Sustainability reporting challenge
for alternative investments
Though sustainability metrics transparency and data availability are constantly increasing among UCITS funds and liquid investments, market standards within alternative investments are still in a development stage. ESG KPI assessment, GHG emission and PAI analysis, as well as SDG alignment are crucial to provide an effective sustainable analysis for alternatives.
The Sustainable Finance Disclosure Regulation (SFDR) entered into force on March 10, 2021. This text includes new obligations for European financial market participants with regard to ESG (environmental, social and governance) pillars. The regulation aims to provide more transparency in terms of environmental and social responsibility within the financial markets, notably through the provision of information on sustainability of financial products.
In particular, it requires financial players to enrich their investment policy, which must detail how sustainability risks are integrated into investment processes and they will now have to declare the negative impacts of investment decisions on sustainability factors.
During 2022 two important new pieces of legislation entered into force.
On 6 April 2022, the European Commission published the final regulatory technical standards (“RTS”) designed to provide further guidance on the implementation of Regulation (EU) 2019/2088 on sustainability-related disclosures in the financial services sector (the “SFDR”), as amended by Regulation (EU) 2020/852 on the establishment of a framework to facilitate sustainable investment (the “Taxonomy Regulation”).
As its title indicates, the Delegated Regulation provides (in the main body) for key principles and more specific guidance on interpreting SFDR obligations for products caught by Articles 8 and 9 of the SFDR (“SFDR Article 8 Products” and “SFDR Article 9 Products”, collectively “SFDR Article 8 and 9 Products”). The Delegated Regulation also provides for the pre-contractual templates detailing the content of the disclosures required under the SFDR, including any taxonomy-related information needed for SFDR Article 8 and 9 Products and the periodic reporting disclosure templates for SFDR Article 8 and 9 Products. Regulatory Technical Standards (RTS) have to be applied from 1st January 2023.
On 2 August 2022 the Application of Commission Delegated Regulation 2021/1253 of 21 April 2021 amending Delegated Regulation 2017/565 as regards the integration of sustainability factors, risks and preferences into certain organizational requirements and operating conditions for investment firms entered into force.
The Directive is applicable for new clients as from 2 August 2022 onwards, for existing clients information has to be updated at the latest at the next regular update of the client’s profile.
The Directive is amending the MiFID II framework by introducing sustainability preferences; investment firms have to carry out a mandatory assessment of the sustainability preferences of their clients or potential clients as they already do for the other MiFIDII requirements. These sustainability preferences will have to be taken into account in the process of selecting the financial instruments that are recommended to these clients.
Investment firms will also have to prepare a periodical report for the clients explaining how the recommendation or investment meets not only his investment objectives, his risk profile, his ability to bear losses but also his preferences in terms of durability.
Sustainability reporting for alternative investments
In this context, FARAD I.M. developed a unique sustainable analysis service for alternatives, called GreenEthica Sustainable Scoring System for Alternatives, which targets to deliver an effective, synthetic and clear non-financial sustainability reporting with detailed information on ESG metrics, carbon metrics (CO2 emissions), controversies, PAI (Principal Adverse Indicators) as well as a unique alignment to SDGs (Sustainable Development Goals).
The objective of the analysis is to determine positive or negative contributions of the alternative funds towards sustainability factors and to determine the sustainability impact of the individual companies invested, assessing eventually the sustainability of the entire fund.
Thanks to ESG team expertise, alternative investments are screened to assess whether they are meeting environmental, social and corporate governance challenges, with a detailed SDG alignment analysis both on individual companies and aggregated portfolio, and it provides qualitative comments on the investments in a reliable and objective way.
Among major ESG KPI metrics, carbon footprint (total amount of emissions in terms of GHG metric tons) and carbon intensity (total amount of carbon emission per million of revenue generated by the portfolio) are duly measured and reported in a detailed way, focusing on “Scope 1”, “Scope 2” and “Scope 3” emissions breakdown.
The data of the portfolio company ESG KPIs are compared with companies within the same sectors, in order to assess their absolute and relative impacts and whether they are delivering positive or negative extra-financial outputs. The result of the analysis is reviewed, commented and plotted to file a dedicated report on each target company. The report of each company is aggregated in a final assessment that combines quantitative and qualitative elements.
The analysis provides a framework to duly assess in a synthetic and effective way the concrete extra-financial results of the alternative investment, identifying the key sustainable features the companies should be working on to improve their sustainable profile.
If you want to learn more about our sustainable investing products and services offering, please contact CRM@greenethica.eu
Conducting Officer, FARAD I.M.
Head of Portfolio Management