Missing link: the role of stewardship in EU policy

As the world grapples with the increasingly unpredictable effects of climate change and ecosystem collapse, swift action is required at all levels to put in place a sustainable blueprint for the future.  

Since its inception in 2018, the EU’s Sustainable Finance Action Plan (SFAP) put Europe on the map as a global leader in sustainable finance. The SFAP raised the EU’s ambitions, placing strong emphasis on increasing capital allocations to sustainable companies and activities.  

Despite these developments, however, the crucial lever of stewardship was largely absent from the initial SFAP and the more recent EU Green Deal. The EU’s upcoming Renewed Sustainable Finance Strategy scheduled to be launched in early July offers a significant opportunity to accelerate ambition on stewardship and to provide concrete guidelines for investors to connect this critical missing link. A recent paper from the Principles for Responsible Investment outlines key recommendations for more effective EU stewardship policy, which can be accessed in full here. 

Uniting stewardship with the SFDR and EU Taxonomy 

The SFAP launched a host of ground-breaking sustainable finance policies, including the regulation on sustainability related disclosures (SFDR) and the EU Taxonomy. Looking ahead, the European Commission must now clarify how investors can use the stewardship tools already available to them to fully unlock the goals of these policies.  

Firstly, the SFDR requires financial market participants to disclose their engagement policies where they consider any adverse impacts of investment decisions on sustainability factors, such as greenhouse gas emissions or violations of OECD Guidelines for Multinational Enterprises. This will likely include a description of adverse impacts considered and how they plan to adapt their policies where those adverse impacts haven’t reduced. Although this is a positive development, we think this should go further. By requiring investors to disclose whether reduction of adverse impacts is their primary stewardship objective, and how they anticipate their stewardship activities will contribute to this reduction, effective sustainability-focussed stewardship can be encouraged. 

Stewardship plays a key role within the sustainable transition and the EU Taxonomy provides an excellent framework for investors to engage with corporates to reduce adverse impacts and increase positive sustainability outcomes. As part of its communication on the sustainable finance package, the European Commission describes how the EU Taxonomy can support the sustainable transition, stating that the delegated act “criteria create a common language for businesses and investors, allowing them to communicate about green activities with increased credibility and helping them to navigate the transition already under way […] Companies, if they wish, can reliably use the EU Taxonomy to plan their climate and environmental transition and raise financing for this transition”.  

The EU taxonomy brings clarity to consumers of financial products about the sustainability of their underlying investments. By bridging the gap between international sustainability goals, like the Paris Agreement, and investment practice, investors can use the Taxonomy to push investees to set robust transition plans, targeting certain levels of alignment or setting goals to be within a certain percentage of the thresholds detailed in the technical screening criteria for covered activities.  

The Commission should ensure that the transition-supporting policies published in the Renewed Sustainable Finance Strategy are linked to Paris Agreement targets through the Taxonomy and their dependency on stewardship activities is made explicit. 

The role of fiduciary duty in stewardship 

Investors must act with due care, skill and diligence, investing as an “ordinary prudent person” would. This should include being an active owner, encouraging high standards of ESG performance in the companies or other entities in which they are invested.  

As part of its sustainable finance package the European Commission published in April 2021, five amending delegated acts regarding fiduciary duties under UCITS, AIFMD, Solvency II and MiFID II. While the amendments provide greater clarity on sustainability risks, they do not explain whether an investor has a duty to consider how it should undertake stewardship activities relating to such sustainability risks or impacts to pursue fund objectives and serve clients’ best interests.  

Even within the existing regulatory framework, the permitted scope of stewardship activities is often interpreted quite narrowly by investors, limiting it to issues which are currently material to individual companies and so reducing their potential contributions to positive outcomes. Given its consequences for overall portfolio returns, an approach to stewardship that incorporates systemic issues is arguably required by the fiduciary duty of investors. The European Commission should produce regulatory guidance setting out a more expansive view of investors’ permitted or required stewardship approach. 

Beyond providers of capital 

A policy approach that focuses solely on investors’ role as providers of capital overlooks the broader influence investors have over investee companies, the financial system and the economy at large. Investors have unique levers to support companies to transform their activities to be more sustainable, such as the right to vote at AGMs and to bring litigation in the event of corporate misconduct. Across asset classes, investors have influence through engagement directly with investees or with other stakeholders, such as standard-setters, policymakers and service providers. Investors have a responsibility to use these forms of influence to encourage corporate transition to sustainable practices and thus support long-term value creation, and to inform beneficiaries whether and how their assets are being managed sustainably. 

A policy environment that incentivises alignment between the EU’s sustainability goals and the role of investors as both providers and stewards of capital is essential to the creation of a sustainable financial system.  

This blog is written by PRI staff members and guest contributors. Our goal is to contribute to the broader debate around topical issues and to help showcase some of our research and other work that we undertake in support of our signatories.Please note that although you can expect to find some posts here that broadly accord with the PRI’s official views, the blog authors write in their individual capacity and there is no “house view”. Nor do the views and opinions expressed on this blog constitute financial or other professional advice.If you have any questions, please contact us at [email protected].