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Ian Britton ATT NC CC

Benchmarks for climate-friendly investments

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Many popular investment funds use indexes as benchmarks to determine which companies to invest in and to assess the fund’s financial returns. Amendments to the EU benchmark law will introduce minimum EU standards for the companies that can be included in benchmarks that are labelled as (1) a Climate Transition Benchmark or (2) a Paris-aligned Benchmark. All other green and other benchmarks without these labels’ standards will be allowed to continue, but will have to report how they use climate or environmental and social (ESG) assessments. It remains to be seen how the new legal standards will reduce the existing enormous false climate claims (“greenwashing”) by investment funds and the indexes they use.


A revised EU law on benchmarks was provisionally agreed on 26 March 2019(opens in new window) to provide investors with two reliable benchmarks companies or other entities that are:

(1) in transition towards decarbonisation in a measurable, science-based and time-bound way, to be labelled a Climate Transition Benchmark, or

(2) aiming to achieve CO2 reduction and elimination as required by the Paris climate agreement, to be labelled a Paris-aligned Benchmark.

The law intervenes in the multi-trillion-dollar/euro market for investment funds in which benchmarks or indexes are very popular instruments. A benchmark in the form of an index is a list composed by an investment bank or other “benchmark or index administrator” which selects companies or other entities whose shares, bonds or other assets (portfolio, underlying assets) constitute the index for financial returns. An index is often composed of the shares of hundreds of different companies in order to spread the risks of low financial returns. Investment funds which use an index invest in all the company shares or other assets listed in the index, or track the value of the underlying assets (“trackers”). The overall majority of current index funds now invest in companies that do not reduce their carbon emissions.

How the EU law promotes two benchmarks for reducing carbon emissions

The new EU law defines which criteria have to be implemented by a benchmark or index that claims to invest in companies and activities that aim at (1) less carbon emissions, or (2) a reduction as required by the Paris agreement, as follows:

(1) The Climate Transition Benchmark (EU CTB):

The underlying assets of such a benchmark should be selected and assessed for being on a science-based decarbonisation trajectory by 31 December 2022 at the latest, and being annually reviewed to that extent.

Benchmark administrators of important existing benchmarks or indexes must endeavour to market one or more climate transition benchmarks by 1 January 2022 at the latest.

(2) The Paris-aligned Benchmark (EU PAB):

The underlying assets of such a benchmark must be selected so that the resulting carbon emission reductions are aligned, in a science-based way, with the long-term global warming target set by the Paris Climate Agreement.

(1) (2) Both benchmarks must fulfil specific minimum criteria. The companies that issue the underlying assets (e.g. shares) included in the benchmark should fulfil the following requirements:

Other specific requirements for each to the two benchmarks are defined in the annex to the law and in the future delegated acts (see below).

Transparency obligations

The statements accompanying the benchmark need to disclose the methodology for calculating the carbon emissions and how the underlying assets were selected and assessed with regard to their carbon emissions.

Details to define the benchmarks

The criteria for the minimum standards of assessment and selection of the underlying assets, and the transparency obligations of the two benchmarks, will be defined through ‘delegated acts’ to be decided by the European Commission (EC). EC delegated acts will also determine what is the decarbonisation trajectory for Climate Transition Benchmarks. These delegated acts are to be adopted by 1 January 2021 and reviewed every three years (first starting on 31 December 2022). Before that date, and by 30 April 2020, the criteria explained in the annex of the benchmark law need to be applied by indexes that follow an EU CTB or an EU PAB.

The EC is being advised by the technical expert group (TEG) on sustainable finance(opens in new window) as to what specific criteria should apply to ensure qualification for each of the two benchmarks, as explained in the TEG’s interim report on implementing the benchmark legislation(opens in new window) and its summary(opens in new window) (to be finalized at the end of September 2019).  For instance, the TEG advises that a portion of the sectors included in the benchmarks should include those with a vested interest in making important carbon emission reductions e.g. energy companies.

Before the EC’s delegated acts are finalised, the EC has to engage in a consultation process with the member states, the European Parliament and the public.

Legislative process

The law still needs to be officially adopted to become operational (check the EU legislative monitoring file(opens in new window) ). Since the law will be an EU Regulation, it will come into force immediately in all EU member states. The law is an amendment to the existing Benchmark law (Regulation (EU) 2016/1011)(opens in new window) .

By 31 December 2022, the EC shall report whether “ESG benchmarks” are feasible, and if so, provide a legislative proposal.

Critical comments

Green or sustainable investment funds using so-called green or climate indexes are booming, but still only represent around 1% of all investments. However, not all of these investment funds will be obliged to apply the legal benchmark standards and criteria. Only those benchmarks or indexes that are voluntarily labelled as a Climate Transition Benchmark (EU CTB) or Paris-aligned Benchmark (EU PAB) will need to do so. The reviewed benchmark law mainly provides for minimum standards (methodology, criteria) for such EU benchmarks in order to help diminish the enormously high level of greenwashing. It also encourages major benchmark providers to adopt at least one EU CTB and clarify whether mainstream benchmarks incorporate climate considerations.

The law provides some incentive to avoid investing in companies and entities that do not reduce their emissions by obliging all benchmarks to disclose whether or not they use ESG assessments and alignment with the Paris climate agreements. However, it will be up to the investor to choose whether or not to invest more in funds with climate-friendly benchmarks.

It remains to be seen whether the benchmark law will reduce the high level of greenwashing and ensure that false claims by existing green indexes will be replaced by EU CTB or EU PAB standards, and whether the new investments will help decrease carbon emissions. A study by the Dutch Retail Investors Association(opens in new window) found that retail funds with indices that claim to be climate-friendly include shares of oil and gas companies, car companies and tech companies that do not ensure carbon emission reductions. Moreover, the reviewed green index funds were less profitable than investment funds with “dirty” indexes.

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