The importance of corporate disclosures for investors high-quality data from companies is critical for the EU’s financial regulations
In the recent discussions of the Omnibus package, some have questioned the EU’s requirements for sustainability data disclosures. It is important to recognize that one of the most important stakeholders needing this information is investors, who must implement a corresponding set of sustainability regulations that depend on this data being reported by companies. Perhaps the most significant of these has been the sustainability addition to the MiFID regulation that was introduced in 2022. This requires all financial institutions in the EU to include sustainable investment considerations in the MiFID risk profile questionnaires that all individual clients in the EU provide in order to receive investment advice.
By Christopher Greenwald
For many years, surveys have revealed that private clients have expressed greater interest in sustainable investing than how they have actually invested. Historically this discrepancy often resulted from their relationship managers failing to provide adequate information on sustainable investing, either due to a lack of knowledge or due to a concern that sustainable investments could compromise returns. The inclusion of sustainable investing questions in the MiFID risk questionnaires in 2022 addressed this problem directly. All relationship managers must now ask clients about their interest in sustainable investing and then provide corresponding sustainable investing options to match client preferences.
“Corporate disclosure is critical for investors to identify corporate sustainability leaders.”
The MiFID requirements for investors are directly linked to the EU’s sustainability data reporting regulation for companies. In considering sustainability preferences, financial institutions must assess their clients’ interest in three key areas: 1) avoiding adverse impacts in their investments, 2) aligning their portfolios with sustainable investments and 3) aligning their investments with the EU’s taxonomy. Developing adequate strategies to match these preferences requires consistent metrics, which in turn requires high-quality reporting on these factors by companies.
Specifically, for clients wanting to avoid adverse impacts, financial institutions must screen client portfolios on the Principle Adverse Impact (PAI) indicators reported by companies. Companies with poor performance across PAI indicators, as well as companies that fail to adequately disclose these indicators, can be excluded from clients’ investments strategies. Similarly, aligning investment strategies with the EU taxonomy requires screening based on companies’ disclosure on taxonomy-aligned revenues.
Positively aligning portfolios with the broader concept of “sustainable investment” can be done in a variety of ways, given the range of approaches within sustainable finance. Here again, corporate disclosure is critical for investors to identify corporate sustainability leaders while avoiding laggards. The CSRD’s concept of double materiality plays an important role, allowing investors to understand which issues are most important in terms of both financial as well as extra-financial impacts. Clear and consistent KPIs linked to the most material issues provide the best basis for aligning portfolios with sustainable investments.
Limitations in data disclosure present difficulties for investors in meeting the MiFID requirements, and the EU taxonomy has proven to be the most challenging area for investors thus far. Our assessment of taxonomy reporting across a global universe of over 10,000 companies revealed that only 7% of companies had reported taxonomy revenue data as of FY 2023, and even the majority of these companies had reported 0% of taxonomy-aligned revenue. Such levels of disclosure and alignment make consistent screening across global portfolios challenging, and taxonomy disclosure will need to improve significantly in order to apply MiFID’s taxonomy requirements adequately.
Given the evolving nature of corporate sustainability disclosures, LGT has adopted a tiered approach to applying sustainability factors for clients. We offer three distinct levels of MiFID sustainability profiles, depending on the degree to which clients want to apply sustainability to their investments. This allows clients unfamiliar with sustainable investing to start their journey with a minimum level while allowing them to transition to a higher level of sustainability over time. As metrics such as taxonomy alignment become more widely reported, it also allows for more specific rules to be developed and applied.
Consequently, the success of the EU’s sustainable finance regulations very much depends on more standardized corporate sustainability disclosures. For both companies and investors, the EU’s sustainability requirements should not be seen as a box-ticking exercise for driving greater disclosure for its own sake. Rather, the requirements for both companies and investors should be viewed as a driver for innovation. Approaching regulation as an opportunity for differentiation leads companies to link their reporting to strategic business priorities, and it helps investors to develop new and innovative product offerings for their clients. Doing this successfully will promote greater investment in more sustainable companies and technologies, which will be critical for the transition to a lower carbon and more sustainable economy.
Key Takeaways
The EU’s sustainability regulations for investors correspond to the reporting requirements for corporates
European financial institutions must integrate data on Principle Adverse Impacts as well as the taxonomy
Greater levels of disclosure are required for investors
EU regulations are an opportunity for innovation for companies and investors
Further Information
Christopher Greenwald
is Head of Sustainable Investing, LGT Private Banking. He has over 18 years of experience in sustainable investing. Prior to joining LGT in 2022, he was Head of Sustainable Investing Research & Specialists at UBS Asset Management. His previous positions also include Head of Sustainable Investing Research at RobecoSAM and Head of ESG Content Strategy at Thomson Reuters.