Sustainability disclosure and labelling regime

If a firm is updating its pre-contractual disclosures to use a label or to meet naming and marketing rules, for example, if amending the investment objective, it will need to submit these updates to us before starting to use the label, or before the naming and marketing rules take effect. 

The FCA will not be approving use of the label, but we may need to approve changes to pre-contractual disclosures as a result of the firm’s decision to use the label. Firms are responsible for making their assessment against the criteria for a label. We will apply our usual supervisory and enforcement approaches to this regime.

We remind firms that are subject to requirements in the COLL sourcebook to consider their pre-event notification obligations if making changes to an existing product.

If using a label, firms will be able to download the graphic from the form on our online notification and applications system. More details on the notification form will be available shortly.

To qualify for a label, a product must have a sustainability objective that is clear, specific and measurable, and part of the product's investment objectives. The sustainability objective is an explicit statement of intention to invest 'with the aim of directly or indirectly improving or pursuing positive environmental and/or social outcomes'. This is the foundation of our classification and labelling approach.

As stated in the Policy Statement, referring to broad statements, such as referring to SDGs alone, is unlikely to be specific. This includes statements that the product is 'seeking to achieve positive environmental and/or social outcomes'.

Specific objectives will help consumers understand what particular sustainability goals the product is seeking to achieve. These may be based on certain sustainability characteristics, themes and/or outcomes.

We remind firms subject to the Consumer Duty (PDF) to consider the appropriate level of detail for their communications. This will support consumers in making effective decisions by selecting products that help them pursue their financial objectives.

In our Policy Statement we clarified that products may aim to improve or pursue positive environmental and/or social outcomes either: 

• indirectly through investing in assets with sustainability characteristics that either meet (Sustainability Focus) or have the potential to meet (Sustainability Improvers) a robust, evidence-based standard of sustainability;  
• directly through both the firms’ investment activities and sustainability characteristics of the assets (Sustainability Impact); or 
• both indirectly and directly (Sustainability Mixed Goals) 

To meet the rules, sustainability objectives for a Sustainability Focus or Improvers fund should demonstrate how the product is invested consistently with an aim to meet, or have the potential to meet, a robust, evidence-based standard, for example, the relevant sustainability characteristics or themes that the product has or is investing in. ESG 5.3.3R(2)(b) requires disclosure of the link to positive sustainability (environmental and/or social) outcomes within the pre-contractual disclosure, but there is no requirement for this to be part of the objective. 

A Sustainability Impact fund's objective should demonstrate how the product is invested consistently with an aim to achieve a pre-defined, positive, measurable impact in relation to an environmental and/or social outcome, for example, the outcomes that the product is seeking to achieve form part of the sustainability objective.

In our Policy Statement, we acknowledged that all labels have some of the common features associated with impact investing, such as a sustainability goal, key performance indicators (KPIs) and reporting on progress. However, the Impact category is differentiated by Focus and Improvers given the objective of the product is to directly achieve a positive impact in relation to an environmental and/or social outcome. It should therefore be clear to a consumer what outcomes the particular product is pursuing.

Key attributes of the Impact category are theory of change and measurability (both of the product's assets and the investors' contribution).

In accordance with the Handbook definition, the theory of change should demonstrate how and why a desired change is expected to occur in a particular context. While the sustainability objective should clarify what outcomes the product is seeking to achieve, the disclosure should also set out what change is expected to occur in a particular context as well as the how and why. However, this detail is not required in the sustainability objective.

The theory of change should also describe how the firms' investment activities and the product’s assets contribute to achieving the positive and measurable impact.

The pre-contractual disclosure must also include a summary of the robust method used to measure and demonstrate that the investment activities and the product’s assets are achieving a positive environmental and/or social impact.

We have not been prescriptive around whether the method of measurement is qualitative or quantitative, provided that it's robust and details of the impact achieved can be clearly disclosed in the ongoing product-level reporting. While we don’t need specific or quantitative details of the impact achieved in the pre-contractual disclosures, we may ask for contextual details to better understand how a particular measurement will demonstrate that a particular change, impact and/or outcomes are being achieved.

The pre-contractual disclosures must include details of the KPIs that will be used to measure progress towards meeting the sustainability objective, and/or other metrics that a retail client may reasonably find useful in understanding the investment policy and strategy for the product.

Where a firm is using a label, KPIs that will be used to measure progress towards meeting the sustainability objective must be disclosed, and other metrics can be disclosed as appropriate.

ESG 5.3.3R(3)(c) requires disclosure of the proportion of assets that are invested in accordance with the sustainability objective (which can be disclosed as an approximate figure or range). This demonstrates that the appropriate proportion of assets have been selected and is not the same as a KPI that demonstrates progress towards meeting the sustainability objective. KPIs should enable a consumer to understand on an ongoing basis whether their investment is achieving the aim of directly or indirectly improving or pursuing positive environmental and/or social outcomes.

We note that for a Sustainability Focus fund, the KPIs may demonstrate that the sustainability objective has been met, as opposed to ongoing progress towards the objective.

We haven't been prescriptive around whether KPIs are qualitative or quantitative, provided that they are robust and evidence-based (as required under ESG 4.2.4R(3)). We may ask for details on the rationale for selecting KPIs.

Stewardship is an important principle that applies to all the labels. Firms must identify and disclose the stewardship strategy needed to support the delivery of the sustainability objective.

We recognise that stewardship can take place in different forms. The disclosure should clearly disclose how the stewardship strategy supports delivery of the particular sustainability objective for the fund.

Firms must also set out an escalation plan to be able to take action when assets don’t demonstrate sufficient progress towards the sustainability objective and/or KPIs.

Our rules don't set out any specific requirements for a fund of funds. Where a fund in scope of the regime invests in other funds, those funds will be treated as assets.

The rules apply as usual to the authorised fund, so the  firm is responsible for ensuring the labelling criteria for the fund of funds is met, and must make the associated disclosures or comply with the naming and marketing requirements.

The qualifying criteria for labels were designed to accommodate both active and passive strategies, where for passive strategies the product tracks an index that meets the criteria for a label.

To meet the criteria for a label, a fund manager must ensure that at least 70% of the gross value of the sustainability products' assets are invested in accordance with the sustainability objective. This doesn’t necessarily mean that the sustainability objective is pursued on an asset-by-asset basis, provided that at least 70% of the gross value of the products' assets are invested in accordance with the sustainability objective.

In the policy statement and final criteria, we clarified that KPIs to demonstrate progress towards the sustainability objective can be either product-wide or asset-specific. Managers will need to determine which KPIs are appropriate for their fund. For example, for index-tracking strategies, product-wide KPIs may be preferred where they align with portfolio selection and monitoring processes.

Managers must be able to demonstrate that 70% of the gross value of assets held within the fund are invested in accordance with the sustainability objective on an ongoing basis. In the policy statement, we acknowledged that assets may be removed or added when an index provider rebalances the index. However, the fund manager retains responsibility for meeting the criteria. Where the fund is judged to no longer be invested in accordance with the sustainability objective, the manager must take steps to restore compliance with the criteria as soon as reasonably practicable.

We haven’t prescribed monitoring processes to ensure that the criteria are met. We noted, for example, that for index funds this may include regular engagement with the index provider. Managers must monitor their funds as appropriate and meet the relevant disclosure requirements.

We acknowledge that stewardship may take place in different forms for different asset classes and strategies. Stewardship can be undertaken at the overall firm-level or on a product-specific basis. Managers must ensure that the investor stewardship strategy and appropriate resources are applied to support the achievement of the sustainability objective, including with respect to index-tracking strategies.

Products tracking Paris Aligned Benchmarks and Climate Transition Benchmarks can qualify for labels, provided that the qualifying criteria are met. But tracking those benchmarks alone doesn’t necessarily mean they meet the criteria for a label. As with all labels, firms will need to determine whether the assets in the fund meet the criteria.

We're not being prescriptive around how certain assets should be treated. If firms determine that sovereign bonds, derivatives, or other assets, meet or have the potential to meet a robust, evidence-based standard of sustainability, they can be in the part of the product that pursues the sustainability objective. Otherwise, they can still be included in the product provided that the firm discloses the type of asset held and why.

The robust evidence-based standard must be an absolute measure of environmental or social sustainability. We're not being prescriptive around asset selection processes.   

However, for the Sustainability Improvers label, the methodology or approach to select assets may be a relative measure or approach, for example, selecting the 'best-in-class' for a particular sector.

Aligned and aligning financing strategies are most likely to be found in Sustainability Improvers products. Both strategies direct financing to assets issued by companies that are still in transition. Therefore, even in the case of an aligned financing strategy, the investment is unlikely to already meet a reasonable investor's threshold for sustainability.

Both aligned and aligning financing strategies (including, for example, products tracking a Paris-Aligned and Climate Transition benchmark) may form part of the asset selection approach in a Sustainability Improvers product, where that product is directed towards a future 1.5°C emissions profile for assets.