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Green finance from an investor protection perspective:
A critical assessment of the European Commission’s proposals on integrating sustainability in EU capital markets regulation in relation to the protection of retail investors by way of the provision of information.
Flora van Laar
12443565 | floravanlaar@gmail.com
Master Privaatrecht: Privaatrechtelijke Rechtspraktijk Supervisor: Jennifer de Lange- Collins | Financieel Recht 26 July 2019
2 Contents Page Abstract ... 4 List of Abbreviations ... 5 1. Introduction ... 8 1.1 Introduction ... 8 1.2 Background ... 8 1.3 Problem definition ... 10 1.4 Sub questions ... 12 2. Green Finance ... 13
2.1 A definition of green finance ... 13
2.2 Green financial products on the capital markets ... 15
2.2.1 The EU capital markets ... 15
2.2.2 An introduction to green financial products ... 15
2.2.3 Green bonds ... 15
2.2.4 Green funds ... 16
3. Investor Protection... 17
3.1 What is investor protection? ... 17
3.2 The retail investor ... 18
3.3 The objectives of investor protection via information provision ... 18
3.3.1 Informational asymmetry ... 19
3.3.2 Inability to process (complex) information ... 20
3.3.3 Protection from (financial) losses ... 21
4. The Regulatory Framework... 22
4.1 Existing EU regulatory framework for investor protection ... 22
4.2 Investor protection in the proposed green capital markets regulatory framework ... 24
4.2.1 EU Taxonomy ... 24
4.2.2 EU Green Bond Standard ... 24
4.4.3 EU Ecolabel for financial products ... 25
5. Do the proposals sufficiently protect investors? ... 27
5.1 Informational asymmetry ... 27
5.1.1 Creating a common understanding ... 27
5.1.2 Recommendations ... 28
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5.2.1 Complexity of the labels ... 29
5.2.2 Recommendations ... 31
5.2.3 Number of sources and amount of information ... 32
5.2.4 Recommendations ... 35
5.3 Protection from (financial) losses ... 35
5.3.1 Market integrity and market functioning ... 35
5.3.2 Recommendations ... 36 6. Conclusion ... 37 7. Bibliography ... 40 7.1 Books ... 40 7.2 Contributions to books ... 40 7.3 Journal articles ... 41
7.4 Reports (online public) ... 43
7.5 Electronic sources (online public) ... 45
Annex A... 47
Annex B ... 48
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Abstract
Environmental sustainability has become one of the top priorities of the European Commission and has led to a set of ground breaking regulatory proposals that serve to integrate sustainability into the European capital markets. This thesis investigates whether the proposals provide sufficient protection by way of information provision to retail investors when they invest in the EU capital markets.. By analysing the proposals for an EU Taxonomy Regulation, Green Bond Standard and Ecolabel for financial products, in relation to investor protection objectives, this thesis finds that the proposals do not provide adequate safeguards to reduce informational asymmetry, financial illiteracy and protect from loss that may harm retail investors. This thesis also gives an insight into how investors should be protected in the green capital markets and on this basis makes a number of recommendations that would enable the proposals to reduce the barriers and protect retail investors whilst recognising the Commission’s ambitions to stimulate the green capital markets in the European Union.
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List of Abbreviations
Action Plan Communication from the Commission of 8 March 2018, Action Plan:
Financing Sustainable Growth COM(2018) 97 final
AIF Alternative Investment Fund
AIFM Directive Directive 2011/61/EU of 8 June 2011 on Alternative Investment Fund
Managers and amending Directives 2003/41/EC and 2009/65/EC and Regulations (EC) No 1060/2009 and (EU) No 1095/2010
CBI Climate Bonds Initiative
EC European Community
EFAMA European Fund and Asset Management Association
EIB European Investment Bank
ESG Environmental, Social, Governance
EU European Union
EU GBF European Union Green Bond Framework
EU GBS European Union Green Bond Standard
GBP Green Bond Principles
HLEG High-Level Expert Group on Sustainable Finance
ICMA International Capital Markets Association
IFC International Finance Corporation
IPCC Intergovernmental Panel on Climate Change
JCR Joint Research Centre
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KIID Key Investor Information Document
MiFID Directive 2014/65/EU of 15 May 2014 on markets in financial
instruments and amending Directive 2002/92/EC and Directive 2011/61/EU
Paris Agreement Paris Agreement, United Nations Treaty Collection, 8 July 2016
PRIIPs Packaged Retail Investment and Insurance Products
Proposal for a Taxonomy
Regulation
Proposal for a Regulation on the establishment of a framework to facilitate sustainable investment COM/2018/353 2018/0178(COD)
Prospectus Directive
Directive 2003/71/EC of 4 November 2003 on the prospectus to be published when securities are offered to the public or admitted to trading and amending Directive 2001/34/EC (no longer in force)
Prospectus Regulation
Regulation (EU) 2017/1129 of 14 June 2017 on the prospectus to be published when securities are offered to the public or admitted to trading on a regulated market, and repealing Directive 2003/71/EC
RAIFs Retail Alternative Investment Funds
SEC Securities and Exchange Commission
TEG Technical Expert Group
UCITS Undertakings for the Collective Investment in Transferable Securities
UCITS Directive Directive 2009/65/EC of 13 July 2009 on the coordination of laws, regulations and administrative provisions relating to undertakings for collective investment in transferable securities (UCITS)
UN United Nations
UN sustainable agenda 2030
Resolution adopted by the United Nations General Assembly on 25 September 2015, 70/1, Transforming our world: the 2030 Agenda for
7 Sustainable Development
UNFCCC United Nations Framework Convention on Climate Change
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1. Introduction 1.1 Introduction
The European Commission has outlined, as policy objective, its intention to “contribute to a better integrated and innovative internal market for sustainable financial services, while ensuring a high level of investor protection”.1 It is evident that the Commission is rapidly pursuing its sustainability agenda, however, whether it sufficiently takes into account the interests of the retail investor remains to be seen. This thesis will investigate whether the Commission’s regulatory proposals for EU green capital markets sufficiently protect retail investors via the provision of information.
1.2 Background
General policy and popular concern over the past decades clearly offer evidence of a steady
increment in climate change considerations.2 Whereas in the past the world was generally
unresponsive to climate change concerns,3 nowadays, scientists almost unanimously agree
that our planet is changing rapidly.4 Temperatures have risen 0.87% since 1880 and are
predicted to increase by another 0.2% per decade.5 The year 2018 saw an alarming increase
in extreme weather phenomena such as hurricanes, earthquakes, floods and droughts.6 States
are beginning to recognise the urgency of climate change and landmark steps are being taken to confront this matter.
In 1992 the UN Conference on the Environment and Development established the United Nations Framework Convention on Climate Change in which state parties committed to combat climate change by reducing greenhouse gas emissions. This led to the subsequent adoption of the Kyoto Protocol, hailed by some of those involved as one of the greatest achievements of international diplomacy in the late twentieth century set against the context
1Proposal for a Taxonomy Regulation, section 1.4.
2 Please see, for example, Natixis Gobal Asset Management: ‘Mind Shift – Getting past the screens of responsible investing’ 2017 and Schroders: ‘Global perspectives on sustainable investing’ 2017, also mentioned in Action Plan Financing Sustainable Growth 2018, p. 5.
3 As early as 1906, Svante Arrhenius, a Swedish scientist first estimated the scope of warming from widespread coal burning, mainly foresaw this as a boom, both in agricultural bounty and “more equable and better climates,
especially as regards the colder regions of the Earth.” A 1956 article in the New York Times that conveyed
how accumulating greenhouse gas emissions from energy production would lead to long-lasting environmental changes. Please see: Fleming 2005, p. 74.
4 Palm-Steyerberg 2019, p. 199.
5 IPCC Special Report: Global Warming of 1.5 ºC, p. 56. 6 Kotecki, Business Insider 2018.
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of great scepticism towards state parties being able to agree on such a fundamentally complex
issue.7 The Protocol implements the objective of the UNFCCC to slow the process of global
warming by reducing greenhouse gas concentrations in the atmosphere to "a level that would prevent dangerous anthropogenic interference with the climate system"8. It does this by prescribing a list of six gasses to which it applies and outlining country specific emissions targets. As a result, the European Union established itself as frontrunner in tackling climate change by accepting an 8% target for the first commitment period; 2008–2012, which was
significantly more ambitious than targets set by other signatories to the Treaty.9 Although
recognising the UNFCCC as the primary international, intergovernmental forum for negotiating the global response to climate change, to broaden the reach of such climate related ambitions, in 2015, the UN General Assembly accepted the 2030 Sustainable Development Agenda and set out 17 Sustainable Development Goals. These were developed to succeed the Millennium Development Goals, and included Goal 13, ‘Climate Action’ which aims to, for example, “integrate climate change measures into national policies, strategies and planning”10 and to “implement the commitment undertaken by the UNFCCC”.11
Arguably at the height of support for climate action, the Paris Agreement was concluded
between 194 states in 2015.12 The Paris Agreement “aims to strengthen the global response
to the threat of climate change, in the context of sustainable development and efforts to eradicate poverty”13 by “holding the increase in the global average temperature to well below 2°C above pre-industrial levels and pursuing efforts to limit the temperature increase to 1.5°C above pre-industrial levels”14 and specifically by “making finance flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development.”15 At a global level, climate change policy is irrefutably precarious and its future insecure, most
notably after the United States of America withdrew from the Paris Agreement.16
Nevertheless, the EU appears more committed than ever and has taken a leading role by
7 Grubb, International Review for Environmental Strategies 2004/5, p. 15. 8 Article 2 UNFCCC.
9 See annex 2 of the Kyoto Protocol to the United Nations Framework Convention on Climate Change. 10 UN sustainable agenda 2030, 13.2.
11 UN sustainable agenda 2030, 13.aU.
12 See treaties.un.org for an up to date overview of the signatories to the Paris Agreement. The thesis relies on the status as of 15 July 2019.
13 Article 2 Paris Agreement. 14 Article 2(a) Paris Agreement
15 Article 2(c) Paris Agreement (see also article 9(3)). 16 Meyer, The Atlantic, 2019.
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setting out a clear and ambitious path to achieve its goals. According to the European Commission, there is a funding gap of €180 billion which requires private capital flows to be
oriented towards sustainable investments.17 To achieve this, the Commission appointed the
High-Level Expert Group on Sustainable Finance in 2016 which published its Final Report in January 2018. In this report the HLEG highlights two imperatives in relation to sustainable finance: (i) to improve the contribution of finance to sustainable and inclusive growth as well as the mitigation of climate change, and (ii) to strengthen financial stability by incorporating
environmental, social and governance (ESG) factors into investment decision-making.18 To
address these, the HLEG proposed eight recommendations which target specific sectors within the financial system. In response to this, the Commission launched its Action Plan on Sustainable Finance which seeks to (i) reorient capital flows towards sustainable investment in order to achieve sustainable and inclusive growth; (ii) manage financial risks stemming from climate change, resource depletion, environmental degradation and social issues; and
(iii) foster transparency and long-termism in financial and economic activity,19 which has
been translated into ten concrete actions.20 Several of these actions have been revised and
transposed into new legislative proposals which, such as the Taxonomy Regulation,21 are
entirely novel in nature.22
1.3 Problem definition
This thesis aims to contribute to the growing legal debate on the development of green finance by exploring the relationship between the objectives of investor protection via the
provision of information and the regulatory proposals on green finance.23 Researchers have
been investigating the financial and economic effects of climate change for quite some time, for law academics however, integration of sustainability into the capital markets regulation is wholly new, unexplored field. The Commission is turning up the heat on capital markets participants to adapt and internalise environmental concerns and in turn, they are seeking support on how to do this. It is essential that this transition does not lose the retail market out
17 Action Plan Financing Sustainable Growth 2018, p. 2.
18 HLEG Report: Financing a Sustainable European Economy 2018, p. 6. 19Action Plan: Financing Sustainable Growth, p. 2.
20 Action Plan: Financing Sustainable Growth.
21 Proposal for a Regulation on the establishment of a framework to facilitate sustainable investment COM/2018/353 2018/0178(COD).
22 These proposals will be specifically addressed in chapter 4.
23 Throughout this thesis therefore, investor protection should be understood as ‘investor protection via the provision of information’.
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of sight as otherwise the green finance bubble is bound to bust when investor confidence
drops.24 The retail market is currently least well served by information on green
investments.25 This perhaps implies that it does not provide enough protection, which
sequentially, should provide an impetus to legislators to take in to account retail investor interest relating to the provision of information. This thesis is therefore relevant at this moment in time, and by providing an initial academic commentary on certain proposals in relation to investor protection, it is also highly innovative as the matter has, to my knowledge, not yet been addressed in academic research before.
To investigate whether the green finance regulatory proposals sufficiently protect the retail investor via the provision of information, chapter 2, first of all, seeks to limit the scope of this research by defining green finance and identifying green capital markets products that retail investors may invest in. To measure sufficient protection, this thesis will identify three objectives of investor protection via the provision of information in chapter 3, which if achieved, may sufficiently protect retail investors. It will be further be outlined how these objectives translate into existing capital markets regulation in chapter 4, which will also set out the relevant green finance regulatory proposals for this research. To determine whether the proposals sufficiently protect retail investors, in chapter 5, these proposals will be set against the three identified objectives of investor protection and it will be analysed whether these objectives are achieved. On occasion, a behavioural finance approach will be taken to find support for its arguments and a market perspective will be incorporated. This is
appropriate as capital markets regulation seeks to avoid market imperfections26 and because
the Commission’s aim is to stimulate the market for green finance.27 As part of this analysis, this thesis will identify barriers to adequate investor protection within the green finance regulatory proposals and make recommendations on how the protection of investors can be enhanced. Chapter 6 will conclude.
24 Please see 4.3.3 for further explanation. 25 EFAMA’s Stakeholder Response, p. 3. 26 Moloney, Ferran & Payne 2015, p. 6.
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1.4 Sub questions
To be able to answer its research question ‘whether the Commission’s proposals on integrating sustainability in EU capital markets regulation sufficiently protect retail investors via the provision of information’, the following sub questions will be answered:
What is green finance?
Which green capital markets instruments do retail investors invest in?
What is investor protection?
When are retail investors sufficiently protected in relation to information
provision?
How is investor protection via information provision currently ensured in EU
capital markets regulation?
Which green finance regulatory proposals relevant to answering this research
question?
Do the proposals sufficiently protect investors?
o Do the proposals reduce informational asymmetry?
o Do the proposals protect from an inability to process (complex) information?
o Do the proposals protect from (financial) loss? What are barriers to sufficient investor protection?
How can these barriers be overcome?
This thesis is written in English in order to be relevant in its subject area: the European capital markets. For the purpose of this thesis, capital markets participants are the main entities seeking to raise funds on the capital markets or invest in the capital markets. These are, for example, companies, governments, organisations, investment funds, pension funds, mutual funds and different types of banks. Whereas all references to investor protection should be interpreted as investor protection by way of information provision.
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2. Green Finance
2.1 A definition of green finance
In the Paris Agreement parties to the UNFCCC in 2015 agreed to aims of “making finance flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development”.28 Terminology and references to this process have however been far from consistent. Literature concerning financial flows with a sustainability related purpose contains a variety of phrases such as ‘sustainable finance’, ‘climate finance’, ‘green finance’,
‘environmental finance’, and ‘ecological finance’.29 These terms are widely used and often,
perhaps unwarranted, treated synonymously. Adding to the confusion, the scope of the terms and meaning of green or environmental is often unclear. An essential first step therefore in determining the scope of this thesis is to appropriately identify and define ‘green finance’ The Paris Agreement itself refers to the term ‘climate finance’ when describing “financial flows consistent with a pathway towards low greenhouse gas emissions and climate-resilient development” but does not define this, whereas the European Commission refers to
‘sustainable finance’ in its Action Plan: Financing Sustainable Growth.30 Here, sustainable
finance is outlined as “the process of taking due account of environmental and social considerations in investment decision-making” even though the Plan currently focuses mostly on the climate-related aspects, portraying a more climate-oriented scope to sustainable finance. In line with this, the Commission instructed research on the definition of green
finance31 which is intended to feed into the work of the EU HLEG, suggesting that its
primary focus now is indeed to tackle environmental issues through the private financial sector. Because of this, this thesis will concern environmental aspects of sustainable finance only, consequently applying the term ‘green finance’ throughout.
It is not only the irregular vocabulary use that is confusing, ambiguity about the exact meaning and scope of the given terms makes a comprehensive understanding of official publications and literature on green finance increasingly difficult. There is no agreed single definition of green and there are different approaches to defining the term.32 The greenness of a financial flow for example can relate to its objective, asset, associated company, or through conceptual definitions, taxonomies, ratings methodologies and other mechanisms. The
28 Art 2(1)(c) Paris Agreement. 29 This list is non-exclusive.
30 Action Plan: Financing Sustainable Growth 2018.
31 See EU Publications, ‘Defining “green” in the context of green finance’, 4 December 2017. 32 Defining "green" in the context of green finance 2017, chapter 3.
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Commission refers to green finance as that “which aims to support economic growth while (i) reducing pressures on the environment, (ii) addressing greenhouse gas emissions and (iii) tackling pollution, minimising waste and improving efficiency in the use of natural resources”33 whereas the European Banking Federation splits the concept of green finance into an environmental component, explicitly comprised of, pollution, greenhouse gas emissions, biodiversity, water or air quality issues, and a climate change-related component concerning energy efficiency, prevention and mitigation of climate change related severe
events.34 On the other hand, ICMA defines green bonds as “any type of bond instrument
where the proceeds will be exclusively applied to finance or re-finance, in part or in full, new and/or existing eligible Green Projects (eg. renewable energy, pollution prevention and control, terrestrial and aquatic biodiversity conservation and sustainable water and wastewater management).”35 Alternatively, definitions and understandings of green finance may distinguish between finance with a positive and negative (green) impact, a set of green indices and a range of greenness and regarding the term ‘finance’, between use of proceeds finance and untargeted finance, through corporate finance or equity investment for example. As the tremendous variety in definitions of green finance already being used acts as a barrier to be able to wholly comprehend the concept of green finance and no universally recognised definition of green finance has been agreed, this thesis will not attempt to define the term. Rather it will set out the scope of green finance in relation to its research. For the purpose of this thesis therefore, green will be interpreted broadly and in line with the European Commission’s understanding of green, encompassing climate change and, because of the interrelatedness, also wider environmental aspects such as biodiversity and water management. It will not distinguish, unless specifically mentioned, between finance with a specific green standard or a range of greenness and will include positive as well as negative impact finance. As this thesis concerns capital markets regulation only, the term green finance should be understood as green capital markets finance.
33 European Commission, Sustainable Finance: Overview, please find at:
ec.europa.eu/info/business-economy-euro/banking-and-finance/sustainable-finance_en
34 Mularova, 2017, p. 3.
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2.2 Green financial products on the capital markets 2.2.1 The EU capital markets
The European capital market enables market participants to raise equity and borrow capital which is publicly traded36 whilst allowing suppliers of capital to hedge their risk and reducing the cost of capital for capital seekers.37 Therefore, capital markets regulation and supervision concerns, broadly speaking, the (intermediating) actors which raise capital on, manage risks through, and seek returns on the capital markets and related infrastructures.38 Capital can be raised by issuing for example bonds (debt capital) or shares (equity capital) which may be subsequently traded on the primary39 or secondary40 market. Generally, retail investors invest indirectly in bonds41 and both directly and indirectly in equity on the secondary market. 2.2.2 An introduction to green financial products
Consumer market participation has been steadily increasing since the 1970s.42 Within the
capital markets, there are nowadays numerous financial products and services with an explicit or implicit green purpose widely available to retail investors. Retail investors can invest, for example, directly in green bonds or indirectly via green funds. To be able to consider regulatory proposals in relation to information provision of green finance, it is necessary to identify and analyse the green capital markets products that are caught by the proposals. Therefore, the current market for green bonds and green funds is set out in general terms below.
2.2.3 Green bonds
Also described as the flagship green financial product currently available on the capital
markets, green bonds are arguably most well-known and legally established.43 Green bonds
are fixed-income debt securities issued by a government body, multilateral institution or corporation, that raise capital for use in projects, assets or activities with a specific
environmental sustainability purpose.44 These bonds have similar structures and
36 A ‘trading venue’ is defined in article 4(1) MiFID II as a regulated market, multilateral trading facility, organised trading facility, or systematic internaliser acting in its capacity as such.
37 Moloney, Ferran & Payne 2015, p. 3. 38 Moloney 2014, p.2.
39 New securities are issued on the primary market, via initial public offering.
40 The secondary market is the market where formerly issued securities and financial instruments are bought and sold, this is done mostly via stock markets such as the London Stock Exchange or Euronext Amsterdam. 41 Via UCITS funds for example.
42 Moloney 2014, p. 775.
43 Consultation Paper: Scaling up Green Bond Markets for Sustainable Development 2015, p. 10. 44 IFC Note 2016, p. 2.
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characteristics to standard bonds in terms of seniority, rating, execution process, and pricing,
but with proceeds dedicated to climate or environmental projects.45 Recognised types of
green bonds are use-of-proceeds bonds, use-of-proceeds revenue bonds, project bonds and securitised bonds.46
The first green bond was issued in 2007 by the European Investment Bank as the ‘Climate Awareness Bond’, the proceeds of which were used to finance renewable energy and energy
efficiency projects.47 Since then the green bond market has expounded. Poland became the
first sovereign country to issue a EUR 750m green bond in 201248 and corporates have
followed with green bond issuances from both Rabobank49 and Royal Schiphol Group50. The
emergence of green bonds has been recognized by the United Nations as “one of the most significant developments in the financing of low-carbon, climate-resilient investment opportunities.”51 In 2017, the green bond market grew with 75% and in 2019, global green
bond issuances are expected to exceed $180 billion52, up from an already record $167 billion
in 2018 with Europe being the primary region for green bond issuances.53 Nevertheless, green
bonds still only account for less than 2% of global debt issuance,54 although European
legislative proposals, such as the proposal for an EU Taxonomy, EU GBS, EU Ecolabel for financial products, are perhaps being initiated to fuel the trend.
2.2.4 Green funds
Green funds are mutual funds or other investment vehicles such as investment funds or exchange traded funds that invest in companies aiming to promote and develop
environmental responsibility.55 Green funds come in a wide variety, most commonly in the
form of UCITS.56 Green equity funds may invest in for example green companies, green
technology and innovation or producers of green products such as solar panels and wind
45 IFC Note 2016, p. 1. 46IFC Note 2016, p. 2.
47 EIB: Climate Awareness Bonds.
48 Green Bonds: State of the Market 2018, p. 12.
49 Rabobank issues EUR 500 million Green Bond, 4 October 2017, please find announcement at:
rabobank.com/en/press/search/2016/20161004_Greenbond.html
50 Schiphol: EUR 500 million of green bonds to invest in sustainability of airports, 14 October 2018, please find announcement at: schiphol.nl/en/schiphol-group/news/eur-500-million-of-green-bonds-to-invest-in-sustainability-of-airports/
51 Trends in Private Sector Climate Finance 2015, p. 8. 52 De La Gorce 2019, p. 1.
53 De La Gorce 2019, p. 2. 54 De La Gorce 2019, p. 6.
55 Birdthistle & Morley 2018, p. 334. 56 They can also be AIFs however.
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energy generators, whereas green bond funds will invest in, amongst others, green bonds. It is also possible to distinguish green funds by their investment strategy as some green funds
apply for example negative screening,57 positive screening,58 norms-based screening,59
impact investing60 or a mixture of such strategies.61
Similar to the green bond market, the past several years have witnessed a significant increase green funds in terms of numbers and market volume. In 2017, green funds raised more than
€3.27 billion, due to a 49% growth rate.62 Private institutions such as banks and asset
managers63 as well as public institutions such as the World Bank have been actively setting
up green funds. The Green Climate Fund for example is an investment fund under the UNFCCC which aims to support projects, programmes, policies and other activities in developing country parties using thematic funding windows and now has a total value of €17.6 billion.64
3. Investor Protection
3.1 What is investor protection?
Investors that finance firms customarily receive certain rights or powers typically protected through the enforcement of laws and regulations. Shareholders are for example protected by the right to vote for and sue directors and to participate in (extraordinary) shareholders' meetings, whereas creditors are protected mostly via bankruptcy and reorganisation
measures.65 For the purpose of this thesis however, retail investors are protected by rights
related to information disclosure.66 The most important rights obtained by retail investors are
57 Negative screening refers to the exclusion from a fund or portfolio of certain sectors, companies or practices based on specific ESG criteria.
58 Positive screening refers to investment in sectors, companies or projects selected for positive ESG performance relative to industry peers.
59 Norms based screening refers to the screening of investments against minimum standards of business practice based on international norms, such as those issued by the OECD and the UN.
60 Impact investing refers to targeted investments aimed at solving environmental problems as well as financing that is provided to businesses with a clear social or environmental purpose.
61 2018 Global Sustainable Investment Review 2019, p. 3. 62 The European Green Funds Market 2018, p. 1.
63 Examples include: BNP Paribas Easy Low Carbon 100 Europe Fund, Triodos Groenfonds, Amundi Index Equity Europe Low Carbon and Franklin Liberty Euro Green Bond Ucits ETF.
64 GCF First Replenishment 2019, p. 3.
65 La Porta et al., Journal of Financial Economics 2000/58, p. 6.
66 Investor protection materialises in the form of information provision rules but also more invasive product governance rules, such as an outright ban on structured products for retail investors and conduct of business
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therefore rights related to information provision rules,67 which also provide investors with the information they need to exercise other rights.
3.2 The retail investor
The concept of the ‘retail investor’ was first introduced in European capital markets legislation by MiFID in 2004. Under MiFID, a client is defined as “any natural or legal person to whom an investment firm provides investment or ancillary services”68 and three categories of clients are provided: (i) professional clients, (ii) retail clients and (iii) eligible
counterparties,69 according to their need for regulatory protection. MiFID defines retail
clients as “a client who is not a professional client”70 and provides that “a professional client is a client who possesses the experience, knowledge and expertise to make its own investment decisions and properly assess the risks that it incurs” and fulfils the criteria set out in Annex II of the Directive.71 The term ‘clients’ does not include purely contractual counterparties but
also for examples those dealing on own account.72 For consistency and comprehensibility
purposes, this thesis will adhere to these definitions when reference is made to the retail investor throughout.
3.3 The objectives of investor protection via information provision
The provision of information is seen as paramount in protecting investors from expropriation
and in empowering investors by enabling them to make an informed investment decision.73
To achieve this, this thesis identifies and explains three key objectives of protecting investors in the EU capital markets, namely to: (i) reduce informational asymmetry; (ii) protect investors from an inability to process (complex) information; and (iii) protection from loss. This thesis also identifies a trend in the EU’s approach to addressing investor protection, in particular, that investors should be given appropriate amounts of information via suitable
rules such as the obligation to KYC, as this thesis concerns investor protection by way of information provision, this is out of scope.
67 These are set out in Chapter 4. 68 Article 4(1)(9) MiFID.
69 Article 1 and recital 103 MiFID. 70 Article 1(11) MiFID.
71 Article 1(10) MiFID.
72 Busch, Capital Markets Law Journal 2017/12/3, p. 340-380. 73 Recital 7 Prospectus Regulation.
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information channels, rather than giving them (near to) all information about an investment. Considering the purpose of this thesis, it will also be demonstrated how these objectives relate to green capital markets regulation.
3.3.1 Informational asymmetry
EU capital markets investor protection rules are based on the notion that there is a misalignment in capacity between a retail investor and a professional market party, such as a (green) bond issuer or a (green) fund manager, which gives rise to adverse selection problems and may eventually lead to market failures.74 Recognisably, there is a general and in reality, largely unavoidable asymmetry in the market between professional market parties and retail investors, with the former having more power and financial resources than the latter. This expresses itself predominantly in the post-transaction phase where retail investors are inferior
in recourse against losses incurred from a bad investment, for example.75 Perhaps more
pertinent however is what is known as ‘informational asymmetry’.76 Informational
asymmetry concerns the asymmetry in information that a professional market party has compared to the retail investor, who most likely has less information about the characteristics of a certain financial product, capital markets participant and knowledge about the market. An example of the adverse selection problems that follow include the situation where an investor is unable to assess the quality of an investment and consequently offers a lower price for it (known as an ‘inefficient offer’), thereby driving out the higher quality products on the market.77 Alternatively, investors without access to sufficient information may be reluctant to invest or invest in unsuitable products, which can lead to direct and indirect financial losses.78 This has further effects, set out in chapter 3.3.3.
The informational asymmetry that may rise in relation to green finance relates to information concerning the green component of an investment. Information discrepancies between capital markets participants and retail investor may result, for example, in unintended investments due to a misunderstanding of the environmental strategy of the investment. As will be explicated below in chapter 5.1, the proposal for an EU Taxonomy seeks to address this by
74 Armour et al. 2016, p. 62.
75 Shleifer, European Financial Management 2005/11/4, p. 445.
76 First identified by H. Leland & D. Pyle in Leland & Pyle, The Journal of Finance 1977/32/2. 77 This is known as the Bitter Lemon Paradigm by Akerhof 1970.
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requiring capital markets participants to disclose information about the sustainability of their investment.79
3.3.2 Inability to process (complex) information
A major study conducted by the SEC in the wake of the financial crisis found that “American investors lack basic financial literacy”, meaning that they are unable to understand basic concepts such as diversification, investment costs, inflation, and compound interest, and that
they lack the knowledge necessary to protect themselves.80 As opposed to the appropriator of
a tangible asset, an investor cannot physically assess or check the conditions of the asset and is consequently unable to determine its actual or future value. It is also inherently problematic and (overly) time consuming for retail investors to intensively analyse all of the available information related to financial products and compare these, as the products often vary and
have complex legal constructions that may be difficult to understand.81 In addition, the
complexity of certain financial products can also make it near to impossible for retail investors to fully grasp the nature, terms and consequences of a particular investment.82 This inability to process financial information, especially when it is considered complex, often results in consumer misunderstanding and misinterpretation of basic financial services, it is therefore often cited in the literature as ‘information overload’.83 Considering that capital markets participants have, post-crisis been disclosing increasing levels of complex
information, 84 the problem has become acute because its implications have become more
widespread. This has direct effect on the investor, as shown above and indirect effect on the market, as set out below in chapter 3.3.3.
In the EU green capital markets, as will be outlined below in chapter 5.2 financial illiteracy relates to an inability to comprehend the information concerning the green component of an investment. This effectuates (i) in the number of information platforms available; the retail investor cannot process the information because there are too many different sources of
79 Please note that the proposal for an EU GBS and EU Ecolabel for financial products will, when in effect, reduce informational asymmetry as well by providing investors with information. Therefore, even though this thesis analyses informational asymmetry only in relation to the Taxonomy, the analysis can be exercised in relation to the other proposals as well.
80 SEC Study Regarding Financial Literacy Among Investors, 2012, p. 15. Although this study concerns US investors, this thesis infers that the study results are also relevant to EU investors.
81 Spindler, Journal of Consumer Policy 2011/34, p. 319.
82 In a study on debt-literacy, Lusardi and Tufano (2009) find that people with low financial literacy or illiteracy are more likely to have debt related problems. Lusardi & Tufano, Journal of Pension Economics and Finance 2015/14/3
83 See use of the term in eg. Moloney, European Business Organization Law Review 2005/6, p. 393 and Elbers, Electronic Journal of Comparative Law 2004/8/2, p. 8 which are cited in this thesis.
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information, and (ii) the complexity of the environmental information offered to retail investors.
3.3.3 Protection from (financial) losses
Ultimately, as outlined in chapter 3.3.1 and 3.3.2 above, retail investors should be protected from potential financial losses, which is why this is discussed as a separate objective of investor protection. There are a number of types of losses that this thesis identifies. Direct los because of an investment decision can stem from, for example, informational asymmetry, inability to comprehend information, withholding of information, fraudulent practice or excessive risk taking on the side of the retail investor himself. Depending on substance and duration the impact can be such that even relatively small mistakes can cumulate into large
losses by the time the product matures.85 Information asymmetries and (for retail investors
(overly)) complex financial information and products have been demonstrated to lower (the information asymmetry component of) the cost of capital by shrinking bid-ask spreads,
enhancing trading volume, and diminishing stock-return volatility.86 Additionally, retail
investors can suffer indirect losses as well. Indirect losses can come in the form of, inter alia, (i) a reduced investment appetite and thereby a loss of potential investment returns; (ii) reputational losses of one capital markets participant that affect returns in the whole sector or
functioning of the market; or (iii) loss due to physical effects on the underlying assets.87
Finally, it is important to note that even the fear of financial loss affects market confidence
negatively, which hinders the functioning of the capital market.88 Investor confidence in
general is also believed to offer significant benefits in terms of lowering the cost of raising capital, improving job creation and the overall dynamism of the European economy which is why it is also incorporated in the EU investor protection regulatory framework, on the other hand, lower levels of investor confidence are said to reduce the price of securities in the
secondary market.89 Even though, from the outset, a retail investor should be responsible for
his own actions, because of the extent of financial loss that he can incur, and the impact
85 Colaert 2018, p. 350.
86 Kothari, Conference Series 2000/44, p. 92.
87 This is a risk particular to green investments as underlying assets are often physical such as sapling, timber, sustainable infrastructure, ocean maintenance.
88 Recital 64 Prospectus Regulation.
89 See Lamfalussy Report 2001, p. 22 and Moloney, European Business Organization Law Review 2005/6, p. 371.
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thereof the capital markets in general,90 EU regulators have increasingly recognised the
significance and potential of an effective investor protection regulatory framework.91
Unlike the first two identified objectives of investor protection, it is rather difficult to relate the rationale of protection from financial loss to the provision of environmental information. Misleading, incorrect or withheld financial information can directly lead to losses for an
investor whilst misleading, incorrect or withheld environmental information92 does not
necessarily affect the return of an investment. Rather, this misleads the investor, which can have indirect financial consequences and may affect market integrity and market functioning as outlined above. This thesis therefore argues that retail investors should be protected from misleading information and indirect financial losses. This is because, misleading environmental information which is contrary to their environmental ethos may prompt retail investors to sell their bonds or withdraw from funds. This may become troublesome and have undesirable consequences as, depending on the extent of the detraction, large scale sell offs will probably affect the liquidity of a bond and reduce the price it will sell for or the value of the fund, which will affect the return on investment for the retail investor.93
4. The Regulatory Framework
4.1 Existing EU regulatory framework for investor protection
Legislative initiatives to tackle informational asymmetry have over the years followed the theory that information empowers investors by enabling them to protect themselves against
corporate abuse and poor investment decisions.94 The first prospectus obligation was
introduced in 1980.95 Following this, capital markets regulation has been largely based on the
90 Significant financial losses incurred by retail investors may lead to a decrease in market confidence and deter investments which stagnate the market and clearly do not support financial stability and market efficiency. 91 Kothari, Conference Series 2000/44, p. 96.
92 This is occasionally referred to as ‘greenwashing’ in the literature. Greenwashing isdefined in the Dictionary of Information Science and Technology as “the practice of boosting one’s green credentials by making fictitious
claims about one’s products or services as carbon neutral, energy- or fuel-efficient, or environmentally sound. Exploiting the call for environmental sustainability, many companies try to bolster their green credentials by exaggerating their products’ and services’ eco-friendliness in marketing campaigns.”
93 Shell for example states in the Risk Factors section of its 2018 Prospectus that “divestment… can have
material adverse effect on the price of its securities and ability to access the equity capital markets.” See Shell
International Finance B.V. Multi-Currency Debt Securities Programme, 3 August 2018. 94 Moloney, European Business Organization Law Review 2005/6, p. 367.
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assumption that more information is better than less.96 Nowadays, the obligation to publish
and have approved by a prospectus the national competent authority is perhaps the archetype of product information rules within the EU, which applies to equity and non-equity securities
offered to the public in the EU.97 To enable investors to make an informed investment
decision, information contained in a prospectus should be sufficient and objective and should
be written and presented in an easy to analyse, concise and comprehensible form.98 Issuers
should specify certain risk factors that he considers material to a potential investor, and disclose information in relation to, inter alia, financial statements, the issuer, offering, selling and transfer restrictions.99
Research on financial illiteracy amongst retail investors and criticism of the Prospectus Directive however has led to a shift in attitude towards investor protection by legislators.100 It has been identified in chapter 3.3.2 above that an information overload can have undesirable effects on retail investment decisions, and criticism of the prospectus obligation relating to
comprehensibility, costs and a lack of harmonisation in the EU is widespread.101 For this
reason, the recent Prospectus Regulation requires issuers to additionally devise a prospectus summary containing key information that conveys the essential characteristics of, and risks associated with the issuer, any guarantor, and the securities offered or admitted to trading on
a regulated market.102 Similarly, when offering packaged retail investment and insurance
products or units in a mutual fund, retail investors must be provided with a KID103 or
KIID,104 respectively, which contains only the necessary elements of the investment for
making an informed decision.105
96 Elbers, Electronic Journal of Comparative Law 2004/8/2, p. 8. 97 Article 3(1) Prospectus Regulation.
98 Article 6(2) Prospectus Regulation. 99 Article 6(1) Prospectus Regulation.
100 Homer Kripke for example has written that “the theory that the prospectus can be used by the lay investor is
a myth”. See Black, Brooklyn Journal of Corporate, Financial & Commercial Law 2002/2/2, p. 319.
101 See for example, T. Arons and B. de Jong, ‘Een nieuwe Verordening voor prospectus 2.0: minder lasten, meer flexibiliteit en relevantie’, Ondernemingsrecht 2017/17.
102 Article 7 Prospectus Regulation.
103 See article 78 of the UCITS Directive for the requirements. 104 See article 8 of the PRIIPs Regulation for the requirements.
105 Article 78 UCITS Directive, this includes information concerning identification of the UCITS, a short description of the investment objectives and policy, costs, risk and reward profile of the investment.
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4.2 Investor protection in the proposed green capital markets regulatory framework 4.2.1 EU Taxonomy
In response to the Final Report of the HLEG, the Commission set out its intention to develop a robust EU classification system for environmentally sustainable activities. The proposal prescribes (i) unified criteria; and (ii) a process to establish an over-arching EU classification
system, for determining whether a particular economic activity is sustainable.106 The aim of
this system is to expediate access to the green capital markets and to provide investors with clarity on which economic activities are considered sustainable in the EU so that they can
make an informed investment decision,107
In accordance with the Taxonomy, an economic activity is considered environmentally sustainable if (i) it contributes substantially to one or more set environmental objectives;108 (ii) does not significantly harm any of the set environmental objectives; (iii) it is carried out in compliance with laid out minimum safeguards; and (iv) technical screening criteria.109110 The proposal requires financial market participants offering environmentally sustainable investments to disclose information on how and to what extent they use the Taxonomy criteria set out above to determine the environmental sustainability of the investment. Delegated acts will be adopted to supplement and provide guidance in relation to this obligation. This information should enable investors to identify: (i) the percentage of holdings pertaining to companies carrying out environmentally sustainable economic activities; and (ii) the share of the investment funding environmentally sustainable economic activities as a percentage of all economic activities.111
4.2.2 EU Green Bond Standard
In line with Action 2 of the Commission’s Action Plan, the TEG has published a proposal for a voluntary, non-legislative European Bond Standard. It aims to provide a framework of core components for European green bonds and intends to enhance the transparency, integrity,
consistency and comparability of European green bonds.112
106 Proposed Taxonomy Regulation, section 1. 107 Proposed Taxonomy Regulation, section 1.
108 The objectives are set out in article 5, whether this is the case is set out in articles 6-11 of the proposed Taxonomy Regulation.
109 Article 3 proposed Taxonomy Regulation.
110 Please see an example of an economic activity included in the taxonomy in Annex A. 111 Article 4(3) proposed Taxonomy Regulation.
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The TEG recommends that an EU Green Bond can be any type of listed or unlisted bond or capital markets debt instrument issued by a European or international issuer that is aligned
with the EU Green Bond Standard.113 The EU GBS acts as a label for (green) bonds designed
to, inter alia, enhance their credibility, which the Commission hopes will encourage
investments.114 An issuer may only use the term ‘EU Green Bond’ if it meets the criteria set
by the EU GBS.115
The EU GBS proposal is largely aligned with the existing GBP116 and introduces four core
components, namely: (i) an outline of the green projects that can be financed by green bonds
in accordance with the EU Taxonomy;117 (ii) a Green Bond Framework that contains the
information to be provided to investors;118 (iii) mandatory verification and accreditation by
external reviewers;119 and (iv) a reporting obligation.120 4.4.3 EU Ecolabel for financial products
The practice of eco-labelling aims to identify and advocate products that have a reduced environmental impact as to comparable products, whilst providing consumers with accurate,
non-deceptive, science-based information.121 It is a voluntary method of environmental
performance certification and has been practiced in Europe for a number of years with respect
113 Report on EU Green Bond Standard 2019, p. 57.
114 Research into credibility identifies two components to credibility: ability and trustworthiness. It can certainly be purported that perceived trust or belief in an Issuer can stimulate investors. Please see: Lee & Jeong 1998. ‘Effect of green advertising pattern and sponsor’s reliability of greenness on advertising response’ 1998/1/1. 115 The criteria are:
- The issuer’s Green Bond Framework shall confirm the alignment of the green bond with the EU-GBS;
- The proceeds, or an amount equal to such proceeds, shall be exclusively used to finance or re-finance in part or in full new and/or existing Green Projects, as it shall be described in the bond documentation; and
- The alignment of the bond with the EU-GBS shall have been verified by an accredited Verifier. Please see Report on EU Green Bond Standard 2019, p. 57.
116 Report of the Technical Expert Group (TEG) subgroup on Green Bond Standard, (6 March 2019), Proposal
for an EU Green Bond Standard, Interim Report, section 3.2.
117 Green projects include:
- eligible green assets (including physical assets and financial assets such as loans), as well as the share of the working capital that can reasonably be attributed to their operation, and, for the avoidance of doubt, including potentially both tangible and intangible assets;
- eligible green capital expenditures;
- eligible green operating expenditures related to improving or maintaining the value of eligible assets; - eligible green expenditures for sovereigns, sub-sovereigns and public agencies. (see section 3.3.1 of the
Proposal for an EU Green Bond Standard 2019.
118 For a description of the information to be provided in the GBF, please consult Report on EU Green Bond Standard, p. 59.
119 Proposal for an EU Green Bond Standard 2019, section 3.3.4. 120 Proposal for an EU Green Bond Standard 2019, section 3.3.3. 121 Gertz, Law, Probability and Risk 2005/4, p.129.
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to other categories such as agricultural products, energy, waste and packaging.122 In March
2019, the JRC published a Technical Report on the Development of EU Ecolabel Criteria for Retail Financial Products, in which it presents proposals for future criteria, in line with the
Commission’s intention to develop an EU Ecolabel for financial products.123
The proposal for a European Ecolabel for financial products is set to apply to (i) UCITS; (ii)
RAIFs; and (iii) insurance products124. An EU Ecolabel will be awarded to such funds if
these fulfil a set of criteria. Failing to do so means that the EU Ecolabel cannot be
awarded.125 It is not yet clear what these criteria will be. The JRC proposes a mandatory
pass/fail system in which an Ecolabel can be awarded once it fulfils a set of mandatory requirements. In recognition of the inflexibility and potential exclusionary nature of this approach, the JRC identifies an alternative method, which it calls a ‘points based’ system, in which a number of points is attributed to a number of optional criterion.126 The sustainability of a particular nvestment will, for the purpose of the Ecolabel, be determined in line with the
proposed Taxonomy Regulation.127
Applicants can choose between the EU Ecolabel Logo128 and the EU Ecolabel Optional
Logo,129 which gives capital markets participants the opportunity to include a statement in
relation to the product’s minimised environmental impact directly on the logo as well. 130
Additionally, successful applicants are required to annually disclose to investors (i) their investor information and investment policy; information on (ii) corporate activities and governance structures; and (iii) management and internal control procedures, and provide this to the competent body for annual reporting.131
122 JRC Technical Report: Development of EU Ecolabel criteria for Retail Financial Products 2019, p. 4. 123 Please note that the information and analysis expressed in this thesis in relation to an EU Ecolabel for financial products is based on the JRC report.
124 As insurance products are not dealt with on the European capital markets, they will not be addressed further in this thesis.
125 JRC Technical Report: Development of EU Ecolabel criteria for Retail Financial Products 2019, p. 18. 126 JRC Technical Report: Development of EU Ecolabel criteria for Retail Financial Products 2019, p. 11. 127 JRC Technical Report: Development of EU Ecolabel criteria for Retail Financial Products 2019, p. 10. 128 Please see Annex B for the Logo.
129 Please see Annex C for the Optional Logo.
130 An example of such a statement is: “reduced impact on climate change”.
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5. Do the proposals sufficiently protect investors?
While investor protection and environmental sustainability are related in the sense that each necessitate retail capital markets regulation, they have never been addressed jointly in academic literature. The purpose of this thesis is therefore to collectively examine these issues, proceeding to apply the objectives of investor protection as devised in chapter 3.3 to the green capital markets regulatory proposals outlined in chapter 4.2.132 It will be analysed whether the proposals sufficiently take into account the need to protect the retail investor via the provision of information. To answer the research question, this thesis will investigate whether the objectives of investor protection as identified in chapter 3.3 are met, but in doing so, it will not address each proposal individually in each chapter as by nature, not all proposals are relevant to each identified issue. To find support and contestation for its arguments it will rely on investor protection and behavioural finance perspectives which is an appropriate approach when one considers this research in the context of the Commission’s intention to stimulate the market for green finance. Furthermore, it will identify barriers to sufficient retail investor protection and make recommendations on how the protection of investors can be augmented.
.
5.1 Informational asymmetry
5.1.1 Creating a common understanding
The Commission has expressed its aspiration to create a common understanding of which economic activities can be considered environmentally sustainable for investment purposes and to enable markets to invest with greater confidence in green projects without being held
back by the detail of ongoing scientific or academic debates on green definitions.133 It
remains to be seen however whether this common understanding is actually capable of reducing the informational asymmetry between capital markets participants and the retail investor.
Whether the EU Taxonomy succeeds in reducing the informational asymmetry depends on the appropriateness of the information provided to retail investors. As the current capital markets regulatory approach to protect investors is to provide them with the essential
132 As protection from financial loss is considered a consequential objective in relation to the objective to protect investors from informational asymmetry and an inability to process information, the reasoning provided in chapter 5.1 and 5.1 applies to this objective as well.
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information necessary to enable them to take an informed investment decision,134 this thesis
will apply this to information concerning the environmental aspect of an investment. Currently, the Taxonomy aims to provide a translation of ‘environmentally sustainable’ investments and does this by providing a classification system on the basis of which firms can classify their investment activities.135 For retail investors, this means the market will speak a uniform language on environmental investments which, this thesis proposes, makes it easier for investors to compare investments and determine whether the investments are in line with their environmental objectives. On the other hand however, for retail investors this also
means being almost wholly reliant on disclosure by the capital markets participant.136
However, this thesis argues that to reduce the informational asymmetry and to truly empower retail investors, it must be made possible for them to independently check the information and educate themselves on the meaning the different environmental strategies, which this thesis considers as the essential information necessary to take an informed investment
decision.137 This information should be incorporated in the Taxonomy so that retail investor
labelling tools such as the EU Ecolabel, which reflect the pursued strategy, actually have a meaning. Otherwise, an EU Ecolabel stating the environmental strategy that is pursued will not offer any more protection to retail investors as they still will not understand the substance of the label. This thesis is also critical of the notion that the Taxonomy is addressed at
member states and capital markets participants138 and sees no reason why retail investors
should be left in the dark on what the meaning of ‘environmentally sustainable’ is. Consequently, this thesis does not believe that the Taxonomy reduces the informational asymmetry between capital markets participants and investors.
5.1.2 Recommendations
Consequently, this thesis recommends developing a retail Taxonomy on the basis of which retail investors can educate themselves about the scope of green finance. A retail taxonomy should differ in purpose and in substance to provide sufficient levels of investor protection. Firstly, being aimed at retail investors seeking to understand the sustainability impact of a particular investment and secondly, explaining the different environmental objectives
134 Proposed Taxonomy Regulation, section 1. 135 Proposed Taxonomy Regulation, section 2.1.
136 Cho et al., Journal of Accounting and Public Policy 2-13/32, p. 75.
137 “Enforcement of fair disclosure has been effective in decreasing the level of information asymmetry.” See: Cohen et al., Behavioural Research in Accounting 2011/23/1, p. 11.
138 The Taxonomy Technical Report 2019 outlines that the proposed Taxonomy Regulation envisages “member
States or the EU when adopting measures or setting requirements on market actors in respect to financial products or corporate bonds that are marketed as environmentally sustainable” as main users.
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contained in the Taxonomy in a way that a retail investor can understand. Such a retail taxonomy should be coupled with the disclosure obligation that follows from the EU
Taxonomy,139 the Ecolabel for financial products140 and GBS141 so that capital markets
participants disclosing compliance with the taxonomy or GBF do so in a way that a retail investor, using the retail taxonomy can understand and process. It is not immediately clear why this has not yet been suggested by the Commission or research bodies on green finance. Perhaps it has been decided to prioritise other initiatives or perhaps it has not yet been considered at all considering that the extent of investor protection in the Commission’s proposals has not been directly addressed yet. Support for this can be found when considering the EU Taxonomy proposal from a behavioural finance perspective as research has shown that educating investors and providing them with information contributes to the development of the market, which is also in line with the Commission’s objective of stimulating the market for green finance.142 Accordingly, this thesis believes that to empower retail investors via the provision of information and to stimulate the market for green finance, a retail taxonomy is essential.
5.2 Inability to process (complex) information 5.2.1 Complexity of the labels
As set out in chapter 3.3.2, there is often a gap in the financial literacy of a capital markets participant and a retail investor, which manifests itself in the complexity of information that is given to retail investors impending an investment decision. This chapter will determine whether the proposals sufficiently protect the investor from an inability to process complex information.
From an investor protection perspective, labelling schemes are particularly useful in facilitating a retail investor who wishes to integrate environmental concerns into an investment in the EU capital markets. This is because they provide an easy to read, single and unequivocal indication of whether and to what extent an investment is environmentally sustainable.143 In this light, this thesis is apprehensive about the intricacy of the information
139 Taxonomy Technical Report 2019, p. 61.
140 JRC Technical Report: Development of EU Ecolabel criteria for Retail Financial Products 2019, p. 43. 141 Report on EU Green Bond Standard 2019, p. 28.
142 Capasso, Journal of Economic Surveys 2004/18/3, p. 269. 143 Gertz, Law, Probability and Risk 2005/4, p.129.
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provided by the EU Taxonomy and GBS proposals. Under the EU Taxonomy proposal, capital markets participants are required to disclose compliance with the Taxonomy for their investment activities.144 Although this obligation is to be further set out in yet to be devised delegated acts, the recent TEG report does not make any recommendations in respect of the provision of information to retail investors specifically.145 Similarly, the TEG states that the GBF will become a document covering issuer alignment with the Taxonomy, project
selection, management of proceeds and future reporting,146 without addressing these content
requirements in relation to retail green bonds. This means that retail investors wishing to inform themselves about the environmental component of a green bond, are subject to the same provision of information as institutional investors. This thesis argues that retail investors and institutional investors differ in their need for information and that this should be incorporated in the green finance regulatory proposals as it has done in general capital
markets regulation.147 Institutional investors benefit from experience, expertise and
economies of scale which lowers the cost to acquire and process information148 and generally
have direct access to information, outside of the regulatory information framework.149 Retail
investors on the other hand, as has been explained in chapter 3.3.2, rely on public
communication channels150 and are severely limited in their ability to process information.
Considering that access to, for retail investors, complex information often results in an
inferior investment decision,151 it is inappropriate to subject retail investors to the same
sources of information as capital markets participants in the green finance regulatory proposals. From a market perspective, integrating retail investor information needs into the green finance regulatory proposals is also essential considering the stark evidence provided in chapter 3.3.3 of the negative effect of complex information on the market, the consequence of which being hinder to the development and stimulation of the green capital markets and contrary to the intentions of the Commission to “reassure retail investors” of the environmental impact of their investment.152
144 Taxonomy Technical Report 2019, p. 61. 145 Taxonomy Technical Report 2019, p. 61. 146 Report on EU Green Bond Standard 2019, p. 29. 147 See chapter 4.1.
148 O’Neill & Swisher, The Financial Review 2008/38, p. 199. 149 Cho et al, Journal of Accounting and Public Policy 2013/32, p. 75. 150 Cho et al, Journal of Accounting and Public Policy 2013/32, p. 75. 151 Celerier & Valle, HEC Research Paper Series 2013/1013, p. 18. 152 Taxonomy Technical Report 2019, p. 67.
