Appendix 1 - The European Sustainable Finance Disclosure Regulation (SFDR)

The European Sustainable Finance Disclosure Regulation (SFDR) imposes comprehensive sustainability disclosure requirements covering a broad range of environmental, social & governance (ESG) metrics at both entity- and product-level. The main provisions of the SFDR have been applicable as of 10 March 2021, with a statutory instrument known as a Delegated Act containing more precise disclosure standards yet to be adopted by the European Commission. The first level of this Directive came into force in March 2021 while Level 2 will be active from January 2023. The main enhancement is in how sustainable investments are defined and compulsory disclosures about the impacts that they make on the ground.

The SFDR6 is a fundamental pillar of the EU Sustainable Finance agenda, having been introduced by the European Commission as a core part of its 2018 Sustainable Finance Action Plan, which also include the Taxonomy Regulation and the Low Carbon Benchmarks Regulation.

The SFDR regulation characterises sustainability in investment funds in three different ways - Articles 6, 8, and 9. Asset managers have been required to self-classify funds sold in the EU as Article 6, 8, or 9.

• Article 6 covers funds which do not integrate any kind of sustainability into the investment process and could include stocks currently excluded by ESG funds. These are those that do not promote their environmental, social or governance (ESG) characteristics. A traditional or agnostic market portfolio will fall under this category.

• An Article 8 Fund is defined as a fund which promotes, among other characteristics, environmental or social characteristics, or a combination of those characteristics, provided that the companies in which the investments are made follow good governance practices. These funds promote E or S characteristics but do not have them as the overarching objective.

• Article 9 funds are those funds that specifically have sustainable goals as their objective (for example investing in companies whose goal it is to reduce carbon emissions). Article 9 funds should make a positive impact on society or the environment through sustainable investment and have a non-financial objective at the core of their offering. This classification applied where a financial product has sustainable investment as its objective and an index has been designated as a reference benchmark. It focuses on ESG outputs such as Board membership governance etc. These funds must make a positive impact. Impact investing optimises for a set of desired outcomes rather than just maximising one. It goes beyond ESG screening and seeks to proactively place capital where it can make a restorative return to people and planet, plus a financial return.

6 See https://www.eurosif.org/policies/sfdr/ for further information