Enforcement and Inspection, Regulatory Developments

SEC Closely Scrutinizing Green Investments and Climate-Related Disclosures

Melissa Hodgman, acting director of the Securities and Exchange Commission’s (SEC) Enforcement Division, indicated that the SEC expects to look more closely at “green” investments in the future. Her comments were made at a Managed Funds Association webcast, according to Law 360.

Her remarks come on the heels of the SEC’s March 4, 2021, announcement of its formation of a 22-person task force focused on climate and environmental, social, and governance (ESG) issues. This team is also tasked with policing “public companies that fail to disclose material business risks stemming from climate change, such as the potential depreciation of fossil fuel assets or supply chain disruption caused by flooding or wildfires,” according to a Reuters article published in Insurance Journal.

ESG funds are also known as “sustainable investing, socially responsible investing, and impact investing,” says the SEC. ESG practices include “strategies that select companies based on their stated commitment to one or more ESG factors —for example, companies with policies aimed at minimizing their negative impact on the environment or companies that focus on governance principles and transparency. ESG practices may also entail screening out companies in certain sectors or that, in the view of the fund manager, have shown poor performance with regard to management of ESG risks and opportunities. Furthermore, some fund managers may focus on companies that they view as having room for improvement on ESG matters, with a view to helping those companies improve through actively engaging with the companies.”

Investors have more choices than ever when it comes to picking green mutual funds, and this ties into President Joseph R. Biden’s initiatives to tackle climate change.

“With a record $51 billion flooding into sustainable U.S. funds last year, according to Morningstar, investors need to be better informed, the SEC says,” the Reuters article adds.

“The commission is responding to investors’ growing concerns about materially misleading statements and omissions about companies’ climate-related risks and activities,” Acting Deputy Enforcement Director Kelly Gibson, who is leading the task force, told Reuters.

Guidance information for public companies as to how they share information on ESG issues such as climate risk to their investors was also announced as a top priority for the SEC in 2021.

This is the result of “greenwashing,” a tactic employed by some money market managers who have overstated the credentials of their “green” funds.

For example, is a company truly environmentally friendly if it utilizes “conflict minerals” such as tin, tantalum, tungsten, and gold mined in eastern Congo, where conflict is occurring?

“[Conflict minerals] provide a major source of funding for warlords in the DRC Region fueling the violence that has plagued the region for decades,” according to EcoVadis. “These minerals are used in a wide range of products including mobile phones, computers, jewelry and vehicles.”

Another example of improper ESG disclosures includes the use of forced labor anywhere in a company’s global supply chain, according to Ballotpedia News.

“The SEC will also be monitoring the racial diversity of corporate boards, and whether companies alert investors about fully meeting environmental standards,” Ballotpedia adds.

“As of 2020, 60% of Russell 3000 companies mentioned climate risk in filings, up from 35% in 2009, according to a Brookings Institution review. Those disclosures tended to focus on declining fossil fuel use while glossing over issues such as rising sea levels, fires or heat waves, the study said,” according to Reuters.

Although the SEC began soliciting industry feedback on standardizing climate change disclosures in March 2021, it will take time for the Commission to issue the rules, Reuters says.

“Yet proving funds are misleading investors about their investment strategies could be tough without a standard definition for ‘sustainability’ and related terms,” adds Reuters. The SEC does not currently have standard definitions for these types of terms.

“An oil company spending heavily on renewable energy, for example, could arguably be a sustainable investment, said Ian Roffman, a former SEC attorney who now heads the securities enforcement practice at Boston law firm Nutter McClennen & Fish,” Reuters notes. “There’s a lot of gray area,” Roffman added.

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