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1 1 (October 6, 2022)

handle is hein.crs/govejad0001 and id is 1 raw text is: Con gre SianaI Research Servk informing Ih legisIatve dIebate sne 1914 S October 6, 2022 Environmental, Social, and Governance Funds: SEC Proposed Names Rule Reform On May 25, 2022, the Securities and Exchange Commission (SEC) commissioners voted 3-1 to officially propose amendments to its Names Rule governing certain investment fund names. The proposed rulemaking is in response to concerns that the relationship between environmental, social, and governance (ESG) funds names and their actual investment strategies was potentially confusing or misleading. This In Focus covers background on this policy issue, features of the proposed rule, and arguments made for and against the changes. Background ESG funds are portfolios of equities and/or bonds, typically in the form of mutual funds, for which ESG factors have been considered in the investment process. Investor interest in such funds has grown considerably over the years. For example, according to Morningstar, which tracks fund data, domestic ESG funds had $357 billion in assets at the end of 2021, greater than four times the total amount held three years earlier. For years, various outside observers and officials at the SEC, which regulates funds primarily through the Investment Company Act of 1940 and the Investment Advisers Act of 1940 (P.L 76-768; both are found in different titles in the same act), have raised concerns over their perceptions of confusing relationships between some fund names, especially environmentally oriented ones, and the fund's investments strategies. Fund naming is largely governed by the Names Rule (Rule 35d-1 pursuant to the Investment Company Act) adopted by the SEC in 2001, which requires that at least 80% of the assets of an SEC-registered investment company or a business development company (BDC, a type of fund that invests in small and medium-sized companies and distressed firms) with a name that suggests that it focuses on particular types of investment (e.g., industries, nations, regions) must be invested in that type of asset. Reportedly, the SEC staff have often taken an approach in which terms such as ESG or sustainable in a fund name trigger the rule's requirement. In March 2020, the SEC staff issued a request for comment on whether the existing requirements are effective, including for funds that contain terms such as ESG or sustainable, and help ensure that investors are not misled by fund names. It noted that a major concern is whether an ESG label refers to a strategy, where the Names Rule is not applicable, or a specific type of investment, where the Names Rule does apply. It also described a competitive market environment that may incentivize fund asset managers to use fund names to differentiate new fund offerings but may be inconsistent with the Names Rule. Various observers think that this scenario has encouraged fund greenwashing, when a fund overstates the ESG attributes of its investments. May 2022 Proposed Rule As mentioned above, the agency proposed amendments to the Names Rule in May 2022 meant to modernize the prevailing fund naming convention. (On the same day, the SEC also voted to propose a complementary rulemaking that would require enhanced fund disclosures for ESG- oriented funds, which, it is hoped, will enable the ESG funds to be more transparent, potentially reducing the incidence of greenwashing.) If adopted as proposed, the reform would require SEC-registered funds to reassess their fund names, investment policies mandated under the Names Rule, and related fund prospectus disclosures. In proposing the reform, the agency argued, Under certain circumstances, the current structure of the rule also may permit funds to depart from the investment focus suggested by their name over time, which can deprive investors of the protections of the rule.... The rule also is not currently well-suited to address ways in which the fund industry has evolved since its adoption. Major parts of the proposal include: Modernization of the 80% investment policy requirement. At present, the Names Rule directs funds with certain names to invest 80% of their assets in the investments suggested by their names. The proposal would expand this requirement to any fund name that suggests a focuses on investments that have, or investments whose issuers have, particular characteristics. An example would be fund names with terms such as growth or value and those indicating that the fund's investment decisions incorporate one or more ESG factors. The proposal would also require a fund that holds derivatives to use their notional values, not their market values, in determining fund compliance with the Name Rule. Temporary departures from a fund's 80 % investment policy. The proposal denotes the unique circumstances under which a fund may depart from the 80% investment policy, including sudden changes in market value of its underlying investments. Specific time frames for when such funds must return to the 80% investment policy regime would also be delineated. Unlisted closed-end funds and BDCs. The proposal would prohibit a registered closed-end fund (a type of mutual fund whose shares can be purchased and sold on a stock exchange) or a BDC whose shares are not listed on a

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