Question of the day: Should Article 9 funds invest in companies that are not green yet but are on their way?
Came across this article from Rambol here on sustainability objective for Article 9 funds.
Article 9 funds can only invest in existing sustainable investments. This question is to asset managers in our community and other involved experts: what is
still requiring clarification in this space?
Great question Aya. A lot of companies have successfully transitioned their business models and processes to become sustainable companies with strong ESG profiles, and one could argue that such companies on a transition path could be added to Article 9 funds since they are working towards becoming sustainable. However it could create blurred lines which the SFDR was introduced to try and eliminate. Also from an investor perspective the distinction between article 8 and 9 can help accomodate different investment objectives and risk profiles. For example an investor with a measurable impact objective or investors with very low tolerence for ESG risk can invest in article 9 funds which are are mostly charactorised by relatively low exposure to ESG risks and have a measurable sustainable impact. However, there is another group of investors whose objectives are not strictly sustainable and have a higher tolerance to ESG risks, who may be seeking capture value from ESG momentum. Most of these transitioning companies may have their value discounted due to high ESG risks. However, as the transition begins to materialise they get a value uplift, meaning more returns to investors who may be have bought these company shares before the transition materialised. So l believe the seperation of transitioning from fully transitioned companies is helpful for investors to compare, have a good understanding of what they are investing in, as well as meet their objectives.
Personally, I feel like this is the missing piece of this regulation. Article 8 would include almost every kind of business model as long as it is managed in a sustainable way. Article 9 can be interpreted to only include what is already "impactful". But what happens about necessary investments in transition? In my opinion, there should be explicit language stating that if, during the investment period, the underlying company is using the funds to become "greener," this qualifies for Article 9.
EU Taxonomy Regulation does this very well, as CAPEX invested in adapting certain existing activities to become "aligned with EU Taxonomy" and develop new green activities would qualify as "aligned with EU Taxonomy" (that is, contributing substantially to an environmental objective of the EU). However, the link with SFDR seems missing.
This has interesting implications for private credit, as this could be linked to an asset or specific investment in becoming "greener," that would generally comply with Article 9 requirements.
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