Real-time proxy voting disclosure by big funds could drive competition for investments from individual investors and smaller institutional investors with few resources for proxy analysis. Such disclosures would also go a long way in solving problems raised by Delaware Supreme Court Chief Justice Leo E. Strine, Lucian Bebchuk, and the Main Street Investors Coalition regarding potential conflicts of interest and/or under/over investment in ESG analysis and advocacy. The cost of real-time proxy voting disclosure would be minimal and may actually save funds money currently spent converting voting files to pdfs.
Real-time disclosure would help customers compare voting records and could drive competition among big funds to vote the predominant values of their customers. For ease of use, Compare CalSTRS’ sortable real-time disclosures with those of State Street Institutional Investment Trust. [Graphic above from Pensions & Investments article, No excuse for fiduciary ignorance, 2/19/2018]
Real-Time Disclosure Could Fulfill Intent of Rule 30b1-4
While I support the goals of Strine and Bebchuk, timely implementation of their suggested reforms is unlikely. The SEC and other regulatory bodies are unlikely to force big funds to vote in favor of shareholder proposals requiring a vote of shareholders before making political contributions or a mandate that corporations disclose such contributions, at least not while Donald Trump is President. Most of Bebchuk’s recommendations would likely be opposed by big funds, as well as corporate interests. Safe harbor provisions are more of a possibility but big funds have expressed little or no interest in such provisions, to my knowledge.
Since my naive post, Fiduciary Responsibilities for Proxy Voting, more than 23 years ago, I have held a vague hope that enforcement actions or lawsuits would eventually lead funds to vote in the best interests of investors. Hope has long diminished, with Jill Fisch’s paper leaving me especially parched after learning the courts allow fund voting by “whims or caprice” as long as they don’t violate duty owed fellow shareholders. However, we can get close to the target by unleashing market forces in 2020 if we can raise the level of transparency regarding fund votes.
Big funds own an increasing share of the market. Most Americans do not own any stock. If they have any equity investments , n most cases they are through an employer sponsored 401(k) or 457 plan administered by a big fund. Most know little about how those funds vote proxies and if those votes reflect their own values. I have never seen such information provided in a mutual fund prospectus offered through and employer plan, although I expect some smaller funds may include such information. (Note to Readers: Please forward such examples.)
The SEC adopted Rule 30b1-4, which requires large funds to file annual reports of their proxy votes beginning in 2003 using the N-PX form. The final rule stated, “increased transparency will enable fund shareholders to monitor their funds’ involvement in the governance activities of portfolio companies, which may have a dramatic impact on shareholder value.” The final rule further noted:
Proxy voting decisions by funds can play an important role in maximizing the value of the funds’ investments, thereby having an enormous impact on the financial livelihood of millions of Americans. Further, shedding light on mutual fund proxy voting could illuminate potential conflicts of interest and discourage voting that is inconsistent with fund shareholders’ best interests. Finally, requiring greater transparency of proxy voting by funds may encourage funds to become more engaged in corporate governance of issuers held in their portfolios, which may benefit all investors and not just fund shareholders…
Because of the disclosure requirements we are adopting, shareholders will be able to evaluate how closely fund managers follow their stated proxy voting policies, and to react adversely to fund managers who vote inconsistently with these policies.
Unfortunately, that has not been the case. To conduct such an analysis of current data, typically displayed in user unfriendly pdf format, Main Street investors would need to hire a researcher, such as FundVotes or subscribe to a data provider, such as ProxyInsight, and do their own research. The average 401(k) account balance is less than $40,000 for those under age 40, when employees typically decide where to invest. Hiring a researcher or subscribing to a database and conducting their own research would not be seen by many as cost effective. Currently collected data is underutilized because it is not freely available in a user friendly format. Data quickly is seen as dated in an age when many rely on the 24-hour news cycle of social media.
As noted above, the final rule requiring annual disclosure of mutual fund votes hypothesized that greater transparency of proxy voting would encourage funds to become more engaged in the corporate governance of issuers. Large-scale engagement by funds did not begin immediately following implementation of the annual reporting rule. Ernst & Young found that as recently as 2010 just 6% of S&P 500 companies reported investor engagement. As of June 2016 that increased to 66%. Increased engagement over issues like challenges by activists, pay, board diversity, company culture, and climate change appear more driven by increased concentration of ownership by “passive” index investors, than disclosure of proxy voting records. Since big passive funds cannot sell, they drive increased value by negotiating for best practices among portfolio companies. Best practices are driven by news coverage and public opinion.
The benefits to be derived from enhanced attention by beneficial owners to proxy voting have yet to materialize because annual idiosyncratic reports do not facilitate the “rapid and informative” disclosure assumed by Justice Kennedy when writing Citizens United. Real-time proxy voting disclosure by big funds could enable Main Street investors to compare voting records and factor values alignment when making investment decisions.
Public Opinion Drives Big Fund Votes
Renee Aggarwal, et al., Influence of Public Opinion on Investor Voting and Proxy Advisors (August 6, 2014), found that investors have been “voting less with the recommendations of management or proxy advisors.” In contrast,
public opinion on corporate governance issues, as reflected in media coverage and surveys, is strongly associated with investor voting, particularly mutual fund voting. In addition, even proxy advisor’s recommendations are associated with public opinion… media coverage captures the attention of proxy advisors, institutional investors and individual investors, and is thus reflected in recommendations and votes.
The researchers looked at all proxy proposals for Russell 3000 Index companies for the period January 2004 through November 2010. They looked at voting records, ISS recommendations and media coverage of executive compensation, as well as Gallup surveys of public opinion.
A few highlights are as follows:
- Mean support for shareholder proposals increased from 23.6% in 2004 to 31.8% in 2010, after peaking at 37% in 2009.
- Institutions voted with management on shareholder proposals 74% of the time in 2004 but only 54% of the time by 2010.
- Investor agreement with ISS advice went from 78.4% in 2004 to 57.5% in 2010.
- In 2004, 60% of investors followed ISS opposition to proposals but only 20% did so by 2010.
- The proportion of shareholder proposals opposed by ISS declined from 56.4% in 2010 to 30.5% by 2010.
- Support for shareholder proposals increases by 3.15%-2.69% if there is a one standard deviation increase in media coverage.
Our results suggest that public opinion, as measured through either Gallop Poll survey or media coverage at the aggregate and firm level, influences shareholder voting. The implications of these results are that financial intermediaries, such as mutual funds, pay attention to the shareholders’ preferences regarding corporate governance. These results hold even after controlling for the recommendations of the proxy advisor.
The Battle for Public Opinion
Since the root driver of votes against management and in favor of proposals by shareholder advocates is public opinion, we are likely to see “a surge in propaganda that incorporates audio, video and images.” That was my prediction in 2014. Four years later, I wrote about the so-called “Main Street Investors Coalition” (MSIC) as an attempt to turn the tide of public opinion among investors against the importance of many ESG issues. (Main Street Investors: Battle Coming) See Facebook’s transparency center to see the Coalition’s ad campaign and posts by Nell Minow of ValueEdge Advisors for an explanation of tactics used by the Coalition.
Our own efforts as individuals, as members of organizations, and public opinion are main drivers in creating the future. Public opinion is moving in the direction of investing with our values and our dreams, instead of despite our values and desires. This is especially true for younger generations. (Who Wants Impact Investing?)
The investor demand is there, But typically who do CEOs and CFOs hear from? They hear from analysts on quarterly calls, where the time horizons are very different. I’m not on quarterly calls because we’re long-term investors and we’re looking at long-term risks. We’ve published papers, we’ve sent letters, and we’ve talked about these issues at conferences for years. But we’re still trying to pivot management’s views to the long-term and that’s very challenging. (SSgA’s Kumar warns companies on ESG progress)
The “Coalition” believes it has common cause with retail investors. They assume the overwhelming majority of investors only want to earn the highest financial return possible. (Commentary: Reforming a broken system) However, investors increasingly want to have a positive impact on the world, as well as earn a good financial return. In Do Investors Value Sustainability? A Natural Experiment Examining Ranking and Fund Flows, authors Abigail B. Sussman and Samuel M. Hartzmark found that funds categorized as low sustainability led to net outflows of more than $12 billion, whereas those categorized as high sustainability led to net inflows of more than $24 billion. “Investors have a strong belief that better globe ratings positively predict future returns. We also find suggestive evidence of non-pecuniary motives, consistent with altruism or warm glow.”
According to Broadridge, “during the 2017 proxy season, climate change proposals were supported by 66% of institutional shares voted versus only 13% of retail shares.” (2017 Proxy Season Review) If the Coalition can get more retail shareholders to vote, they can vote down more climate change proposals. Of course, that remains true only if Main Street investors do not get the same information that institutional investors get… only if Main Street investors are kept in the dark and continue to reflexively vote as recommended by boards.
The National Association of Manufacturers and the Main Street Investors Coalition are spending millions of dollars, NOT to help retail shareholders get better information. Their public opinion blitz aims at discrediting and weakening distribution of research from proxy advisors like Institutional Shareholder Services, Glass Lewis and Egan-Jones, as well as from huge funds like State Street because they now analyze how companies grapple with environmental and social issues, alongside traditional management concerns.
While the Coalition spends millions to keep Main Street investors ignorant, ProxyDemocracy.org, which educated retail shareholders on how institutional investors vote before voting deadlines, is having trouble raising $50,000 to continue their important work. Contact the Sustainable Endowments Institute to make a contribution. If funded, ProxyDemocracy.org could allow retail shareholders to get e-mail alerts with links to how (and often why) many funds vote their proxies in advance of annual meetings.
For $50,000 NAM and MSIC could help educate retail shareholders by allowing them to learn how others are voting and why. Instead, they spend millions of dollars on a disinformation campaign aimed at delegitimizing the value of earning financial AND environmental/social returns at the same time.
Real-Time Proxy Voting Disclosure: SEC Mandate or Market Driven Nudge
As reported in the Feb. 5 issue of Pensions & Investments, several recent studies have documented this dangerous ignorance. An AllianceBernstein (AB) LP (AB) survey asked 1,000 DC executives if they were fiduciaries: 49% said no, and 6% didn’t know. Based on their duties, all were fiduciaries. Even 48% of the executives from plans with assets of $500 million or more thought they were not fiduciaries… Plan executives are leaving themselves and their plans open to fiduciary breach lawsuits that could be expensive. In addition, errors by the consultants or money managers who were not properly monitored could financially harm the employees for whom the plans were established. (No excuse for fiduciary ignorance, Pensions & Investments)
The SEC should mandate that all large funds provide real-time or near real-time reporting of their proxy votes in a user-friendly format. Pensions & Investments (P&I), Winning over proxy voters, argues that pensions have a fiduciary duty to announce their proxy votes in advance of the annual general meeting (AGM) if doing so is likely to influence the vote. Of course, the same logic applies to all big funds. (see) It may be possible to sue funds to force them to disclose votes in advance. However, even if such reporting is not mandated, the market could nudge funds to do so on their own volition in order to stay competitive. Forces that could move us in that direction will be discussed in an upcoming post.