Want a Bigger Say on Corporate Behavior? Move Your Money

By Jeff Sommer

Millions of people have a stake in corporate America through mutual funds. But you may be surprised by how those funds are voting on your behalf.

Credit...Michael Hirshon
Jeff Sommer

When somebody offers something for nothing, I don’t cheer. I reach in my pocket to see if my wallet is still there.

So when a prominent C.E.O. lobbying group said over the summer that making profits for shareholders was only part of their business — and not necessarily the main part — I was skeptical, to say the least.

Speaking collectively as the Business Roundtable, C.E.O.s from companies like Johnson & Johnson, FedEx, Wells Fargo and Amazon declared that, really, they were devoted to serving employees and customers, protecting the environment and treating suppliers ethically.

Thank you. And now may I sell you a bridge?

The Roundtable’s claims were so vague that, at first, I ignored them. But they have gotten immense publicity, so I tried to determine whether the Roundtable’s prescription for a better world was realistic — and, if it was not, whether there might be better solutions.

My conclusion is that C.E.O.s have performed an artful head fake with their high-sounding promises, deflecting public attention from the Roundtable’s decades-long advocacy of measures to weaken regulations and reduce the already attenuated power of shareholders.

What you won’t find in the Roundtable’s statement is this: For-profit companies exist to serve their owners, not their executives, yet most owners are relegated to an entirely passive role. And if there is to be any real hope of shareholder democracy and humane capitalism, millions of people need to be able to exercise the latent power that ownership implies.

I’m talking about “worker-investors,” as former Delaware Chief Justice Leo Strine calls us — and, yes, I’m proudly in this vast group, which includes great masses of people who must invest in order to have any hope of sending our children to college, living in a decent home and having a comfortable retirement. Our wealth, such as it is, comes from our jobs. Collectively, we have a potentially dominant stake in corporate America through pension funds, mutual funds and exchange-traded funds.

But because we are, for the most part, indirect investors — without shares in publicly traded companies in our own names — we must rely on the managers of our pension and mutual funds to speak and vote for us at corporate meetings and in proxy battles.

Yet while the fees and performance of fund managers are extensively covered, relatively little attention has been given to their role in corporate governance. With the help of Morningstar, I’ll start remedying that omission now.

BlackRock and Vanguard, the two giants of low-cost index investing, have been scooping up money because of their funds’ solid performance. But Morningstar’s analysis of mutual fund proxy voting suggests that it may be time to add another criterion when selecting a fund for investment: a fund company’s voting records. In this dimension, the two giants underperform. State Street, Fidelity and many other fund companies are doing much better.

If you want a greater impact, you can move your money. One person may not have much effect but if thousands of people do it, the fund companies will surely hear their voices.

I asked Jackie Cook, who directs Morningstar’s research on investment stewardship strategies, to analyze every proxy vote cast by the big mutual fund companies in 2019.

What Ms. Cook found was startling. It suggested that while index funds offered by different companies were often nearly indistinguishable in fees and performance, the voting behavior of the funds was very different.

Vanguard and BlackRock, the two biggest fund managers, tended to side with management and vote against shareholder-sponsored resolutions more frequently than other big fund companies.

That seemed counterintuitive, because BlackRock’s chairman and chief executive, Larry Fink, has repeatedly called on other C.E.O.s to lead their companies toward “social responsibility” and greater “purpose.” Yet BlackRock had the worst voting record of the major index companies, Morningstar’s statistics showed.

Vanguard was close behind. The company is owned by the shareholders of its funds and therefore might be expected to side frequently with the shareholders of the American companies in which the funds invest. But, along with BlackRock, it consistently lagged other fund complexes on important issues.

Fidelity’s index funds were far more likely to vote against management. So were State Street’s. Self-styled socially responsible fund groups like Parnassus, and Boston Trust and Walden, were at the top of the rankings, followed by fund complexes with strong European roots, like Allianz, Pimco, DWS and Invesco.

Ms. Cook tallied all of the governance issues that went for a vote in publicly traded companies last year, including these:

  • Shareholder access to proxy voting.

  • Separating the role of chairman and C.E.O.

  • Aligning executive pay with company performance.

She also analyzed mutual fund company votes on social and environmental issues like board diversity, climate change, environmental stewardship, human rights and product safety, and found the same pattern.

For example, when management opposed corporate governance resolutions brought by shareholders, Morningstar said, here’s how often the big index fund companies supported shareholders:

  • BlackRock, 19 percent of the time.

  • Vanguard, 24 percent.

  • State Street, 31 percent.

  • Fidelity’s index funds, 53 percent.

And on social and environmental issues, here’s how often they supported shareholders:

  • BlackRock and Vanguard, 7 percent.

  • State Street, 27 percent.

  • Fidelity’s index funds, 53 percent.

In their defense, the American fund companies say that we shouldn’t look only at these voting patterns. “Proxy voting is only one tool in our toolbox,” said Glenn Booraem, who heads investment stewardship for Vanguard. “Engagements” — discussions — with individual companies are important too, they say, and that is undoubtedly true.

BlackRock, for example, said in a written statement, “We have the largest investment stewardship team in the industry and engage with companies even in the absence of shareholder proposals.”

The company said it voted against corporate directors when “we do not see progress through engagement” and added: “We support shareholder proposals that we believe will enhance the value of our clients’ investments, but blindly voting for shareholder proposals is not a responsible approach to stewardship.”

While most proxy votes are merely advisory, those on corporate board membership and on the terms of a merger or acquisition are binding, and as major shareholders, the fund companies have clout. But their voting records suggest that they are not all using it aggressively.

In short, while votes are concrete, the effects of fund company discussions with corporate managements are as hazy as the pronouncements of the Roundtable C.E.O.s. Perhaps that shouldn’t be surprising: The C.E.O.s of BlackRock and Vanguard belong to the Roundtable.

It may seem that I am picking on the index fund companies. But they have achieved a rare importance.

First, consider their weight in the stock market. By 2018, Vanguard, BlackRock and State Street were the biggest shareholders in 90 percent of S&P 500 companies, each typically holding 5 to 10 percent of a company, a recent paper found. Together they held more than 20 percent of the voting shares in the S.&.P. 500.

Second, unlike funds that can deliberately avoid companies that investors find distasteful, the big index funds must invest in the entire market for the long term, making them “permanent universal owners.”

“These fund companies have a unique responsibility, though they aren’t fully exercising it,” said James P. Hawley, co-author of a landmark study, “The Rise of Fiduciary Capitalism: How Institutional Investors Can Make Corporate America More Democratic.” They “have a fiduciary duty to support measures that may hurt individual companies but contribute to the total market and to the common good,” Mr. Hawley said. “That duty isn’t widely recognized yet, but I think it’s inescapable.”

Big pension funds, like the California Public Employees’ Retirement System (Calpers) and the New York State Common Retirement Fund, already take that responsibility seriously. They have fought for shareholder rights and sustainable business practices for many years.

The biggest mutual fund companies, including BlackRock, Vanguard, Fidelity and State Street — are much bigger than Calpers. They manage trillions of dollars, giving them muscle that could change the game on corporate governance, if they had a compelling reason to do so.

Money is the ultimate motivator in the asset management business. If it were clear that thousands of fund shareholders cared enough to move their money, fund companies could be expected to act swiftly.

That’s why it makes sense to start thinking about choosing mutual funds and E.T.F.s based on proxy votes.

Consider that competing index funds tracking identical indexes have nearly identical cost and performance. Their proxy votes may be the only important differentiating factor.

Perhaps it is time to contemplate transferring your own money — or demanding that your workplace do so for you — to the fund company whose votes come closest to your preferences.

It’s not easy to make quick comparisons, though. Compared with information on fund cost and performance, voting data is obscure, perhaps deliberately so. But it needn’t be that way.

Thanks to S.E.C. regulations — which the Roundtable has been trying for years to water down — this data is publicly available. Enterprising information outfits could convert it into a more consumer-friendly form.

Recent studies suggest some possibilities. Fund company votes tend to cluster in ideological patterns. It is theoretically possible to depict these patterns graphically, in real time, which could make it simple to choose a fund company, based on its approach to the issues of your choice.

Oliver Hart, a Nobel laureate in economics at Harvard, and Luigi Zingales, a University of Chicago economist, say it is also possible to poll shareholders directly to find out what the owners, and not the C.E.O.s, actually want.

Fund companies could cast proxy votes accordingly, eliminating “taxation without representation,” which, Professor Zingales said, is what happens when C.E.O.s make broad policy decisions on social and political issues without asking shareholders for their views.

Jack Bogle, who started the first commercial index fund at Vanguard in 1976, fretted in retirement about Vanguard’s proxy voting record. Mr. Bogle, who died in January, said in books, articles and numerous conversations with me that Vanguard and the other fund companies weren’t living up to their responsibilities.

And he worried that the fund companies collectively were becoming so large and conflicted that fresh congressional legislation would be needed to control them.

While shareholders are the ultimate owners of corporate America, the fund companies obtain immense revenue — and are trying to get even more — from the corporate managers that they need to be monitoring and, when needed, criticizing. “Our giant investment managers seek giant corporate clients, for managing their retirement plans is where the big money is … and where the big profits lie for the managers,” Mr. Bogle said in the 2012 book, “The Clash of the Cultures.”

He brought this up repeatedly — including in a conversation in 2018, not long before his death. In that chat, he said, “The big fund complexes understand money — and often not much else. Fund shareholders have a lot of power they’re not using. They will have to learn to use it.”

At the same time, he said, Congress may need to take action. One solution might be to require that asset management and proxy voting functions be split off from other businesses. The fund companies won’t like that, but the current setup isn’t working.

For a glimpse of what might be possible if mutual fund companies trained their firepower on governance issues, consider what has been done by the New York State Common Retirement Fund.

In 2017, along with the Church of England, the fund sponsored a resolution requiring Exxon Mobil to disclose the risks that climate change poses to its core fossil fuel business. That resolution won majority support — in large part because Exxon’s two biggest shareholders, BlackRock and Vanguard, voted for it.

Thomas P. DiNapoli, the New York State comptroller and the fund’s trustee, said: “We’re not satisfied with what Exxon has done in response to our resolution — and, unfortunately, the fund companies haven’t followed up and supported us — but we’re sticking with it. And we hope the fund companies will be joining with us more frequently.”

Big changes are needed and they won’t come overnight, Professor Zingales said. But he said he’s not discouraged.

“Academics work in decades, not years,” he said. “We’ve just got to move in the right direction.”