An obscure rule covering environmental, social and governance investing in Europe has prompted hedge fund managers in the U.S. and U.K. to turn to their lawyers.
At issue is whether they need to comply with one of the most complicated corners of Europe's Sustainable Finance Disclosure Regulation. The subsection in question — the so-called Principal Adverse Impact rule — requires investment firms to state whether their actions might harm the environment.
U.S. and U.K. hedge funds had thought the rule applied only to products marketed in Europe. But it now seems they must state PAI risks for their entire firm, even those parts that don't target European clients.
"It's a very difficult issue," according to Lucian Firth, an attorney at the London-based law offices of Simmons & Simmons LLP who advises investment managers around the world. PAI "is one of the most difficult and onerous parts of SFDR."
Mr. Firth has spent much of the year helping international hedge funds and private equity firms comply with Europe's sustainable finance rulebook, which was enforced in March. He says confusion around the PAI clause — the biggest item on a list of compliance areas that has non-EU managers scratching their heads — has the potential to upend business models across the industry.