The rise of index funds and the potential anti competition issues that are caused by common ownership – most notably BlackRock, Vanguard and State Street Global Advisors (SSGA) – is well documented but now, the spotlight is on the so-called ‘Big Three’ for conflict of interest issues when proxy voting at shareholder resolutions.
Once described as “worse than Marxism” by AllianceBerstein analyst Inigo Fraser Jenkins in 2016 because at least communists attempted to allocate capital efficiently, passives have continued their dramatic rise since the Global Financial Crisis (GFC) and show no signs of slowing down anytime soon.
Highlighting this, the ETF industry now totals $8.9trn assets under management (AUM) as investors continue to turn to the more efficient wrapper in response to consistent active manager underperformance and the portfolio construction benefits on offer.
One issue that the ETF industry remains behind on, however, is around proxy voting at shareholder resolutions. There has been big pressure placed on issuers to step up their engagement with the companies they hold in their ETFs especially from an ESG perspective.
The voting record of issuers especially the larger players from the US has traditionally been poor as highlighted by a recent ShareAction report which found BlackRock and Vanguard only voted at 12% and 14% of climate resolutions, respectively.
Along with poor voting records from a sustainable perspective, a recent report from non-profit organisation As You Sow found the Big Three and T. Rowe Price voted with management of their clients at a “significantly higher rate” than non-clients.
Between January 2015 and June 2020, the four asset managers also supported shareholder ESG proposals less often when they received compensation for financial services which totalled $489m across 932 corporations.
The problem stems from the fact asset managers are responsible for retirement plan services as well as recordkeeping, advisory and consultant services for many portfolio companies leaving them exposed to a conflict of interest when they vote at shareholder resolutions.
This issue has come to a head over the past five years with BlackRock, for example, voting with shareholders 9.5% of the time when there were no relations versus 3.1% when commercial relations were present.
This conflict of interest must be addressed if the ETF industry wants to gain the trust of investors, many of which are still unconvinced about the impact passive managers can have when it comes to engagement.
If proxy voting could be placed in the hands of a neutral third party while disclosing any existing business as highlighted in the As You Sow report, this could be an important first step in what appears to be a long road ahead.
