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Morningstar cuts 1,200 funds from ‘sustainable’ list

Morningstar has removed more than 1,200 funds with a combined $1.4tn in assets from its European sustainable investment list after an “extensive review” of their legal documents.

The influential data provider dropped the funds from its “sustainable universe” at the end of last year after closely examining disclosures provided to investors such as prospectuses and annual reports.

The cull underscores the challenge in ensuring sustainable investment products meet customers’ expectations and make a positive impact on the environment while regulators try to formalise definitions and best practice.

“Morningstar data analysts have revisited these disclosures and tightened their criteria to tag funds as sustainable investments in the database,” analysts wrote in a research paper last week.

In November, Morningstar published a report following on from the EU’s rules on sustainability disclosures implemented in March 2021. The paper said the European sustainable fund universe had expanded by 65 per cent between June and September — from 3,730 to 6,147 funds.

Researchers at the time concluded that the introduction of European disclosure rules had fuelled a boom in investing in line with environmental, social and corporate governance criteria, and said the continent accounted for 88 per cent of the global market in these products.

However, the research firm said last week that after conducting further due diligence it removed more than 1,000 funds from its list “including many that listed ESG criteria to self-classify as promoting environmental and/or social characteristics” under European disclosure rules.

The assets under management of funds Morningstar considered to be sustainable at the end of September 2021 tumbled to $2.03tn from $3.4tn following the adjustment, according to data Morningstar provided to the Financial Times.

Most of the removed funds declared their sustainable credentials under the EU’s “light green” Article 8 section of the Sustainable Finance Disclosure Regulation, which imposes ESG reporting for asset managers, Morningstar told the FT. This disclosure category is meant for funds “promoting” environmental or social characteristics or both, provided that the underlying companies have good governance.

But on a closer look, Morningstar discovered problems including “ambiguous language in their legal filings,” said Hortense Bioy, global director of sustainability research at Morningstar. The company declined to disclose the names of the funds it removed.

Morningstar provides influential recommendations in the asset management industry. Its fund assessments — positive or negative — can result in fund flows in both directions and fund managers frequently benchmark their own performance against its data.

Morningstar’s analysts said they reverted to the criteria they used before the era of self-reporting under EU rules. This method considers funds to be green if they feature “sustainability-related terms in their names” as well as “clear descriptions of their ESG-focused processes in key investor information documents”.

Finding common ground on what constitutes green or sustainable investments is a serious challenge for asset managers. Some believe it is best to avoid parking money with oil companies, for example, whereas others think it is better to invest, and to use shareholdings to press for change. In addition, regulators in the EU and elsewhere are conscious of the risk of so-called greenwashing, where funds make green promises that they cannot keep.

“The [European rules] lack precision and clarity, so it should be no surprise if asset managers are overstating the sustainability credentials of their funds,” said David Barmes, senior economist at think-tank Positive Money.

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