SFDR 2.0: Key Impacts for Asset Managers

The European Commission has published the long-anticipated Sustainable Finance Disclosure Regulation (SFDR) 2.0, marking a significant overhaul of the EU’s sustainable finance disclosure framework. This new regime shifts the focus from generic disclosure to a structured product categorisation system based on clear sustainability goals and binding investment criteria.

New Product Categories and Core Requirements

SFDR 2.0 introduces three distinct product categories for investment funds, each with a mandatory threshold requiring at least 70% of a fund’s portfolio to comply with that category’s criteria. These thresholds reflect the fund’s alignment with sustainability objectives, supported by specific exclusions.

The Three Categories:

1. Transition Funds (Article 7)

   • Focus: Measurable transition objectives supporting sustainable practices.
   • Criteria: 70% alignment with transition strategy; exclusions include tobacco, controversial weapons, human rights violations, coal-related revenues, and fossil fuel expansion.
   • Requires ongoing monitoring and disclosure of performance and any adverse environmental/social impacts.

2. ESG Basics (Article 8)

   • Focus: Integration of ESG factors beyond risk management into investment strategy.
   • Criteria: 70% portfolio alignment; exclusions as above plus coal-related exclusions; performance disclosure required.

3. Sustainability Funds (Article 9)

   • Focus: Investments directly supporting sustainability through companies, projects, or activities delivering positive environmental or social impact.
   • Criteria: 70% alignment with sustainability objectives; stricter exclusions including no investments in fossil fuels or high-emitting energy activities.
   • Eligible investments include EU Paris-aligned benchmarks, taxonomy-aligned activities, European Green Bonds, and social entrepreneurship funds.

Practical Implications for Asset Managers

• Higher Standards: New categories raise the bar for sustainability, especially for funds previously classified as lighter green under Article 8.
• Exclusions Challenge: Mandatory exclusions can complicate product design for global firms targeting both EU and US markets.
• Disclosure Changes: New rules simplify pre-contractual and website disclosures, reducing information overload while mandating transparency around impact and exclusions.
• Phase-In Allowed: For funds investing in private assets, a phase-in period for meeting the 70% threshold is permitted but must be clearly disclosed and met by the end.

Other Noteworthy Changes

• No Automatic Grandfathering: Closed-end funds launched before SFDR 2.0 may opt out, but open-ended funds must transition.
• Manager-Level Disclosures: Removal of entity-level principal adverse impact and remuneration disclosures; sustainability risk disclosures remain.
• Reduced Scope: Portfolio managers and financial advisers are excluded from SFDR 2.0, a shift from the previous regime, which raises questions on alignment with MiFID sustainability preferences.
• PRIIPs Alignment: Key Information Documents must now include product categorisation, sustainability objectives, and relevant indicators.

Next Steps

The draft regulation will undergo the EU legislative process, potentially resulting in further amendments. After formal adoption, SFDR 2.0 will enter into force 18 months from its publication in the Official Journal — indicating asset managers have time to prepare but should act proactively.

Conclusion

SFDR 2.0 represents a critical evolution in the EU’s sustainable finance efforts, imposing clearer definitions, stricter requirements, and enhanced transparency for asset managers. Embracing these changes is essential for maintaining competitiveness in the growing global market for sustainable investment products.

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