The second session, Can Investors Behave Long Term?, of the Yale Governance Forum 2011 was held “on the record.” In some respects, that makes it even more difficult to report. I’m not a quick note taker, so would welcome comments from any who attended the forum, especially panelists, concerning what transpired.
As I recall, Keith Ambachtsheer, author of Pension Revolution: A Solution to the Pensions Crisis, started us out after a brief introduction from Marco Becht, who served as the moderator. Ambachtsheer noted that all shareonwers are not the same. The wealthy, insurance industry, pensions, and others should be contrast with “guns for hire” who seem to need to be active. There is growing realization by many investors, such as Keith Johnson that fiduciary duties must be redefined to include responsibility for a longer horizon. Can investors behave long term? How do we convert the reluctant?
- Put the question of investment beliefs on the table. Efficient market theory was always meant to be an interesting theoretical construct, not a guide to investing. See Chapter 12 General Theory of Employment, Interest and Money by Keynes, 1936 concerning long-term investing. Turning savings into wealth producing capital should remain fundamental even though the element of real knowledge in the valuation of investments by those who own them or contemplate purchasing them has seriously declined.
- How do you implement? Outsourcing v insourcing. Why not build your own expertise in-house, he advises pension funds. The US is lagging behind sovereign wealth funds, although major funds are starting to do it. The net basis is better than outsourcing. Cost is less. Blockages- legal platforms, governance process that need reengineered.
- Recognizing strength in numbers. Collective action. Canadian Coalition for Good Governance is a good example of how collaboration can optimize input to output.
Anne Simpson was up next:
- DB plans can take long-term view as do some sovereign wealth and hedge funds. “Say on pay” is vital. CalPERS focused on 300 largest holdings. Highlighted no single trigger. Looked at sustainability, qualitative targets. Three years minimum for incentive pay. Must retain shares for two years after retirement.
- 3/4 of CalPERS funds are invested by internal money managers. How align interest with 1/4. ICGN has developed guidelines to help in procurement. Investors voice still not largely heard but from CII, CalPERS, CalSTRS. Few people investing in stock market for groceries. Most are investing for long-term goal – education, retirement. CalPERS can’t do it on their own. Need to marshall underlying common interest with retail investors.
- Investors with short-term horizons, such as shorters, hedge, arbitrators need to be understood for providing liquidity, price discovery but a separate regulatory regime is required for them around flash crash and other problems since they serve a different purpose.
- Maybe group. Mutual funds, 401(k) vehicle thrust upon them. DB would enable them to make more long-term. Liabilities same for longevity curve. 1935 died at 65. Now live 20 years.
Martin Whitman: Better to call most of those involved “market participants” not investors. There has been far too much deemphasis on credit worthiness. Our analytical approach concentrates on “what is” in terms of understanding a business, in contrast to “what the market thinks.” Stock market prices do not determine business value. Investment risk is limited by seeking companies with very strong financial positions whose securities are priced at significant discounts to private market value.
Short-term thinking was the key thing behind the last melt-down. Orignators of loans weren’t concerned with the credit worthiness of loans. Originators need to keep part or all of the loans on their books for at least 3 years to ensure proper due diligence. There was an explosive growth in sudden death securities. Reform is needed in academic training to teach long-term investing. To be on a faculty tenured track these days requires a belief in efficient markets. Fundamental analysis – vaule investing, controls, stress investing, aren’t short-term. Most investment is retained earnings not capital.
What we look for are super-strong stocks at discount… complete disclosure, good prospects to growth in double digits. Prices are close random with the market unless their are prospects for a change in control.
“There is no free lunch; what you mean is that someone has to pay for lunch.” Supercompensation for IPOs reflects bigger fool theory of the market. Initial offereing prices are now set intentionally above the realistice price. More from Whitman at Distress Investing: Principles and Technique (Wiley Finance).
Holly Gregory: Boards are charged with managing and directing…longterm, especially when in trouble. Ability to lock in capital is critical to the corporate form… also the ability to aggregate. What is at stake is short-term pressure.
We need to rethink investor accountability. Corporate leaders feel pressure comes from shareowners that use stock price as measure. There is too much shareowner accountability (how much did that drive crisis?). Rules may have given too shareowners too much power. Why should shareowners vote for say on pay every year? We need to look at how can we help boards listen but not be over reacting.
Proxy advisors have also contributed to the problem. Governance decisions should not be separated from investing decisions.
At the end of day boards need to be brave, to communicate with shareowners with a tough skin. Cultural issues are at hand regarding what shareholder accountability means.
Jon Lukomnik of IRRCi called for change in control research. We have to pay attention to what the market does in possible change of control situations. Look at stock price movements on CNBC with premium on the table for traders.
Holly Gregory said she hasn’t been in a boardroom where discussion has focused around price fluctuations. They don’t like their names dragged out on CNBC as entrenched. How do they get the courage to create good incentive structures? We need brave directors to take decisions that they know will be contested by ISS, etc.
Lukomnik: One way to focus on the long-term would be if funds made voting announcement early. That could provide backbone to retail investors. I don’t remember if he mentioned, but of course you can find many such announced votes at Proxy Democracy and MoxyVote.com.
Gregory: Unfortunately, many mutual funds outsource their votes, so won’t take that advice.
One audience member asked if it is legitimate to have companies with no long-term investors. Should we have two markets? One for no anticipated dividends.
Carol Thomas offered that institutional investors might help by focusing on dividends. Instead we have repurchases and short-term emphasis, with a lack of R&D. Thomas later gave me an annotated bibliography with many articles backing up her contention.
Anne Simpson advised looking to bonds for income, whereas equities emphasize growth.
Keith Ambachtsheer (I think) said the use of corporate cash should be high on the discussion agenda.
Whitman mused cash dividends or repurchase? It isn’t an easy question. He disagrees that dividends are necessarily a better use. Distributions to shareowners should take second place to reduction in liabilities and more productive uses of capital.
What is long-term? Starting with liabilities – work backwards to maintain standard of living, said Ambachtsheer. You’re buying long-term cash flow.
Marco Becht appeared to advocate that investors take large equity positions and stick with companies through the business cycle. Have enough invested to pay attention. Take positions on boards. Families, foundations, sovereign wealth funds, and banks can do so. Can CalPERS provide any of these elements?
Simpson. CalPERS is invested in 47 markets. We have no home market bias. Other markets present other challenges. transparency, OECD principles.
Keith Ambachtsheer: Cliff situations with hard liabilities make it difficult. If long-term is secure, yes but if facing cliff, no. Are we equiped or do we have internal impediments?
Holly Gregory: if we have investments and company doing well, maybe it should be left alone.
Anne Simpson – you don’t wait for the crisis.
Catherine Howarth of Fair Pensions said that many giant mutual funds are driven by marketing and gathering assets. There’s a huge piece in middle that is difunctional, suboptimal and self-serving. How to get them into line. There’s EU stewardship codes discussed by Marco Becht,
George Akerlof’s Market for Lemons. One of the fundamental questions is how to get symmetry… strength on the buy side of taking responsibility. Research by FairPensions calls for an ‘enlightened fiduciary’ model for institutional investors to parallel the new duties of company directors introduced in 2006. There appears to be no collective action like that in US, where it is more disclosur to people who are largely uninterested.
Lucy Marcus: Many are lining up to go public but boards are not ready for prime time. IPOs are pushed through like sussage. Groupon CEO needs maturity lessons. Do we need requirements for IPO’s around boards.
Anne Simpson: CalPERS thinks board qualtiy matters. Commissioned GMI for board vetting.
Michael Garland: We need to look at the structure of compensation at Wall Street banks before the crisis. Companies were well performing until crash. Disagrees with Holly Gregory on shifing power back to boards. Do directors have same duty to respond to long and short term performance?
Whitman: Everyone talks about performance credit worthiness. There is a community of interest with stockowner who think value is only created by cash flow. But the balance sheet important is important.
Marco Becht concludes: The 1st panel didn’t trust the market. The 2nd panel provided two possible solutions. Give control to boards to act for the long-term. Second solution: more power to long-term investors. Who are they and can they do a good job? Maybe; they will need to become activated and we’ll need another syposium to discuss.