With 2023 on track to be the warmest year on record, the climate crisis and the need to accelerate the green transition are becoming more pressing than ever. Founded in 2020, the Luxembourg Sustainable Finance Initiative (LSFI) to raise awareness, promote sustainable finance initiatives and accompany the grand duchy’s financial sector in its shift towards sustainability.

It’s extremely important to highlight what we are trying to achieve with this study, began LSFI general manager Nicoletta Centofanti. “We’re trying to measure the progress in the status of sustainable finance in Luxembourg.” The 2023 report builds on the 2022 study , and provides updates on the analyses conducted in the previous report, aiming to identify strengths and weaknesses, track progress and facilitate the sustainability transition.

The 2023 study covers the main environmental, social and governance (ESG) strategies used by the financial industry, how EU-level sustainable finance regulations have been implemented by financial market participants in Luxembourg--including the asset management, banking and insurance segments, a new development compared to the 2022 edition--and how players have positioned themselves regarding global climate initiatives and tools, explained Centofanti.

Luxembourg-domiciled ESG funds reach €2.8trn

The report found that environmental, social and governance (ESG) funds account for 67.3% of the assets under management of Luxembourg’s overall undertakings for collective investments in transferable securities (Ucits) funds, reaching €2.758trn in assets by the end of June 2023. This is an increase of 2.8% compared to Q2 2022.

Luxembourg-domiciled Ucits made up a major portion of European ESG Ucits assets under management, which stood at €4.802trn at the end of 2022.

Even though 67.3% of Luxembourg-domiciled Ucits assets under management are in ESG funds, only 4,814 of the 9,761 funds (or 49.3%) are ESG funds, said the report. This means that ESG funds are--on average--larger than non-ESG funds.

“Exclusionary” approach dominates

There are three categories of ESG strategies used by funds: ESG exclusion, ESG screening and ESG involvement.

A “huge proportion”--59.1%--of ESG Ucits assets in the study’s sample (€1,630.7bn) belonged to funds that only applied ESG exclusion, said Centofanti. This is a strategy that involves excluding certain types of investments, such as those related to weapons, tobacco or fossil energy--these three sectors are the most common types of exclusions.

ESG involvement has six sub-strategies, as detailed in the report: best-in-class (selecting the best companies by ESG criteria within each sector, such as the least-polluting oil company), positive tilt (weighing a portfolio towards ESG companies), thematic (funds that focus on sustainable themes like clean water), microfinance (funds in this sub-category invest in microfinance projects), sustainable development goals (working towards achieving the United Nations’ SDGs) and sustainable bonds funds (funds that invest in green, social, sustainable or other similar fixed-income securities).

About a quarter (23.4%) of the Ucits assets in the study employed ESG involvement. There was only a “slight increase” in the use of this strategy compared to 2022, said Centofanti. Data from Q2 2022 shows that 22.6% of ESG assets under management used the ESG involvement strategy.

ESG screening means funds apply ESG factors into their overall screening process and cannot be “explicitly” included in the categories of ESG exclusion or involvement. 17.5% of the assets under management in Luxembourg ESG funds use this strategy.

All funds categorised under ESG involvement and ESG exclusion are tagged as ESG funds in the Lipper database, where much of data for the report was sourced. ESG involvement funds may therefore also employ exclusion criteria and all ESG funds use ESG screening.

67% of AUM classified article 8 or 9

About two-thirds (67%) of the assets under management of Luxembourg-domiciled Ucits are classified as article 8 or article 9 under the EU’s Sustainable Finance Disclosure Regulation (SFDR). Article 8 funds promote environmental and/or social characteristics, while article 9 funds have a sustainable investment objective and article 6 funds do not have ESG criteria.

In terms of the number of funds, article 8 funds represent 43% of Luxembourg-domiciled Ucits funds as of the end of June 2023, up from 34% recorded in June 2022.

New this year: analysis of PAI reporting

Besides analysing ESG strategies and disclosures, “we did three more things that are quite unique,” noted Centofanti. “We looked at the PAI [principle adverse impact] disclosure, so, how the different financial market participants are responding.” A firm’s PAI statement relates to negative effects on sustainability both on entity and product level, and is required under the SFDR.

Overall, only 57.2% of the management companies (mancos), banks, and insurance companies included in the study fulfilled the SFDR’s “comply or explain” obligation regarding reporting on the PAIs of their investment decisions on sustainability factors.

The study found that of the 485 surveyed financial market participants, 109 (22%) published a report at the group or entity level (with significant discrepancies in the type and quality of data used), 169 (35%) issued a declaration not to report on the PAIs of their investment decisions and 180 companies (37%) did not meet the declaration or reporting requirements (failed to clearly state why they did not report, failed to issue a report or statement at the local level, only issued a report at fund level, failed to issue a statement regarding article 4 consideration).

99 published a PAI report at the local level, added the report. Of these 99 companies, 79 provided a complete version.

European ESG template

The European ESG template (EET), which is not mandatory under the EU regulation, is a voluntary tool developed by the Financial Data Exchange (Findatex) that aims to help the sector exchange data and information, said Centofanti.

“The share of minimum planned or anticipated investments was lower than actual E/S investments,” noted the report. “On average, 2,097 funds disclosing under article 8 have reported that 92% of their investments align with E/S characteristics… a noteworthy increase compared to the pre-contractual average of 71% by the same funds. Similarly, 1,500 funds disclosing as per article 8 have reported that, on average, 46% of their investments are sustainable… representing a substantial rise from the pre-contractual average estimate of 20%.”

Major challenge: data

However, despite regulatory efforts, a lot of comparable data is missing and getting data can be challenging. The research team often had to go website by website to collect the necessary information, explained Centofanti. This lack of data makes it difficult to measure and understand the trends in the sector.

Analysis is also linked to what the type of data that providers (like Lipper) can provide, she added. In the case of EET, it was “another feature” that was available on the same database.

Given a single wish to make in terms of ESG data, Centofanti would want to have all the data in available in an aggregated, standardised manner on a single platform that would make it easy to compare--at both a broad and granular level--how financial market participants are advancing towards climate, social and biodiversity objectives and how they are progressing with their ESG strategies.

Positive progress

The third “new” topic addressed in the report is the measurement of adherence of climate initiatives and tools, such as the Glasgow Financial Alliance for Net Zero (GFANZ), the Partnership for Carbon Accounting Financials (PCAF) and the Science-Based Targets Initiative (SBTi).

“Unfortunately, the adoption is not as high as we would have expected,” Centofanti said during the interview. A relatively small proportion of surveyed firms adhere to one of these initiatives or tools.

Of the 458 financial market participants included in the study, 83 companies (21%) adhere to GFANZ, 33 firms (8%) adhere to PCAF and 44 respondents (10%) adhere to SBTi. Super mancos have the most overall adherence, with 42% of them adhering to at least one of the three initiatives or tools.

Since the LSFI working group on climate measurement and reporting has to reach net zero objectives, future studies will continue to monitor this point and the LSFI will aim to increase its adoption, Centofanti added.

Although things are not moving as fast as could be hoped, “we constantly see positive progress,” she concluded.

Find the full report .