Today’s ‘Ownership Day’ highlights the missing ingredient in many investors’ strategies

Today [12 March] the UK’s pension trustees, investment managers and the wider financial services industry mark the first ‘Ownership Day’ – a new initiative aiming to raise awareness of the benefits of active ownership strategies, i.e. the use of shareholder rights to improve the long-term value of a company. It is an important initiative because a long-term, active ownership strategy not only has the potential to provide superior risk-adjusted returns for pensions and asset owners, but is also in the interests of investment managers, companies and society at large by encouraging a greater focus on effective long-term wealth creation. The most important trend for investors is the growing body of evidence showing that active ownership can protect and create value. For example, the research team at WHEB Asset Management cite the case of UK retailer and distributor Findel plc who rebuffed shareholder engagements on business ethics-related risks in 2010, only to then suffer public controversy around its corporate accounting entries; leading the stock to lose considerable value, including a dramatic 12% fall in one day. Some active investors had withdrawn capital from Findel before the decline as the failure of the engagement had highlighted the risk. At the Pension Protection Fund (PPF), where I am an Executive Director, we consider active ownership an important part of our risk management process. For example in 2011 we voted at over 3,000 resolutions at 270 company meetings and engaged with over 100 portfolio companies across the globe, and consider this to be an important way of ensuring the vision, strategy, plans and forecasts of the companies we invest in are aligned with our own. There is also an opportunity side to active ownership. For example, research by Professor Elroy Dimson of London Business School (which won last year’s Moskowitz Prize for Sustainable Investing) analysed shareholder activism with US companies over ten years to 2009 and found that share prices rose by an average of 4.4% in the year after engagementswere concluded. Managers such as The Co-operative Asset Management (TCAM) embrace active ownership because they believe it is part and parcel of being a responsible investor. TCAM cast over 32,000 votes at corporate AGMs in the 2011/12 voting season and although they do not try to draw a direct causal link between this activity and their fund performance it has clearly not done returns any harm. For example, their CIS UK Growth fund has returned 27.5% over three years to 30 November 2012.
Active ownership is also a strategy encouraged in a variety of codes and regulations including the Stewardship Code in the UK, the Code for Responsible Investing in South Africa and Principle 2 of the UN-backed Principles for Responsible Investment (PRI). This begs the question as to why the strategy is not more popular? A study by the Global Sustainable Investment Alliance found that voting and engagement strategies around the globe were worth approximately US$4.7 trillion, – which although a significant figure is still a relatively small slice of global capital markets. Considering the potential of active ownership strategies to help produce superior risk-adjusted returns, the investment chain seems to be working less well to incentivise it than other strategies. One reason for this might be the free rider issue. That is the problem where those fund managers that engage with companies end up creating value-enhancing changes which all shareholders benefit from, regardless of whether they contributed towards the costs of engagement. There is also a cost associated with active ownership activities that some funds may not feel they can afford. The answer to both these issues, especially for smaller funds, may lie in increased collaboration and co-operation. We are seeing this in action already through forums such as the Local Authority Pension Fund Forum in the UK and the PRI’s Clearinghouse internationally. Here we see how collaborative engagement can help reduce costs and share benefits to the mutual benefit of all.

Similarly index funds such as those run by Legal and General Investment Management now can exercise voting rights or run engagement programmes on behalf of multiple clients and which, due to the size of many passive portfolios, can be a powerful tool to ensure that companies are well managed and create value over the long term.If it achieves nothing else, I hope that Ownership Day raises awareness about the benefits of this strategy among pension funds and asset owners, and encourages them to demand more high-quality ownership services from their managers. That not only helps protect their returns in the long run but, ultimately, can encourage more responsible capital markets.

Martin Clarke is Chairman of the UK Sustainable Investment and Finance Association (UKSIF) and an Executive Director of the Pension Protection Fund.

Find out more about Ownership Day