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February 14, 2023

ESG biggest regulatory pressure on financial firms, says study

Research by consultancy KPMG has found regulatory expectations on ESG pose greater pressure on financial companies than capital and liquidity rules.

Expectations around environmental, social and governance factors were the most significant regulatory pressure on financial companies over the past six months, according to a KMPG study that looked at the UK and EU markets.

The category labelled “delivering ESG and sustainable finance” scored 8.5 out of 10 on the consultancy firm’s latest Regulatory Barometer study, ahead of maintaining financial resilience, regulating digital finance and strengthening operational resilience.

The study examined the volume, complexity, urgency and costs of the actions required to respond to incoming rules. The overall score measuring the intensity of the various regulatory pressures on financial companies was seven out of 10.

KPMG has said it expects pressure to remain on companies as sustainable disclosure requirements come into force, with supervisors raising their expectations around climate risk and carbon markets gaining traction.

Regulators and policymakers are continuing their work on rules and standards for ESG. In February, the UK Financial Conduct Authority said it was weighing up the introduction of tougher sustainability rules. In January, it closed a consultation that proposed a regime of sustainable investment labels for financial products and the new SDR regulation. SDR sets out a range of disclosure requirements for funds, including sustainability objectives.

The EU, meanwhile, is edging closer towards compelling companies to implement transition plans that are aligned with the Paris Agreement. It also launched its Green Deal Industrial Plan in February, which will subsidise companies’ efforts to meet the bloc’s net zero goals.

Will Martindale, co-head of sustainability at Cardano, an investment adviser to UK pensions funds, agreed with the ranking of ESG in KPMG’s study.

“For a decade, responsible investment was unregulated, so it’s unsurprising there’s been a proliferation in terminologies and methodologies, and that regulators are now taking action to coalesce around best practice,” he said.

UK and EU standards may diverge

KPMG had identified ESG as financial companies’ key regulatory challenge in last year’s research too.

“As the UK forges ahead with new approaches post-Brexit, and regulators consider their new competitiveness objectives, firms will likely need to adapt to an increasingly different set of requirements in the UK versus Europe,” KPMG director Kate Dawson said. 

“The volume of emerging requirements for ESG and sustainable finance may lead to further differences despite global standard-setters’ best efforts to be aligned.”

Simmons and Simmons managing associate Frances Gourdie told Sustainable Views that some clients are finding ESG regulation “overwhelming”. ESG rules are a particularly high priority for clients based in Europe, she said, owing to the raft of regulation coming into force including the Corporate Sustainability Reporting Directive.

CSRD, which came into force in January, requires around 50,000 companies in the EU to report on sustainability. The first companies will have to apply the new rules for the first time in the 2024 financial year, publishing reports in the following year.

Former Securities and Exchange Commission assistant director Emily Pierce earmarked the CSRD among the “more rigorous regulatory requirements” facing businesses. 

Pierce, who is now vice-president of global regulatory climate disclosure at carbon accounting platform Persefoni, said businesses will need to react to increasing expectations from commercial partners and investors over these requirements. 

“This means that whether you are new to this area or you have been reporting for years, you need to focus on improving the reliability of your data and your reporting processes,” she said.

Scottish Widows’ head of pension investments and responsible investments Maria Nazarova-Doyle told Sustainable Views: “The financial services sector in particular is coming under much closer scrutiny on the management of sustainability-related financial risks and opportunities.”

Nazarova-Doyle added that this has led to new frameworks including the Task Force on Climate-Related Financial Disclosures reporting for asset managers, life insurers and regulated pension providers.

Following the agreement reached on the Global Biodiversity Framework at COP15, she said she expected to see “further pressure from new regulation around biodiversity emerging on the back of [the Taskforce on Nature-Related Disclosures’] work, and more pressure on businesses and pension funds to integrate biodiversity risk and opportunity into operations, supply chains and portfolios”.

A service from the Financial Times