Fund issuers should seek to future-proof their investments by looking to standards that are ‘both science-based’ and ‘incorporate elements incentivising the real economy towards sustainable transition’, according to a report on labelling by German research firm Qontigo.
The white paper, called Sustainable Investment Fund Labeling Frameworks: An Apples-to-Apples Comparison, is authored by Anna Georgieva and Sauma Mehrotra, who are both associate principals for sustainable investment at the company.
The aim of the report, according to its authors, is to examine in detail the 12 most-important pieces of legislation within Europe, country-specific fund labels, and other standards that guide product design for sustainable investment.
Georgieva and Mehrotra write: “Despite being focused on ensuring a certain quality of SI in funds, the labels have widely differing stated aims, scope and criteria. As a result, comparison on a like-for-like basis is not possible without a deep-dive analysis that manually interprets and classifies their content with reference to a common set of criteria.”
Present versus future tense
In their research, the authors looked at the criteria used to exclude companies from portfolios alongside those used for ‘constructing portfolios above and beyond these exclusions’.
Two themes were apparent: providing transparency in sustainable investment, along with driving capital towards a sustainable economy. The issue, according to Georgieva and Mehrotra, is in assessing the effectiveness of these label designs through the latter lens.
They write: “This is because most labels define the sustainability profiles of funds using the current (rather than the expected) sustainability performance of the underlying companies. This is based either on their existing practices or purely on the sector concerned. However, using capital allocation to drive sustainability transition should involve actively incentivising companies to become eligible for an investment universe.”
They concluded: “There is therefore a significant danger that failure to regularly use forward-looking label design criteria – such as targets, business strategy, risk management practices and planned investments – could lead to the exclusion of companies that offer great potential to contribute to sustainability transition, while also severely restricting eligible universes.”
Overall, they concluded that fund issuers should look at science-based labels that incentivise the real economy towards sustainable transition.
In addition, they wrote: “Labeling, to the extent it is deployed as a tick-box exercise, is frequently less impactful for achieving this goal than a spectrum of other actions such as supporting sustainability R&D and participating in collaborative engagement investor initiatives. Such actions could have a more positive impact on differentiation and serve the overall industry.”