Funds without sustainability labels are expected to dominate the EU fund market under the European Commission’s proposed revision of the Sustainable Finance Disclosure Regulation (SFDR), according to Morningstar Sustainalytics.
According to a new analysis published by Morningstar, the reclassification could significantly rebalance the market.
Hortense Bioy, head of sustainable investing research at Morningstar Sustainalytics, said in a statement: “Our preliminary analysis suggests that under the new SFDR regime, the universe of EU sustainability-related funds will shrink – a deliberate move by the regulator to tackle greenwashing.”
Transition funds are expected to remain niche, representing no more than 3% of assets under management (AUM), due to stringent requirements linked to transition targets, engagement processes, and fossil-fuel restrictions.
Furthermore, the new sustainable category may increase in size but would still account for only up to 7% of funds. Meanwhile, the ESG basics segment is forecast to potentially fall to 32-41% of AUM, down from 56% today.
“Funds not categorised as sustainability-related (Article 6) will dominate, representing between 52% and 70% of the EU fund market, from 41% today,” according to Morningstar.
The Commission’s revision of SFDR marks a substantial reshaping of the regulatory landscape, which is set to reduce the size of the sustainability-labelled universe and shift most funds into non-ESG classifications.
Under the proposal, the existing Article 8 and 9 labels would be replaced by three new categories — transition (Article 7), ESG basics (Article 8) and sustainable (Article 9) — each subject to specific exclusions and minimum thresholds.
The definition of sustainable investment would also be removed, with the Commission opting for category-level criteria aimed at addressing greenwashing concerns and improving comparability.
According to Morningstar, the changes may result in a smaller sustainability-related group. Across modelling scenarios, Articles 7, 8 and 9 collectively capture a significantly reduced share of the market compared with the current Article 8/9 framework, while Article 6 funds emerge as the largest category by a considerable margin.
With key technical details still to be determined, including category names, thresholds and the treatment of Paris-aligned strategies, firms face an extended period of uncertainty. As such, the newly revised SFDR will result in a narrower, more tightly governed sustainable fund universe.
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