The main aim of the European regulation SFDR is to ensure more capital inflow to sustainable activities and businesses. Strict transparency requirements serve as a test of an investment fund’s sustainable claims, allowing investors to distinguish grey from green. To this end, the regulations apply the following classifications: Article 6 (unsustainable, 'grey' funds), Article 8 (funds with one or more ESG selection criteria) and Article 9 funds (dark green funds with broad sustainability goals).
Triodos IM has given all investment funds the highest rating. However, large fund houses that opted for Article 9 are now backtracking. Last year, they downgraded as much as USD 140 billion of investments to Article 8. Kuiper thinks this is a missed opportunity to achieve positive impact: "It’s sad that parties downgrade themselves to Article 8. That is not enough to achieve real change. With Article 8, you won't achieve a sustainable world; it's like trying to empty the ocean with a thimble."
Nikkie Pelzer, Impact Manager at Triodos IM, attributes the retreat to the onerous reporting requirements for Article 9. "It takes enormous effort to comply with the label. You have to measure, report and track negative impact across a range of 18 criteria such as CO2 emissions and human rights."
In addition, it has recently become clear that the entire portfolio of an Article 9 fund must meet sustainable objectives. "Investing in oil, even for just a small percentage of the portfolio is not possible. Moreover, you have reputational damage if the media uncover these irregularities within an Article 9 fund," says Pelzer. An asset manager's actual intentions are under a magnifying glass.
Why we won't save the world with article 8
Pelzer fears that many retail investors see little difference between Article 8 and 9. "After all, the figures are close to each other. This puts investors on the wrong track because they assume that Article 8 must therefore be sustainable too. However, there are fundamental differences, both in approach as well as in actual impact."
Article 9 requires proof that you contribute to a clear sustainable objective, you do not cause harm with your investments, and you invest in companies and projects with good governance. "Article 8 only meets the last criteria and the second one only partly. In practice, this often amounts to best-in-class investing. In doing so, you are still allowed to invest in polluting sectors such as oil and the aircraft industry, but only in those companies with the highest ESG score," Pelzer observes.
For Kuiper, best-in-class is completely outdated. She explains: "The idea that by investing in the least bad companies you make a polluting sector sustainable is based on nothing. Your only tool is engagement by talking to companies. Perhaps you have some success in one sustainable area such as CO2 emissions, but the sustainable impact is far too small. There is too little change, too slowly. You might be investing slightly less badly than grey funds, but that doesn’t mean you are moving people and the planet forward."
Sustainable investing goes beyond risk mitigation
Best-in-class takes into account climate-related risks for example, but it does not take up the challenge of removing the underlying reasons for those risks by investing in the solutions.
Kuiper: "We, therefore, choose to invest in those companies that have the intention of truly becoming part of a sustainable economy. With good investments, you see a clear intent, aside from good ESG performance, to contribute to the sustainable transition."
According to Kuiper, that also means looking at and reporting on the impact of products and services of the companies you invest in. This should not just be based on the ESG score of the company itself, which only says something about how a company operates. "Real sustainability is only achieved with article 9 funds. If there are not enough of these, then this European regulation has failed."
Triodos IM urges to opt for real sustainability
Kuiper does not comprehend why large asset managers put their sustainability ambitions on ice. "I am not saying it is easy to comply with Article 9. It takes a lot of commitment and conviction. But shouldn't we be able to expect that from parties with far more resources and capacity than Triodos IM? How far does your sustainable conviction go? Why not adapt your funds to Article 9? These are questions that customers of these asset managers can now rightly ask."
As one of the few Article 9 fund providers, Triodos IM has a commercial advantage, Kuiper acknowledges. "This will attract more sustainable investors to our funds. However, we would like to see many more Article 9 funds, and as soon as possible. It takes a lot of capital to put our economy on a sustainable path, and we need everyone in the investment industry to do this. The financial sector has a responsibility to help companies become sustainable because when you invest money it leads to impact, positive or negative. Which major asset manager will be the first to take that responsibility and adjust funds to comply with Article 9 and thereby contribute to real solutions?"
Finally, Kuiper has a request for legislators. "Now, only sustainable funds have to report on their negative impact. Non-sustainable funds have no such obligation. That is the opposite of what we need. It’s like a world where a packet of cigarettes has no health warning, and an apple requires an entire leaflet containing its positive and negative effects. It would be nice if the legislator obliged all funds to be transparent. That would be fair, and investors would know what they are investing in."