Financial Conduct Authority consultation on Sustainability Disclosure Requirements (SDR) and Investment Labels CP22/20

The Financial Inclusion Centre has submitted its response to the Financial Conduct Authority’s important consultation on Sustainability Disclosure Requirements (SDR) and Investment Labels CP22/20.

Robust regulatory interventions are needed if we are to move to a net zero financial system. Protecting the environment from harmful financial activities needs to be given at least equal status in the regulatory system as protecting consumers, preventing money laundering and financing of terrorism, and maintaining market integrity and financial stability.

The FCA’s initiative for a sustainable investment label to help investors make informed decisions about green finance could have made a useful contribution to that effort. But, this is a missed opportunity. We think the FCA’s proposals are confused, too narrow in scope, would allow the investment industry too much leeway to ‘mark its own homework’ on compliance with green goals, are unlikely to stop greenwashing (or impact washing), and won’t hold financial institutions that continue to finance climate damaging activities to account.

Our submission can be found here: FIC FCA SUSTAINABLE LABEL CP22-20 FINAL COPY

Summary of Financial Inclusion Centre submission on the proposals in CP22/20

The idea behind a sustainable investment label is good. However, the FCA’s proposals conflate and confuse different ESG goals (environmental, responsible corporate behaviours, and social impact) into a single sustainable label and conflates ESG goals with the approach adopted by funds.

The first stage of categorisation suggested in the FCA’s proposed categories, Focus, Improver, and Impact, reflect the approach adopted by financial institutions and the way the market has evolved. The approach is not designed to reflect the way end-users think about sustainable goals: is a product green; does a fund follow principles of corporate responsibility; or does it seek to make an impact on social policy goals? This will make it more difficult for investors to identify funds which meet their goals.

The FCA says that its system does not imply a ‘hierarchy’ ie. that some funds are better than others. Nor does the FCA intend to mandate that all funds be subject to a rating. The label is voluntary. So, the FCA’s approach is not a proper rating system that would allow investors to easily identify the degree to which funds comply with stated goals or provide transparency on how much environmental harm is caused by those funds without a label. With the FCA’s proposals, financial institutions that continue to finance economic entities that damage the environment will not be held to account.

We urge the FCA to rethink the architecture of its proposals and introduce a naming and labelling system which allows end-users to:

  • Distinguish funds according to the goal or purpose ie. funds with a green goal from those that have a social goal (eg. around fair treatment of workers or tackling a social policy goal such as financial inclusion) or, if preferred, products with a balanced set of sustainability goals. If the FCA insists on retaining the single sustainable label, it would be better to at least require these to be branded as ‘Sustainable (Green)’ or ‘Sustainable (Impact)’. Those funds which meet the qualifying criteria across each of the categories should be allowed to use the label Sustainable (Balanced).
  • Easily identify the degree to which a product complies with those stated goals through a meaningful rating system.
  • Understand the approach adopted by the product eg. does it aim to transition or improve to a higher rating.
  • Easily identify funds which continue to cause harm to climate and environmental goals. A voluntary labelling system which applies only to financial institutions which are behaving well is not sufficient to move us towards a net zero financial system.

To help end-users identify how well investment funds meet green goals, there should be a clear rating system based on, say, a colour-coded symbol or 1-5 star ratings. For products with green goals, the rating should be determined by the proportion of a fund/ product portfolio’s assets which meet a green standard. This degree of compliance could be determined using a quantitative measurement such as a Portfolio Greenness Ratio.[1] Funds claiming to be ‘transitioning’ should set clear targets and publish independently verified progress reports.

Any fund promoted as green in any form should not be allowed to include fossil fuel assets within its portfolio and exclude other activities which do significant harm to environmental goals. Funds with a poor green rating should carry a clear environment health warning.

We have provided examples of how an alternative green label would work in Annex B of our submission. We believe the approach we set out could work for all types of collective fund/portfolio and indeed for bank loan books. It could also be adapted to allow for rating of funds according to their compliance with corporate social responsibility standards (eg. investing in companies which pay a real living wage or aim for gender pay equality). But, our focus is on climate and environmental goals.

The FCA’s label proposals fall well short in a number of other areas. Particularly worrying are: the weak proposals on oversight and governance; the amount of leeway firms will have to mark their own homework on compliance with green goals; and the lack of consistency on disclosure which will cause investor confusion. Oversight of a fund’s objectives could be done by an investment fund governance body, yet FCA rules say only one quarter of the members of this body have to be independent.

The FCA should: require investment firms to obtain independent verification of labels; take the lead on developing a standardised template for disclosure rather than encourage the market to develop one, and mandate its use by all funds; and mandate the use of standardised green finance KPIs to allow for meaningful comparison of sustainability performance and progress towards green goals. Rules should be amended to ensure half of fund governance body members are independent.

The proposals fall well short of the comprehensive coverage of products adopted by the EU. The FCA should bring all investment based products within the label proposals. The proposals should apply to clients such as pension scheme trustees, charities, and local government clients not just retail investors.

If distributors and intermediaries recommend overseas funds which claim to be green yet aren’t covered by the UK labelling regime, they should be required to perform due diligence on the green compliance of those funds. They should be required to certify to clients if a fund complies with UK standards. If that is not possible, they should not be allowed to recommend those funds.

There has been a significant growth in the number of funds in the ESG sector. Detriment tends to ‘follow the money’ in financial services and the ESG fund market has not been directly supervised by the FCA or addressed by the Financial Ombudsman Service (FOS).[2] It must be reasonable to assume there is a significant risk that greenwashing[3] has already occurred. There are already rules in place requiring regulated firms to be clear, fair, and not misleading in the way they promote and market funds. Therefore, we urge the FCA to conduct an investigation into existing funds that claim(ed) to be ‘ESG’ or ‘ESG-aligned’. This will help inform the FCA’s preparations for introducing its welcome proposal for a new anti-greenwashing rule.

Other interventions to ensure financial institutions take environmental harm seriously

The scale of the climate crisis facing us means we need to deploy robust interventions to ensure financial institutions, and their directors and senior managers are deterred from financing climate and environmental harm, and are held to account if they do so. Protecting the environment should be given at least equal status in regulation as objectives such as protecting consumers, preventing money laundering and financing terrorism, and maintaining market integrity. Additional interventions will be needed to complement any rating or disclosure based intervention. These recommendations are taken from a forthcoming Financial Inclusion Centre report called ‘The Devil is in the policy detail: will financial regulation support a move to a net zero financial system?

An Environmental Harm Register Government should establish an independently operated, publicly accessible Environmental Harm Register.[4] The Register would contain details on the level and source of emissions generated by publicly listed and larger private companies and sovereign state agencies. This should be complemented with information on wider environmental harm. The worst performing economic entities on the Register should be included on an Environment Sanctions List.[5] This data should be audited with the auditing overseen by the Financial Reporting Council (FRC). The Environmental Harm Register and Sanctions List should be maintained by the FCA. The Register would allow for better targeted regulation and provide the foundational data to build up meaningful sustainability labels. It would also enable progress against transition plans to be monitored thereby allowing government and relevant regulators to consider and require the appropriate remedial action at entity and sector level.

An environmental-harm penalty for funds In time, allowing for a suitable transition period, penalties should be introduced for financial institutions that continue to fund economic entities which seriously damage the climate and wider environment. Reference would be made to the public Environmental Harm Register and Sanctions List outlined above. For example, if a company, which scored a poor rating on emissions, issued a corporate bond, then any fund which invested in that bond should pay a climate penalty to reduce the net yield received. Gains from equity type investments would also need to be addressed. A global carbon tax on economic entities is desirable. An alternative would be to create a climate harm ‘windfall tax’ to be applied to investment funds which make above market returns from holding environmental damaging assets.

Direct fines and sanctions In time, direct fines and sanctions (for example, by removing certain regulatory permissions), should be imposed on financial institutions that continue to finance or provide access to finance for the most harmful environmental activities as designated on the Sanctions List.

Board level/senior management responsibilities and remuneration: There should be professional and financial consequences for the people who run financial institutions that continue to damage the environment. The Senior Managers and Certification Regime (SMCR) should apply to a climate-related financial activities including sanctions for failing to comply with a new climate-related responsibility.[6] For individuals covered by the SMCR, a new responsibility should be introduced to consider the impact of a firm’s activities on environmental sustainability and to take reasonable steps to reduce that impact.[7] It should be mandatory for independent assessment of performance against climate responsibility and climate de-risking plans to be included in the calculation of remuneration for boards and senior management.

Environment responsibility statements If stewardship means creating sustainable benefits for the environment, then we need evidence of progress. The FRC, with the FCA, should ensure that independent, objective evidence on the degree to which underlying economic entities[8] benefit or harm the environment is put into the public domain. Information must be clear and minimise the risk of misinterpretation and obfuscation. Economic entities should produce an environment responsibility statement setting out: independent, audited data on emissions generated by the entity’s activities and the degree to which activities align with the definitions in the UK Green Taxonomy (when finalised); and a risk assessment of which activities make the greatest contribution to climate and environmental harm with the actions taken to address those risks.

Qualifying company accounts/environment reporting standards Auditors should have to say whether statements in a company’s report and accounts relating to the environment should be qualified either because they disagree with the conclusions, or there is insufficient independent information to allow for judgment. The FRC and professional bodies for auditors, accountants, and actuaries should urgently develop new standards on identifying, quantifying, and reporting on environment-related risks. These standards should be included in assessing whether enforcement action should be brought for breaching professional standards.

Statutory regulation of ESG ratings and ratings providers There is an incentive for financial institutions to select a ratings provider that produces inflated ESG ratings. Consumers or pension fund trustees cannot be expected to challenge the different methodologies used by such providers. Nor is it sensible to think that competition will drive up the quality and integrity of ratings. Indeed, if anything the fiercer the competition, the greater the risk of ‘ratings inflation’ where providers provide more favourable ratings to attract clients. We urge HM Treasury to give the FCA the powers to regulate ESG ratings and ratings providers as quickly as possible.

ESG voluntary Code of Conduct Until regulation happens, the FCA has announced a working group, the ESG Data and Ratings Code of Conduct Working Group (DRWG), to develop a voluntary Code of Conduct for ESG data and ratings providers.[9] The DRWG objectives should be revised to produce a Code that: ensures the production of trustworthy, meaningful ESG ratings; requires ESG providers operate to the highest standards of integrity; enables investors to make effective decisions on ESG factors; and requires financial institutions and intermediaries to use ESG ratings and the Code responsibly.   

Code governance The governance of the DRWG is very weak and dominated by industry representatives.[10] There is a real risk the DRWG will not deliver a meaningful Code of Conduct and could even furnish government with an excuse not to regulate ESG ratings providers. The FCA should chair the DRWG or ensure it has an independent chair. The FCA should appoint DRWG members and ensure half are independent civil society representatives. The FCA must approve ownership of the Code. To build trust in the Code, the workings of the DRWG should be open to public interest representatives to make representations at meetings. The Chatham House Rule should not apply except when there are genuine issues of commercial confidentiality being discussed. Minutes of the meetings should be published on the FCA website. The FCA should require institutional users to disclose upfront to investors whether the ESG ratings provider they use complies with the Code. Even though this is a voluntary code, the FCA should require the DRWG to consider appropriate deterrents and sanctions for providers and users that abuse the Code. The FCA should issue guidance on the use of ESG data and ratings by regulated firms and intermediaries. ESG ratings and providers may not yet be regulated. But, the FCA already requires financial promotions and communications to be clear, fair, and not misleading. Misuse of ESG data and ratings obviously has the potential to mislead.

ESG ratings inconsistency Worryingly, the FCA does not seem to think the low correlation between the ESG ratings provided by different agencies is a problem.[11] It is not reasonable to expect end-users to compare and contrast underlying methodologies. The FCA should: investigate and publish an assessment of why there is such a low correlation between ESG ratings; assess the potential for conflicts of interest created by users being able to select favourable ESG ratings methodologies; and promote consistent methodologies for ESG ratings. A fair and functioning system requires direct regulatory intervention.


[1]  ESMA 50-165-2329 TRV Article – EU Ecolabel: Calibrating green criteria for retail funds (

[2] It is interesting that searching the FOS website for ‘greenwashing’ or ‘ESG’ at the time of writing turned up no results.

[3] In the sense that funds have been promoted as being ESG compatible to gain a marketing advantage without fundamental changes being made to the underlying investments

[4] Ideally, an international register would be created by a relevant international agency

[5] The government maintains a UK Sanctions List under the Sanctions and Anti-Money Laundering Act 2018  The UK Sanctions List – GOV.UK ( We argue the same robust approach should be applied to economic entities which cause the worst damage to the environment.

[6] Senior Managers and Certification Regime | FCA

[7] This would be seen as being similar in intent to the overall responsibility senior managers have for the firm’s policies and procedures for countering the risk that the firm might be used to further financial crime See: SYSC 4.7 Senior management responsibilities for UK relevant authorised persons: allocation of responsibilities – FCA Handbook

[8] The real economy entities which financial institutions finance in different forms

[9] Code of Conduct for ESG data and ratings providers | FCA

[10] Two industry groups will serve as the Secretariat for the DRWG. This Secretariat, co-chaired by industry representatives, will appoint the DRWG members. The DRWG will be composed of between 15-18 members, with only three positions reserved for academics and civil society representatives.

[11] Where different ESG providers produce different ESG ratings on the same economic entity/financial product