Introduction
The European Securities and Markets Authority (ESMA) published its final report, Guidelines on funds’ names using ESG or sustainability-related terms (ESG Fund Names Guidelines), in May 2024 to combat the increasing trend of greenwashing in funds using environmental, social, governance (ESG), sustainability, impact, or sustainable development goals (SDG) references in their names1. The guidelines are a response to the growing demand for sustainable investments and the accompanying risk of greenwashing2.
They apply to Undertakings for Collective Investment in Transferable Securities (UCITS) Management Companies and Alternative Investment Fund Managers (AIFMs) in relation to UCITS and Alternative Investment Funds (AIFs) that they manage1. The ESG Fund Names Guidelines regulate the naming of such funds to prevent greenwashing and to ensure that investors are well-informed of the ESG and/or sustainability strategies of such funds1. The guidelines were implemented in November 2024 for new funds and will be implemented in May 2025 for existing funds1.
The official translations of the guidelines were published in August 2024, starting the clock for their application4. National Competent Authorities (NCAs) were required to notify ESMA by 21 October 2024 whether they comply with, intend to comply with, or do not intend to comply with the Guidelines4. It is important to note that the guidelines are non-binding, and local regulators have the option to comply or explain their position on compliance1. For example, the Autorité des marchés financiers (AMF) in France has decided to apply the guidelines5. The new rules should apply to all funds being marketed in the European Union6.
Key Points of the ESMA Sustainability Fund-Naming Rules
The ESG Fund Names Guidelines set out a non-exhaustive list of key terms (and related terms) that can be used in the name of a fund only to the extent the fund meets certain threshold requirements prescribed by the ESG Fund Names Guidelines1. “Key Terms” include the use of the words: “transition”, “impact”, “ESG” (or separately – “social”, “environmental”, “governance”), “sustainability” and/or any related terms. The Key Terms are also categorized as transition terms, impact terms, and sustainability terms. The guidelines introduce quantitative thresholds, such as the proportion of ESG-related investments and/or sustainable investments, that will apply as a condition for funds using ESG and/or sustainability-related terms in their names4. They also introduce minimum safeguards, including the exclusion criteria defined in Commission Delegated Regulation (EU) 2020/1818, depending on the type of terms used by a fund in its name4.
ESMA sets out that as the “sustainability-related” fund name can apply to either (1) funds disclosing under Article 9 Sustainable Finance Disclosure Regulation (“SFDR”); (2) funds disclosing under Article 8 SFDR which in part invest in economic activities that contribute to environmental or social sustainable investment objectives; and (2) funds disclosing under the Taxonomy-Regulation, that there should be flexibility and no firm threshold8. However, whatever the commitment is to sustainable investments, ESMA notes that this should be met by financial products at all times8.
Categories of ESG and Sustainability-Related Terms
The ESMA guidelines categorize ESG and sustainability-related terms into three main categories: 4
Exclusion Criteria
The exclusion criteria are a crucial aspect of the ESMA guidelines. They are designed to ensure that funds using ESG or sustainability-related terms in their names are not investing in activities that are considered harmful to the environment or society. The two main exclusion criteria are: 9
The interpretation of these exclusion criteria can vary. For example, the exclusion of companies involved in fossil fuel-related activities can be interpreted to include only those companies that derive revenue from the exploration, mining, extraction, manufacturing, or distribution of fossil fuels. Alternatively, a more stringent interpretation could also include companies that provide services to the fossil fuel sector9.
How the ESMA Sustainability Fund-Naming Rules Aim to Combat Greenwashing
The ESG Fund Names Guidelines aim to combat greenwashing by setting out specific conditions that must be adhered to by funds using ESG or sustainability-related terms in their names3. The objective of the Guidelines is to ensure that investors are protected against unsubstantiated or exaggerated sustainability claims in fund names, and to provide asset managers with clear and measurable criteria to assess their ability to use ESG or sustainability-related terms in fund names3.
ESMA states that a fund’s name is an important marketing tool10. A fund’s name is often the first piece of fund information investors see, and while investors should look closely at a fund’s underlying disclosures, a fund’s name can have a significant impact on an investor’s investment decision10. The Guidelines are intended to provide asset managers with “clear and measurable criteria” to assess their ability to use certain terms in fund names and to ensure that investors are protected against exaggerated sustainability claims10.
ESMA is not the only regulator concerned with the transparency of sustainable investment products. In November 2023, the UK's Financial Conduct Authority (FCA) published the Sustainability Disclosure Requirements and Investment Policy Statement, which was clear in its intention to tackle greenwashing2. Part of the FCA's policy involves four voluntary labels for investment products to provide clarity for investors: “Sustainability Focus”, “Sustainability Improvers”, “Sustainability Impact” and “Sustainability Mixed Goals”2.
The following table compares the ESMA guidelines with other regimes: 11
|
Feature |
ESMA Guidelines |
UK Sustainability Disclosure Requirements |
US SEC Fund Names Rules |
|---|---|---|---|
|
Effective Date |
Three months following publication (once translated) |
2 December 2024 |
Funds to comply by 11 December 2025 for funds with $1 billion or more in net assets; small fund groups have an additional six months to comply |
|
Transition Period |
Managers of existing funds: six-month transition period. Managers of new funds: comply immediately. |
No transitional period |
Staggered implementation |
|
Exemptions |
No exemption for funds no longer marketing or that are only open to professional investors |
Only applies to communications and disclosure to retail investors |
No exemption for funds no longer marketing or that are only open to professional investors |
|
Investment Threshold |
80% threshold...source that the fund's investment decisions incorporate ESG factors, must be invested in accordance with such focus |
||
|
"Impact" in Fund Names |
Funds with 'impact' in their name must have an objective to generate a positive and measurable environmental or social impact alongside a financial return |
Cannot use 'sustainable', 'sustainability', or 'impact' unless using the 'Sustainability Impact' FCA label |
N/A |
Examples of How the ESMA Sustainability Fund-Naming Rules Will Impact the Way That Funds Are Named
The ESMA guidelines outline six term types: transition, environmental, social, governance, impact, and sustainability12. Notably, the rules apply to any words in a fund’s name that might give investors the impression of a focus related to one or more of these six areas12. The specific rules depend on which type of terms are used12.
Funds using “transition” related terms in their names and funds using...source with the objective to generate a positive and measurable social or environmental impact alongside a financial return”4.
One of the key points to note when analyzing fund names is that the guidelines include names that are not already provided as an example in the Guidelines but give investors the impression that they have environmental, transition, social and/or governance meanings4. Firms will therefore need to think about this carefully4. There may be instances where it will not be clear whether a term is or is not within scope4.
Research by Clarity AI suggests that more than half of funds impacted by the guidelines may need to change their name, divest assets, or risk falling short of supervisory expectations7. This highlights the significant impact that the guidelines could have on the fund management industry.
Potential Challenges That the ESMA Sustainability Fund-Naming Rules May Pose for Fund Managers
Fund managers are challenged with complying with the Guidelines on sustainability-related terms in fund names set forth by ESMA3. Compliance with the guidelines requires that the manager establishes funds that adhere to the document’s conditions3. The manager must also ensure that their funds are not established prior to 21 November 2024, the date the Guidelines were established3. Lastly, managers must file documentation updates through the relevant regulatory authorities in their respective jurisdictions3. Additionally, managers must ensure that their funds are meaningfully invested, as defined by ESMA3. The managers must also ensure that their funds are not invested in controversial weapons, such as anti-personnel mines, cluster munitions, chemical weapons, and biological weapons3.
While ESMA aims for clarity, there is still potential for varying interpretations of "meaningful investment" by national authorities, which could impact cross-border fund sales13. Addressing a concern on the likelihood of a diverging interpretation of the term “meaningfully invest” by...source that funds using a sustainability-related term in their name should invest at least 50% of investments in sustainable investments13. The Q&A does, however, leave the door open to an NCA imposing a higher threshold or permitting a lower threshold than 50% on a case-by-case basis13. This potential for diverging interpretations poses a challenge for fund managers operating across borders.
Another challenge relates to the impact of the guidelines on the use of labeled sustainable bonds for transition finance14. ESMA recommends that funds which use terms including 'environmental', 'impact' or 'sustainability' in their names must exclude companies that derive a certain amount of their revenue from fossil fuels – including coal, oil and gas – to use these labels for their fund14. No distinction or exception is made for labeled sustainable use-of-proceeds bond investment, however – such as investment in green, social and sustainability bonds14. This could potentially discourage the use of these instruments for transition finance.
Potential Benefits That the ESMA Sustainability Fund-Naming Rules May Have for Investors
The objective of the new rules is to ensure that investors are protected against unsubstantiated or exaggerated sustainability claims in fund names13. This increased transparency will help investors make more informed investment decisions and avoid funds that are not genuinely committed to sustainability.
Conclusion
The ESMA Sustainability Fund-Naming Rules are a significant step towards combating greenwashing in the fund management industry. By providing clear and measurable criteria for the use of ESG and sustainability-related terms in fund names, the guidelines will help to ensure that investors are not misled about the sustainability characteristics of funds3. The guidelines will also help to level the playing field for fund managers, by preventing those who are not genuinely committed to sustainability from using misleading fund names to attract investors3. While the guidelines may pose some challenges for fund managers, such as navigating the potential for diverging interpretations of "meaningful investment" by national authorities and addressing concerns related to the use of labeled sustainable bonds for transition finance, they are ultimately in the best interests of investors and the integrity of the sustainable investment market.
The ESMA guidelines are part of a broader trend of increasing regulatory scrutiny on ESG claims and the growing importance of transparency and accountability in sustainable finance. As the demand for sustainable investment products continues to grow, it is crucial that investors have access to clear and reliable information to make informed decisions. The ESMA Sustainability Fund-Naming Rules are a significant step in this direction, contributing to a more transparent and trustworthy sustainable investment market in the EU.