With the upcoming MiFID II regulation, many financial institutions are gearing up for a huge shake up on the regulatory side. Are clients and companies on the same page regarding ESG?
A recent whitepaper by Zeidler underlined key developments in the process of adopting ESG practices and how clients and companies are dealing and viewing this change.
Under the Directive 2014/65/EU on markets in financial instruments, investment firms are required to incorporate ESG considerations on the suitability assessment they perform when offering certain products or services to their client.
Zeidler detailed that the assessment must now be made with reference to any suitability preference expressed by the client. The company added that imposing this additional layer of assessment on MiFID investment firms will render ESG considerations more relevant in two key ways.
Regarding this, on the client side, anyone may have the ability to specify sustainability preferences – thus raising a potential need for new bespoke products. On the product side, all financial instruments are in scope and not only light green or green funds.
What are sustainability preferences? Zeidler highlighted that the client can express their sustainability preferences in a number of forms – including a minimum proportion of taxonomy-aligned sustainable investments as well as a minimum proportion of sustainable investments in accordance with SFDR or taking into account the investments’ externalities on sustainability factors in relation to certain qualitative or quantitative elements.
Zeidler said, “The client’s sustainability preferences must be considered as part of the suitability assessment prior to any recommendation of a financial product. It is mandatory for the investment firm to gather such information in order to recommend products which will meet the client’s sustainability preferences. Where the client has no such preferences, the investment firm must be able to confirm the same.”
What products can be recommended as sustainable? Zeidler remarked, “In order to assess which products can be recommended to a client with sustainability preferences, it is necessary to first assess which products are considered “sustainable” under the MiFID II Delegated Regulation.”
In this regard, the firm added, investment companies are only allowed to recommend funds as sustainable if these are financial instruments that pursue a minimum proportion of sustainable investments. This in term means Article 9 and Article 8 of SFRD products.
Zeidler continued, “Once the investment firm has performed the suitability assessment, the MiFID II Delegated Regulation also requires the firm to report and explain to the client how a specific recommendation made actually meets their requirements in terms of investment objectives, risk profile, capacity for loss bearing and sustainability preferences. Therefore, ESG is now fully integrated as part of the ex-post information disclosure provided for under MiFID II.
Zeidler concluded, “While the industry is adjusting to a new mapping of sustainable financial instruments and products, through SFDR but also the Taxonomy Regulation, clients may have a much more practical approach when seeking investments in line with their individual sustainability preferences.”
According to the firm, it will be up to MiFID investment companies to identify among ‘light green’ and ‘green’ funds those they can truly promote as sustainable. Also, they should ensure that whatever funds they consider for their clients are in fact in line with any individual preferences expressed by them and be able to explain and demonstrate this alignment to the clients themselves.
This, Zeidler claims, will trigger an increased level of details of the information that investment firms will need to provide to their distributors and/or clients as well as a potentially increased due diligence on financial products.
Find the full whitepaper here.