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Earlier this year, a raft of new rules came into effect in the UK, seeking to ensure investors and consumers are not misled by companies promising products and services with green credentials, a practice called ‘greenwashing’.
The updated regulations are known as the Sustainability Disclosure Requirements (SDR). They seek to provide clarity and accountability for those using firms offering ‘green’ products, services and investment opportunities.
This often includes funds that claim green credentials based on environmental, social and governance (ESG) criteria.
But first, let’s take a look at what greenwashing really means.
What is greenwashing?
Greenwashing is a practice whereby companies attempt to deceive consumers that their products or services are environmentally friendly.
Oftentimes, firms practise greenwashing by producing misleading or disingenuous claims, packaging or advertising (such as ‘sustainable’, ‘green’, or including imagery which suggests the company is ESG-compliant).
Overall, the idea is to gain more potential custom by marketing the company’s ‘green’ or ‘sustainable’ credentials, when the reality may be quite different.
Is all greenwashing done on purpose?
It can be argued that many companies may now be involved in something known as ‘greenwishing’. This type of greenwashing may be done without the intent to deceive. Instead, it may rest upon honest but misplaced ideas about the company’s green credentials, a degree of naivety or a lack of knowledge about the scientific detail behind their green claims.
Why is it important?
The ESG sector is a large and growing one. Indeed, as of the end of 2023, the ESG global marketplace was worth an estimated $2.5 trillion, according to recent research by Dividend.com.
Anyone seeking to participate in this large and growing market would hope to be assured that they are receiving reliable information, whether they’re a consumer or an investor. If the basis of such information can be disproven, this can cause a greater distrust of ESG firms and the sector as a whole. However, the effects of greenwashing can be even more detrimental than its role in eroding market participant confidence.
Firstly, it can potentially undermine genuinely socially responsible companies through a distortion of the market. If a larger firm were, hypothetically, to enter a specific market against smaller, yet genuine, competitors by making false claims, it’s possible these competitors could be driven out of the market, and so depriving consumers of the choice of a legitimately socially responsible choice.
This creates greater environmental and social responsibility issues. If larger, dishonest firms drive out genuine competitors from the market, the detrimental impact on the environment and society could be exacerbated through inaction or malpractice.The new regulations have been brought into force for these reasons and more to foster a sense of trust in ESG-focused industries and ensure that investors and consumers have accurate information that they can trust before buying or investing.
How do the new SDR regulations play a part?
SDR regulations help to provide clarity and assurance to consumers and investors in seven key areas
Standardisation
The SDR regulations aim to standardise the metrics and methodologies used in ESG reporting. This helps to eliminate inconsistencies and variances in how companies report their ESG data, making it easier for investors to compare and evaluate investment opportunities on a like-for-like basis.
Risk management
The regulations require detailed disclosure of risks associated with ESG factors. This includes climate risks, social risks, and governance risks. By mandating these disclosures, the SDR framework ensures that investors have a clearer understanding of potential ESG-related risks that could impact financial performance.
Regulatory compliance
SDR regulations set clear guidelines for ESG disclosures that align with broader regulatory frameworks and international standards. This ensures that companies and investment funds are compliant with both national and international regulations, reducing the risk of legal and regulatory penalties.
Transparency
Transparency is a core aspect of the SDR regulations. Companies and investment funds are required to disclose comprehensive information about their ESG practices, impacts, and performance. This includes not only positive impacts but also challenges and areas for improvement.
Creating transparency in ESG investment is a paramount concern for investors. For example, research from Morningstar found that $1.4 trillion was invested in so-called sustainable funds in 2020, despite many such funds later being scrutinised for potentially misleading sustainability claims.
Market integrity
The integrity of the marketplace can also be compromised by companies that practise greenwashing, creating even more uncertainty for institutional investors. According to studies by the Journal of Financial Economics estimate that greenwashing could distort market prices by inflating the value of so-called green investments by 20-30%
A report by The Economist Intelligence Unit found that companies exposed for greenwashing could see their stock prices drop by up to 6% immediately after.
Investor protection
According to a survey by Ipsos, 72% of consumers say they are sceptical of companies’ green claims. This scepticism also extends to investors, with 48% expressing concerns about the trustworthiness of ESG funds.
ESG reporting
The new regulatory framework will also introduce a number of new ‘labels’ so that people can be assured that what they are buying or investing in meets the rigorous standards as set out by the regulator. The four new sustainability categories are
Focus Investments classified under the ‘Focus’ label are primarily dedicated to a single aspect of sustainability, whether it be environmental, social, or governance-related issues.Improvers The ‘Improvers’ label is assigned to investments aimed at companies or projects that are on a path to enhancing their ESG performance over time.
Mixed Goals Investments under the ‘Mixed Goals’ label aim to balance multiple ESG objectives, integrating various aspects of environmental, social, and governance criteria.
Impact The ‘Impact’ label is designated for investments that aim to generate a significant and measurable positive impact on specific environmental or social issues.
What’s the Moneyfarm ESG investment opportunity?
If you’re interested in sustainable investing, you can choose to invest in our range of socially responsible portfolios (ESG), which comprise a mix of globally diversified assets and consist of ETFs investing in companies that adhere to social, environmental and governance sustainability criteria.
You can learn more about our range of ESG portfolios here or why not book an appointment with one of our team? They’ll be happy to help walk you through your options and find an investment solution that suits your unique style.
*Capital at risk. Tax treatment depends on your individual circumstances and may be subject to change in the future.