CUBE RegNews: 19th June

Eva Dauberton

Eva Dauberton

News Editor

 ESAs joint opinion on SFDR 


The European Banking Authority (EBA), the European Insurance and Occupational Pensions Authority (EIOPA), and the European Securities and Markets Authority (ESMA)—together the ESAs—have jointly published an opinion on the assessment of the Sustainable Finance Disclosure Regulation (SFDR). The opinion highlights the need for a sustainable finance framework that supports both the transition to sustainable finance and investor protection. It recognises that the current SFDR disclosures may be complex and difficult to understand, especially for retail investors. 


Some context

The SFDR, published in 2019 and amended by the Taxonomy Regulation in 2020, has been in effect since 10 March 2021. The ESAs have developed several draft Regulatory Technical Standards (RTS) under the SFDR, including the more recent draft RTS on the review of principle adverse impact (PAI) and financial product disclosures. 


The ESAs acknowledge that the framework can be improved and that the disclosures to investors in the SFDR may be inherently complex and challenging to grasp, especially for retail investors, as demonstrated by two consumer testing exercises. Although the SFDR was intended to enhance transparency regarding sustainability, the opinion notes that, in practice, financial market participants have used the disclosures to classify their financial products. The designation of products as ‘Article 8’ or ‘Article 9’ has been used from the beginning as a kind of ‘quality label’ for sustainability, which in turn presents risks of greenwashing and mis-selling. 


Key takeaways

The recommendations put forth by the ESAs focus on introducing simple and clear categories for financial products, implementing a sustainability indicator, a consistent definition of sustainable investment, the provision of relevant documentation for product disclosures, a review of the products covered by the regulation, and increased transparency in requirements related to adverse sustainability impacts. 

 

  • Introduction of categorisation/sustainability indicators 

The opinion suggests that the Commission should consider introducing a product classification system based on regulatory categories and/or sustainability indicators. This would assist consumers in navigating the wide range of sustainable products. By having clear product categories and sustainability indicators, sustainability disclosures would not need to be as detailed and extensive. 


  • Consistent definition of sustainable investment 

The opinion also recommends that the Commission reevaluate the coexistence of the two concepts of “sustainable investment” as defined in the SFDR and Taxonomy-aligned investment as defined in the EU Taxonomy. The ESAs suggest that the Commission prioritises completing the EU Taxonomy and expanding it to include social sustainability. 

 

  • Tailored disclosures 

The ESAs strongly recommend that the Commission ensure that sustainability disclosures cater to different investor needs. Improvements in sustainability disclosures should take into account different distribution channels, including digital ones, and ensure consistency of information provided. According to the opinion, the Commission should prioritise only essential information for retail investors, while professional investors may benefit from more detailed information. 

 

  • Scope redefinition

The opinion recommends that the Commission carefully consider whether to include other products in the SFDR scope to ensure harmonised disclosures for both products currently in the SFDR scope and any other products that could be brought into it. 


  • Transparency of principal adverse impacts (PAI)  

The report notes that financial market participants and authorities have asked questions about the current regulatory requirements outlined in Articles 4 and 7 of the SFDR. The ESAs believe that further clarification is needed on what is meant by the “consideration” of PAIs from products or entities, and the Commission establishes better expectations about the disclosures. 


  • Other areas 

Besides the core elements of the opinion outlined above, the ESAs highlighted several other technical changes that, based on direct observations and feedback from stakeholders and competent authorities, the Commission could address in the potential review. This includes establishing appropriate requirements for naming and marketing of financial products, harmonising website disclosures and introducing requirements for the advisers’ disclosures to be in a prominent place.  


Next steps 

While assessing stakeholders’ responses to its consultation issued in 2023, the report recommends that the Commission take into consideration and address the recommendations provided.

 

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Australia’s Sustainable Finance Roadmap unveiled 


The Australian Treasury has introduced its Sustainable Finance Roadmap (Roadmap), which outlines the government’s vision for implementing reforms and measures in sustainable finance. The Roadmap emphasises the collaborative efforts between the government, regulators, and industry and provides specific timelines for action. 


Three Pillars for action 

The Roadmap is structured around three main pillars: 

  • Pillar 1 focuses on enhancing transparency on climate and sustainability. This includes implementing climate-related financial disclosures, developing the Australian Sustainable Finance Taxonomy, supporting credible net zero transition planning, and creating sustainable investment product labels. 
  • Pillar 2 aims to strengthen the financial system capabilities. This involves improving market supervision and enforcement, identifying and responding to systemic financial risks, addressing data and analytical challenges, and ensuring suitable regulatory frameworks. 
  • Pillar 3 highlights Australian Government leadership and engagement. It includes the issuance of Australian sovereign green bonds and increased international engagement. 


Next steps for financial regulators 

The Roadmap acknowledges that the Australian Securities and Investments Commission (ASIC) and Australian Prudential Regulation Authority (APRA) have already set strong expectations for disclosing and managing financial risks associated with climate change within their current mandates. It also outlines their next initiatives. 


ASIC will focus on implementing climate-related financial disclosure, issuing guidance, and assessing the impact of the new regime on existing financial reporting relief. The agency will also continue to target greenwashing misconduct. 


On the other hand, APRA will continue its work on Climate Vulnerability Assessments (CVA). These assessments evaluate the impact of climate risk on the affordability of general insurance until 2050. APRA aims to publish insights from the Insurance CVA by mid-2025. 


Consistency with existing regimes 

Lastly, the Roadmap acknowledges the existence of other regimes and suggests that work will be conducted considering existing frameworks especially in the development of sustainable investment product labels and net zero transition planning. 

 

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Marketing firm cybersecurity failures lead to $2.1 million SEC fine 

  

The Securities and Exchange Commission (SEC) has announced that RR Donnelley & Sons Company (RRD), a global provider of business communication and marketing services, has agreed to pay over $2.1 million to settle cybersecurity incidents and alerts charges. 


RRD’s network stored client data, and it was the responsibility of their information security personnel and the third-party service provider they hired to monitor the network’s security. However, the order states that RRD failed to establish effective disclosure controls and procedures to report important cybersecurity information to management, who were responsible for making disclosure decisions. 


Additionally, RRD did not promptly assess and respond to alerts of suspicious activity. The order also highlights RRD’s failure to create and maintain a system of internal accounting controls related to cybersecurity, which would ensure that access to their information technology systems and networks was only authorised by management. 


As part of the settlement, RRD has agreed to cease committing violations of these provisions and pay a civil penalty of $2,125,000. 

 

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CFPB imposes $5 million civil penalty on loan servicers 


The Consumer Financial Protection Bureau (CFPB) has taken action against reverse mortgage servicing companies Sutherland Global, its subsidiaries (Sutherland) and NOVAD Management Consulting (NOVAD) due to their inadequate resources and staffing to handle a large number of borrowers, reaching up to 150,000. This resulted in systematic failures to address the requests for assistance from thousands of homeowners, leading to financial harm such as missed opportunities for home sales and unnecessary expenses. 


According to federal law, a loan servicer is required to promptly respond to consumer inquiries regarding their loan. However, these companies consistently failed to address numerous homeowner requests for loan payoff statements, short sales, deeds-in-lieu of foreclosures, lien releases, and general information. As a result, problems were left unresolved until they reached critical levels, causing borrowers to miss out on selling their homes, incur unnecessary costs, and fear foreclosure. 


The CFPB has permanently banned Sutherland and NOVAD from engaging in reverse mortgage activities. Additionally, strict compliance requirements have been imposed on Sutherland for future reverse mortgage activities. Sutherland must also provide $11.5 million in redress to affected consumers, and all companies involved must pay a civil penalty of approximately $5 million. 


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FINRA issues notice on options disclosure document 


The Financial Industry Regulatory Authority (FINRA) has issued a notice advising member firms that the Options Clearing Corporation has released the June 2024 Options Disclosure Document (ODD). This document contains information about the features and risks associated with trading standardised options. 


As per Rule 9b-1 under the Securities Exchange Act, broker-dealers are mandated to provide the ODD and its supplements to their customers. Likewise, according to FINRA Rule 2360(b)(11)(A)(1), firms must furnish the current ODD to each customer before granting them permission to trade options.

The June 2024 ODD includes updates such as the addition of MEMX, LLC to the list of options markets and adjustments to the settlement details to accommodate T+1 settlement.


FINRA reminds firms that they can electronically transmit the ODD but must adhere to existing standards and guidelines. Additionally, firms are permitted to electronically send the ODD to customers who have given their consent, using a hyperlink. 


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SEBI releases FAQs on SM REITs framework 


The Securities and Exchange Board of India (SEBI) has recently released a Frequently Asked Questions (FAQs) document regarding the Framework for Small and Medium REITs (SM REITs).


In March 2024, SEBI introduced the long-awaited SM REITs regime through an amendment to the SEBI (Real Estate Investment Trusts) Regulations, 2014 (REITs Regulations). This amendment aimed to regulate previously unregulated fractional ownership platforms (FOP) that allow investors to own fractions of income-generating real estate assets.


The FAQs provided by SEBI serve as a useful resource to assist firms in effectively implementing the framework. 


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APRA launches new digital Prudential Handbook 


The Australian Prudential Regulation Authority (APRA) has introduced a new digital Prudential Handbook as part of its ongoing efforts to modernise the prudential architecture (MPA). 

This initiative, which began in 2021, aims to establish a digital framework that is easier for both the industry and APRA to understand, comply with, supervise, and maintain. 

The new Prudential Handbook consolidates all of APRA’s policy standards, guidance, and supporting information into a single, easily navigable and searchable digital format. It is designed to cater to a diverse range of users from regulated industries and the wider community. To ensure a smooth transition, the Handbook will run concurrently with the APRA website, which currently provides links to standards and guidance for the next few months. 


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OCC publishes risk report 


The Office of the Comptroller of the Currency (OCC) has released its Semiannual Risk Perspective for Spring 2024, highlighting the key risks facing the federal banking system. While the overall condition of the federal banking system remains sound, the report emphasises the need for continued vigilance in risk management due to the maturing economic cycle and emerging consumer headwinds. 

The report identifies four primary risk themes affecting the banking sector: credit, market, operational, and compliance risks. 


Credit risk 

The report notes an increase in credit risk, particularly within the commercial real estate sector. Office and multifamily properties are under stress due to high interest rates and structural changes in the market. Loans, especially those with interest-only terms, pose significant refinancing risks over the next three years. Persistent inflation and elevated interest rates are also likely to increase financial stress for consumers, potentially dampening consumption growth. 


Market risk 

Net interest margins (NIMs) are facing pressure from strong deposit competition. However, trends suggest that this pressure may be peaking. The report highlights the uncertainties around future rate movements and depositor behaviour, which present ongoing challenges for risk management. Despite improvements in investment portfolio depreciation, unrealised losses remain high due to increased asset liquidity and elevated interest rates. 


Operational risk 

The financial industry is navigating a complex and evolving operating environment. Cyber threats continue to be a major concern, with malicious actors targeting financial institutions and their service providers. The increasing digitalisation of banking services and the adoption of new products and technologies further complicate the operating landscape, introducing new risks alongside opportunities. The report also notes the ongoing issues of check and wire transfer fraud, as well as a rise in payment fraud incidents. 


Compliance risk 

Banks must maintain robust compliance risk management frameworks that can adapt to changing risk profiles. The report stresses the importance of fair and equitable delivery of products and services to meet evolving customer needs and preferences. Fraud remains a significant risk, and effective processes for identifying and reporting suspicious activities are crucial to protecting both banks and consumers. The OCC continues to monitor banks’ performance under the Community Reinvestment Act (CRA) regulatory framework. 


The OCC report highlights the necessity of a firmwide resilience strategy, noting that risks are often interconnected and can affect multiple areas simultaneously. Establishing a strong risk culture that proactively identifies potential risks is crucial, particularly in anticipation of stress events. Prudent planning from a comprehensive perspective can enhance a bank’s ability to maintain operations, remain financially sound, and serve customers effectively during times of stress. 


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ECB speech on strengthening European financial markets to ensure a more resilient future 

 

In a speech at the Joint Conference of the European Commission and the European Central Bank (ECB) on European Financial Integration, Luis de Guindos, Vice-President of the ECB, outlined the urgent need for enhanced financial integration and stability to secure a resilient and prosperous future for Europe. 


De Guindos began by noting that despite the resilience shown during recent global geopolitical and economic shocks, progress towards greater financial integration in the euro area has been disappointing. Price and quantity-based measures of financial integration have declined over the past two years, returning to levels seen at the start of the monetary union. 


Cross-border banking and crisis management 

Cross-border lending offers significant benefits, including private sector risk-sharing across countries. However, the European banking sector remains fragmented, with little progress in integrating banking groups across borders. Despite the existence of a European supervisory and resolution framework, many prudential and resolution requirements remain national. For genuine integration, said de Guindos, banks must be able to operate as integrated groups within the banking union, pooling capital and liquidity across Member States. 


Further harmonising bank crisis management across the banking union is essential. Most bank failures are still managed under national insolvency regimes, highlighting the need for further convergence. National deposit guarantee schemes must evolve into a European deposit insurance scheme (EDIS) to ensure depositor confidence and a level playing field for banks. 


A single market for capital 

De Guindos argued for a more integrated EU banking market as being essential for developing a capital markets union (CMU) and establishing a single market for capital. European capital markets are vital for financing the EU's strategic goals, including the green and digital transitions. de Guindos outlined several action points are essential for promoting pan-EU capital markets: 

  • Channelling savings: Developing EU-wide savings products with harmonised tax incentives. 
  • Developing equity markets: Making equity markets more attractive for issuers and investors. 
  • Mobilising securitisation markets: Encouraging pan-EU issuance, potentially with a public guarantee, to support green securitisation. 


De Guindos concluded by noting that financial integration has bolstered the euro area’s resilience, but the decline in certain measures and sluggish progress is disappointing. Urgent action is needed, he said, to increase EU investment and address upcoming challenges. Advancing the CMU and completing the banking union, including establishing a EDIS, must be seen as critical political projects for the new European Commission. Removing barriers within the Single Market and supporting strategically important investments will enhance financial integration and the EU’s global role. 


Click here to read the full RegInsight on CUBE’s RegPlatform