On 14 May 2024, the European Securities and Markets Authority (ESMA) published its final guidelines on the use of environmental, social, and governance (ESG)–related terms in fund names (the Guidelines). The Guidelines follow the publication of ESMA’s public statement on 14 December 2023 (discussed in our previous Sidley Update).
The Guidelines’ key purpose is to prevent greenwashing through unsubstantiated or exaggerated ESG- or sustainability-related claims in the names of funds. To this end, the Guidelines intend to provide a clear and measurable criteria for managers to assess whether they are able to use ESG- or sustainability-related terms in a name and specify the circumstances where fund names are unfair, unclear, or misleading.
We summarise the key points for investment managers below.
Application to EU and non-EU investment managers
The Guidelines state that the rules apply to EU alternative investment fund managers (AIFMs), EU Undertakings for Collective Investment in Transferable Securities (UCITS) management companies, and certain other EU fund vehicles. The obligations are relevant for “all fund documentation and marketing communications” addressed to both investors and potential investors.
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Sidley comments The Guidelines do not specify whether they apply directly to non-EU AIFMs. However, the Guidelines apply in relation to the requirements for marketing communications (Article 4) of the EU Cross-Border Distribution of Funds Regulation (CBDFR). Given that many EU member states apply the CBDFR marketing communications requirements to non-EU AIFMs that market alternative investment funds (AIFs) into such member states under the EU Alternative Investment Fund Managers Directive (AIFMD) national private placement regime, it seems likely that the Guidelines are intended to apply to non-EU AIFMs in those circumstances We note, in addition, that the Guidelines are promulgated under the new Article 23(7) of the AIFMD (as introduced under AIFMD2). Although this new Article 23(7) does not come into effect until 16 April 2026, as a general matter non-EU AIFMs marketing AIFs into the EU are subject to Article 23, so it seems clear that the intention is to capture non-EU AIFMs. |
ESG-related fund names categorised into three groups
ESMA has categorised the use of fund names into three distinct groups, each with different requirements for the underlying fund’s investment strategy:
1) Names with transition-, social-, and governance-related terms (Transition Terms)
- Transition-related terms “encompass any terms derived from ‘transition’, e.g., ‘transitioning’, ‘transitional’, etc. or derived from ‘improve’, ‘progress’, ‘transformation, ‘net-zero’, etc.”;
- Social-related terms “mean any words giving the investor any impression of the promotion of social characteristics, e.g., ‘social’, ‘equality’, etc.”; and
- Governance-related terms, “mean any words giving the investor any impression of a focus on governance, e.g., ‘governance’, ‘controversies’, etc”.
2) Names with environmental- or impact-related terms (Impact Terms)
- Environmental-related terms “mean any words giving the investor any impression of the promotion of environmental characteristics, e.g., ‘green’, ‘environmental’, ‘climate’, etc.”;
- Impact-related terms “mean any terms derived from ‘impact’, e.g., ‘impacting’, ‘impactful’, etc.”; and
- These terms “may also include “ESG” and “SRI” (socially responsible investing) abbreviations”.
3) Names with sustainability-related terms (Sustainability Terms)
- Sustainability-related terms “mean any terms derived from ‘sustainable’ e.g., ‘sustainably’, ‘sustainability’, etc”.
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Sidley comments The Guidelines offer a number of examples for each of the key terms; however, these are words that are already straightforward to identify and categorise. Funds and fund managers may use many words, concepts, and/or investments where the picture is less clear. Accordingly, certain managers may still encounter difficulties with assessing whether a fund’s name can be seen as using one or more of the key terms, or even which key term a fund’s name is more closely related to (e.g., the gap between “environmental”- or “sustainability”-related terms may be difficult to delineate in practice). Managers should nevertheless note that the Guidelines indicate that ESMA will take a broad view on terms that may trigger the naming requirements for fund investments. The list is not exhaustive, and therefore any word deriving from or bearing relationship with such examples will likely fall in scope of the rules. |
Summary of requirements
ESMA has categorised the use of fund names into three distinct groups, each with different requirements for the underlying fund’s investment strategy:
| Funds’ names using: | Quantitative threshold: Proportion of the funds’ investments that should meet environmental and/or social |
Minimum safeguards (exclusions): Types of companies that must be excluded from the funds’ investments |
Commitment to sustainable investments: Investments in ‘sustainable investments’ as defined in Article 2(17) of the SFDR |
| (1) “Transition”-, “Social”-, and “Governance”- related terms |
80% For funds using “transition”- related terms: Managers are also obliged to ensure that investments used to meet the quantitative threshold are “on a clear and measurable path to social or environmental transition”. |
Climate Transition Benchmark exclusions: (a) companies involved in any activities related to controversial weapons (b) companies involved in the cultivation and production of tobacco (c) companies that benchmark administrators find in violation of the UN Global Compact principles or the OECD Guidelines for Multinational Enterprises |
N/A |
| (2) “Impact”- or “Impact”- related terms |
80% |
Paris-aligned Benchmark exclusions – same as those listed above, in addition to the following (i.e., items (a)-(g)): (a) companies that derive 1% or more of revenues from exploration, mining, extraction, distribution, or refining of hard coal and lignite (b) companies that derive 10% or more of revenues from exploration, extraction, distribution, or refining of oil fuels (c) companies that derive 50% or more of revenues from exploration, extraction, manufacturing, or distribution of gaseous fuels; and (d) companies that derive 50% or more of revenues from electricity generation with a greenhouse gas intensity of more than 100 g CO2 e/kWh |
N/A |
| (3) “Sustainability”- related terms | 80% | Paris-aligned Benchmark exclusions – same as those listed above (i.e., items (a)-(g)). | Funds must commit to investing “meaningfully” in sustainable investments. |
If a fund’s name combines terms from different categories, the relevant requirements should apply cumulatively. However, if one of the terms is “transition”-related, then only the transition-related requirements apply.
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Sidley comments
Separation of “environmental”- from “social”- and “governance”-related terms New category of “transition”-related terms Managers should note the obligation to show “a clear and measurable path to transition”; that is, any investment in companies deriving revenues from fossil fuels will need to be carefully considered. Measurability for “impact”- and “transition”-related terms ESMA explains that its intention was to create an “additional qualifying link” between the fund’s strategy and its name to ensure a “measurable dimension” to the strategy. Although the Guidelines do not specify criteria for satisfying this qualifying link, managers should consider how they should assess and demonstrate that the investments within the 80% threshold can meet such requirements in a “measurable” manner. Sustainability Terms As regards the commitment to “investing meaningfully in sustainable investments,” ESMA notes it is simply reiterating the commitment required by the SFDR, which should be met by financial products (i.e., funds) at all times. Consequently, managers should note that the obligations on funds that use “sustainability” terms in their fund names are not significantly more burdensome overall than those that use “transition”- or “impact”-related terms. |
Guidelines apply throughout a fund’s lifecycle
Within two months of publication of the Guidelines, the competent authorities of each EU Member States (NCAs) will need to disclose whether they intend to implement the Guidelines.
If a Member State will implement the Guidelines, ESMA has recommended that NCAs verify compliance through the life of the fund, although a temporary deviation from the relevant thresholds and investment exclusions may be permissible if it is a passive breach and corrected in the best interests of investors.
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Sidley comments As the Guidelines apply throughout a fund’s lifecycle, this means that managers should consider how the periodic disclosure of their fund should demonstrate compliance with the Guidelines’ requirements. |
Implications for fund managers
The Guidelines provide further indication that ESMA (a) is committed to tackling greenwashing in the EU and (b) understands there continues to be variability in fund managers’ approaches to what constitutes “ESG investing.”
Consequently, the new rules mandate a clear and consistent level of substantiation of ESG-related investment objectives (both quantitative and qualitative) across funds that use ESG-related terms in their names.
The 80% minimum threshold for investments that contribute to a fund’s sustainability characteristics seeks to ensure that funds’ names are supported in a material way by the funds’ investment decision-making. Additionally, the express requirement for funds to apply certain exclusion criteria, depending on the specific name used, means all such funds will need to disclose and implement the relevant screens as binding elements of their investment strategy.
Whilst not explicitly stated, the Guidelines also reinforce the fact that funds that do not consider ESG factors as binding elements of their investment strategy (i.e., funds classified as Article 6 under the SFDR) cannot use any “transition”-, “impact”-, or “sustainability”-related terms in their fund names without “upgrading” to Article 8 or Article 9 (and meeting the additional requirements for those funds).
Comparison with UK SDR
As noted in our Sidley Update “Final Rules on UK Sustainability Disclosure Requirements and Investment Labels — Key Takeaways for Asset Managers,” the UK Sustainability Disclosure Requirements (UK SDR) have also sought to introduce naming and marketing rules that restrict the use of sustainability-related terminology on certain funds, with these rules set to apply from 2 December 2024. There are, however, a few key differences between the two regimes.
As discussed above, the Guidelines may have some extra-territorial effect. In contrast, the scope of the naming rules under UK SDR is currently limited to FCA-authorised fund managers including UK UCITS management companies, UK AIFMs, and small authorised AIFMs managing UK-domiciled products (i.e., non-UK AIFs, even if managed by UK AIFMs or if marketed in the UK, are out of scope).
Moreover, the Guidelines strictly implement the 80% minimum investment threshold and minimum safeguards (i.e., investment exclusions) if a fund uses any “ESG“- or “sustainability”-related terms forming part of the three categories above. By comparison, in some circumstances under the UK SDR, funds are also permitted to use certain sustainability-related names (such as “ESG”) even if they do not meet a minimum threshold for sustainable investment.
Next steps
The Guidelines are set to apply three months after publication of translation into the official languages of the EU:
- New funds: The Guidelines will apply immediately thereafter.
- Existing funds: There will be a further transitional period of six months to conform to the Guidelines.
Managers of funds that are already marketed in the EU or plan to market in the EU should consider whether their funds use sustainability-related terms in their names. If so, managers should then assess whether changes will need to be made to (i) the name of such funds or (ii) to the portfolio management of such funds to comply with the Guidelines.
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