ESAs present common understanding of greenwashing and warn of related risks

On 4 June 2024, the European Supervisory Authorities (ESAs) – EBA, EIOPA and ESMA – published their final report on greenwashing, following a request from the European Commission (EC) in May 2022. The final report investigates the role of supervision in mitigating greenwashing risks. It takes stock of the current supervisory response, based on a survey of 29 National Competent Authorities (NCAs).

The report provides a common understanding of greenwashing, assesses its occurrence and impact, and proposes recommendations for NCAs, ESMA and the EC to enhance the supervision and regulation of sustainability claims and disclosures across key sectors of the investment value chain, including issuers, investment managers, investment service providers and benchmark administrators.

The ESAs define greenwashing as the practice where sustainability-related statements, declarations, actions or communications do not clearly and fairly reflect the underlying sustainability profile, potentially misleading consumers, investors or market participants. The ESAs identify core characteristics of greenwashing, such as its potential to be intentional or unintentional, its occurrence at various levels (entity, product, advice), and different stages of the business cycle of financial products (e.g. manufacturing, point of sale).

The ESAs propose that their common understanding of greenwashing be adopted as a reference point for supervisory activity and internal monitoring.

• So far, NCAs have reported having detected only a limited number of actual or potential occurrences of greenwashing. This may reflect multiple factors, including the low level of signals (e.g. complaints) reaching NCAs, limited financial literacy, constraints on NCAs’ resources and expertise in detection, and NCAs’ difficulties in accessing good-quality data. The detection of actual occurrences may to some extent reflect early successes by NCAs in preventing greenwashing in certain areas.
• Given that it is a type of misleading information, greenwashing may be covered by existing rules prohibiting misleading information, embedded in the EU consumer and investor protection framework (e.g. MiFID II and SFDR) and in certain sectoral legislation, to the extent that the relevant sustainability-related claims fall within the scope of NCAs’ supervision.
• Although NCAs diverge in terms of how they interpret their mandates and how they see their role in terms of supervising sustainability-related requirements, the legal basis appears sufficient for NCAs that have set a high ambition for themselves. NCAs and ESMA have been implementing a risk-based approach to supervision, focusing their supervisory attention and resources on the most significant risks.
• To address the need for specialised knowledge, NCAs and ESMA have started building sustainability-related capacities and expertise through training programmes, recruitment, cooperation with relevant national agencies and dialogue with non-governmental organisations (NGOs).
• ESMA, however, notes that the benefits of integrating the ESAs’ understanding of greenwashing into the legislation are not clear. Such an approach may create confusion among market participants and require substantial legislative work given the numerous level 1 and level 2 texts that would need to be modified. The priority should be to support supervisory convergence.
• ESMA is in the process of developing an indicator to qualify greenwashing risk in the investment fund industry. This indicator is meant to help assess certain aspects of the quality of sustainability-related claims disclosed by funds and hence greenwashing risks in the fund sector. ESMA is exploring different ways of quantifying this risk, including by looking at the consistency of sustainability-related claims across fund documents, unsubstantiated use of vague ESG-related language by fund managers and alignment between a fund’s name and the composition of its portfolio. ESMA is considering further exploring the development of indicators to monitor greenwashing risks, also beyond the fund industry. ESMA is also considering exploring how it can further support NCAs in their efforts to monitor greenwashing and detect occurrences, via the sharing and development of analyses, methodologies and tools such as the so-called “SupTech” advanced digital tools for supervision.

The reports have implications for issuers, investment managers, investment service providers and benchmark administrators, as they are subject to the EU regulatory framework and the supervision of the NCAs and ESAs. The reports suggest that financial institutions should ensure that their sustainability information is fair, clear and not misleading, and that they adapt their governance arrangements and internal processes to prevent greenwashing.

The reports also recommend that financial institutions adopt proactive approaches to ESG data challenges and external verification, and that they integrate greenwashing-related financial risks into their risk management. The reports indicate that financial institutions should expect increased supervisory scrutiny and guidance on their sustainability claims and disclosures, as well as potential enforcement actions in the event of non-compliance or misleading information.

These final reports mean that financial institutions should expect increased supervisory scrutiny of their sustainability claims and disclosures. Financial institutions should ensure that their sustainability information is fair, clear and not misleading, and that they adapt their governance arrangements and internal risk and control processes to prevent greenwashing. Despite further developments to be announced by the ESAs, there’s no time to lose. If you need advice or assistance, feel free to contact us.