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Wave of EU green funds re-badged amid regulatory drive - Morningstar

European Union flags flutter outside the EU Commission headquarters in Brussels

By Virginia Furness and Tommy Wilkes

LONDON (Reuters) -Asset managers downgraded funds holding a total of 175 billion euros ($190 billion) of assets from the European Union's highest sustainability classification in the fourth quarter, Morningstar data show, accelerating a recent trend amid tighter regulations.

The EU's Sustainable Finance Disclosure Regulation (SFDR), which aims to tackle misleading claims from managers over their sustainability efforts, is gradually being rolled out and from January required more detailed information to back them up.

Ahead of that, European Supervisory Authorities (ESAs) had sought to clarify how to apply elements of the regulation. Yet many managers said questions remained, particularly around what qualified as a 'sustainable investment'.

As a result, many opted to reclassify their funds as 'Article 8', which carries with it less onerous reporting requirements, from the highest level, Article 9.

Overall, 419 products saw their status change in the fourth quarter, of which 307 were cut from Article 9 to Article 8, some 40% of the 'dark green' category, Morningstar said.

"Almost two years after SFDR came into force, the landscape of funds marketed as green in the EU is going through some radical changes," Hortense Bioy, Global Director of Sustainability Research, Morningstar said.

"We expect the recent wave of Article 9 fund downgrades to continue, raising questions about what will remain and how useful that category will be."

Europe's largest fund manager Amundi in November said it would reclassify "almost all" of its Article 9 funds.

Just 3.3% of fund assets are now marketed in the highest sustainability bracket, while 52.2% are in Article 8.

Following the downgrades, according to Morningstar nearly two-thirds of Article 9 funds plan to have more than 70% exposure to sustainable investments, but only 6.3% between 90% and 100%.

The European Securities and Markets Authority recently clarified that Article 9 funds should only hold sustainable investments, Morningstar noted.

FUND FLOWS REBOUND

A bruising year for fund firms ended more positively.

Global sustainable funds attracted $37 billion of net new money in the fourth quarter, helping end three consecutive quarters of falling assets, Morningstar said in a separate report on Thursday.

In contrast, the broader market saw $200 billion of net outflows as rising interest rates and economic worries rattled investor confidence, it said.

The net inflows into sustainable funds were driven by Europe, Australia and Canada. Investors elsewhere including the United States, where there has been a political backlash against sustainable investing in some Republican-run states, withdrew cash.

Assets in sustainable funds reached $2.5 trillion at end-2022, down from $3 trillion at end-2021, Morningstar said. Europe accounts for 83% of assets.

(Reporting by Virginia Furness and Tommy Reggiori WilkesEditing by Simon Jessop and Mark Potter)