The Financial Markets Authority (FMA) has put fund managers on notice that it wants greater clarity and disclosure around ESG (environmental, governance and social) claims so that investors are able to make informed decisions.
The report reflects the findings of a “high level” review, conducted last year by the FMA, into 14 KiwiSaver and managed funds, benchmarked against the FMA’s integrated financial products guidance, issued in December 2020.
Scope of the FMA inquiry
The fund selection was based on the use of keywords such as “socially responsible”, “impact”, “ESG” and “environmental”.
The FMA reviewed the funds’ disclosure documentation, in particular Product Disclosure Statements and Statements of Investment Policy and Objectives. It did not investigate actual investment allocations or try to verify specific product claims.
While the FMA found “weaknesses in information disclosure”, it did not investigate or identify any examples of “greenwashing” - i.e. misleading product claims based on ESG factors.
Five key FMA messages
- Explain exclusions - set out why the fund has excluded particular companies and sectors, and how exclusions will be applied in the future.
- Be clear about the relevance and weight of financial and non-financial factors in decision-making, and the risks that come from including non-financial factors.
- Set out how you will select investments for your ESG fund.
- Don’t rely on “high-level” and amorphous claims of non-financial benefits or impacts.
- Explain how you will measure performance and deal with investments that no longer meet the original criteria for selection into the ESG fund.
The FMA provides some practical steps fund managers can take to improve their disclosures along these lines.
It also suggests that clear disclosure makes sound commercial sense, citing focus group research that shows retail investors are not confident in evaluating ESG labels and that this can lead to a decision not to invest. In particular, “most investors do not fully read a Product Disclosure Statement (PDS), instead relying on fund managers’ websites and marketing materials, as well as the opinions of friends”
The new FMA Chief Executive Samantha Barrass has emphasised, in a recent speech, the need to understand consumer behaviour in order to produce better regulation and better outcomes:
“Success, will require us to deepen our understanding of consumers and how they interact with financial markets and services. This means we will be investing in data and intelligence and behavioural insights capability to help inform our approach”.
The report is the latest in a line of thematic reports aimed at moving industry behaviour without having to resort to enforcement action or establish actual breaches of the law. This may be an efficient way to “lift all boats” but it risks casting shade on an entire sector when performance is variable. As you’d expect, some funds are significantly more advanced on explaining ESG issues than others.
The fundamental problem is the absence of agreed terms and definitions, and the temptation this creates to resort to puffery in order to avoid potential legal liability. To its credit, the industry is working actively and collectively to address this through the development of clear taxonomies and certification programmes.
The end objective is to achieve disclosure that is complete and “fit-for-purpose”, recognising that retail investors cannot be relied upon to read or digest extensive disclosure.
We are happy to assist should you want help with ESG claims or have any questions about the FMA’s more detailed advice.