The FCA’s new Sustainability Disclosure Requirements will boost transparency and accountability in the impact investing market, argues Kieron Boyle, chief executive officer of the Impact Investing Institute.
The end of November marked a ground-breaking milestone for the sustainability and impact investing market in the UK. The Financial Conduct Authority (FCA) published their long-awaited Sustainability Disclosure Requirements (SDR), which include the UK’s first regulated impact investing label, and restrictions on the use of sustainability-related terms in product naming and marketing.
This is an exciting, industry-defining moment and it comes at a crucial point. The sustainable finance and impact investing markets have experienced exponential, rapid growth and – in some areas – dilution, compromise, and controversy. Tackling ‘impact washing’ and empowering consumers to make informed choices are vital to support the growth of the impact investing market and protect its integrity. The implications of this new regime are significant.
The Impact Investing Institute had the privilege of contributing directly to the FCA’s work on SDR as members of their Disclosures and Labels Advisory Group (DLAG) and we are delighted to see our recommendations reflected in the policy statement detailing the plans for the new regulation.
We, and many in our network – spanning the world’s largest capital market actors, social investors, and policymakers – advocated for a regime and investment labels that strike a balance between codifying existing best practice, raising the bar for sustainable investing across the financial sector, and leaving space for continued innovation.
We believe that the Sustainability Impact label, one of the four sustainability finance labels in the FCA’s new rule book, is shaped to take advantage of this moment.
Key Considerations
Firstly, there are a few considerations when it comes to defining impact investments. When people wonder if their investments are having a positive impact, they will typically look at what the underlying enterprises or assets are doing – what positive change for people and the planet are they creating? This is different from what is often bundled together under the ESG umbrella, where an investment decision includes an assessment of the financial risk posed by certain environmental, social, or governance matters. The FCA has captured this distinction, which is crucial for consumer understanding and transparency.
Given this is a consumer-facing label, the impact of the underlying enterprise is a key distinguishing feature – as the matter of the investor’s impact is somewhat academic. There is a view within the world of impact investing that an investor achieves impact through providing new (‘additional’) capital to an enterprise. This effectively means that investors can only have impact in the private market, which is subset of the global investment market that is relatively inaccessible to retail investors.
In order to scale the amount of investment in enterprises that benefit people and the planet and build on current good practice in the market, there are huge opportunities in looking at impact in a more holistic way. We are therefore relieved that the FCA’s regime recognises investors’ non-financial impact, such as stewardship and other engagement activities, allowing for private and public markets to be captured within the impact label.
Theory of change
Of course, the reality of applying and regulating this approach comes with many challenges. We are glad to see that the FCA’s final rules require impact products to be anchored in a theory of change. This is a well-established mechanism for articulating a problem affecting people or the planet, the solutions to that problem, and – critically – how an investment product or fund contributes towards those solutions.
Done well, a theory of change is a robust framework that governs the impact investment process – from setting an impact strategy, to selecting impact investments and determining the investor’s contribution, to identifying the metrics for measuring and managing whether investments are having the intended impact. It also determines the steps an investor will take when the intended impact is not achieved. In time, we would like to see the FCA require external, independent impact measurement verification, which many investors are already using. We welcome the renewed efforts to encourage higher standards and greater consistency across third-party data providers.
Considering these issues of definitions and governance, in our opinion the FCA has developed pioneering regulation which has the potential to deliver a step change in the transparency and accountability of the impact investing market. For the regulation to flourish, it needs to sit within a wider policy and regulatory environment that enables and prioritises investing with the intention to create positive outcomes for people and the planet – which we believe is the future of all investments.
