New developments in Singapore’s ESG investment regulatory landscape
With regulations on ESG disclosure increasing, Joseph Chun, Andrea Ng and Kwah Chee Hian of Shook Lin & Bok discuss the impact on asset managers, the prospect of enhanced disclosures for ESG retail funds and the development of a green taxonomy in Singapore
Global regulators, including the Monetary Authority of Singapore (MAS), have recently begun to introduce or contemplate regulations requiring asset managers to make entity- and product-level environmental, social and governance (ESG) disclosures to help them better manage environmental risks, channel investments towards more sustainable outcomes, and mitigate greenwashing risks, among other things.
This article provides an overview of the ESG investment regulatory landscape in Singapore, focusing on the MAS Guidelines on Environmental Risk Management (EnRM) for Asset Managers, imminent MAS expectations on enhanced disclosures for ESG retail funds, and the development of a green taxonomy by the MAS-convened Green Finance Industry Taskforce (GFIT).
EnRM for asset managers
The Guidelines were published in December 2020, and form part of a set of three guidelines. The other two apply to banks and insurers.
The Guidelines apply to the following classes of asset managers who have discretionary authority over the investments of the funds and/or mandates that they are managing:
Holders of a capital markets services licence for fund management;
Holders of a capital markets services licence for real estate investment trust management; and
Fund management companies registered under paragraph 5(1)(i) of the Second Schedule to the Securities and Futures (Licensing and Conduct of Business) Regulations (LCBR).
Impact of environmental risk
Environmental risks may have a financial impact on funds and mandates through physical and transition risk channels. For example, a fund’s financials may be affected if its investee companies have physical assets that are adversely affected by weather events, or if its investee companies are unable to transition to cater to customers’ preferences for sustainable products. The Guidelines therefore aim to guide asset managers to improve their resilience against such environmental risks.
Under the LCBR, asset managers are subject to a general obligation to identify, address and monitor the risks associated with their business activities. MAS has observed that environmental risks would fall within this general obligation, and asset managers should accordingly ensure that their risk management frameworks are broad enough to cover environmental risks.
Governance and strategy
The Board of Directors and senior management of asset managers should have overall responsibility for and oversight of their asset manager’s EnRM.
In particular, the Board should be responsible for:
Approving an EnRM framework to assess and manage the environmental risks of the assets managed;
Setting clear roles and responsibilities in relation to the management and oversight of the asset manager’s environmental risk;
Ensuring that the directors understand environmental risk; and
Equipping senior management with expertise to manage environmental risk.
Senior management should correspondingly be responsible for:
Developing and implementing an EnRM framework, which should include how the asset manager incorporates environmental risk considerations into its investment research, portfolio construction, risk management and stewardship practices across different asset classes;
Reviewing regularly the framework, policies, tools, and metrics, taking into account changes in the asset manager’s business, size, complexity and risk environment;
Establishing an internal escalation process for managing environmental risk; and
Allocating adequate resources to address the environmental risk of the assets managed.
Research and portfolio construction
Asset managers should consider environmental risks in their research and portfolio construction process if they have assessed such risks to be material. In particular, they should evaluate the potential impact of relevant environmental risks on an investment’s return potential.
Risk criteria (green-house gas emissions, deforestation etc.) can be used to identify sectors with higher environmental risk and should be utilised by asset managers on different asset classes to identify and assess riskier investments.
Portfolio risk management
Asset managers should also implement systems to monitor, assess and manage the potential and actual impact of environmental risk on individual investments and portfolios.
All relevant information on material environmental risk exposures should be provided to the Board and senior management to evaluate against the asset manager’s risk appetite and business strategies, and to support decision making on EnRM.
Asset managers should exercise sound stewardship to help shape positive corporate behaviour of their investee companies. This may be done through engagement, proxy voting and sector collaboration.
They should also maintain proper documentation to report on stewardship initiatives. Engagement outcomes should feed into their research and portfolio construction and their risk management processes.
Asset managers should publicly disclose their approach to managing environmental risks and the potential impact of such material environmental risks on their customers. Such disclosure should be done in a clear and meaningful manner, and should include the use of quantitative metrics as far as possible.
Disclosures should take reference from international reporting frameworks, such as the Task-Force on Climate-related Financial Disclosures recommendations.
As asset managers differ from one another (whether in size, operations, locality or otherwise), each asset manager will need to consider the Guidelines according to its circumstances and develop its own appropriate and proportionate way to implement the Guidelines.
Asset managers have until June 2022 to implement the Guidelines. To assist financial institutions, including asset managers, in implementation, GFIT published its Handbook on Implementing Environmental Risk Management for Asset Managers, Banks and Insurers in January 2021. MAS also recently announced that it would release an environmental risk management information paper in the coming months to share more good practices with asset managers to deepen their EnRM capabilities.
Enhanced disclosure requirements for ESG retail funds
To facilitate transparency and reduce greenwashing risk at the fund level, MAS announced in September 2021 that it would set out early in 2022 its expectations on the disclosure standards that retail funds in Singapore with an ESG investment objective must meet.
These expectations would enable investors to better understand the criteria that an ESG fund uses to select its investments. They would also be able to obtain from a single offering document more information on the fund’s investment process and the risks and limitations associated with its ESG strategy, and to receive periodic updates on whether its investment objective has been met.
Existing disclosure requirements
The Securities and Futures Act (SFA) and Securities and Futures (Offers of Investments) (Collective Investment Schemes) Regulations 2005 (CISR) already prescribe disclosure requirements for retail funds generally. An offer of units in a retail fund must be accompanied by a CISR-compliant prospectus.
“MAS announced in September 2021 that it would set out early in 2022 its expectations on the disclosure standards that retail funds in Singapore with an ESG investment objective must meet”
The prospectus must contain information about the fund, including its investment objectives and focus (e.g. the types of investments, countries or markets invested in, and any target industry or sector), and how the fund manager selects investments for the portfolio of the fund. It must also contain warning statements on the risks of investing in the fund. Where the fund has been constituted for at least a year, the prospectus must also disclose the return on the fund at least over the past one year.
The non-statutory MAS Code on Collective Investment Schemes, which among other things sets out the best practices that retail fund managers are expected to observe in the management, operation and marketing of such funds, provides that fund names should be appropriate and not misleading. Semi-annual and annual reports are also expected, where applicable, including on the financial performance of the fund.
The enhanced disclosure requirements for ESG retail funds could set out specific expectations on how such funds should be named. Drawing reference from the recent Board (whose members include MAS) of the International Organisation of Securities Commission’s Final Report of the Recommendations on Sustainability-Related Practices, Policies, Procedures and Disclosure in Asset Management (November 2021) and the Hong Kong Securities and Futures Commission’s Circular to Management Companies of SFC-authorised Unit Trusts and Mutual Funds to Provide Guidance on the Enhanced Disclosure Standard of ESG Funds (June 2021), disclosure requirements for ESG retail fund prospectuses could include the nature and extent of the fund’s ESG investment objective and criteria, expected asset allocation commensurate with its ESG objective, and investment strategy (including investment universe, investment selection process, sustainability criteria used and extent of the ESG strategies used).
The disclosure of material risks and limitations associated with the ESG objective and associated investment strategy (e.g. concentration in certain types of investments and reliance on third-party providers for sustainability-related ratings) could also be required, along with a description of the methodologies adopted to monitor the fund’s compliance with the ESG objective and its performance.
Periodic ESG-related reporting could be expected on the extent to which the fund’s ESG objective is being met, including the proportion of underlying investments aligned with the ESG objective, the proportion of the investment universe that was eliminated or selected as a result of the fund’s ESG screening, a comparison of the performance of the fund’s ESG factors against any designated reference benchmark, actions taken by the fund in attaining its ESG objective (e.g. stewardship activities) and comparisons at least against the immediately preceding assessment period.
Green taxonomy developments
Taxonomies are emerging around the world as a policy instrument for guiding asset managers in identifying activities that are green or sustainable; identifying, assessing, and managing environmental risks; and avoiding greenwashing risk through definitive labelling or characterisation of their ESG funds and investments.
In Singapore, there are two taxonomy developments to watch. In January 2021, GFIT released its consultation paper, Identifying a Green Taxonomy and Relevant Standards for Singapore and ASEAN, setting out its thinking around the potential development of a taxonomy for Singapore-based financial institutions, with particular relevance to those active across ASEAN.
This was followed in November by the release of Version 1 of ASEAN Taxonomy for Sustainable Finance, by the ASEAN Taxonomy Board, set up under the auspices of the ASEAN Finance Ministers and Central Bank Governors’ Meeting. This article will focus on the GFIT Paper.
GFIT envisaged that a taxonomy for Singapore-based financial institutions would draw on the theoretical underpinnings of the EU taxonomy. To qualify as an environmentally sustainable activity, green and transition activities must contribute to one or more of four environmental objectives:
Climate change mitigation;
Climate change adaptation;
Promote resource resilience.
In addition to contributing to the environmental objectives, the activity must not:
Significantly harm any of the other environmental objectives (DNSH);
Impose negative impact on communities’ social and economic well-being unless the trade-offs can be justified in the long run. Possible reference standards that could be used to benchmark the social and economic impact of business activities are the OECD Guidelines on Multilateral Enterprise and the UN Guiding Principles on Business and Human Rights, or some future ASEAN-developed guidelines and standards; or
Breach local laws and regulations.
Recognising that the current level of data availability in ASEAN makes it challenging to adopt a robust and transparent classification system that relies on activity-specific metrics and regional or country-level thresholds, GFIT proposed the adoption of a traffic light classification system as an intermediate step.
Traffic light classification system
A traffic light classification system would group activities by characteristics into three categories:
Green – this category includes activities/companies clearly aligned with the objectives of the green taxonomy or undertaking a transition consistent with emissions-reduction pathways aligned with meeting the objectives of the taxonomy.
Yellow – this category includes activities/companies with quantifiable and time-bound pathways towards either green (if the technology exists), or significant de-carbonisation that will contribute to the objectives of the taxonomy (if no feasible alternative technologies currently exist). Activities/companies in this classification are not yet undertaking a transition consistent with emissions-reduction pathways aligned with meeting the taxonomy objectives.
Red – this category includes activities/companies that are inconsistent with the taxonomy objectives, e.g. those that are carbon intensive where viable alternatives exist and those that fail to meet the DNSH criterion.
Regulatory landscape evolving
ESG risks and opportunities are increasingly significant for the asset management industry.
MAS and asset managers share a common interest in ensuring the resilience of the industry to environmental risks and maintaining transparency to support the continued growth of the ESG investment market. The regulatory landscape continues to evolve to meet these twin objectives.
Shook Lin & Bok
T: +65 6439 0759
Joseph Chun is a partner in the firm’s ESG practice. He is also an adjunct associate professor and a member of the Asia-Pacific Centre for Environmental Law at the Faculty of Law in the National University of Singapore (NUS), where he teaches environmental law.
Joseph has written widely on the subject of ESG, including a co-authored textbook on Singapore Environmental Law (published in 2019). He also often works with green civil society groups on advocacy projects and serves on the Animal Welfare and Ethics Committee of Wildlife Reserves Singapore.
Shook Lin & Bok
T: +65 6439 0709
Andrea Ng specialises in trust, asset and wealth management matters with a focus on real estate investment trusts where she has broad experience in advising on various transactional matters such as initial public offerings, equity fund raising exercises, debt financing, M&A and securitisation matters.
Andrea also advises on the establishment of private funds, fund-related regulatory matters as well as a wide range of corporate/commercial matters.
Kwah Chee Hian
Shook Lin & Bok
T: +65 6439 613
Kwah Chee Hian is a partner in the financial services regulatory practice. He focuses on advising and helping financial institutions with Singapore financial regulatory rules and regulations. He has worked closely with various financial institutions, such as banks, broker-dealers, fund managers, payment services providers, and financial advisers on all aspects of financial services regulation and compliance, including licensing requirements, business conduct requirements, product marketing and offering requirements, sanctions compliance, and anti-money laundering compliance.
Apart from financial regulatory matters, Chee Hian also regularly advises financial institutions and corporate clients on privacy and personal data protection matters and general banking matters.