Securities and Exchange Board of India (SEBI) has floated a consultation paper proposing a series of measures that guarantees ESG (Environment, Sustainability and Governance) mutual fund schemes schemes walk their talk. The move ensures that ESG-focused mutual fund schemes remain true to label.
Aside from the name of the scheme that makes its ESG focus clear to its investors, SEBI has proposed that all ESG schemes must define its objective and policy in clear terms as to what it aims to achieve by following an ESG – focused strategy and how it would materially make a difference.
SEBI has also proposed that ESG focused MFs must invest in only those companies that are covered under the mandatory Business Responsibility and Sustainability Report (BRSR). At the moment -and since the new BRSR norms came into effect in May 2021- the top 1,000 companies listed by market capitalisation are covered.
To be sure, the consultation paper also proposes that all ESG–focused MF schemes must invest atleast 80 percent of their corpuses in ESG-compliant companies, or to be precise, meets the schemes’ objectives. However, the regulator has taken a view that the residual portfolio of ESG theme funds should not be in stark contrast of the theme, either.
The growth of ESG mutual fund schemes
ESG schemes are slowly gaining popularity in India. However in a market that is obsessed with returns, retail investors have been a bit slow in warming up to ESG-compliant schemes. But large, institutional investors and family offices are increasing their investments in ESG focused funds.
SEBI papers says that there are eight ESG thematic equity schemes with assets under management (AUM) of Rs 12,085 crore, as on September 30, 2021. There is one ESG exchange traded fund with assets of Rs 174 crore. ESG funds have given a return of 22.96 percent, on an average, over the past 3-year period, as on October 25, 2021.
Additionally, SEBI has also mandated that all ESG-focused MF schemes must spell out its investment strategy clearly. SEBI has said that fund houses could either state explicitly the sectors or companies they’ll specifically avoid, depending on what way such companies may be ESG-unfriendly, and/or put down a detailed selection criteria on how they intend to identify ESG-friendly companies.
Ultimately, SEBI has proposed that ESG-focused schemes must use a scoring technique (either developed in-house or by a third party) that distinguishes ESG-compliant companies from those that are ESG-unfriendly.
Are disclosure standards enough for an ESG investment philosophy?
To help mutual funds make a smooth transition to the new disclosure norms, SEBI has allowed grand-fathering for all those companies where BRSR disclosures are not yet available, till September 30, 2023.
These funds must also chose an appropriate benchmark that reflects the ESG contribution of the underlying companies. Whatever disclosures the scheme makes, must be in simple language.
SEBI has further proposed that mutual fund houses will maintain the ESG policy related to investments and make necessary disclosures on their websites. This must include source of ESG information, investment process and philosophy, key ESG factors to be considered in decision making, due diligence methodology and its limitations along with other factors.
The AMC board would need to give an undertaking to the trustees that the schemes have been complying with the strategy and investment policy.
SEBI has sought comments on this ESG consultation paper by November 16, 2021.
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