ESG has only more recently become a hot topic for mainstream finance, in part because climate-consciousness resonates well with the public, investors, and millennials. In Luxembourg, the EIB introduced the first green bond in 2007, but a key milestone for the whole EU came over a decade later in the form of the EU Sustainable Finance Action Plan that was issued in March 2018. “Of its ten action points, three are particularly relevant for the asset management industry and players in Luxembourg,” explains Mr Van den Abeele. The objective is to connect finance with the needs of the real European and global economy for the benefit of planet and society.
Connecting finance with ESG needs
Action point 7 is aimed at clarifying institutional investors’ and asset managers’ duties and aims at integrating sustainability considerations into investment decision-making processes. It applies to AIFMs, UCITS management companies and MiFID investment firms in Luxembourg: “Firms are required to make additional disclosures in relation to all investment products, both website disclosures and pre-contractual disclosures, relating to key concepts of sustainability risks, sustainability factors and sustainable investments,” explains Mr Van den Abeele.
Action point 10 is about fostering sustainable corporate governance and attenuating short-termism in capital markets. ESMA’s December 2019 report includes recommendations to improve ESG disclosures to ensure comparability, relevance and reliability, as well as a feasibility assessment on the convergence and consolidation of disclosure frameworks.
The real goal is to allow investors to identify investments that will contribute to a low-carbon transition and the green list should reduce fragmentation caused by market initiatives and national practices, as well as reduce greenwashing.
Further to that, Action point 1 is to establish an EU classification system for sustainable activities, generally referred to as a taxonomy. The idea is to adopt one set of international standards for ESG disclosure. “In December 2019, The European Commission reached political agreement around a so-called green list. It provides a test as to when an activity can be classified as environmentally sustainable, notably: making a substantial contribution to one or more of the environmental objectives; not significantly harming any of the environmental objectives; and carrying out in compliance with minimum social safeguards,” outlines Mr Van den Abeele. The real goal is to allow investors to identify investments that will contribute to a low-carbon transition and the green list should reduce fragmentation caused by market initiatives and national practices, as well as reduce greenwashing.
Guidance through flux
These areas are in rapid and constant flux. Obtaining quality data, meeting additional costs, and uncertainty about legal and regulatory elements, about the timing interaction between action points and about the application of proportionality all present challenges for clients. “Clients must – but also want – to be on top of it but struggle in terms of knowing what is happening and what it means in practice. They need guidance across the patchy international developments on ESG,” says Mr Van den Abeele.
“Luxembourg has the strongest position in terms of alternative products and we should really push that forward,” insists Mr Van den Abeele. It is important to leverage that position and expertise to assist asset managers and investors in navigating disclosure requirements and to provide cost-effective solutions to deliver on those.
Markets continue to be low yield and volatile, pushing institutional investors such as pension funds and insurance companies to increase their allocation to real estate, private equity and infrastructure strategies. At the same time, managers are looking to tap into new investor pools for those alternative asset classes and that includes looking at the high net worth investor space. “Products like US REIT that allow small investment amounts often serve as inspiration in offering non-professional investors exposure to higher yielding investments,” according to Mr Van den Abeele. “We call this phenomenon the ‘retailisation of private funds’.”
Unlike the AIFMD passporting regime, a manager will need to single out local distribution options on a country-by-country basis to access retail-type investors.
This is where the challenge arises because the distribution of alternative funds in a European framework is typically aimed at institutional and professional investors who have a certain qualification, AuM and can invest higher amounts. Unlike the AIFMD passporting regime, a manager will need to single out local distribution options on a country-by-country basis to access retail-type investors. “Unfortunately, EU frameworks that – in theory – create retail distribution ability, such as ELTIF, EuVECA and EuSEF, prove too restrictive or not appropriate in practice.”
Different tools, one jurisdiction
There is no single jurisdiction in Europe that can compete with Luxembourg, which brings all the solutions together centrally and creates a unique selling position: “We call it the toolbox as many solutions can be offered to clients in different jurisdictions, solutions that work from legal and regulatory perspectives and that are tax efficient,” says Mr Van den Abeele.
It is clear that clients need advisors with very strong international teams in legal, regulatory and tax areas to come to a workable cross-border solution. Clifford Chance is uniquely placed to answer that particular need. “We are not the only ones out there, but certainly the best!”