The proportion of investment funds in Europe using ESG-related terms in their find names has grown by more than 4 times over the past 10 years, according to a new study released by EU markets regulator the European Securities and Markets Authority (ESMA), as fund managers launched new ESG-related products, and changed the names of funds to incorporate sustainability-related terms.

The study also found a preference by fund providers for more generic ESG terms, which could make it difficult for investors to verify that investments align with the funds’ names, and that some fund documents targeted at retail investors are more likely to use ESG claims than those aimed at institutional investors.

The study forms part of ESMA’s monitoring efforts on greenwashing risks in the investment management sector. The regulator released a sustainable finance roadmap last year that included tackling greenwashing as a key priority, and has also recently launched a consultation for proposed rules on the use of ESG or sustainability-related terms in the names of investment funds.

ESMA’s study, and its focus on greenwashing in the fund management industry, comes as regulators globally are moving to address issues associated with the proliferation of investment products and services marketed with terms such as ’ESG,’ ‘green’ or ‘sustainable,’ without clear rules communicating to investors the actual ESG-related attributes, methodologies and criteria that are being considered in the funds.

The report noted that global sustainable fund assets have tripled over the last 3 years to over €2.1 trillion, and found that demand for funds in the EU with ESG-related terms in their names has exceeded demand for other funds consistently in every quarter over the past six years.

In the report, ESMA stated:

“It is necessary that ESG investment products be attractive to investors, given the tremendous financial resources that will be needed to finance the transition towards a greener economy… However, all else being equal, strong investor demand for ESG products also incentivize greenwashing behaviour among asset managers.”

Over the past ten years, ESMA found that funds including ESG-related language in their names have increased to 14% of assets under management in the EU in 2023, compared to only 3% in 2013, and have now reached €974 billion out of a total €6.8 trillion AuM. The increase gained momentum in 2016, following the 2015 Paris Agreement, and became “exponentially positive” from 2018 through the end of 2022, although the development of new ESG investment products has slowed in 2023.

In addition to the development of new funds, many products have changed their names to use sustainability-related terms, with 1,356 funds, representing 4.6% of EU-based actively managed equity, bond and mixed asset funds, adding ESG words to their name since 2018, with particularly sharp growth in 2021 and 2022.

The study found that the vast majority of funds that have chosen to include ESG language in their names have used more generic ESG-related words, such as “ESG” or “sustainable,” although noted that their has been an increase in the use of more specific environmental words since 2019. While ESMA noted that more generic terms enables fund managers to be more flexible in asset allocation and to target a more diversified portfolio, it also said that investors would be more easily able to verify whether the fund’s holdings were in line with the name if the terms used were more specific.

Applying natural language processing (NLP) techniques to assess more than 100,000 fund documents, the ESMA study found that funds sold to retail investors are associated with more ESG claims in their standardized documents, such as Key Investor Information Documents (KIIDs) and Key Information Documents (KIDs) compared to funds sold to institutional investors, although this difference did not appear in investment strategy or marketing materials. ESMA noted that this “highlights the importance of monitoring this type of communication channel, from an investor protection perspective.”

ESMA added:

“The transition towards a greener economy will require substantial financial resources. To meet these investment needs, extensive private capital will be required. To ensure that ESG investment products remain attractive, it is crucial that investors have confidence that the sustainable financial products offered to them are accurately described.”

Click here to access the report.