Leveraging Taxonomies: How Asset Managers Are Using New Sustainability Classification Systems – Part II – Finance and Banking

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The sustainable investing market is experiencing remarkable growth: since 2018, annual cash flows to sustainable funds have increased tenfold. Now more than ever, investors and asset managers are looking for sustainable products and strategies that deliver strong financial returns. The field, however, has been haunted by claims of greenwashing and a lack of consistency in identifying what, exactly, makes an investment “sustainable.”

Sustainable or “green” taxonomies developed by governments, international agencies and non-governmental organizations (NGO) can help resolve these challenges and inconsistencies by identifying specific assets, activities, or projects that meet defined thresholds and metrics that quantify sustainability. These systems can cover the full spectrum of sustainability topics, from achieving acceptable levels of greenhouse gas emissions to meeting certain human rights standards. Among other benefits, sustainability taxonomies can:

  • help investors, asset managers and asset owners identify sustainable investment opportunities and build sustainable portfolios that meet the taxonomy criteria;

  • direct capital more effectively to priority sustainability projects;

  • help protect asset managers against claims of greenwashing by providing an independent benchmark for the sustainability performance of investments; and

  • guide future public policies and regulations targeting specific economic activities based on taxonomic criteria.

In this series of blog posts, we first provide a brief overview of some of the major existing and developing taxonomies around the world. We then set out our analysis of the ways asset managers are already leveraging taxonomies in their business based on a review of publicly available responsible investment reports. Finally, we highlight some challenges that asset managers may encounter as these systems develop and interest in sustainable investing continues to grow.

Keep reading this Part II for our analysis of how asset managers are already leveraging taxonomies. You can find Part I here.

Knowledge

Sustainability taxonomies have a wide range of applications, from informing public policy and regulation to effectively allocating capital for sustainable projects. But how do asset managers actually apply these new systems in their business?

To answer this question, we reviewed a sample of public responsible investment reports published by asset managers who are signatories to the United Nations Principles for Responsible Investment (UNPRI). UNPRI signatories commit to integrating ESG issues into their investment practices and reporting on their responsible investment activities on an annual basis. Together, these reports provide valuable insight into the current state of sustainable investing practices around the world.

Based on our review, asset managers are already applying the taxonomies in the following ways:

1. Integrate taxonomy criteria into investment selection processes

Asset managers incorporate the taxonomy criteria used to define certain activities as “sustainable” into their investment selection processes, including due diligence. Managers can generally refer to the taxonomy criteria as a guide when developing their own bespoke internal sustainability taxonomies or more directly apply thresholds and metrics as defined in a taxonomy.

For example, a manager has typically referred to the EU taxonomy to establish its own investment categorization and due diligence processes, but does not commit to applying the taxonomy or its measures specifically. Another manager takes a more specific approach and has committed to investing only in companies or assets that generate 50% or more of their annual turnover from activities identified in the Green Fin Label taxonomy.

2. Define metrics and methodologies for tracking and reporting purposes

Asset managers use taxonomy criteria to improve ESG and sustainability related tracking and reporting to asset owners. Taxonomy criteria are used to define transparent KPIs to track, measure and report on sustainability topics, such as greenhouse gas emissions, at portfolio level or on an investment-specific basis . The resulting data can also be used to develop ESG or sustainability work plans for portfolio companies to improve performance on key topics.

For example, an asset manager tracks and reports both the CO2 emissions of the entire portfolio and the percentage of assets under management invested in sustainable economic activities as defined in the EU taxonomy. Another tracks the carbon and environmental footprint of all portfolio companies and assesses their position against the EU taxonomy.

3. Develop new investment funds, strategies and policies aligned with the taxonomy

Asset managers are taking advantage of the unprecedented interest in sustainable investing and are strategically launching new products that incorporate taxonomy criteria from the outset. New funds can be marketed as sustainable based on investment strategies and policies aligned with one or more taxonomies.

For example, one asset manager is currently developing a sustainable fund with a “minimum EU taxonomy eligibility target” that will focus on “certain EU taxonomy compliant sectors”. Another is to promote a fund’s investment strategy, which focuses on certain environmental objectives listed in the EU taxonomy, as having “strong alignment of investments with activities defined in the EU taxonomy “.

Our analysis also shows that many asset managers are actively engaging with governments, other private sector actors and international organizations through public policy to join and guide the conversation as taxonomies rapidly develop. . These pathways include participation in professional association working groups, responses to consultations, and direct engagement with public sector bodies.

In Part III, we will present some of the taxonomy-related challenges that asset managers may encounter as they leverage these new systems.

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This article by Mayer Brown provides information and commentary on interesting legal issues and developments. The foregoing is not a complete treatment of the subject matter covered and is not intended to provide legal advice. Readers should seek specific legal advice before taking any action regarding the matters discussed here.

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