Asset managers are at the forefront of a regulatory drive to ensure environment, social and governance (ESG) claims are backed by real substance. Several high-profile cases brough by the Australian Securities and Investments Commission (ASIC), including a March federal court victory against Vanguard Investments Australia, have made clear that cracking down on greenwashing is a regulatory priority.

“Good quality, reliable information is essential to market integrity, and to confident and informed decision-making by investors,” Joe Longo, ASIC’s chairman, said at Responsible Investment Association Australasia’s (RIAA)’s May conference in Sydney. “When companies make misleading statements about ESG issues, it erodes trust in the market – and can lead to the misallocation of capital. Combating greenwashing is therefore critical to supporting trust. And ASIC’s role is to help shore up that trust, by finding the right balance between guidance, surveillance and enforcement.”

While investors agree that doing everything possible to eradicate misleading or inaccurate claims about sustainable practices – ‘greenwashing’ – is a positive development, the unintended consequences of the crackdown are also problematic. In particular, there is concern that legitimate sustainable finance strategies could fall foul of greenwashing accusations given the complexity of the issues.

For instance, transition finance often involves making allocations to entities that are not currently best-in-class for factors like emissions, precisely because these businesses need to invest in improvement. With transition finance still a work in progress, it is difficult to make such investments, even in good faith, under a sustainability banner.

More broadly, investors acknowledge that there is a trend in their sector simply to avoid labelling at all and that this ‘greenhushing’ is limiting the growth of sustainable finance, at least to some extent. In effect, by electing not to take the risk of marketing sustainable investment strategies, asset managers are self-limiting the flow of funds into the sector.

Caution is a natural response to what is happening, according to Deanne Stewart, Aware Super’s chief executive. She said: “The way we are talking about it… is not to pull back from [sustainability] but to know that the forces at work are about transparency.”

Stewart believes many organisations are taking a step back to think clearly about what they are publishing before they proceed because they recognise that “it can’t just be marketing or a nice veneer – we actually need to be true to our word”.

One way forward that is being widely discussed in the regulatory and investor community is the establishment of a standardised sustainability product labelling regime. The idea is that this should help prevent asset managers from falling victim to greenwashing risk while still offering labelled investment products, and thus support sustainable capital flows.

Such a regime was proposed by federal Treasury last year, in the consultation paper for the government’s new sustainability strategy. It is one of four priority areas Treasury has highlighted for improving transparency on climate and sustainability.

The paper explains that the new labelling regime will be designed to standardise language for investment products marketed as sustainable or similar to retail investors. To do this, it will set “minimum standards for what qualifies for a prescribed sustainability label.”

The tone at the RIAA conference suggested the investor community believes the regime will be delivered and that there is good reason for it to exist. Pablo Berrutti, senior investment specialist at Stewart Investors, commented: “Our sector is beset with jargon and acronyms that are impenetrable to most people – even within the industry. There is a good rationale for labelling in this context.”

However, investors also suggested that prescribing definitive product labels is a complex issue and how best to manage it is a live discussion among industry participants. For instance, Maple-Brown Abbott offers a labelled fund – the Australian Sustainable Future Fund – that is certified by RIAA. Emma Pringle, head of ESG and portfolio manager at Maple-Brown Abbott, that this process is complex and time consuming, with many layered and filtered processes to try to distil into a set of standards and a single language.

While Pringle endorsed the introduction of a standards regime, she said the challenge is that it does not provide certainty. “As a product issuer, we might think we are doing the right thing – and the language of these standards is very much built around intent – but we have also to be aware that the regulator is looking at detail and disclosure.”

Pringle continued: “There needs to be a way that, particularly as a small fund manager, we can – with the right amount of cost and audit, assurance and oversight – deliver a product that will meet the right standards. The cost of compliance is actually really high.”

According to Berrutti, the purpose of labelling is being somewhat confused in multiple global jurisdictions. On one hand, policymakers want to drive capital into sustainable assets. However, the labelling section of Treasury’s consultation paper “largely focuses on consumer protection, providing better information, clear information and not misleading consumers of financial products”, Berrutti explained.

On this basis, he questioned whether the goals of trying to drive capital into sustainable assets can conflict with the consumer protection aims. The dilemma for legislators and regulators is how to reconcile the two.

Investors put forward arguments for a more holistic approach to labelling. For instance, Berrutti said that rather than insisting on labels only for sustainable funds, an optimal approach might be to extend the regime to all investment strategies. Labelling one group and not another – unsustainable assets or funds that would not be fit for purpose in a net-zero world – is “an active disincentive”, Berrutti said.

He added that labelling as a means of mobilising capital while also protecting consumers has worked well in the food industry. “We can argue about the quality of the star system of the food labelling regime but Kellogg’s does not get to say it doesn’t have to put a one-star label on a Coco-Pops box. It has to have a one-star label because that’s the nature of the product. As long as the burden is placed on the entire market, it can differentiate how sustainable products are.”

Others are concerned that introducing labelling requirements might restrict the types of products investors can deliver their clients. Tom King, chief investment officer at Nanuk Asset Management, said: “As investment managers, we should be able to deliver products that our clients want – and, generally, our clients know what they want.”

He said he has witnessed a “dangerous shift” in financial services regulation overseas, into trying to manage capital flows. He added: “It is the job of other arms of government to shape where the economy heads, and the financial markets to operate in a transparent and efficient way to help deliver this within the regulations, frameworks and support that might be there to help it happen.”

The advent of mandatory climate-related risk reporting in Australia, to commence in June, might be a boon for the investment industry. Longo said it will provide the “information architecture” to “support growth in sustainability-related products and services and facilitate efficient allocation of capital”.

Investors say it is not a silver bullet, however. There is another dilemma, in the form of the trade-off between thorough and rigorous reporting requirements and the amount of content retail market participants are prepared or are qualified to digest.

“We know that more information doesn’t necessarily equal more insight or more trust in the system – because we are awash with information,” Berrutti said. “The real challenge for us as an industry is to be really clear about what we plan to do, and then do it. If it doesn’t work out, we must then explain why not and what we plan to do about it. It is about continuously taking our clients and our stakeholders on the journey with us.”

Photos supplied by Responsible Investment Association Australasia and The Crop – www.thecrop.com.au.