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The move is likely to be a blow to any fund that currently uses futures, options or swaps as part of a sustainable investment strategy.
A synthetic ETF that tracks an ESG index, for example, will have to report zero sustainable investments while a similar product using physical replication of the index will be able to report 100% sustainable investments.
“It is a strange decision to say all derivatives are excluded without exception,” said Olivier Van den broeke, a senior associate at law firm, Baker Mckenzie in Antwerp. “It seems that the European Commission has taken an overly prudent position by carving out all derivatives, while there are good arguments to be made for including derivatives when they are intended for hedging purposes of investments in taxonomy-aligned economic activities.”
Last Wednesday the EC adopted long-awaited technical standards of the Sustainable Finance Disclosures Regulations (SFDR), setting out the exact content, methodology and presentation of the information to be disclosed.
These revealed that physical securities, included securitised assets and infrastructure, could be included in pre-contractual and periodic disclosures to clients in a pictorial representation of the fraction of sustainable elements within a strategy.
But there is no place in the top half – the numerator – of the fraction for derivatives. The official text says: “Due to the lack of reliable methodologies to determine to what extent exposures achieved through derivatives are exposures to environmentally sustainable economic activities, such exposures should not be included in the numerator. The denominator should consist of the market value of all investments.”