures for all Benchmarks, and the creation of new Climate Benchmarks | Green bond labelling across the EU | New definition of sustainability established |
| What implications? | Demand for transparency, scalability, and clear methodology in ESG investments | Transparency for assessment of ESG performance against benchmark allocation | Harmonisation across the EU Green Bond market | Easiest path of lowest resistance to define sustainable investment product |
| Strictness | Mandatory | Mandatory | Voluntary | Voluntary |
| Adaptation actions | Develop a robust methodology and process to classify sustainable funds | Ask/provide reporting on ESG and climate for funds and indices | Allocate to compliant green bonds and funds | Company activities to be mapped to Taxonomy |
Unresolved questions that still need answers
How to scale up the Taxonomy implementation that is addressed by the Technical Expert Group (TEG) workstream? Is the answer mandatory reporting?
“Data Availability is the greatest hurdle for the implementation of
Sustainable Finance.
… A detailed user guide is being developed [by TEG], and an internet
tool, as well as, usability tests are planned.”
TEG panel, Brussels, 2019
When will fiscal policies begin supporting the Sustainable Finance developments to level the playing field?
Carbon pricing can serve as a market-based instrument to limit global
warming by internalising the costs of and increasing the transparency
of the carbon emissions.
Global alignment is necessary to succeed in driving a meaningful
change and avoiding regulatory arbitrage.
Fiscal Policies by member states and the EU need to be scaled up to
support the sustainability transition.
More sovereign green bond issuances – a green bund or a green gilt?
Technical definitions
Taxonomy
Taxonomy refers to the proposal for a regulation on the establishment of a
framework to facilitate sustainable investment (2018/0178(COD)). Status as
at publishing this paper: agreement on the position reached in the
European Parliament (EP), trilogue ongoing between EP, European Council
(the Council), and the European Commission (EC), but developments are
likely to be delayed by the current political cycle. The expected adoption of
the regulation is to be expected between end-2019 and mid-2022. EU
Taxonomy aims to serve as a “dictionary” on the economic activities that are
in-line with the six environmental objectives of the EU ; the current TEG work
has been published and already covers the first two objectives. The EU
Taxonomy can then be used what economic activities of a corporation are
sustainable, which potentially can then be aggregated on a portfolio level.
The Taxonomy is voluntary to adopt, but it will form the backbone of any
future EU ESG Regulation. For example, under the investment disclosures
regulation mentioned below, the easiest solution for a fund to explain its selection
methodology is to adopt a ready-made Taxonomy.
Investment Disclosures
Investment disclosures refer to the proposal for a regulation on disclosures
relating to sustainable investments and sustainability risks
(2018/0179(COD)). Status as at publishing this paper: political agreement
reached between the co-legislators on the sustainability-related disclosure
requirements. This regulation sets out how financial market
participants and advisors have to disclose their integration of ESG risks
and opportunities in their processes as part of their fiduciary duty. It also
sets the broad principles that an investment has to adhere to if claiming to
be sustainable. A key piece in this is to disclose the methodologies used to
assess, measure and monitor the E&S characteristics or the impact of sustainable
investments. Noteworthy, this regulation introduces the notion of
adverse impact on ESG matters as an investment consideration, e.g.
assets that pollute water.
IDD and MIFID II
ESG in IDD and MIFID II refers to including sustainability considerations in
the Insurance Distribution Directive (IDD) and in the Markets in Financial
Instruments Directive (MiFID II). On the 04/01/2019, the EC proposed two
Delegated Acts to include ESG considerations, which are to be adopted
once investment disclosures on ESG will be agreed at the EU level. Status:
ESMA has delivered its technical advice to the EC, which is in process of updating
the delegated acts. In the meantime, the EC has been very clear in
suggesting for investment firms and insurance distributors to already
prepare for these delegated acts to come into force. Investment distributors
will have to enquire at the point-of-sales, whether their client has ESG preferences,
which subsequently shall be reflected in the investment decision.
Benchmark Regulation
AllianzGI is closely involved as a member of the EU TEG on enhancing the
ESG disclosures of all benchmarks and the creation of two new investment
benchmark categories: a climate-transition benchmark and a Parisaligned
benchmark, by amending the Benchmark Regulation (2016/1011).
Current status: political agreement reached between the co-legislators
with formal rules yet to be approved. The TEG work has been published in
its interim version. These developments will require all major benchmark
providers to have at least one available benchmark from the newly developed
categories. Most importantly, all benchmarks in the EU across
different asset classes will have to disclose their ESG characteristics, with
significant benchmarks having extra criteria. Currency and interest rate
benchmarks are out of scope. The TEG has also developed benchmark decarbonisation
requirements coherent with Paris Alignment targets, which
can aid in the investment benchmarks to be used for improved transparency,
awareness, and comparability.
Green Bond Standard
Green Bond Standard refers to creating an EU-wide label for Green Bond
issuances as a result of proposals by the TEG on Sustainable Finance. It
builds on the current best market practices, such as transparency and useof-
proceeds approach. The standard will be voluntary and applicable to
EU or international projects, as well as, applicable to both listed and
non-listed bonds. It will comprise of four components: alignment of Green
Projects with the EU Taxonomy, a Green Bond Framework, reporting on
allocation and impact, and accredited verification, which are further supported
by 10 recommendations on how to support and monitor the
adoption of the EU GBS. The purpose for this is developing a standard set
in legislation, which standardises the Green Bond issuance to improve
credibility and transparency. The Green Bond Standard is also very likely
to be used as the fixed income verification for the upcoming EU Financial
Products Ecolabel.
MiFID II: Markets in Financial Instruments Directive II
IDD: Insurance Distribution Directive
IORP II: Directive on Institutions for Occupational Retirement Provision II
NFRD: Non-Financial Reporting Directive
Sources:
i. Climate change mitigation; climate change adaptation; sustainable use and protection of water and marine resources; transition to a circular
economy, waste prevention and recycling; pollution prevention and control; protection of healthy ecosystems
ii. European Securities and Markets Authority
iii. Life insurance, Insurance-based investment products (IBIPs), and Undertakings for the Collective Investment in Transferable Securities (UCITS),
private and occupational pensions
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The day after the Fed announced its new rate cut, an escalation in the trade war sparked market volatility globally. Investors should be cautious while recognising that similar mid-cycle cuts have been positive for risk assets. Consider staying invested with an active and defensive approach.
Key takeaways
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reorient capital flows towards sustainable investment,
mainstream sustainability into risk management, and
foster transparency and long-termism.