At first glance, real estate may appear relatively small in terms of its 3% share of the total finance market. However, it is responsible for a disproportionately significant contribution to carbon emissions. Therefore, regulation aimed at decarbonising the built environment has the great capacity to supercharge global efforts in the transition to net-zero.
On 28 November 2023, the Financial Conduct Authority (FCA) issued a policy statement on the Sustainability Disclosure Requirements (SDR), with the aim of improving trust and transparency for sustainable investment products. Among anti-greenwashing measures, this included four investment labels designed to create a concise framework for investment product selection.
Coming into effect today (31 July 2024), these labels require that at least 70% of the gross value of a product’s assets align with the label’s sustainability objective. Similarly other assets must not conflict with the overarching sustainability objective. These sustainability labels include:
- Sustainability Focus: Aims to invest in assets that are environmentally and/or socially sustainable.
- Sustainability Improvers: Aims to invest in assets that have the potential to improve environmental and/or social sustainability over time.
- Sustainability Impact: Aims to achieve a pre-defined positive measurable impact in relation to an environmental and/or social outcome.
- Sustainability Mixed Goals: Firms using the ‘Sustainability Mixed Goals’ label will need to meet the requirements under the specific criteria for each of the other labels the fund is invested across.
From the outset, INREV has been supportive of the introduction of these investment labels for the real estate industry, acknowledging the work the FCA has undertaken to increase transparency and reduce risks of greenwashing. The SDR labelling regime will increase investor confidence in sustainability-related products, facilitating much-needed capital flows towards sustainable investment.
SDR vs SFDR
Despite some commonalities with SDR, the EU’s Sustainable Finance Disclosure Regulation (SFDR) differs across various aspects. For instance, where SDR explicitly focuses on labelling that accommodates the transition to being more sustainable, SFDR is focused primarily on static disclosure requirements.
Since the introduction of SFDR, INREV has been clear that in order to encourage investment into retrofitting buildings, the European real estate industry needs a label or category that acknowledges efforts to make unsustainable investments sustainable.
Article 9 states that sustainable investment should always be a core objective and – with the exception of the narrow category of Article 9.3 funds with carbon reduction strategies tracking a benchmark – assets in the fund must be sustainable at all times.
In contrast, Article 8, while sounding like an inferior category, is very broad. This places investors with a more limited focus on sustainability alongside investors that strive to improve environmental or social aspects of the assets in the fund to qualify them as sustainable investments.
European regulations that place most transition funds into Article 8 have the unintended effect of discouraging capital being invested into funds that are taking positive steps towards transition – with a negative knock-on effect for broader retrofit and decarbonisation efforts.
An established benchmark
INREV continues to engage with policymakers and regulators in Brussels on what can be learned from the FCA’s application of investment product labels. On 6 December 2023, the association responded to the European Commission’s targeted consultation on the implementation of SFDR, arguing for fund labels that reflect the investment strategy of the product. This called for the elimination of the de facto use of Articles 8 and 9 as labels, replaced by fund labels that explicitly accommodate real estate transition strategies.
Using a principles-based approach in which managers provide more information about the investment strategy for their products (similar to SDR), along with the timeline for achieving the strategy goals, would enhance transparency to a great extent while also encouraging investment into transition.
Shortly after the FCA announced its move to new investment product labels under SDR, in June 2024 the European Supervisory Authorities (ESAs) called for improvements to SFDR. This suggested that the introduction of a product labelling system with a ‘transition’ category could significantly help real estate funds that aim to improve the sustainability of their assets. ESA’s recommendations were very welcome, as was its recognition of the crucial role investors and managers must play in supporting the transition of unsustainable buildings.
As managers in the UK increasingly start to list their sustainable investment funds under the SDR product labels, INREV will continue to assess how successful the regime is for providing real estate investors with greater transparency and moving capital toward these vital strategies. In the meantime, the European authorities are engaging with the FCA – and industry bodies such as INREV – to help achieve coherence with its own labelling regimes. With the newly elected European Commission in place, the hope is that the ESA’s recommended investment categories are adopted early in the new term, with the inclusion of ‘sustainable’ and ‘transition’ categories that support the industry’s transition to net zero.
