More than 40% of investment funds in the EU using ESG or sustainability-related labels may be required to change names or sell assets in order to meet new anti-greenwashing rules, according to a new analysis released by sustainability technology platform Clarity AI.

The new report follows the release earlier this month by EU markets regulator the European Securities and Markets Authority (ESMA) of its finalized guidelines for the use of ESG and sustainability-related terms in investment fund names. ESMA launched the new rules after noting a sharp increase in the use of sustainability-related terms in fund names in Europe over the past several years, leading to an increased risk of greenwashing.

Under the new rules, funds using ESG, sustainability, or impact terms, or environmental terms such as “green,” “environmental,” or “climate,” will be required to meet investment thresholds including having at least 80% of assets in investments used to meet the sustainability characteristics of the fund, and to follow the exclusion criteria for Paris Aligned Benchmarks (PABs). PAB exclusions include companies involved in controversial weapons, production of tobacco, those with more than 10% of revenue from oil production or refining, 1% from coal, or 50% from gas fuels production, and those with most revenues coming from emissions-intensive energy generation.

The new guidelines will begin applying three months after publication in all EUB languages on the ESMA website, with funds given six months from then to comply.

For the study, Clarity AI identified 3,256 EU-domiciled funds using environmental or impact terms in their names. Of the funds examined 74% were classified as Article 8 under the EU’s SFDR regulation, 19% were classified as the more stringent Article 9, and 7% were Article 6.

The study found that 44% of the funds contained investments that breached the PAB exclusion criteria, with the fossil fuels criteria as the most common problem area, including more than 1,000 funds invested in companies that breached the 10% revenue from oil rule. Additionally, nearly 500 were invested in companies involved in the production of controversial weapons, 60 in companies involved in tobacco production, and 67 in companies in companies with emissions-intensive electricity generation.

By SFDR classification, the study found that approximately half (49%) of Article 8 funds did not meet the PAB exclusion criteria, in addition to 36% of the Article 6 funds, and 29% of the Article 9 funds.

Clarity AI pointed out that its analysis considered only the top 25 most frequently used terms, and those explicitly mentioned by ESMA, and only English-language terms, indicating that the number of funds that did not meet the new rules could be higher than those identified by the study.

Tom Willman, Regulatory Lead at Clarity AI said:

“While much of the commentary has focused on meeting the 80% threshold of assets to achieve sustainability characteristics or a sustainable investment objective, we believe that applying the exclusions from the Paris-aligned benchmark regulation may be a tough task for much of the industry. Funds will need to collect data in order to ensure that they are not exposed to any assets involved in tobacco, controversial weapons, or breaches of global norms, and that fossil fuel related activities are limited and below a certain threshold.”

Click here to access the analysis.