Highlights

• Most EU funds to fall under non-sustainability (Article 6) following SFDR overhaul.
• Transition funds and sustainable funds remain a small part of the EU fund market.
• New SFDR rules tighten governance to reduce greenwashing and improve comparability.

The European Union is introducing a significant revision to the Sustainable Finance Disclosure Regulation (SFDR), which will reshape the classification of investment funds.

Analysts from Morningstar Sustainalytics indicate that under the proposed framework, most funds in the EU market will fall into the non-sustainability category, a notable increase from current levels.

Read More: SFDR: Sustainable Finance Disclosure Regulation (EU) Explained

This update is part of the EU’s action to reduce greenwashing and make sustainability classifications more precise, thereby affecting the future of sustainable investment in the region.

EU fund market reclassification under new SFDR rules

The SFDR revision replaces the existing Article 8 and Article 9 labels with three new categories: transition funds (Article 7), ESG basics (Article 8), and sustainable funds (Article 9).

Transition funds will cater to companies undergoing shifts towards sustainability but will represent only a small segment, with assets under management (AUM) likely under 3%, due to strict requirements on fossil-fuel restrictions and engagement processes.

The sustainable category may grow slightly, but is projected to account for no more than 7% of the EU fund market, which makes the majority of sustainability-labelled funds far smaller than before.

Also Read: Understanding SFDR 2.0: New EU Product Categorisation Rules

ESG basics and the rise of non-sustainability funds

The ESG basics segment is projected to decline from 56% of AUM to a range of 32–41%.

Meanwhile, Article 6 funds, which are not labelled as sustainability-related, are expected to expand dramatically, representing between 52% and 70% of the EU market.

This move shows a broader recalibration of the EU fund market, where most investment vehicles will now operate outside formal sustainability classifications, even as stricter governance and transparency measures take hold.

Implications for sustainable investment and fund governance

The SFDR overhaul removes the previous definition of sustainable investment and replaces it with category-level criteria to improve comparability and tackle greenwashing. This approach narrows the sustainability-labelled universe, requiring funds to meet precise thresholds to qualify under the new system.

Market participants may face a period of adjustment as technical details, such as thresholds, Paris-alignment treatment, and category naming, are finalised. The result is a more tightly regulated sustainable fund ecosystem, with smaller but clearer categories for investors seeking genuine sustainability credentials.

See Also: SFDR 2.0 Draft Suggests Overhaul of EU ESG Disclosure Framework

A new structure for EU investment funds

In summary, the SFDR revision will substantially alter the EU fund market and shrink the universe of sustainability-labelled funds, as well as leave non-sustainability funds as the dominant segment.

Transition funds, ESG basics, and sustainable funds will represent smaller portions of AUM, whereas stricter rules aim to reduce misleading sustainability claims. Investors and fund managers will need to adapt to the narrower, more regulated framework, redefining the role of sustainable investment in Europe.

###

Are you looking to connect with sustainable finance experts to grow your business?

Please take a look at our ESG solutions page, which offers a broad range of sustainability services.

Follow KnowESG’s Sustainable Finance & Technology News for regular updates and insights.

Source: IPE