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Under the new Names Rule amendments, the use of ESG terminology in prospectuses (prospecti??) may be a challenge given the substantial variability and ambiguity in both plain English and industry use of ESG wording, labels, programs, strategies and themes. The preamble to the final release calls this “potential interpretive issues resulting from the perceived subjectivity of certain ESG-related terms.” The discussion of ESG terms begins on page 51 and includes these excerpts:

“We recognize that ‘ESG’ and similar terms are expansive, incorporating three broad categories of interest (environmental, social, and governance issues) for investors and asset managers, with differing levels of focus on each particular issue, and different perspectives on what attributes of an issuer or investment fit within this terminology. The breadth of ESG- related terms, as well as evolving investor expectations around terms like ‘sustainable’ or ‘socially responsible,’ compound the possibility of investor confusion and potential ‘greenwashing’ in fund names. Moreover, concerns regarding materially deceptive and misleading fund names are particularly important for funds that incorporate ESG factors in their investment decisions because, unlike many other non-ESG investment strategies, some ESG- related strategies are not well-established or commonly understood to the investing public. ESG terms in fund names communicate to investors that the fund will invest in issuers that have particular characteristics, like other terms that are covered by the expanded scope. Accordingly, there is not a principled basis to treat ESG terms differently than other terms that have the potential to be materially deceptive and misleading, as suggested by a few commenters that requested a purely disclosure-based framework for funds that use ESG terms in their name…

We recognize, as with fund names that do not include ESG terms, that the general context of a name with terminology that could connote an ESG focus is critical in how an investor interprets such a name. For instance, a name such as ‘XYZ Sustainable Growth Fund’ could reasonably be interpreted as a fund that employs a strategy that seeks growth that is sustainable over time (i.e., growth that will be maintained at a certain level), or a fund that incorporates ESG factors into its decision making.”

Concerns along these lines were also expressed by Commissioner Peirce in her statement on the final release.

I can foresee conflict/confusion should a climate-focused fund have oil and gas companies in its portfolio. It could be argued that either (a) investing in high carbon emitters is contradictory to a climate-themed fund, or (b) that such companies are a critical part of the long term transition economy. It all depends on the fund’s specific name and how the words are interpreted by investors – and the SEC.

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The Editor

Lawrence Heim has been practicing in the field of ESG management for almost 40 years. He began his career as a legal assistant in the Environmental Practice of Vinson & Elkins working for a partner who is nationally recognized and an adjunct professor of environmental law at the University of Texas Law School. He moved into technical environmental consulting with ENSR Consulting & Engineering at the height of environmental regulatory development, working across a range of disciplines. He was one… View Profile