Investing sustainably: How “green” are so-called “sustainable funds” really?

For the financial industry, green investments offer one of the biggest opportunities for growth. According to the Umweltbundesamt (Federal Environment Agency), 409 billion euros were invested in sustainable funds in 2021; that is more than twice as much as in 2019 and represents a market share of 9.4 percent. But the subject is a delicate one. After all, how reliable are the actual fund ratings?

Since March 2021, the rating of funds has been governed by the EU Sustainable Finance Disclosure Regulation (SFDR), which obligates financial services companies to publish information on sustainable investment decisions in relation to their strategies, processes and products. The classification system for determining the level of environmental sustainability of an investment (EU taxonomy) was integrated into the EU Disclosure Regulation. Suppliers categorize their products themselves. And this is where the problems start. What does sustainability or the much-used abbreviation ESG (Environment, Social and Governance) actually mean? The EU Commission has announced that it will take additional action. The Disclosure Regulation needs the clarifications and definitions of sustainability to be much more restrictive. At the moment there are three categories:

• Article 6: Conventional funds in which sustainability criteria are only taken into account to a limited extent, if at all
• Article 8: “Light green” funds where environmental or social features are advertised
• Article 9: “Dark green” funds where the sustainability impact is tracked and is a clear goal

Aspects that play a role in the categorization can, for example, be whether products take environmental and social issues into account in the investment decision, or whether they aim to achieve a sustainability impact (so-called impact investing), and above all in relation to the social sphere.

In recent months, some well-known fund providers have downgraded selected funds. Overall, more than 40 dark green funds “paled” down to light green investments. Consequences are only an issue if suppliers deliberately mislead their customers, so-called greenwashing.

The European Securities and Markets Authority (ESMA), the EU’s financial markets regulator and supervisor, plans to issue draft guidelines on the use of ESG or sustainability-related terms in fund names. These terms should reflect the sustainability characteristics or goals in an appropriate and consistent manner. An example: If the name of the fund is “Climate Change Solutions Fund,” it will meet the guidelines if at least 90 percent of its investments are used to achieve the goal promoted by the financial product.

The EU taxonomy (for facilitating sustainable investment) and the EU Disclosure Regulation provide a valuable basis for making sustainability performance in the financial world more transparent. Private and institutional investors should therefore be able to recognize more easily how sustainable the investments underlying a financial product actually are. At the moment, the rules and regulations are not clear enough, but they are a step in the right direction.