By Dr. Ansgar Schott, Baker & McKenzie Zurich
An important basis for Sustainable Finance has been the Federal Council's decision to achieve the net zero target for CO2 emissions in Switzerland by 2050 (Federal Council, media release, August 2019). The temperature increase is to be limited to below 1.5 degrees Celsius. The aim is also to protect biodiversity, which is endangered by climate change. The fundamental question here is what contribution the financial industry can make, which - unlike the real economy - is not primarily responsible for CO2 emissions.
On the one hand, the regulation of sustainable finance aims at directing financial flows in a climate-friendly way. In other words, it has a steering function. However, since climate change indirectly affects financial institutions as lenders and business partners of the real economy, it should also serve the stability of financial institutions and the financial market. Furthermore, it should prevent customer deception (greenwashing).
Finally, sustainable finance is also a marketing concept: it is seen as an opportunity for the Swiss market to position itself as the world's leading financial centre in this area. Information on the status of sustainable finance in Switzerland can be found in the recently published report of the Federal Council (Report of the Federal Council "Sustainable Finance Switzerland, Fields of Action 2022-2025 for a Leading Sustainable Financial Centre", 16 December 2022 (the FC Report)).
Sustainability Data From The Overall Economy
Sustainable finance is essentially a transparency issue. The procurement and processing of data is key. Intuitively, one would think that transparency rules should primarily apply to the real economy, since this is where the direct impact on the environment takes place. However, general transparency rules for the real economy are missing in Switzerland.
The new transparency rules under Article 964a et seqq. of the Swiss Code of Obligations (CO) on non-financial matters only apply to certain large companies. These large companies are subject to certain rules on reporting on environmental, social and employee matters, human rights and anti-corruption, which came into force at the beginning of 2022. Details can also be found in the Ordinance on Reporting on Climate Concerns, which will come into force on 1 January 2024. Particular transparency regulations (Art. 964d et seqq. CO) also apply to commodity companies, which already came into force at the beginning of 2021. Finally, special due diligence and transparency requirements (Art. 964j et seq.) apply to companies that source minerals and metals from conflict areas and in the case of child labour. These came into force at the beginning of 2022. In particular, this involves the verification of certain supply chains. SMEs or companies with low risks are exempt from these regulations (see also the Ordinance on Due Diligence and Transparency in the Areas of Minerals and Metals from Conflict Areas and Child Labour, which has been in force since the beginning of 2022).
Transparency - Climate Change As A Risk For The Financial Institution
As mentioned, climate change also poses a risk to the financial institution itself, which depends on the real economy as a lender and business partner. This is referred to as climate-related financial risks. In this context, the Swiss Financial Market Supervisory Authority FINMA (FINMA) requires the disclosure of climate-related financial risks and their impact on strategy and risk management. FINMA Circulars 2016/01 "Disclosure - Banks" and 2016/2 "Disclosure - Insurers (Public Disclosure)" were amended accordingly at the end of 2021. However, the provisions only apply to large financial institutions. In line with international standards, a distinction is made between two types of climate-related financial risks: physical risks (damage to the economy due to climate-related natural disasters and climate change) and transition risks (reduction in financial institutions' assets due to climate policy, changes in customer behaviour or disruptive technological breakthroughs) (FINMA, explanatory notes on the revised Circulars, 6 May 2021, p. 12.).
It should also be mentioned that the Federal Council recommends that all Swiss financial institutions join the net zero alliances under the umbrella of the Glasgow Financial Alliance for Net Zero (GFANZ). Within the framework of these GFANZ net-zero alliances, financial institutions voluntarily commit to promoting the achievement of the net-zero target (FC Report, p. 10 et seqq.). Finally, the Federal Office for the Environment (FOEN), together with the State Secretariat for International Financial Matters (SIF), has offered all financial institutions the opportunity to subject their portfolios to a climate test on a voluntary and anonymous basis (FC Report, p. 13 et seq.).
Transparency - Protecting The Market And Customers
On the one hand, transparency vis-à-vis the market and customers should reduce the risk of customer deception (greenwashing). On the other hand, transparency should also enable the markets to function. Transparency essentially takes place at the advisory and product level. The Federal Council recommends that all Swiss financial institutions apply the so-called Swiss Climate Scores where this makes sense. The Swiss Climate Scores provide investors with comparable and meaningful information on the extent to which their financial investments are compatible with international climate goals. In particular, they also show where the company in question stands in terms of "net zero" (Federal Council, media release, 29 June 2022; FC Report, p. 16 et seq.).
Greenwashing In Particular
FINMA has published its expectations of financial institutions with regard to the prevention of greenwashing in collective investment schemes and in the provision of advice at the point of sale by means of a supervisory notice (FINMA supervisory notice 05/2021, 3 November 2021). In particular, it explains which constellations are considered deceptive according to FINMA's practice due to a lack of transparency. However, the recommendations contained therein cannot be compared to the rules applicable in the EU (SFDR), which contain much more detailed and far-reaching rules.
Reference should also be made to self-regulation in the area of greenwashing: The Swiss Bankers Association (SBA) has issued binding minimum requirements for its members on the consideration of sustainability criteria in investment advice and asset management, which will come into force at the beginning of 2023 (SBA, Guidelines for financial service providers on the inclusion of ESG preferences and ESG risks in investment advice and asset management, June 2022). In addition, the Asset Management Association (AMAS) last year introduced binding rules for its members on transparency and disclosure for collective investments with a sustainability focus (AMAS, Self-regulation on transparency and disclosure for collective assets with a sustainability focus, 26 September 2022). Such rules may under certain circumstances constitute the Swiss "best practice" standard, but they do not represent a minimum standard under supervisory law. Finally, it should be mentioned that the Federal Council recently published a recommendation to avoid greenwashing (Federal Council, media release, 16 December 2022), according to which financial services and financial products that are advertised as sustainable should be compatible with the declared sustainability goal or make an effective contribution to it.
However, it can be said that there are currently no rules for the point of sale that are generally applicable. Therefore, FINMA's scope for action for efficient greenwashing prevention and avoidance is limited (see FINMA Risk Monitor 2021, p. 21 et seq.). A more comprehensive regulation on greenwashing at the legislative level envisaged by the Federal Council should close this gap.
FINMA only recently formulated its expectations regarding the management of climate risks (FINMA, supervisory notice 01/2023, 24 January 2023). According to this, all authorised financial institutions must proactively address the recommendations of international bodies and best practices in the market and critically review and further develop their instruments and processes where necessary. In addition, the ability of financial institutions to assess climate-related financial risks must be improved. For the time being, FINMA's focus is on the large financial institutions, but this does not mean that the other financial institutions do not have to meet the expectations of FINMA.
Real Estate Financing In Particular
Real estate causes around a quarter of CO2 emissions in Switzerland. Making buildings more energy-efficient is thus one of the most important measures to reduce CO2 emissions. Among others, the Federal Office of Housing (BWO) offers further studies and information on this topic.
In the spirit of self-regulation, the Swiss Bankers Association has established principles for the granting of climate-efficient mortgages (SBA, Guidelines for Providers of Mortgages to Promote Energy Efficiency, June 2022). Owners should be made aware of the need for energy-efficient renovations. These principles thus help customers to deal with climate risks. Further, they help the banks, which are exposed to climate risks in their function as lenders to deal with such risks. In this context, it should be mentioned that the Confederation is now providing data on the climate compatibility of the Swiss building stock (cartographic representation of the CO2 emissions of Swiss buildings; see FC Report, p. 9). Finally, in connection with mortgage financing, it should also be noted that FINMA generally classifies the credit risk in this area as significant (FINMA Risk Monitor 2022, p. 7 et seq.). Climate risks thus place an additional burden on the Swiss mortgage market, which has already become riskier.
Dr. Ansgar Schott
Ansgar is a Partner with the firm, specialising in Banking & Finance, Capital Markets, Equity & Debt Transactions, Financial Institutions, Financial Services Regulatory, Fintech, Investigations, Compliance Ethics, Investment Funds, and Sustainability.