Investors in the world’s largest exchange-traded funds are gaining the power to vote as shareholders at companies within those portfolios – a development that could ratchet up discord over environmental, social and governance issues.
Institutional investors and individuals who buy into so-called passive funds have traditionally left proxy voting on issues such as executive pay, climate action and director nominations up to portfolio managers, who mark their ballots according to the fund’s objectives. Now, in a big change, advancements in technology and evolving regulations around the world are allowing asset managers to pass voting rights to investors.
The funds, led by BlackRock Inc., the world’s largest asset manager, are hailing this as the democratization of investment management. But some observers worry it could follow the route seen in politics and social media, where polarization has overtaken the discourse. Already, ESG has become a flashpoint, especially in the United States, where Tesla and Twitter CEO Elon Musk, former vice-president Mike Pence and other business and political figures have blasted what they call a left-wing plot against business, especially fossil-fuel industries.
“The problems that you see in politics are going to apply here,” said Ian Robertson, the chief executive officer of Bay Street proxy and governance firm Kingsdale Advisors Inc. “Specifically, it’s the understanding of the issues by the general populace, understanding of the consequences of votes and thinking about how votes are actually motivated.”
It’s unlikely many smaller institutional investors, and especially individuals, have the time or expertise to comb through the sheer volume of proxy circulars from companies within a fund, and that could lead to voting based on principles apart from good corporate governance. That means reacting to short-term declines in stock prices or social media campaigns by vested interests, including the “anti-wokeness” forces, Mr. Robertson said.
Shareholders use proxy voting to fuel investor activism around ESG
Meanwhile, more scattered voting will mean higher costs and more complexity for the companies within portfolios, as they’ll have to locate and target investors with their own messaging on important governance issues, he said.
BlackRock was first to offer institutional clients in its pooled funds the ability to vote on their own behalf, rather than relying on the fund managers entrusted with their investments. Other major mutual fund and exchange-traded fund companies, such as Vanguard and State Street Global Advisors, have followed suit. The next step is giving retail investors that same power, and that has started in some jurisdictions on a test basis.
In November, BlackRock said investors representing US$1.8-trillion, or almost half its equity index assets under management, were eligible to participate in its voting choice program. Clients invested in US$452-billion of assets were using BlackRock’s voting options. Those include exercising full control over voting, voting at some portfolio companies or casting ballots in accordance with third-party proxy advisers, such as Institutional Shareholder Services and Glass Lewis & Co. Investors can also follow BlackRock’s advice.
The fund manager did not respond to a request for comment, but CEO Larry Fink has said pass-through proxy voting addresses a demand among some investors for direct participation. “That’s partly being driven by the public debate around issues that can impact the value of companies and how different asset owners choose to navigate them,” he wrote in a post on BlackRock’s website.
This diffusion of fund voting could have consequences, according to an article published last month in the Harvard Law School Forum on Corporate Governance titled Be Careful What You Wish For. For one, a manager that previously held sway over, say, 10 per cent of a company’s shares may only be able to vote on a portion of that, leaving the rest to the fund’s disparate investors, wrote Martha Carter, Matt Filosa and Sean Quinn, executives with the CEO advisory firm Teneo.
That could spell a new era in citizen investing power, after the rise of the meme stock revolution in 2021, when retail investors, inspired by viral campaigns, drove up the prices of such companies as GameStop and Bed, Bath and Beyond to unsustainable levels, to the detriment of hedge funds and professional short sellers, the authors wrote.
More troubling, investors with little or no experience could end up as targets for disinformation from groups with agendas, such as attacking ESG. The anti-ESG movement is playing out in many Republican-controlled U.S. states, which have pledged to boycott fund managers that consider metrics such as emission-reduction plans in their investment decisions. Mr. Fink, who has demanded that companies in BlackRock’s portfolios develop plans for thriving in a net-zero world, has become a lightning rod for such campaigns.
Last year, in a move aimed at reducing the voting power of index fund managers, Republican senators Marco Rubio of Florida and Dan Sullivan of Alaska introduced the Investor Democracy is Expected (INDEX) Act. The legislation would force advisers of passive funds to vote proxies at the instruction of investors, rather than at the discretion of managers. It comes amid a populist wave that has already swept over the political world in the United States, Canada and elsewhere.
One investor advocate says it’s possible ESG-related proposals could win more support as investors in passive funds make use of their newfound voting capabilities. “In my experience, I’ve seen more interest and attention being paid to proxy voting by environmental activist organizations and grassroots organizations and those that are looking at human and workers’ rights to date than others on the spectrum. But that doesn’t mean that’s the future, of course,” said Shannon Rohan, chief strategy officer of the Shareholder Association for Research and Education.
It remains to be seen if the trend will overtake smaller funds, including those based in Canada. Jamie Bonham, the director of corporate engagement at ESG-specialist fund manager NEI Investments Inc., said clients tend to be attracted specifically to the company’s active-ownership mandate, which includes engaging companies on sustainability issues.
“The proxy vote is a huge part of that responsibility,” he said. “Potentially some of the more passive players have neglected that responsibility to some degree. They have various reasons for it, some of which are just their sheer size and concerns around influencing companies too much.”
Jeffrey Jones writes about sustainable finance and the ESG sector for The Globe and Mail. E-mail him at firstname.lastname@example.org.