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Sustainable Investment

We help you understand the challenges of sustainable investment and ESG regulations, including the Sustainable Finance Disclosure Regulation (“SFDR”) directive that came into force on 10 March 2021 in the EU.

Although SFDR does not apply in the UK, SFDR does apply to EU and non-EU AIFMS, UCITS management companies and MiFID firms providing the service of portfolio management marketing funds into the EU under national private placement regimes.

Introducing new concept

The SFDR introduces a number of new concepts that firms will need to understand when disclosing their ESG approach.

Reminder of the high-level impacts:

SFDR is part of an action plan and it applies at both firm and product level in respect to all financial products. SFDR requires all AIFMs, UCITS management companies, and MiFID firms providing the service of portfolio management to make certain pre-contractual, website and periodic disclosures on various sustainable investment issues. At a high level, these include:

For all relevant entities

How the entity integrates sustainability risks into the investment decision making process, how the entity takes account of the principal adverse impacts of investment decisions on sustainability factors (on a comply or explain basis) and how their remuneration policies are consistent with the integration of sustainability risks. Firm level obligations include:

For all relevant products

Remember that all of your products are captured – not only those with an ESG focus. All products will need to disclose the likely impacts of sustainability risks on the returns of the product (or explain why such risks are not considered relevant). If the relevant entity is complying with the principal adverse impact requirements, each of that entity’s products will also need to disclose whether and how it considers the principal adverse impacts on sustainability factors. Product level obligations for all financial products include:

In addition, the disclosures requirement provided by Article 5, Article 6 or Article 7 of the Taxonomy Regulation must be complied with as of 1 January 2022, with regards to the first two environmental objectives of the EU Taxonomy. Those disclosures must reflect whether and to what extent the investments underlying the financial product consider the EU criteria for environmentally sustainable activities. Detailed content and presentation of the Taxonomy-related disclosures will be provided by the Level 2 regulation (“RTS”).

For ESG focused products

Products that promote environmental or social factors (Article 8) or have a sustainability objective (Article 9) have additional disclosures to be made, following detailed frameworks set out in the Level 2 regulation. Product level obligations for ESG focused products include:

According to a recent survey conducted by the EFAMA,  Article 8 SFDR funds had net assets under management of EUR 3.7 trillion and Article 9 funds had net assets under management amounting to EIR 340 billion at the end of the first quarter of 2021.

Three key points to note now:

1. Remember the UK!: Although SFDR will not be directly applicable, your UK operations may still be indirectly caught – for example in the following circumstances:

  • if you will continue to market your funds into the EU as of 1 January 2021
  • if, as we have seen with a number of fund managers, your firm is part of a group that has decided on a global basis to implement SFDR as a baseline commitment to effective ESG disclosure – meaning their entities and funds can be aligned with those in the EU. Many firms consider this to be a key commercial imperative, reflecting the needs of their investors.
  • Remember TCDF!: In the UK, The Task Force on Climate Related Financial Disclosures has determined various obligations, including:

2. Don’t underestimate the preparation involved. Compliance with SFDR is a time intensive task, bespoke to every entity and product. Although framed as requiring only disclosures, it in practice requires firms to make strategic business and policy decisions – which will then need to be disclosed. It is not possible simply to include a standard disclosure in your prospectuses or PPMs or on your websites.

3. Be aware of the implications of the Level 2 delay. The SFDR disclosures outlined above are supplemented by Level 2 measures, which set out in much greater detail what firms need to disclose at both an entity and a product level. These include a number of highly detailed and scientific metrics, many of which would have been impossible to obtain and disclose by 10 March 2021. Following industry feedback, the European Commission has confirmed that compliance with these more onerous requirements will be until January 2023. Although this is good news for now, it does not remove the issue entirely. The main requirements will still apply and so these will need to be dealt with on a best efforts, principles based approach. Practically this is a challenge as:

  • you will have to consider how best to approach these disclosures on a more narrative, qualitative basis;
  • it effectively means a two-stage compliance, with updates required again when Level 2 comes into force;
  • the data for the PAI reporting must be collected from 1 January 2022, although the Level 2 is not yet approved by the European Commission and
  • the data problem of how to source the required disclosures remains an issue for the industry as a whole.

How we can help

We are advising many of our fund managers across Europe on the implementation of SFDR and have an expert team across all fund types and asset classes. We can assist in many ways depending on your internal needs and resourcing, including:

  • assisting with scoping out how your firm and products will be affected by SFDR, including analysis for determining whether a particular product will fall under Article 8 or Article 9;
  • providing detailed frameworks for compliance with the various disclosures;
  • assisting with the drafting of the relevant policies and disclosures;
  • general support with the business in understanding the far-reaching effects of SFDR and identifying any gaps in our existing ESG materials.

Our experience and approach add real value to the fund managers whom we advise:

Whether you are launching, operating, lending to or investing in a fund or an alternative indirect investment vehicle, CMS Funds Group understands not only your business and your requirements, but also the funds landscape and its markets. To find out how we may help you, and to access materials to help with your day-to-day operations and investment decisions, visit our page.

CMS Funds Group

Ex­pert ad­vice at every stage of the funds li­fe­cycle

Climate Change and ESG

Securing a sustainable future together

Renewables guide

Sustainable finance

The op­por­tun­it­ies for the re­new­ables sec­tor

coloured leaves

SFDR and market uncertainty: The post-10 March implications for fund distribution across Europe

To obtain the recording of the event, contact your CMS lawyer.

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CMS Next
What’s next? In a world of ever-ac­cel­er­at­ing change, stay­ing ahead of the curve and know­ing what’s next for your busi­ness or sec­tor is es­sen­tial.At CMS, we see ourselves not only as your leg­al ad­visers but also as your busi­ness part­ners. We work to­geth­er with you to not only re­solve cur­rent is­sues but to an­ti­cip­ate fu­ture chal­lenges and in­nov­ate to meet them.With our latest pub­lic­a­tion, CMS Next, our ex­perts will reg­u­larly of­fer you in­sights in­to and fresh per­spect­ives on a range of is­sues that busi­nesses have to deal with – from ESG agen­das to re­struc­tur­ing after the pan­dem­ic or fa­cing the di­git­al trans­form­a­tion. We will also share with you more about the work that we are do­ing for our cli­ents, help­ing them in­nov­ate, grow and mit­ig­ate risk.To be able to provide you with the best sup­port, we im­merse ourselves in your world to un­der­stand your leg­al needs and chal­lenges. However, it is equally im­port­ant that you know who we are and how we can work with you. So, we in­vite you to meet our ex­perts and catch a glimpse of what is hap­pen­ing in­side CMS.En­joy read­ing this pub­lic­a­tion, which we will up­date reg­u­larly with new con­tent.CMS Ex­ec­ut­ive Team
Cli­mate Risk re­port
At COP26 in­sti­tu­tion after in­sti­tu­tion came for­ward to make stronger com­mit­ments to what is now broadly seen in most coun­tries as a com­mon goal: to re­duce glob­al car­bon di­ox­ide emis­sions. In par­tic­u­lar, the private sec­tor stepped up to the plate. For ex­ample, the Glas­gow Fin­an­cial Al­li­ance for Net Zero pos­ited a po­ten­tial USD 130tn of private cap­it­al to ac­cel­er­ate the green trans­ition. COP26 also es­cal­ated the role of cli­mate dis­clos­ures in achiev­ing net zero. To achieve glob­al com­par­ab­il­ity, the In­ter­na­tion­alSus­tain­ab­il­ity Stand­ards Board (ISSB) is to de­liv­er a glob­al baseline that gives in­vestors in­form­a­tion about the cli­mate and sus­tain­ab­il­ity risks in re­la­tion to com­pan­ies they (may) in­vest in. Fur­ther, the UK in­tro­duced re­quire­ments for all lis­ted com­pan­ies to pro­duce net-zero trans­ition plans by 2023. These are seen as drivers for achiev­ing cli­mate-pos­it­ive in­vest­ing.In­ter­na­tion­al com­mer­cial law­yers have a cru­cial role to play in nav­ig­at­ing and im­ple­ment­ing the frame­works that emerge from COP26. Be­ing guard­i­ans of the rule of law and fa­cil­it­at­ors of busi­ness and trade, law­yers will be at the centre of dis­cus­sions on what our cli­ents are re­quired to do, and also on what they should do in light of wider so­ci­et­al and repu­ta­tion­al con­sid­er­a­tions. It is in our cli­ents’ in­terests that we guide them to­ward out­comes in line with wider so­ci­et­al am­bi­tions. To do oth­er­wise would, among oth­er things, risk pla­cing them at a com­pet­it­ive dis­ad­vant­age as the world pivots to­ward a clear­er cli­mate mit­ig­a­tion agenda. Cli­mate Risk is a broad term and cov­ers a mul­ti­tude of con­cepts. This re­port fo­cuses on three leg­al risks. First, of fin­an­cial in­sti­tu­tions hold­ing cor­por­ates to ac­count over per­ceived cli­mate risks. Second, the risk to cor­por­ates on what they do and say about the im­pact on their busi­ness from (or from their busi­ness on) cli­mate change. Fi­nally, risk of lit­ig­a­tion against cor­por­ates re­lat­ing to cli­mate change.As law­yers, what we see is broadly a great de­sire among our cli­ents to be part of the solu­tion on cli­mate change. Al­most all ma­jor cor­por­ate cli­ents that we speak to wish to take pos­it­ive steps that are in line with the de­sire for cli­mate ac­tion, and also to cap­it­al­ise on the op­por­tun­it­ies presen­ted as we trans­ition to a net zero eco­nomy. We find that, among the in­vest­ment com­munity, vast cap­it­al is ready and avail­able to be de­ployed on in­fra­struc­ture and oth­er pro­jects that will push the agenda for­ward. The ques­tion is wheth­er there is suf­fi­cient clar­ity on the agenda, the rules and the risks in­volved.As this re­port shows, a key driver of Cli­mate Risk for cor­por­ates re­volves around in­form­a­tion. Both quan­ti­fi­able in­form­a­tion about the po­ten­tial dir­ect im­pacts of cli­mate change on par­tic­u­lar sec­tors and busi­nesses. And also con­sist­ent, com­par­able and re­li­able in­form­a­tion about the com­pan­ies them­selves. Com­pan­ies are pro­du­cing re­ports that are de­lu­ging in­vestors on how they are meas­ur­ing and man­aging their im­pact on and from cli­mate change. However, there is some dis­tance to go be­fore in­vestors can com­pare the in­form­a­tion across the eco­nomy to make in­formed de­cisions. Or­gan­isa­tions such as Baringa, who have kindly con­trib­uted to this re­port, sup­port the same cli­ents from a par­al­lel per­spect­ive. They help in­vestors and cor­por­ates to as­sess cli­mate risk ex­pos­ure by us­ing Baringa’s Cli­mate Change Scen­ario Mod­el­ling. Tools such as these are in­valu­able for mak­ing the best de­cisions from the in­form­a­tion avail­able on risks to com­pan­ies and the cred­ib­il­ity of their ad­apt­a­tion and trans­ition plans.On cli­mate lit­ig­a­tion, this is a dir­ect and grow­ing risk to cor­por­ates who fall un­der the spot­light of a vari­ety of po­ten­tial claims against an in­creas­ing num­ber of po­ten­tial claimants. It is prudent to act­ively man­age this risk through dis­pute avoid­ance strategies, hav­ing plans in place to deal quickly and ef­fect­ively with the situ­ation where a claim is brought, and un­der­stand­ing the key fea­tures that are typ­ic­ally at play in such lit­ig­a­tion.Cor­por­ates are well aware that cli­mate risks are an in­teg­ral fea­ture of their busi­ness plan­ning. What some oc­ca­sion­ally cri­ti­cise is the lack of long term cer­tainty. Mak­ing knee jerk de­cisions based on woolly polit­ic­al sen­ti­ments that could change to­mor­row rarely makes good busi­ness sense. Clear­er long term policy state­ments from gov­ern­ments and inter-gov­ern­ment­al in­sti­tu­tions can help on this, as well as clear­er policies on how gov­ern­ments see the shape of the fu­ture zero car­bon eco­nomy, and the path­ways to it. Quite apart from the out­comes of COP26, with the private sec­tor com­mit­ting en masse to the cli­mate agenda and the abil­ity to scru­tin­ise the private sec­tor’s re­sponse through cli­mate dis­clos­ures, net zero plans and oth­er ac­tions they take, we an­ti­cip­ate that the is­sue of Cli­mate Risk will con­tin­ue to rise up board­room agen­das.
CMS Funds Mar­ket Study 2021
Peri­od­ic­ally, CMS takes sound­ings on the state of the mar­ket from our funds-re­lated cli­ents. Giv­en the un­pre­ced­en­ted nature of the last 12 months we thought this was an op­por­tune time to look back over the last few years. This study ana­lyses the key mar­ket trends in fund doc­u­ment­a­tion of over 300 funds es­tab­lished in Europe, Asia, USA and off­shore jur­is­dic­tions ad­vised on by CMS of­fices through­out 2017 to 2020. We have also con­duc­ted cli­ent in­ter­views, which are high­lighted in this re­port, and con­duc­ted a se­lect­ive sur­vey of our in­ter­na­tion­al cli­ent base.We trust this CMS Funds Mar­ket Study will be a use­ful guide for both man­agers and in­vestors this year. The size of our deal sample and the range of coun­tries in­volved means that the study should be a uniquely valu­able and rich re­source for man­agers and in­vestors. Our re­search in­dic­ates that funds in­dustry play­ers are clear on how to move for­ward and that, while strategies may have shif­ted, there are reas­ons for op­tim­ism and bullish­ness, un­like the gloom that des­cen­ded after the glob­al fin­an­cial crisis in 2008.Look­ing for­ward we see an act­ive funds mar­ket, with Lux­em­bourg be­ing the jur­is­dic­tion of choice for European funds. ESG is now a key fo­cus for in­vestors. This mar­ket im­petus and reg­u­lat­ory drivers are mov­ing sus­tain­able in­vest­ment from a niche fo­cus in­to the main­stream for in­vestors and man­agers alike. We also see man­agers in­creas­ingly look­ing at the be­ne­fits and im­pact of AI and tech­no­logy with the token­isa­tion of as­sets and the use of block­chain. We see this pace of change ac­cel­er­at­ing.If you have any feed­back or ques­tions, we would love to hear from you.
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