SEC examiners are seeing unsubstantiated and “potentially misleading” statements and questionable processes from some investment advisers, investment companies and private funds offering ESG products and services, according to a risk alert.
The Division of Examinations Risk Alert said April 9 that rapid growth in demand and an increasing number of ESG products and services, combined with a lack of standardized ESG definitions “present certain risks.”
Some of the most noticeable missteps were related to misleading statements about ESG processes and adherence to global ESG frameworks.
SEC examiners found portfolio management practices inconsistent with how firms disclosed their ESG approaches to clients, including claiming to follow global ESG frameworks. In other cases, fund holdings featured issuers with low ESG scores, despite a firm’s stated approach.
Some firms claimed to have formal processes in place but did not have policies and procedures, did not implement them, or failed to document clear ESG-related investment decisions.
Recent SEC exams also found compliance programs not well-designed to guard against inaccurate ESG-related disclosures and marketing materials or prevent violations of SEC regulations, and a lack of controls to match clients’ ESG-related investing guidelines, mandates, and restrictions, such as negative screens.
SEC examiners also found proxy voting practices inconsistent with stated approaches or misleading statements about clients’ ability to vote on ESG-related proxy proposals.
In addition to misleading marketing materials, SEC examiners found that some ESG advisers “touted favorable risk, return and correlation metrics” but did not disclose significant expense reimbursements from fund sponsors so returns were inflated.
The examiners also found examples of good practices in place, with compliance personnel knowledgeable about specific ESG-related practices. “Where compliance personnel were integrated into firms’ ESG-related processes and more knowledgeable about firms’ ESG approaches and practices, firms were more likely to avoid materially misleading claims” and have more meaningful review of those, as well as testing of ESG-related procedures and implementation.
The division’s advice to clients and investors is to check that disclosures, marketing claims, and other public statements jibe with internal firm practices, and that firms implement ESG investing consistently with appropriate oversight and documentation.