The Financial Conduct Authority (FCA) has published its final rules on climate-related disclosures by asset managers, life insurers and FCA-regulated pension providers under Policy Statement 21/24 (PS 21/24). The new obligations already apply in respect of some of the largest firms from 1 January 2022. The requirements are aligned with the widely recognised Taskforce on Climate-related Financial Disclosures (TCFD) recommendations. In this note, we will consider some of the implications of these changes and how market participants can best prepare for their implementation.
Sustainability is, undoubtedly, a key focus of the UK regulator for the years ahead and we are assisting our clients to navigate the evolving regulatory environment. The new rules follow the FCA’s earlier consultation on the topic, which you can read more about here. The FCA aims to ensure that firms manage climate-related risks and opportunities in a more transparent manner. Ultimately, the objective is to drive more investment towards greener projects and activities, in line with the UK government’s broader policy of ‘greening finance’ and supporting sustainable investing. It is recognised that the system needs to promote on the one hand, open provision of high quality information on climate risk in business and operations; and on the other hand to generate trust and verifiable substance in green and other sustainability related investment products, to enable this.
The FCA is introducing a new Environmental, Social and Governance (ESG) sourcebook of the FCA Handbook, setting out rules and providing guidance for asset managers and certain FCA-regulated asset owners for making disclosures consistent with the recommendations of the TCFD.
Specifically, asset managers and certain FCA-regulated asset owners will be required to make mandatory disclosures on an annual basis, with the reporting scope being two-fold, both:
- Entity level – an entity-level TCFD report explaining how the firm takes climate-related risks and opportunities into account when managing or administering investments on behalf of clients and consumers; and
- Product or portfolio level – a baseline set of consistent, comparable disclosures on the firm’s products and portfolios, which must include a core set of metrics.
The new ESG sourcebook includes useful guidance on determining whether disclosures are consistent with the TCFD’s recommendations and the rules. We have drawn out some of the salient guidance points below.
Scope of application & timing
The new rules apply to UK firms in relation to their “TCFD in-scope business”. This includes core fund management activities, but also the MiFID investment service of portfolio management. Firms should carefully consider the scope of their permissions to come to a view whether they are caught by the new regime.
Firms with less than GBP5 billion in assets under management (AUM) or administration (calculated on a 3‑year rolling average basis, assessed annually) are excluded from scope of the regime.
The new rules will come into effect in two phases. This first phase will capture asset managers with over GBP50 billion in AUM (currently 34 firms) and asset owners with assets over GBP25 billion (currently 12 firms). With regard to asset managers, this is the same test as the one for determining whether a firm is an ‘enhanced scope Senior Managers and Certification Regime (SM&CR) firm’, so firms should generally be familiar with the conditions. The requirements are already applicable in respect of the largest firms, since 1 January 2022, with the first set of disclosures being required by 30 June 2023.
The rules will come into effect for smaller firms one year later. It is expected that, once fully into effect, the requirements will apply to 140 asset management and 34 asset owner firms, representing GBP12.1 trillion in assets under management (AUM) and administered in the UK market - which broadly covers 98% of both the UK asset management market and held by UK asset owners.
Guidance as to TCFD compliant reporting
In-scope firms should familiarise themselves with the new ESG Sourcebook as well as the TCFD recommendations for preparing their reports. Firms are also expected to take “reasonable steps” to comply with the TCFD's Guidance for all Sectors and Supplemental Guidance for Asset Managers and Asset Owners (which can be found in the TCFD Annex) as well as the TCFD Technical Supplement on Measuring Portfolio Alignment and the TCFD Guidance on Metrics, Targets and Transition Plans.
The entity-level report must contain climate-related financial disclosures concerning all the assets under management in relation to in-scope business. Where a firm decides to take a materially different approach in respect of a specific investment strategy, asset class or product, it must make a relevant disclosure. The report must also explain the firm’s approach to climate-related scenario analysis (which must be accompanied by quantitative examples where possible) and how this is applied in its investment and risk decision-making process.
Where appropriate, firms may cross-refer to entity-level reports made by other members of their group, provided that these include climate-related disclosures consistent with the TCFD’s recommendations. UK firms should, however, be aware that not all jurisdictions have adopted rules regarding TCFD-aligned reporting.
The entity-level report must be published in a prominent location on firms’ website. With regards to product-level reports, client communications (such as annual fund reports and periodic client reports) must generally include a cross-reference and hyperlink to the product-level report. In certain circumstances where public disclosure is not deemed appropriate, firms will need to make "on-demand” TCFD product-level reports addressed to specific clients.
Additional considerations for all firms
It is important to remember that the ESG sourcebook is only one set of requirements that may be relevant to firms with a sustainability-linked focus. All firms should consider the broader requirements under the FCA Handbook and how these apply to ESG-related disclosures both at the pre- and post-authorisation stage. This includes the general obligation to communicate information to clients in a way which is ‘clear, fair and not misleading’. Marketing material, client communications and application for authorisation documents (including regulatory business plans) should be appropriately tailored to meet the relevant FCA standards.