Following repeated requests by BETTER FINANCE, the European Securities and Markets Authority (ESMA) launched an investigation in 2015 into the practice of Closet Indexing and found that investor detriment was potentially very significant, with up to 15 % of the UCITs funds it selected potentially falsely active.
However, since ESMA never disclosed the funds that were uncovered by its investigation as potentially falsely active, BETTER FINANCE decided to replicate the ESMA study as closely as possible and disclose the list of the funds, including those that ESMA excluded from its analysis because of lack of data.
Besides confirming the initial conclusions, the investigation by BETTER FINANCE also uncovered other worrying findings regarding information disclosure, with the study revealing that more than a third of the funds with the highest potential of being closet indexers did not disclose their benchmark’s performance alongside their own performance in their KIID.
Particularly upsetting, is the fact that some investment products labelled as “socially responsible” didn’t meet these basic requirements… Surely, if there are any investment products that should be 100% transparent and not keep investors in the dark, it is those that are labelled as such?
For EU citizens, the concept of sustainable finance should translate into products that are fully compliant with EU rules on fair, clear and non-misleading information. In fact such compliance should constitute a key requisite for granting any ESG or SRI label.
Sadly, as mentioned, BETTER FINANCE’s research on Closet Indexing revealed that some products labelled as “sustainable” do not comply with EU investor protection rules at all. BETTER FINANCE has for instance drawn attention to the example of the French Government’s SRI Fund Label Committee who granted this label to funds that do not comply with the MiFID information disclosure rules.
These funds claim to be actively managed and distinguish themselves from other mainstream funds on the basis of ESG criteria, when in reality these funds have merely been “hugging” their mainstream benchmarks. Whereas they advertise the objective of over performing a mainstream benchmark using ESG, they have actually not even achieved half of their benchmark’s performance over the last 10 years, without ever warning fund investors about this repeated failure to meet the stated objective.
When talking sustainable finance, it is crucial to keep in mind that for EU savers it must refer to finance that ensures “long-term and sustainable value creation”, and that, first and foremost, applies ESG criteria, especially governance and transparency ones to its own practices. Such a sustainable finance would therefore be exemplary in terms of compliance with EU consumer and investor protection rules, in particular information and disclosure ones.