SFDR 2.0: pivoting in the direction of UK SDR?

On 14 September 2023, the European Commission published a targeted consultation questionnaire to gather feedback prior to proposing potentially fundamental changes to the Sustainable Finance Disclosure Regulation (SFDR). The extent of questions posed points to an "SFDR 2.0", and mirror many of the proposals under the UK’s proposed Sustainability Disclosure Requirements (SDR). 

What’s discussed?

The key themes on which feedback is sought by the Commission are listed below.

• Changes to existing disclosures

The Commission seeks feedback on the utility of the existing entity-level disclosures, the cost impact of SFDR disclosure obligations generally, whether it should impose uniform product-level disclosures for all financial products offered in the EU (e.g. on certain principal adverse impact indicators), regardless of their sustainability-related claims or other considerations, and on ESG data usage challenges and the use of estimates in meeting current disclosure obligations.

• Sustainability product categories

The Commission acknowledges that while SFDR was designed as a disclosure regime, the use of SFDR in practice as a labelling regime (with Article 8 and 9 used as de facto product labels) suggests there might be demand and merit in designing explicit product categories.

The Commission seeks feedback on whether to (i) convert Articles 8 and 9 into formal product categories, while clarifying and adding criteria to underpin existing concepts (such as the promotion of environmental and social characteristics, sustainable investment and do no significant harm), or (ii) splitting categories in a different way which focuses on the type of investment strategy of the product (which may dispense with the need for existing poorly understood concepts). The categories considered under the latter approach are as follows:

A. products investing in assets that specifically strive to offer targeted, measurable solutions to sustainability related problems that affect people and/or the planet;

B. products aiming to meet credible sustainability standards or adhering to a specific sustainability-related theme;

C. products that exclude activities and/or investees involved in activities with negative effects on people and/or the planet; and

D. products with a transition focus aiming to bring measurable improvements to the sustainability profile of the assets they invest in.

Readers may recognise similarities in product categories A, B and D with the FCA’s proposed product labels under the SDR of “sustainable impact”, “sustainable focus”, and “sustainable improver” respectively. The Commission also seeks feedback on the minimum criteria for each of the labels, e.g. encompassing Taxonomy-alignment, engagement strategies and exclusions.

• Naming and marketing rules 

Although only briefly discussed in the paper, the Commission is seeking feedback on additional rules on marketing communications and product names to help ensure that information is accurate and not misleading. This could include a restriction on the use of terms such as "ESG", "sustainable", etc. in products that do not meet one of the proposed labels and the reservation of certain terms for certain labels only (e.g. "impact" only for category A).

What’s the timing for any changes?

The deadline for feeding back to the consultation is 15 December 2023, and there will be a conference ahead of that deadline for further discussion and feedback on 10 October, but the Commission has not yet committed to a timeline for subsequent reforms.

Readers may recall the European Supervisory Authorities (ESAs) recently consulted on changes to the SFDR’s Level 2 legislation (the regulatory technical standards), which closed in July 2023. In practice, the changes to the Level 1 and Level 2 legislation are likely to happen in parallel as part of a comprehensive reform of the SFDR.

Given the timeline for consultation and the breadth of the Level 1 and Level 2 considerations, it seems that more details about SFDR 2.0 are unlikely before mid-2024. It is possible that the Commission might consult again on specific proposals, prior to a communication and draft legislative proposal.