Morningstar Sustainalytics’ Benjamin Schofield and Alicia White describe the potential impact of SFDR 2.0 proposals on transition funds.
The proposed overhaul of the EU’s Sustainable Finance Disclosure Regulation (SFDR) marks a shift in the transparency framework’s intent. Headline changes, expected to be agreed by year-end, include three new categories: Transition (Article 7), ESG Basics (Article 8), and Sustainable (Article 9). Benjamin Schofield, Morningstar Sustainalytics’ director of regulatory solutions, and Alicia White, director of climate and nature solutions, tell us what these amendments will mean for managers investing in the climate transition.
Responsible Investor: What’s the significance of the proposed transition category in SFDR 2.0?
Benjamin Schofield: SFDR 2.0 switches the regulation’s focus from a disclosure framework to a classification system. The impact is potentially seismic.
The revisions recognize that managers were using the existing regulation as a de facto labeling system, notably for Article 8 and 9 funds, but without any standardized criteria to describe a sustainable investment. Used in this unintended way, it left managers to develop their own approach to sustainable investments.
The revisions bring clarity, simplify the framework, and aim to reduce greenwashing and the reporting burden. The market has broadly welcomed the proposed changes.
The creation of the three new categories, each with their own exclusion data, eligibility criteria and thresholds, is expected to set minimum standards among funds investing in those spaces, including climate transition.
Under the existing regulation, it isn’t clear where transition funds sit, and managers run the risk of breaching the "Do no significant harm" principle embedded in the regulation. This ambiguity has restricted product development. Carving out a transition category eliminates that uncertainty.
RI: How is SFDR 2.0 expected to impact existing transition funds?
BS: Our assessment suggests many funds currently investing in the climate transition would breach the new exclusions, and/or would find it challenging to meet the new requirement for 70 percent of fund assets to contribute to measurable transition goals. For many portfolio managers that wish to maintain a sustainability-orientated approach, they will have to undergo significant asset reallocation to make sure they are aligned. For some managers, this is a concern. The new requirements limit the scope within which funds can operate.
SFDR 2.0 needs to balance the creation of a meaningful transition category that supports the growth of a transition-focused investor universe, with not being too restrictive. It’s a challenge because most companies with a transition trajectory or financing decarbonization are still exposed to fossil fuels. This means we expect Article 7 funds under the new proposals would make up a relatively small sleeve within sustainable funds.
RI: An alternative route for inclusion in the transition category is to align at least 15 percent of a fund’s investments with EU Taxonomy. What does this mean for managers?
BS: The goal is to create interoperability between different EU sustainability frameworks. A 15 percent revenue or capex alignment with the EU Taxonomy is a markedly reduced requirement compared to 70 percent of assets tracked toward a specific transition goal. It’s a shortcut. Going beyond commitments to focus on action at the company level is a credible alternative for managers.
RI: The transition category requires that funds meet increased data requirements, KPIs and exclusion criteria. How can funds prepare?
BS: This goes to the heart of some of the questions investors have been asking for a while. Many managers have already set transition objectives and are thinking about how to assess whether a company in their portfolio is on a credible path to decarbonization, including looking at factors like targets, management policies and board remuneration linked to meeting objectives.
Now, investors are considering which specific data points they need to support their transition plan and are looking at methodologies such as the Science Based Targets Initiative (SBTi) and guidelines like the Net Zero Investment Framework (NZIF) to frame their strategy and systemize their transition assessment.
RI: What are the challenges in accessing relevant data?
Alicia White: Data availability is a challenge. Companies are beginning to disclose relevant information, and to meet the challenge of collecting it, investors are using third-party data providers. The next step is identifying what data is material to businesses within the portfolio, and that varies across sectors and subsectors. From an emissions perspective, the transition plan and the underlying data required to track progress is clearly different for a utility or a battery manufacturer or an IT business.
RI: How can SBTi and NZIF support managers investing in the climate transition?
AW: Both are widely adopted among managers investing in these assets. They work well when used together and allow investors to retain some flexibility as they align their goals.
Evaluating whether a company has set SBTi targets provides an effective investment screen. A focus on target setting is critical, but not sufficient on its own. Using SBTi to validate targets and as an input into the NZIF framework is a robust way to systematically assess transition risk and alignment.
NZIF takes a broader approach, encompassing strategies and planning. It incorporates the lifecycle of a company’s transition plans, and looks at business ambition, targets, what it’s disclosing, whether it has a decarbonization plan and if that’s credible, whether it’s allocating capital to support that plan, what its real-world emissions look like, and if it’s actively engaged in implementing transition policies and plans.
A company aligning with NZIF’s seven criteria is meeting a robust set of transition objectives. Used together, SBTi and NZIF provide a valuable combination for managers seeking the new Article 7 classification.
RI: How can investors use these approaches to ensure meaningful impact?
AW: Most companies are not aligned with a 1.5-degree future and significant work needs to be done to get them to that point. Given the forward-looking nature of transition plans, it’s difficult to assess upfront whether they are credible and then the degree to which they are being implemented.
Tracking progress over time acknowledges it will take a while for management decisions to be reflected in reduced carbon emissions. Over time, you’d expect to see companies implementing a decarbonization plan that aligns with capital expenditure, for example. If that’s not happening, that can be a red flag for a company’s transition credibility.
Managers tracking portfolio company progress towards stated transition objectives are using NZIF to set some date-specific targets for companies in their portfolios, while assigning further companies to ongoing engagement programs.
SFDR 2.0 may have an indirect role to play in encouraging real-world engagement. By creating a dedicated transition category and increasing clarity on portfolio companies’ progress towards decarbonization, SFDR 2.0 could help to channel capital allocation toward portfolios investing in companies with a transition plan. The demand is there from investors to shift capital in that direction.
This article was originally published on Responsible Investor on June 15, 2026.
