The association noted that regulators could provide market participants with much-needed additional trust in ESG ratings and data.

By Paul A. Davies, Nicola Higgs, Michael D. Green, James Bee, and Anne Mainwaring

On 23 November 2021, the International Organization of Securities Commissions (IOSCO) published a report and set of recommendations (Recommendations) in relation to the providers of environmental, social, and governance (ESG) ratings and data products. The Recommendations come as the market for ESG ratings and data products has grown considerably over recent years, largely as a result of the increasing demands of investors to obtain reliable and comparable ESG-related data on companies. The Recommendations follow on from a consultation that IOSCO issued in July 2021 (for more information, see this Latham blog post), and include a summary of the feedback that was received in relation to the consultation as an Annex.

IOSCO recognised that the area of ESG ratings and data product providers is not one that securities regulators would ordinarily be concerned with. However, given the rapidly expanding role these providers have within global securities markets, IOSCO noted that the involvement of regulators could provide market participants with much-needed additional trust in ESG ratings and data.

The Recommendations include a set of general recommendations applicable to securities regulators, ESG ratings and data product providers, and users of ESG ratings and data products. These are accompanied by more specific guidance that can be used to assist market participants when navigating this growing market. Some of the key Recommendations include the following:

• Regulators could consider focusing more attention on the use of ESG ratings and data products and ESG ratings and data product providers that may be subject to their jurisdiction.
• ESG ratings and data product providers could consider adopting and implementing written procedures designed to help ensure the issuance of high-quality ESG ratings and data products based on publicly disclosed data sources where possible and other information sources where necessary, using transparent and defined methods.
• ESG ratings and data product providers could consider identifying, avoiding, or appropriately managing, mitigating, and disclosing potential conflicts of interest that may compromise the independence and objectivity of the ESG rating and ESG data product provider’s operations.
• ESG ratings and data product providers could consider making adequate levels of public disclosure and transparency a priority for their ESG ratings and data products, including their methodologies and processes to enable the users of a product to understand what the product is and how it is produced.
• Market participants could consider conducting due diligence on, or gathering and reviewing information on, the ESG ratings and data products that they use in their internal processes.
• Entities subject to assessment by ESG ratings and data product providers could consider streamlining their disclosure processes for sustainability-related information to the extent possible, bearing in mind jurisdictions’ applicable regulatory and other legal requirements.

IOSCO noted that how the Recommendations may be taken on board and implemented in different jurisdictions will depend on a range of factors, including the priorities of local stakeholders, local market circumstances, and jurisdictions’ legal and regulatory frameworks. In particular, IOSCO urges regulators to look at their existing regulatory frameworks to establish whether they are adequately equipped to deal with issues in relation to ESG ratings and data product providers, or whether additional clarifying or substantive regimes are required. For their part, IOSCO urges regulators of ESG ratings and data product providers to update their relevant internal policies to take the Recommendations into account, in order to establish themselves as good operators.

IOSCO’s involvement in this area is a clear sign that the growth of the market for ESG ratings and data products has led to a position whereby providers of these products are impacting the capital markets. In the UK, the FCA has contributed to IOSCO’s work and in parallel called for feedback in CP21/18 (“enhancing climate-related disclosures by standard listed companies and seeking views on ESG topics in capital markets”). In particular, the FCA is seeking to examine the issues that are arising from the increasingly prominent role that ESG ratings and data product providers are playing in financial markets. The FCA is expected to report on whether it considers there is a case for regulatory intervention in this regard by mid-2022.

In addition, the recent Greening Finance paper published by the UK government (for more information, see this Latham blog post) highlights the importance of ESG ratings and data products providers delivering ESG data and ratings transparently, and demonstrating strong governance and management of conflicts of interest. The UK government is considering bringing these providers into the scope of FCA authorisation and regulation, and is expected to set out further detail next year.

The demand for ESG data is projected to continue to grow over the coming years. Whether this projection will lead regulators to consider additional measures in this area is a key watch point.

Latham & Watkins will continue to monitor developments in this area.