What Is It Like to Be an Article 9 Fund? Operationalising Impact and Compliance
When it comes to truly aligning capital with impact, few categories carry the weight of an Sustainable Finance Disclosure Regulation (SFDR) Article 9 fund. Often called “dark green” funds, these investments represent a bold commitment: every euro deployed must serve a measurable sustainability objective.
But what does that look like in practice? Operating an Article 9 fund isn’t just about ticking regulatory boxes — it’s about embedding sustainability into every decision, from pre-investment due diligence to ongoing impact reporting. In this blog, we will explore what it means to operate such a fund on a day-to-day basis, shedding light on how these funds can translate sustainability principles into actionable strategies.
Article 8 vs Article 9
To understand the demands of an Article 9 fund, it’s important to distinguish it from an Article 8 fund. Both classifications aim to integrate ESG (Environmental, Social, and Governance) considerations, but the depth of their commitment to sustainability is significantly different.
While Article 8 funds’ investments must promote at least some ESG characteristics, they are not required to ensure that all investments meet sustainability criteria. Article 9 funds, on the other hand, must invest exclusively in assets classified as a sustainable investment, barring exceptions for liquidity. This distinction underscores the higher level of accountability that Article 9 funds uphold when it come to proving their commitment to sustainability.
The requirement of Principal Adverse Impacts (PAIs) are another key differentiator. Article 9 funds must actively mitigate negative impacts such as carbon emissions or biodiversity loss, ensuring that their investments contribute positively without causing harm. Article 8 funds consider PAIs but are not bound by the same stringent standards. The flexibility of Article 8 funds allows for investments that may transition to sustainability over time, whereas Article 9 funds must demonstrate sustainability from the outset.
Article 9 Requirements: Meeting the Criteria
Article 9 funds are held to three core sustainable investment criteria that shape their investment decisions and portfolio management. These criteria ensure that the fund’s activities align with its sustainability objectives and provide transparency to investors. The three criteria are:
- Sustainable Investment requirement: all investments must directly contribute to a defined sustainability goal, such as reducing carbon emissions or advancing social equity. This sets the foundation for Article 9 funds to maintain their “dark green” classification.
- Do No Significant Harm (DNSH) principle: ensuring that while investments may positively impact one area, they do not cause harm in others. For example, a renewable energy project must also uphold biodiversity standards and social safeguards and human rights.
- Good governance practices: establishing good governance practices for both the Fund and its investee companies, such as an Impact Committee (to find out more about them, check out our blog). In turn, this ensures that they maintain ethical business practices, sound management structures, and strong employee relations, which are essential for sustaining long-term impact.
Operations in an Article 9 Fund
Article 9 funds need to pay meticulous attention to both pre-investment and post-investment processes. These operational stages ensure that the fund consistently meets its sustainability objectives while adhering to SFDR Article 9 regulations. For a detailed view on how to integrate sustainability into your investment, check out our blog.
Pre-Investment Processes
Before making any investment, Article 9 funds must conduct thorough screening processes to determine whether potential investments meet the necessary sustainability standards. This “go or no-go” decision-making process is critical, as it sets the tone for the fund’s overall impact. Investments that fail to meet the DNSH and sustainability criteria are excluded, ensuring the portfolio remains aligned with the fund’s goals.
Once an investment is approved, an action plan is developed to maximize its impact. This plan outlines measurable objectives and key performance indicators (KPIs) based on the fund’s Theory of Change. These KPIs are essential for the fund’s annual reporting requirements, ensuring that impact is not only achieved but also tracked and communicated transparently.
Post-Investment Portfolio Management
After an investment is made, it is essential to ensure continuous monitoring of a fund’s investments. Article 9 funds must regularly assess sustainability risks and manage incidents that could jeopardise compliance with their terms. Unlike Article 8 funds, which have more flexibility, Article 9 funds must maintain a constant watch to ensure all investments continue to meet their sustainability criteria.
Annual impact reporting is another crucial post-investment task. These reports provide stakeholders with detailed insights into the fund’s progress toward its sustainability goals and highlight how each investment aligns with its original objectives. Additionally, some funds implement impact-linked compensation models, such as impact-linked carry, to align financial incentives with sustainability outcomes. This approach, while optional, strengthens investor trust and showcases the fund’s commitment to meaningful impact.
Integrating Sustainability Risks into Investment Strategy
With the constant monitoring needed from Article 9 funds, a key aspect of their operations is the integration of sustainability risks into the fund’s overall investment strategy. These risks must be assessed with the same rigor as financial risks, ensuring that they are incorporated into every stage of the investment process.
Adopting an “accountant’s perspective” on sustainability risks means scrutinising these risks in detail and ensuring they are factored into decision-making processes. For Article 9 funds, this involves evaluating how various environmental, social, and governance factors could impact the value of investments and ensuring that the DNSH criteria are consistently met. Article 8 funds, by contrast, may incorporate ESG risks more flexibly, as they are not required to meet the same stringent DNSH standards across their entire portfolio.
Policy development and risk reporting are integral to this process. Article 9 funds must have clear policies in place that detail how they integrate sustainability risks into investment decisions. Ongoing risk monitoring and incident management are crucial, as any significant incidents could necessitate immediate action to maintain compliance. Regular reporting ensures transparency and provides investors with confidence in the fund’s commitment to sustainability.
Conclusion
Running an Article 9 fund call for a higher standard in operational strategies than Article 8 funds. By operationalising SFDR Article 9, investment funds set a benchmark for aligning financial returns with sustainability. In doing so, they demonstrate that achieving measurable impact and maintaining profitability are not mutually exclusive but can go hand in hand, paving the way for a more sustainable financial future.
Nevertheless, while Article 9 funds represent the gold standard in sustainable investing by guaranteeing that their investments cause no significant harm, Article 8 funds also play a vital role in the broader sustainability landscape. Many Article 8 funds employ transition strategies that drive meaningful impact over time, even if they do not meet the stringent requirements of Article 9.
The primary distinction between the two lies in harm mitigation. Article 9 funds ensure their investments do no harm, while Article 8 funds offer more flexibility, allowing for a broader range of ESG integration. Both fund types serve important purposes, catering to different investor needs and advancing sustainable finance in complementary ways.
Any Questions?
At Sustainable Capital Group, we specialize in sustainable finance. If you’re curious about how aligning with SFDR Article 9 requirements, integrating sustainability risks, and meeting rigorous ESG standards can enhance impact and compliance for your investment fund, fill out our contact form and we’ll be in touch with you shortly!
