Recent Action Shows SEC Enforcement Still Focused on ESG

A recent Viewpoints article discussed the disbanding of the Climate and ESG Task Force (the “ESG Task Force”) in the Securities and Exchange Commission’s (the “SEC’s") Division of Enforcement, which had formed in early 2021 under then-Acting Chair Allison Lee and continued under Chair Gary Gensler.

That Viewpoints article encouraged clients to continue to consider their ESG-related risks and applicable disclosures for accuracy, ensure applicable compliance policies are adopted (as appropriate) and followed with relevant testing conducted, notwithstanding the disbanding of the ESG Task Force.  This was because, in part, that SEC staff and spokespersons have indicated that the disbanding of the ESG Task Force should not be viewed by the industry as a change in substantive regulatory approach.

The October 21, 2024 settlement between the SEC and WisdomTree Asset Management Inc. (“WisdomTree”) demonstrates the continuity in SEC ESG enforcement. In the action, the SEC charged WisdomTree with making certain misstatements and compliance failures regarding its management of three ETFs (the “ESG Funds”) registered under the Investment Company Act of 1940 (the “1940 Act”).  

In particular, the ESG Funds’ prospectuses stated that WisdomTree’s investment model would exclude the securities of companies with involvement in fossil fuels and tobacco “regardless of revenue measures,” and presentations to the ESG Funds’ board of trustees included representations regarding WisdomTree’s ESG investment approach vis-à-vis the ETF Funds’ screening out investment in fossil fuels and tobacco.  In part, because WisdomTree contracted with third-party data vendors with data sets that allegedly did not screen for ESG in a manner consistent with the ESG Funds’ prospectus statements and WisdomTree’s board presentation materials, each of the ESG Funds held securities of companies involved in both fossil fuel production and tobacco.

As a result, the SEC instituted proceedings against WisdomTree alleging violations of Sections 206(2) and 206(4) of the Investment Advisers Act of 1940 (the “Advisers Act”) and Rule 206(4)-8 thereunder and Section 34(b) of the 1940 Act for making material misstatements relating to the ESG Funds, as well as an alleged violation of Advisers Act Section 206(4) and Rule 206(4)-7 thereunder relating to an alleged failure to have policies and procedures reasonably designed to prevent violations of the Advisers Act and the rules thereunder.  WisdomTree agreed to pay a civil penalty of $4 million to settle the charges.

Key Takeaways for Funds and Advisers

Funds and advisers should take away the following from the WisdomTree settlement:

• Given the similarities in substance between the WisdomTree settlement and certain of the ESG settlements in prior years – see, for example, enforcement from the ESG Task Force alleging ESG-related misstatements and omissions here and here – the WisdomTree settlement shows that the ESG enforcement approach designed and employed by the ESG Task Force continues at the Division of Enforcement following the formal disbanding of the ESG Task Force, and the Staff of the Division of Enforcement and Division of Examinations will likely to be on the lookout for similar fact patterns and legal issues for potentially similar ESG enforcement actions in the future.
• Vendor selection is crucial by funds and advisers, and care should be taken to ensure that the vendor is capable of meeting any ESG-related representations made in materials presented to a fund’s board, investors, or other marketing materials.  This mirrors the SEC’s Division of Examinations including “oversight of service providers (both affiliated and third-party)” as part of its major exam focuses for registered funds in its recently released Fiscal Year 2025 Examination Priorities. 
• Categorical and arguably overbroad claims regarding ESG will continue to attract SEC attention – in the written settlement, the SEC added emphasis to the prospectus disclosure regarding screening fossil fuel and tobacco companies “regardless of revenue measures” and highlighted wording and headers from presentations to the ESG Funds’ board of trustees (e.g., “Screen Out Companies Involved in Certain Activities”).
• The action noted that WisdomTree did not adopt or implement any policies and procedures for “its ESG investment process” generally or its screening process more specifically.  We have seen increased SEC staff interest in registered fund complexes with ESG funds establishing ESG-specific policies (e.g., requests for such policies in examinations of funds and advisers).
• As prior actions have indicated, funds do not need to be large for the SEC to seek a seven-figure payment.  At the time of their “ESG” rebranding in 2020, the ESG Funds collectively only had $138 million in assets under management, and, by 2024, all of the ESG Funds had liquidated.  That said, there does seem to be some correlation between the amount of AUM involved and size of penalty incurred across the settlement orders to date.
• The SEC noted for each of the ESG Funds that the Fund’s name, investment objective, and principal investment strategies were changed in 2020.  We have seen increased scrutiny by Examinations and Enforcement staff of rebranded funds, and we anticipate that will continue not just in the ESG context but for other “hot topics” that lead to fund rebrandings going forward. 

If you would like to discuss this settlement further, please contact any of the co-authors of this Viewpoints piece or your usual Ropes & Gray attorney contacts.

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