Regulating to support Net Zero, Part 1: Sustainability disclosures and labelling green finance products

By Rachel Waggott, Head of Regulatory Affairs, Innovate Finance

8 November 2021 

This is the first in a series of blog posts on the UK regulators’ approach to climate change. You may also be interested in our White Paper on Net Zero and our coverage of the Government’s Net Zero strategy, here.

Trailed during the Chancellor’s Mansion House speech and the Government’s Net Zero strategy launch last month, the FCA’s Discussion Paper on ‘Sustainability Disclosure Requirements and Investment Labels’ (‘DP21/4’) seeks to address issues around transparency, trust and ‘green washing’ (misleading sustainability-related claims made by products and providers). The regulator calls for feedback on its proposed Sustainability Disclosure Requirements (‘SDR’) and sustainable investment labelling scheme - and while the scope of SDR primarily impacts listed issuers, asset managers and certain FCA-regulated asset owners, we anticipate that analogous requirements may be introduced across the financial services sector over the coming years as the UK quickens the pace to meet ambitious targets agreed at COP26. 

The main headlines are set out below, and this blog outlines briefly some key considerations for the regulator and opportunities for FinTechs. 

• Real economy companies, including listed issuers, asset managers and asset owners will be required to report on their sustainability risks, opportunities and impacts.
• SDR builds on the UK’s Task Force on Climate-related Financial Disclosures (‘TCFD’)) aligned-disclosures and widens the scope beyond climate to other sustainability factors.
• The disclosure and product labelling system will be made up of three tiers: a standardised, classificatory product label; product-level disclosures with key information for retail investors; and entity- and product-level disclosures with more granular information for institutional investors and other stakeholders.
• The labelling system would provide objective descriptions (the regulator is not keen on a ‘traffic light’ approach where products are perceived to be ‘good’ or ‘bad’), and the regulator welcomes views on compatibility with other labelling schemes - such as under the EU’s Sustainable Finance Disclosure Requirements Regulation (‘SFDR’).
• The FCA is also giving thought to how the UK’s SDR will interact with other disclosure initiatives; entity- and product-level disclosures may map to SFDR. Plus, the FCA has indicated that the Government will endorse International Sustainability Standards Board issued standards for use in the UK.
• A Disclosures and Labels Advisory Group (‘DLAG’) is to be set up and chaired by the FCA - members will include industry experts and consumer representatives. The group will provide technical input and constructive challenge to the regulator.
• Regarding verification and supervision, the FCA is to explore whether there is a need for independent verifiers. In-scope firms should expect to have their claims challenged as part of ongoing supervisory dialogue.

Design principles for retail consumer-facing disclosures: accessibility is crucial for success

The FCA has called for feedback on a proposal to introduce consumer-facing, product-level disclosures which would provide standardised information on products’ key sustainability attributes. 

The design of retail consumer disclosure documents plays an important role in aiding consumers’ understanding of the features of retail investment products and in contributing to better informed financial decision making.  Innovate Finance considers that lessons need to be learned from the design of other disclosure documents for retail investors. For example, the EU’s PRIIPs Regulation (regarding packaged retail and insurance-based investment products) introduced key information documents (‘KID’) for retail investors, but a 2020 review found that consumers struggled to correctly answer “understandability” questions based on the KID. 

A key part of this will be ensuring that disclosures for retail investors are readily understood and accessible for all - at Innovate Finance, we will be calling for the FCA and DLAG to actively focus on inclusivity in the design process. There are opportunities for FinTechs, who have successfully worked with stakeholders to create accessible products and services, to contribute here.

Navigating the patchwork of requirements for institutional investors

Conceptually, industry will welcome greater transparency and a standardised approach to disclosures and reporting for ESG; however, in practice, the SDR proposals could increase the compliance burden for those operating across multiple jurisdictions. The FCA is cognisant of this and has proposed that entity and product-level disclosures are aligned with TCFD, and has proposed that the new labelling scheme could map to the EU’s SFDR - however, this only goes some way to address the issue and there would seem to be more work for the FCA to do to. 

There are clear opportunities for FinTech and RegTech firms to help market actors navigate the complexities of an increasingly fragmented global regulatory environment (e.g. AI solutions that align or translate UK, EU and other territories’ approaches).

Supervision of the new regime: an opportunity for SupTech and better data analysis? 

In line with the aspirations set out in the FCA’s Data Strategy, Innovate Finance will be encouraging the regulator to adopt more technology-led ways in which to supervise compliance with the new requirements, and consider sharing - subject to consent - anonymised data sets. Technology-driven supervision could offer a near real-time way in which to determine the efficacy of the new regime, and if data sets were made available (in a similar vein to the synthetic data sets provided to participants in the regulator’s Digital Sandbox), then this will facilitate further innovative solutions.

The regulator has indicated that it is working to understand how data and analytics tools could be utilised in the collection and analysis of information disclosed. Across the FinTech ecosystem there is deep expertise in data collection and analysis, and we will be encouraging the regulator to leverage this knowledge.

Next steps

The regulator invites comments by 7 January 2022. A Consultation Paper on the topic will follow in Q2 2022 -  final rules are unlikely to come into force until 2023.

Dovetailing with the proposals in the DP on SDR and labelling, by end-2021, we expect the FCA to publish final rules on TCFD-aligned disclosures for a wider scope of listed issuers, as well as asset managers, life insurers and FCA-regulated pension providers.

The FCA has also signalled that it will work with the Government to develop proposals for sustainability-related requirements regarding financial advisers: though there is no indicative timeline provided, we anticipate work is already in train and we will see these draft requirements in H1 2022.

In early 2022, the International Sustainability Standards Board is to consult on a draft climate-related standard, before expanding its standard-setting to broader environmental and sustainability factors. 

By end-2022, we expect that the Government working with the FCA and Bank of England will have finalised the technical screening criteria which defines  environmentally sustainable activities, as part of the UK Green Taxonomy. 

If you have any questions, comments, or would like further information about how these proposals may affect your business, please do not hesitate to get in touch at policy@innovatefinance.com. 

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