February 26, 2018

ETF managers step up focus on ESG stewardship

Recently, the world’s largest asset managers of index-based funds have stepped up their stewardship role, pledging more active participation to assure that board decisions are aligned with ESG principles. This may be occurring unbeknownst to many investors in popular exchange-traded funds (ETFs).

The premise is: if ETF managers can’t sell down poorly run companies, at least they can pressure for change. They are driven by a fiduciary duty to protect the value of their investors’ money, by regulatory pressure and by reputational reasons. Most ETF managers are signatories to the Principles for Responsible Investment.1

Their activism differs from that of hedge funds, which often buy into a company with the sole purpose of forcing corporate change and extract value from the operation. It’s also different from the activism of traditional active investors, who choose to be shareholders and can exit the investment if their demands are not satisfied.  

A shareholder union with weight

BlackRock, the world’s biggest manager of ETFs, plans to double the size of its investment stewardship team over the next three years, Chairman Larry Fink wrote in his annual letter to CEOs last January. He pledged to have “deeper, more frequent, and more productive conversations” with companies’ top executives.

Elisabeth Kashner, director of ETF analytics at FactSet, says that this increased focus on stewardship provides a much larger scope for change than the growing body of ESG-themed ETFs.

“ETF managers are now starting to act as a shareholder union,” says Kashner. “Corporate boards and their C-suites have every reason to respond to shareholders of this size. This has a potential to move the needle in terms of ESG.” Kashner added that the largest asset managers jointly control between 10% and 20% of many US-domiciled companies.

An inside look into stewardship activity

A survey2 by Morningstar published last December provided a comprehensive analysis of the stewardship behavior of index fund managers. The survey covered 12 of the world’s largest passive asset managers and concluded that they are increasingly taking an active role in the ESG oversight of investee companies, by boosting proxy voting and corporate engagement.

All 12 firms – which include global players such as BlackRock and more European-focused ones such as Amundi and Deutsche Asset Management – have increased corporate governance teams, or even established them from scratch, in the last two to three years, the Morningstar survey found.

Votes against board

Notably, ETF managers are raising their voice by voting against board policies whenever they deem directives conflict with sustainability principles.  

State Street Global Advisors, the world’s third-largest manager of ETFs, last year voted against the reelection of directors at 400 companies, saying they failed to take steps to add women to their boards.3

Deutsche AM last year voted on behalf of its active and passive funds against the management’s recommended votes during Bayer’s takeover of Monsanto of the US. Deutsche AM cited concern about the deal’s lack of transparency and potential breach of environmental and social principles.

Most managers publish responsible investing and corporate engagement guidelines, often annually.

As flows continue to cement the relevance of passive funds in capital markets, it is encouraging that managers are embracing ESG surveillance in the same way as traditional active managers have done in the past.

1 The six Principles for Responsible Investment are a voluntary and aspirational guideline to incorporate ESG issues into investment practices. There are more than 1,800 signatories to the Principles.
2 Morningstar, ‘Passive Fund Providers Take an Active Approach to Investment Stewardship,’ Dec. 2017.
3 ‘State Street Votes Against 400 Companies Citing Gender Diversity,’ WSJ, Jul. 25, 2017.