ESG: ESMA publishes guidelines on investment fund nomenclature

The European Securities and Markets Authority (ESMA) initiated, and completed, the consultation process leading up to the publication - on 14 May 2024 - of its Guidelines on funds' names using ESG or sustainability-related terms (see ESMA34-472-440).

These guidelines aim to unambiguously regulate the use of words or acronyms that are in themselves indicative (or even merely allusive) of sustainability-oriented investment strategies within the names of investment funds (indiscriminately: UCITS, AIF, EUVECA, EUSEF, ELTIF and MMF). And they are intended to ensure, for the benefit of investors, correct, transparent and non-misleading communication - in the face of a context in which, in ESMA's words, "competitive market pressures create incentives for asset managers to include terminology in their funds' names designed to attract investor assets, leading, in certain instances, to greenwashing, for example by making false claims about sustainability practices". (ESMA34-472-440, para. 2.1 § 3).

ESMA deemed it appropriate to introduce certain constraints, mainly of a quantitative nature, on which the admissibility and lawfulness of the term "sustainable" or sustainability-related in the name of investment funds would depend. This is in order to prevent  misleading use of the terms, to the detriment especially of those investors most interested in sustainability issues. 

Series of interventions

The guidelines, however, do not represent an isolated intervention in the European regulatory landscape. They follow, in fact, the Supervisory briefing, Sustainability risks and disclosures in the area of investment management, which ESMA had already issued on 31 May 2022 (ESMA34-45-1427), which, in particular:

• had specified that "the use of terms such as 'ESG', 'green', 'sustainable', 'social', 'ethical', 'impact' or any other ESG-related terms should be used only when supported in a material way by evidence of sustainability characteristics, themes or objectives that are fairly and consistently reflected in the fund's investment objectives and policy and its strategy as described in the relevant fund documentation" ( ESMA34-45-1427, p. 9, §29).
• had already recommended specific criteria (accompanied by a series of examples) for national supervisory authorities to check the appropriateness and consistency of the nomenclature adopted for investment funds, urging them to "raise questions and challenge the use of such terms in the fund's name if it is perceived as misleading when compared to the actual investment objectives and strategy".

In the same vein, the more recent EU Directive 2024/927 (in force as of 15 April 2024), in amending Article 23(7) of the AIFMD and Article 69(6) of the UCITS Directive, has also given a general delegation to ESMA to develop, by 16 April 2026, guidelines to ensure the uniform application of the rules on the designation of AIFs and UCITS, specifying - also in light of relevant sectoral legislation - the circumstances in which the designation of an AIF or UCITS should be considered incorrect, unclear or misleading. 

All this suggests that one can expect, in the foreseeable future, new provisions will accompany those contained in ESMA's guidelines.

Regulated terms 

In its guidelines, ESMA has already attributed relevance to the following terms, regulating their use, for the purpose of naming investment funds:

• terms related to the concept of transition, or derived from the word "transition", "improvement", "progress", "evolution", "transformation", "net-zero";
• terms related to the concept of the environment or creating the impression of promoting environmental objectives, such as "green", "environmental", "climate"; or abbreviations such as "ESG", "SRI";
• terms pertaining to the social concept or creating the impression of the promotion of social objectives ("social", "equality");
• terms related to the concept of governance or that create the impression of the promotion of governance-focused features ("governance", "disputes");
• terms related to the concept of impact, or derived from the word "impact";
• terms related to the concept of sustainability or derived from the word "sustainability".
   

The use of the terms included in each of the above categories is now  conditional on the existence of specific prerequisites, which from time to time coincide with:

• compliance with a threshold of 80 per cent, to be allocated - when building the portfolio - to investments in line with the sustainability objectives of the UCI;
• compliance with all or some, as the case may be, of the exclusion criteria set out in EU Delegated Regulation 2020/1818; 
• a commitment to invest meaningfully in sustainable investments, as defined in Article 2 para. 17 of the SFDR (Art. 2 para. 17, of Regulation (EU) 2019/2088 of the European Parliament and of the Council of 27 November 2019 on sustainability reporting in the financial services sector ss.mm.ii); 
• for UCIs adopting the terms transition or impact, a commitment, in the management of the fund, to clearly and measurably pursue social or environmental transaction objectives, or to invest with the objective of generating a measurable and positive social or environmental impact, as well as a financial return. 

Osborne Clarke comment

It is noteworthy that, for the purposes of setting the quantitative threshold referred to above, ESMA has, among other things, also taken into account existing non-EU regulatory approaches, in particular the rules dictated overseas by the US Securities and Exchange Commission (SEC). This indicates that it wishes to create a common level playing field at a global level and, thus, also takes into account the competitiveness needs of the European financial industry. 

Furthermore, ESMA has specified that the same rules mentioned above must also apply to those funds that refer in their name to an index, as a benchmark (think, in particular, of exchange-traded funds (ETFs)). This is because of the absence of common defining criteria, which regulate the possible definitions of replicable indices. In this way ESMA seeks to safeguard the principles of transparency and the possibility for investors to make, as extensively as possible, well-founded and reliable comparisons.

The constraints contained in the guidelines will immediately bind the managers of new investment funds at the end of the transitional period of three months, starting from the date of the next publication on the ESMA website of the translations of the guidelines in the national languages of the Member States. 

Managers of investment funds already in existence at that date, including managers of closed-end funds whose subscription period has already ended, will instead be required to comply with the guidelines within six months of the end of the transitional period.