ESMA ESG Strategies Report 2026: Greenwashing Risks and Compliance Guide for Fund Managers

ESMA ESG Strategies Report: Scope and Significance

The European Securities and Markets Authority (ESMA) published its second thematic note on sustainability-related claims in January 2026, focusing specifically on ESG strategies — the most widely used approaches to sustainable investing. This ESMA ESG strategies report represents a significant regulatory signal to fund managers, benchmark administrators, issuers, and investment service providers across the European Union about the standards expected for sustainability communications.

The report’s timing is deliberate. As ESMA observes: “Sustainability information remains increasingly important to the choices of investors.” Yet the complexity of sustainability data creates persistent risks that “market participants making sustainability claims may risk that these claims are misinterpreted and that investors are misled, regardless of whether or not this is the market participant’s intention.” This framing is significant — ESMA acknowledges that greenwashing can be unintentional, expanding the scope of responsibility beyond deliberately deceptive actors to include well-meaning firms with poor communication practices.

The note covers non-regulatory communications — marketing materials, voluntary reporting, website content, and oral presentations — rather than formal disclosure documents like prospectuses or Key Information Documents. This focus on the broader communications ecosystem addresses a gap where sustainable finance regulation has historically been less prescriptive, giving firms considerable latitude in how they describe their ESG approaches.

Importantly, while this ESMA ESG strategies report is educational and non-binding — “The principles do not create new disclosure requirements” — it explicitly reminds market participants of their existing responsibilities under SFDR, MiFID, and other regulatory frameworks. The practical effect is a clarification of standards that regulators may use to evaluate compliance, making this note consequential despite its non-binding status.

ESG Integration vs ESG Exclusions: Understanding the Key Differences

The ESMA ESG strategies report centers on two specific approaches: ESG integration and ESG exclusions. These are identified as “widely considered as less ambitious” among ESG strategies, yet they are by far the most commonly referenced by fund managers and investment platforms. Understanding their distinct characteristics is essential for both compliance and meaningful investor communication.

ESG integration is defined as a strategy aimed at improving risk-adjusted returns by factoring in material ESG risks and opportunities. The key word is “material” — ESG integration focuses on factors that could reasonably impact financial performance. The strategy may or may not trigger specific portfolio decisions; it can be binding (requiring action when ESG signals are identified) or non-binding (informing but not determining investment choices). Critically, ESG integration does not automatically exclude any security from a portfolio. Instead, it scores securities on ESG factors, potentially adjusting their relative attractiveness.

ESG exclusions operate on a fundamentally different logic. Rather than scoring and weighting, exclusions focus on prohibited holdings — applying consistent filters to rule out securities, issuers, or sectors based on defined criteria. ESMA identifies three screening techniques within the exclusion family: exclusions proper (using both desirable and undesirable ESG criteria), negative screening (using only undesirable criteria), and norms-based screening (filtering against recognized ESG standards such as UN Global Compact principles).

The critical difference, as ESMA articulates: “One of the key differences between the two strategies is that ESG exclusions tends to focus on holdings that are prohibited, while ESG integration does not mean a security/asset/sector will be excluded from the portfolio automatically, but that the attractiveness of holding certain securities, assets, sectors will be ascertained by scoring them on ESG factors.” This distinction matters enormously for investor expectations — a fund using ESG integration may hold securities that score poorly on ESG dimensions if other investment merits are deemed sufficient.

Greenwashing Risks in ESMA’s ESG Fund Marketing Analysis

ESMA’s analysis reveals systematic greenwashing patterns across the investment industry. Drawing on the eight core characteristics of greenwashing identified in the European Supervisory Authorities’ progress report, the ESMA ESG strategies report documents how misleading claims manifest through cherry-picking, exaggeration, omission, vagueness, inconsistency, lack of meaningful comparisons or thresholds, and misleading imagery or sounds.

For ESG integration specifically, ESMA identifies several high-frequency greenwashing risks. The most pervasive is the use of “ESG integrated” as a vague claim without explaining what it actually means for portfolio construction. Firms frequently use ESG integration as an umbrella term encompassing unrelated strategies — such as exclusion screens or thematic tilts — that should be described independently. Entity-level claims like “X% of AUM are ESG integrated” are flagged as particularly problematic when they lack breakdown by strategy, asset class, or ambition level.

For ESG exclusions, ESMA documents egregious cases of misleading specificity. The report describes a scenario where a fund claims “zero exposure to fossil fuel developers” while actually holding 4% of a region’s second-largest oil developer — permitted because the exclusion methodology allowed holdings below a 5% weight threshold. In another case, exclusion thresholds were found to be 40% higher than Paris-Aligned Benchmark (PAB) and Climate Transition Benchmark (CTB) standards, rendering the exclusion claims materially misleading.

Data quality emerges as a cross-cutting concern. ESMA flags the use of 12-month-old holdings data for analysis, six-month lags between data collection and classification decisions, and the practice of classifying products first and then conducting analysis afterward (ex-post assessment). These procedural weaknesses can turn otherwise well-intentioned ESG claims into misleading statements, even without deliberate deception.

Portfolio Overlap: The 80-90% Problem in ESG Funds

One of the most striking findings in the ESMA ESG strategies report is the documentation of extreme portfolio overlap between ESG and non-ESG fund versions. ESMA observed that “in some cases, the two portfolios may share 80%-90% of holdings and have a very similar risk/return profile.” This finding strikes at the heart of investor expectations — when someone chooses an ESG fund, they typically expect meaningfully different portfolio composition, not a near-replica with an ESG label.

The tracking error metric provides further evidence. ESMA notes that “in some cases, the implementation of the ESG strategy does not lead to a substantially higher tracking error, indicative of a low impact on portfolio composition.” When the difference between an ESG fund and its non-ESG counterpart is a mere 1-2% increase in tracking error, the practical sustainability impact of the ESG designation becomes questionable.

ESMA’s poor-practice examples illustrate how this overlap becomes misleading. In one documented case, a fund manager claimed their ESG fund was “substantially different from the flagship non-ESG fund” despite 90% portfolio overlap. This inconsistency between claims and reality constitutes precisely the type of misleading communication that ESMA’s principles aim to prevent. The disconnect may be unintentional — arising from the inherent limitations of ESG integration as a strategy — but the communication failure is nonetheless real.

For investors, this finding underscores the importance of looking beyond marketing labels. A fund marketed as “ESG integrated” may genuinely incorporate ESG factors into its investment process while producing a portfolio that is almost indistinguishable from a conventional alternative. Whether this represents a failure of the strategy or simply a consequence of how ESG integration works in practice, the communication obligation remains: investors must be clearly informed about the expected impact on portfolio composition.

ESG Exclusion Failures and Misleading Zero-Exposure Claims

The ESMA ESG strategies report is particularly illuminating on how ESG exclusion methodologies can fail in practice. The case studies reveal how technically defensible exclusion criteria can produce outcomes that directly contradict the marketing claims built upon them.

The fossil fuel example is instructive. An exchange-traded product within a Euro Medium Term Notes (EMTN) program was marketed with the claim that “thanks to the benchmark’s advanced and above-average ESG exclusion methodology, the EMTN offers zero exposure to fossil fuel developers.” In reality, the underlying benchmark held 4% of the second-largest oil developer in its region. The exclusion methodology permitted this because it only excluded fossil fuel developers whose portfolio weight exceeded 5%. The gap between “zero exposure” marketing and the 4% actual holding exemplifies how threshold design can undermine exclusion credibility.

Threshold ambition is a recurring theme. ESMA found cases where exclusion thresholds were 40% higher than those required by EU Paris-Aligned Benchmarks and Climate Transition Benchmarks. When a fund’s exclusion criteria are significantly less stringent than regulatory benchmarks designed for similar purposes, claims of “above-average” methodology become difficult to justify.

The ESMA report also highlights methodological weaknesses that compound these issues. Using exclusion criteria without a materiality assessment — for example, applying a firm-wide tobacco exclusion to a clean energy benchmark where tobacco exposure is irrelevant — adds false complexity without meaningful sustainability impact. Overly complex methodology documents that obscure rather than illuminate the actual exclusion process serve neither transparency nor investor understanding.

Perhaps most concerning is the mixing of irrelevant information with exclusion analysis. ESMA flags a platform that included tree-planting commitments (“for every 100 EUR invested in a low-carbon product, we will plant a tree”) alongside its ESG exclusion methodology — a practice that confuses philanthropic activity with investment strategy and risks misleading investors about the actual sustainability characteristics of the financial product.

ESMA’s Four Principles for ESG Sustainability Claims

The ESMA ESG strategies report establishes four overarching principles that all sustainability-related claims should satisfy. These principles provide a practical framework for compliance teams, marketing departments, and investment professionals responsible for ESG communications.

Principle 1: Accurate. Sustainability claims must fairly represent the sustainability profile without exaggeration. Claims should be consistent across all communications and avoid the specific misleading forms identified by ESMA: cherry-picking, exaggeration, omission, vagueness, and inconsistency. ESG terminology and imagery must be consistent with the product’s actual sustainability characteristics. This principle directly addresses the portfolio overlap problem — a fund with 90% overlap with its non-ESG counterpart cannot accurately claim to be “substantially different.”

Principle 2: Accessible. Information must be easy to access and navigate, with appropriate levels of detail. Short marketing materials should use layering — providing headline claims with clear pathways to supporting detail. Further substantiation should be easy to find without requiring specialized knowledge to locate. This principle challenges the practice of burying critical ESG methodology details in complex, difficult-to-navigate documents.

Principle 3: Substantiated. Claims must be based on clear, credible reasoning, facts, and processes. Methodologies underlying comparisons, thresholds, and assumptions must be fair, proportionate, and meaningful. Limitations of data and metrics should be disclosed explicitly. Comparisons should be “like with like” — comparing funds against appropriate benchmarks rather than cherry-picked alternatives.

Principle 4: Up to Date. Material changes must be disclosed in a timely manner, with clear indication of analysis dates and the perimeter of data used. This principle targets the data staleness problem, where 12-month-old holdings data and six-month classification lags can render ESG claims obsolete before they reach investors.

Best Practices for ESG Integration Compliance

The ESMA ESG strategies report provides detailed do’s and don’ts for firms using ESG integration. On the positive side, ESMA recommends defining “ESG integration” clearly the first time it appears in any communication, using plain language with illustrative examples rather than jargon. Firms should clarify whether their ESG integration is binding or non-binding, whether ESG factors can trigger investment decisions or merely inform them, and what role ESG plays in portfolio construction — from security selection through to weighing and asset allocation.

Firms should specify the level at which ESG integration operates within their investment process. Does it apply at security selection, portfolio weighting, asset allocation, or all three? If the ambition level varies across asset classes — for example, deep integration in equities but limited application in fixed income — this must be disclosed. The distinction between single materiality (how ESG factors affect the investment) and double materiality (how the investment affects ESG outcomes) should be explicit.

ESMA’s don’ts are equally instructive. Firms must not use ESG integration as an umbrella term for other strategies — if a fund also applies exclusion screens or thematic tilts, these should be described as separate strategy components. Vague entity-level claims without breakdown should be avoided. Most critically, firms should not claim ESG integration if neither the product nor its benchmark strategy actually contains ESG-related elements that influence investment decisions. And firms should not emphasize a superior sustainability profile unless supported by demonstrable ambition in how ESG factors influence analysis and portfolio outcomes.

A good-practice example from the report illustrates transparency done well: “Our rationale for owning credits where we observe credit-material ESG challenges is twofold. We see the issuer moving in the right direction to reduce these risks and/or we feel that spreads have sufficiently compensated us for the ESG risks.” This statement honestly acknowledges that ESG integration does not always result in exclusion, while explaining the investment rationale behind holding ESG-challenged securities.

Best Practices for ESG Exclusion Methodology Design

For ESG exclusions, the ESMA ESG strategies report establishes a framework of practical best practices centered on transparency, ambition, and materiality. Firms should describe their exclusion process, criteria, and thresholds in plain language, clarifying whether thresholds are absolute (a fixed revenue percentage) or relative (compared to a sector average or benchmark). The distinction matters significantly for investor understanding.

Materiality assessment underlies credible exclusions. ESMA expects firms to disclose whether their exclusion criteria are based on a materiality assessment — and if so, whether it uses single or double materiality. Exclusions applied without materiality assessment risk being both irrelevant and misleading. A firm-wide tobacco exclusion applied to a clean energy fund adds compliance overhead without sustainability impact, and may give investors a false impression of the fund’s ESG ambition.

Critically, firms must be transparent about the actual impact of exclusions on the investable universe and portfolio composition. If exclusions eliminate only a negligible portion of the investment universe — particularly when compared to what a non-ESG version would hold — this should be clearly communicated. The gap between investor expectations (meaningful portfolio differentiation) and reality (minimal impact) is precisely where greenwashing accusations arise.

Data governance features prominently. Exclusion analysis should use current data with clearly disclosed analysis dates, be conducted before classification decisions (not ex-post), and be updated with sufficient frequency to capture meaningful changes. The ESMA report’s example of a platform using 12-month-old data with yearly analysis frequency demonstrates how procedural weaknesses can systematically undermine exclusion integrity.

Regulatory Impact on Fund Managers and Financial Advisors

While the ESMA ESG strategies report is formally non-binding, its practical implications for market participants are substantial. By articulating clear expectations for how ESG strategies should be communicated, ESMA establishes a benchmark against which supervisory authorities across the EU can evaluate compliance with existing obligations under SFDR, MiFID, and sector-specific regulations.

For fund managers, the implications are operational. Product marketing materials, website content, investor presentations, and periodic reporting all fall within the scope of communications that should comply with the four principles. ESG integration descriptions must move beyond vague claims to specific, substantiated explanations of how ESG factors influence investment processes and outcomes. Exclusion methodologies must be transparent, ambitious, and supported by current data.

For financial advisors and investment service providers, the note creates a due diligence expectation. Advisors who communicate ESG claims on behalf of fund managers share responsibility for ensuring those claims are not misleading. This extends the compliance chain beyond product manufacturers to distributors and intermediaries — a significant expansion of practical accountability.

Benchmark administrators face specific scrutiny. The EMTN case study demonstrates how benchmark exclusion methodology failures cascade to products built on those benchmarks. Administrators must ensure their ESG criteria produce outcomes consistent with the claims made about benchmarks, particularly regarding “zero exposure” or “above-average” exclusion methodologies.

The broader regulatory context includes SFDR, the Platform on Sustainable Finance’s guidance, EBA’s Final Report on greenwashing, and EIOPA’s opinions — all of which ESMA references. This regulatory ecosystem is converging on a consistent set of expectations that will likely tighten over time, making early compliance investment a strategic advantage for market participants.

ESG Compliance Roadmap and Next Steps for Market Participants

The ESMA ESG strategies report provides a clear framework for action. Market participants should begin with an audit of existing ESG communications against the four principles: Are claims accurate and consistent? Is supporting information accessible? Are methodologies substantiated with current data? Are material changes disclosed promptly?

For ESG integration users, the priority is definitional clarity. Every communication referencing ESG integration should specify: whether it is binding or non-binding, at what level it operates (security selection, weighting, allocation), how it impacts portfolio composition in measurable terms, and how ambition varies across asset classes. Entity-level claims should be supported by product-level breakdowns.

For exclusion users, the priority is threshold credibility. Exclusion criteria should be benchmarked against relevant regulatory standards (PAB, CTB) to ensure they represent meaningful screening. Data governance should ensure analysis uses holdings data no older than a defined threshold, with regular update cycles and pre-classification assessment processes. Claims about exposure levels should be verified against actual portfolio holdings.

All market participants should review their communications for the specific greenwashing forms identified by ESMA: cherry-picking favorable metrics, exaggerating sustainability impact, omitting inconvenient data points, using vague terminology, making inconsistent claims across channels, lacking meaningful comparisons, and employing misleading imagery. A systematic review against this checklist can identify and remediate risks before regulatory scrutiny reveals them.

This thematic note is the second in ESMA’s series. Future notes will likely address additional ESG strategies and communication practices, progressively building a comprehensive framework for sustainable finance transparency. Market participants who invest in compliance now will be better positioned for this evolving regulatory landscape.