Enthusiasm for the Financial Conduct Authority’s (FCA) Sustainable Disclosure Requirements (SDR) has waned this year ahead of its rollout in three weeks’ time, according to Morningstar Sustainalytics.

Morningstar research predicts SDR take up among sustainable funds will be low, as asset managers realise criteria to get an SDR label are more stringent than expected, and demand is not as high as previously expected.

Managers are now taking a ‘wait and see’ approach in adopting the SDR label because of these factors, according to Hortense Bioy, head of sustainable investing research at Morningstar.

“There was initially a lot of enthusiasm about sustainability labels in the UK, partly in opposition to the inadequacy of the EU SFDR [Sustainable Finance Disclosure Regulation] regime. But that enthusiasm has waned in the past six months as asset managers realise that the criteria to get a label are more stringent than expected, and the demand for labelled products, at least at the beginning, won’t be as high as initially thought,” Bioy said.

In addition to this, another reason for lower-than-expected uptake is because most UK funds are not even in scope for SDR.

Mirroring Bioy’s observations is Daniella Woolf, director and founder at Danesmead ESG, who stressed the limited scope and high sustainability bar of SDR.

Speaking to IPE, Woolf noted that as SDR is so UK-centric, due to it being available only to UK domiciled funds, managed by and marketed to UK managers, a large majority of more alternative funds are thereby not in scope for the label due to where they are domiciled.

Regarding the high sustainability bar, Woolf said: “In order to use one of the SDR labels, funds need to have sustainable investment objectives, and at least 70% of the funds need to be aligned with that objective, which is something many alternative funds such as hedge funds do not have in their products.”

Opportunities and challenges

Morningstar has identified several challenges facing the new regime, such as selecting KPIs, labelling funds of funds, SDR in context of other regulations, and label eligibility.

The firm said that it found mixed reactions among asset managers to the SDR labelling regime, adding that it expects the universe of unlabelled funds with sustainability disclosures to be larger than the universe of labelled funds, which would be an unexpected outcome and unintended consequence of the regulation.

The result, however, would be in line with the FCA’s unique goal to combat greenwashing and improve transparency, contrasting with SFDR’s broader objective to channel capital towards sustainable activities, according to Morningstar.

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