(FT) Hail the large activist investor – Martin Sandbu

Hail the large activist investor

Date published: 30 October 2017

Martin Sandbu

Source: FT.com

The FT carries a story on Monday about the Norwegian sovereign wealth fund’s approach to activist investment. (Not “active investment” as opposed to “passive” in the sense of formulaically following a market index, but “activist” in the sense of making demands of company managers.)

The fund’s move two years ago to start pre-announcing its voting intentions at shareholder meetings has been so successful that it has done this much less frequently than it expected: only three times this year. Apparently the implicit threat of a public showdown is enough to make management more solicitous of this mega-investor’s preferences.

That clearly proves the fund’s power, but it may also suggest it is not putting that power to the best use — for itself, investors generally, and society at large.

The best way of thinking about investors’ role in corporate governance for the common good is to acknowledge that investors as a class also suffer when the companies they own act in anti-social ways. This is because the “negative externalities” that occur when a company pushes the costs of its behaviour on to others affect other companies as well. Managers who act in what they perceive as the company’s interest may thus act against the interest of shareholders as a class: corporate negative externalities harm investors. This is compounded when managers also have a shorter-term horizon than investors, even aside from externalities.

That is why sovereign wealth funds, pension funds and other large investors are particularly well-placed to remedy this problem through activism.

First, they tend to be “universal investors” with stakes in a broad range of companies — so the externalities are directly “internalised” in their overall investment portfolios. Despoliation of common natural resources or unwillingness to invest in real productive capital by one company may be opportunistically sensible and even profit-maximising yet still reduce such universal investors’ return by imposing costs or reduce demand for other companies in the portfolio.

Second, large investors have the clout to influence company management, both directly and as standard-bearers around which other, smaller investors can rally.

The question is whether they decide to use that clout. As my colleague Rana Foroohar points out in her latest column, many investors tend to outsource their voting decision in shareholder meetings to “proxy advisers”. That is better than ignoring one’s voting power altogether. (I disagree, however, that it is “understandable that large asset managers like BlackRock or Fidelity and myriad smaller institutions would want to offload this task”. Smaller institutions, yes, but large asset managers have the wherewithal to make their own decisions, as well as an interest in wanting to for the reasons outlined above.) But it is far from good enough if the proxy advisers themselves do not take externalities and long-term effects of company decisions into account.

Foroohar suggests that this is the case, and that proxy advisers focus too much on short-term shareholder return. If she is right, that means they simply replicate the myopia and unenlightened selfishness of the conventional governance practice of treating management with benign neglect.

That only increases the responsibility of large investors to show better stewardship for the private business economy in which they hold such big stakes. One can see the political reasons for a sovereign wealth fund such as Norway’s to be discreet. But the argument for taking into account the external and long-term effects of management decisions is also an argument for doing so publicly: giving smaller investors leadership leverages the self-interest of the larger ones. But when that self-interest is of the enlightened kind, this is also a public good. And at a time when private sector leaders themselves say the promise of capitalism has been broken, it even counts as a public duty.

Other readables

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  • Germany’s policy of encouraging employers to reduce hours worked rather than firing workers in the last recession kept unemployment low but came at a cost in productivity growth, by slowing down the movement of workers from lower- to higher-productivity jobs.

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