The EU ESG Regulatory Regime: A Detailed Guide

Environmental, Social, and Governance (ESG) considerations have hovered on the periphery of the public conscious (and the minds of policy drivers and investment managers) for several decades. However, recently their importance has taken center stage with the convergence of several related developments, especially:

• A growth in support for Green political parties
• Enhanced social media coverage of ESG topics
• The adoption of ESG-based investment strategies to mitigate risk and/or achieve alpha
• The emergence of visible evidence of global warming coupled with definitive scientific consensus on the topic
• Global warming-induced environmental catastrophes (e.g., marine plastic pollution, wildfires, hurricanes)
• Enhanced transparency of poor labor practices and governance failures, including through high-profile leaks
• A predilection of a certain demographic for ethical investing (e.g., millennials and generation z)

Many investment firms have sought to capitalize on the popularity of ESG investing that has accompanied the above phenomena by providing differentiated “sustainable” offerings that have enabled them to retain or even capture market share, whilst at the same time burnishing (or greenwashing) their “Corporate Social Responsibility” credentials.

The Basics of the EU ESG Regulatory Regime

The commercial scramble to capture market share in the ever-growing ESG investment segment has (further) fueled a proliferation of voluntary non-governmental standards that have filled the vacuum left by an absence of regulation. It has also led to an entire ESG data and analytics industry springing up to service the needs of the investment community.

These latter developments have led to market fragmentation, opacity, and heterogeneity in quality between and among the voluntary standards and associated offerings, which has ultimately led to greenwashing with investors left bewildered as to how to distinguish between genuinely sustainable investments and mere marketing puff. To overcome this market fragmentation, EU policy drivers have developed a single set of regulatory standards that require investment firms to demonstrate the provenance of their ESG claims with robust data and analytic disclosures.

The EU’s new suite of ESG regulations can be divided into the following nine core pillars:

The disclosures are designed to facilitate meaningful comparisons between investments thereby empowering investors to make informed decisions, which it is hoped will translate into the channeling of private investment into legitimate sustainable economic activities. The regulatory measures also seek to address the growing risks ESG factors pose to investments (and investment firms) and the risks investments present to ESG factors.