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Greenwashing: What is it and How to Avoid it?

Updated: Aug 4

ESG is the new buzzword. Fund managers want to be able to say they are associated with sustainable investing, and investors want to invest with ESG-focused fund managers. This movement is attracting the attention of regulators as ESG is more than a buzzword; it is a defined set of standards with comprehensive reporting requirements.

ESG investing is surging and now makes up 33 percent of total U.S. assets under management. As the push toward sustainable investing accelerates, many managers are encountering regulatory and investor relations challenges. With good reason, fund managers are challenged to demonstrate that their sustainability efforts are legitimate, to avoid being construed as greenwashing, or conveying a false impression of sustainability. With no standardized reporting required, nor a clear definition of what constitutes good corporate behavior, greenwashing has rippled through the alternative investments industry.

While fund managers who apply an ESG strategy may have good intentions, investors and regulators are right to question whether an investment management firm is actually associated with sustainable investing, not greenwashing. In this article, we will explain the main components of greenwashing and how to avoid it.

What is Greenwashing

In simple terms, greenwashing refers to a company that provides misleading information about the impact its business operations have on the environment (i.e., claiming to be environmentally conscious for marketing purposes but not making any notable sustainability efforts).

And even with the best of intentions, greenwashing is not always easy to avoid. Until recently, the lack of regulation has meant that there is nothing to stop a fund from self-identifying as sustainable, even if the companies it invests in make no meaningful contribution to the environment.

Regulators are cracking down. On May 31, German police investigated Deutsche Bank and its asset management group DWS over accusations they overstated their ESG credentials. On May 25, the Securities and Exchange Commission (SEC) proposed new rules that would require ESG funds to disclose the goals, criteria, and strategies along with data measuring ESG progress. And just before then, the SEC fined BNY Mellon $1.5 million for misstatements and omissions concerning ESG considerations.

It is no surprise that ESG investing is highlighted as a priority issue among regulators. With a focus on ensuring that fund managers accurately disclose their ESG investing approaches and determining whether there are misrepresentations of the ESG factors considered or incorporated into portfolio selection, regulators are taking notice.

Steps fund managers can take to prevent greenwashing

Where a determination has been made that ESG considerations will be taken into account as part of a manager’s investment decision-making process, it is typical for an ESG policy to be adopted. Thorough fund documentation that draws clear links between the fund, objectives, and strategies and is, in turn, backed by clear and comprehensive firmwide policies is at the core of mitigating greenwashing risk.

Below are steps fund managers can take to prevent greenwashing.

  1. Data: Sustainability data is vital as it underpins a firm’s regulatory disclosures and reporting on non-financial objectives and investment decision making. Fund managers should enhance their in-house data analysis capabilities and proactively assess their portfolio when new sustainability data emerges that affects the fund’s ability to perform on its sustainability objectives.

  2. Clear Communications: Regulators are often concerned about how fund managers describe, market and communicate their products. This is especially true for sustainable investing as it is a new and evolving landscape for both fund managers and regulators. Fund managers should ensure that internal and external communications accurately represent their ESG policies and procedures.

  3. Reporting: Regulators will expect investment management firms to provide investors with information to assess whether a fund is achieving its objectives. Fund managers should ensure that the metrics used to measure non-financial performance are presented in a way that is easily digestible for investors.

  4. Complaints Handling: There will be complaints, and regulators expect this. However, they expect complaints to be assessed fairly, consistently and promptly. With regard to greenwashing complaints, firms should ensure that compliance professionals are trained in sustainability investing, sustainability data, and related terminology and analysis.

The key takeaway for fund managers is that they should be transparent with their team, investors and regulators in terms of their ESG-related initiatives. ESG is a buzzword, but it is also a defined set of standards with comprehensive reporting requirements. There are steps fund managers can take to reduce the risk of greenwashing while making a positive impact on society.