No question, voting is important. From president to dog catcher, pulling that lever instills in each voter a sense of ownership and community, and sometimes it even makes a difference. Now ETFs are getting in on the game. While the Big Three ETF behemoths haven’t yet started giving out “I Voted” stickers, they have introduced another competitive advantage against both competing ETF issuers and other investment wrappers. The first movers are out the gate with their pilots – it is time for the other providers to play catch up by granting ETF investors the vote (or something like it) on underlying shares, or get left behind.
Most shares provide voting rights in the company to the holders of the stock, as recorded by the registrar. A good rule of thumb is that retail investors cannot be bothered to vote these shares (less than 30% of retail shares vote), whereas institutions are much more likely (circa 90%) to actively participate in corporate governance.1 Many institutions employ teams of stewardship professionals tasked explicitly with voting these shares in accordance with certain mandates.
This has historically caused several issues for sponsors and has recently raised the ire of politicians on both sides of the aisle. For example, with over $400b in outstanding shares2, there are likely few issues on which the holders of SPY [the SPDR S&P 500 ETF Trust] could agree. Now multiply that by over 500 companies with which investors may be unfamiliar, across a suite of topics ranging from mundane to incendiary. Even if a sponsor’s board of directors were to issue a slate of clear voting guidelines and mandates, they would likely still leave a host of contrarian, irritated, and noisy investors in their wake.
Values-based ETFs suffer similar pitfalls. Without clear industry standards as to what actually constitutes a ‘green’ (or socially conscious, or ‘American Values’) investment, sponsors of these funds must still take liberties, make judgements, and throw best guesses with their voting practices. Couple that with opacity around voting records and slack reporting requirements, it is no surprise that even generally aligned investors are quibbling over execution.3,4
Beyond the ire of torch-and-pitchfork wielding investors, sponsors also face regulatory risks stemming from the exercise of voting rights. The financial literati have for years been bemoaning the inherent risks of common ownership, and politicians have begun to take notice.5 Republicans have passed legislation (since vetoed) barring ESG considerations as an investment criterion by certain investors6, and firebrand AGs have inveighed against leveraging voting power to advance controversial political agendas, going so far as to threaten potential antitrust action.7
BlackRock, Vanguard, and State Street—each with their own flavor—have begun to alleviate these points of friction by creating programs that would transfer the responsibility of voting the underlying shares to the investors of select ETFs.
Several service providers have developed plug-and-play capabilities to manage various stations along the stewardship rails. Asset managers looking to extend voting to their investors should carefully scope out activity ownership and responsibilities around the transmission of proxy information, data collection and analysis, communication with investors and advisors, and company and issue research. As with all operational functions, KPIs should be developed around cost control and scalability to track degrees of success.
Along with laying the back office plumbing, asset managers should think strategically around targeted adoption levels based on their investor personas. Instead of confidently waiting for a thundering stampede of eager investors, firms should consider potential outcomes for their specific investor bases upon the introduction of voting capabilities:
- ETFs would become more attractive given their increased feature set. Investors who may otherwise scratch their voting itch via SMAs or direct indexing would instead allocate their dollars to ETFs that allow voting the underlying shares.12
- Conversely, in a worst case scenario, firms would see an outflow from their funds that offer voting capabilities. An investor or allocator may actually value the inability to vote and the relief that would provide to stewardship teams or management in having to both vote and defend those votes.
- Or it could live in the squishy middle. The prospect of voting being a nice-to-have, but not a needle mover, would result in tepid adoption and little change to flows. Sponsors would incur the increased operating costs, while voting would be relegated to the ethereal plane of marketing collateral.
The competition is clear and the risks articulated. The past decade has transformed stewardship, once a tepid backwater, into a preeminent focus point for asset managers, investors and their advisors, and regulators. Providing capabilities for investors to express their priorities through voting—directly or preferentially—brings these three distinct stakeholder cohorts into further alignment. Now that the Big Three have demonstrated functional viability through initial action, it is time for the next stratum of players to execute broadly across strategy, execution, operations, and stakeholder communication. And there’s still room for differentiation in the sticker department.
3 A surprise about some ESG funds — they actually vote against environmental and socially conscious resolutions
4 SEC Rule N-PX
5 The Hidden Dangers of the Great Index Fund Takeover
6 Biden uses first veto to defend rule on ESG investing
7 ESG Initiatives Face Increased Pressure From Potential Antitrust Challenges
8 BlackRock Expands Voting Choice to Additional Clients
9 BlackRock to expand proxy voting choice to retail ETF investors
10 How Vanguard is piloting proxy voting options for everyday investors
11 SSGA | Extending Proxy Voting Choice to More Investors
12 ETF vs. SMA: Which Is Better for Sustainable Investing? | ThinkAdvisor
This article was originally published in Financial Advisor magazine.