End of Week Notes
Stewardship takes center stage
Fund selection criteria should include engagement activities and proxy voting
Rather than focusing on profits alone, sustainable investing is about improving outcomes for people, planet, and profits. It recognizes that investors require competitive returns, but wants to encourage public companies to generate profits in ways that also benefit other stakeholders, rather than at their expense. The primary mechanism for investment managers to do this is through stewardship activities, such as direct engagement with portfolio companies and proxy voting at company annual general meetings (AGMs).
This year, investors voted in favor of ESG-related shareholder resolutions in record numbers. With a few AGMs still to be held, 34 resolutions have received a majority of shares voted, according to Proxy Preview. That number easily surpasses the previous record of 21, set last year.
Shareholders exhibited strong support for resolutions addressing climate change, corporate political expenditures, and diversity. Here’s Proxy Preview’s summary:
Climate and environment: The two highest votes of the year were both climate-related. The vote for reporting on supply chain deforestation impacts at Bunge was 98.8 percent, while a vote to report on net-zero GHG goals at General Electric was 97.9 percent. Overall, there were eight climate or environmental majority votes including two on deforestation, four looking to reduce greenhouse gas emissions, one in support of reducing plastics pollution (DuPont de Nemours, 81.2 percent), and one asking for a report on a climate-related transition plan (Booking Holdings, 56.4 percent).
Political Spending: Lobbying and election campaign contributions proposals accounted for the largest group of majority votes — fourteen. The top vote was on election spending with 80.6 percent at Netflix. A resolution asking for a report about climate change lobbying and advocacy, both directly and indirectly through trade and other associations, won 76.4 percent at Norfolk Southern. There were three majority votes seeking disclosure about lobbying activities in general with the highest vote at GEO Group with 66.3 percent.
Diversity: Resolutions regarding workplace, executive suite, and board diversity, along with requests for EEO-1 reporting, rounded out the rest of the top ten votes and accounted for nine majorities overall. A resolution at IBM that asked for details on the effectiveness of diversity, equity, and inclusion (DEI) practices received 94.3 percent with management support. Paycom Software management did not recommend either for or against a proposal on executive diversity that garnered 93.7 percent. The highest vote of any resolution opposed by management was at First Solar, where shareholders gave a 91.2 vote for reporting on board diversity. A resolution calling for disclosing EEO-1 data at Union Pacific earned 86.5 percent, where a request for diversity program data also received 81.4 percent.
Sexual Harassment: A resolution on mandatory arbitration¬–which can hide sexual harassment problems–received 53.2 percent at Goldman Sachs and even more (59.4 percent) at solar panel maker Sunrun.
Racial Justice: Proposals about conducting racial justice audits did not receive majority votes, but did receive unusually high support for first-year resolutions with 44.2 percent at Amazon.com and 40.5 percent at JPMorgan Chase, further illustrating how the Black Lives Matter movement affected proxy season resolutions and votes.
It’s hard to overstate the sea change that’s happening here. Not so long ago, it was considered a victory when an ESG shareholder resolution garnered 10% of shares voted, enabling it to be resubmitted the next year in hopes that it would generate enough momentum to convince company management to address the issue.
While shareholder resolutions are advisory, it is hard for corporate managers to ignore them when they garner significant levels of shareholder support, especially a majority. Average shareholder support for all ESG shareholder resolutions is now above 40%.
What appears to have happened is that large mutual fund companies have significantly increased their support of ESG shareholder resolutions. Because funds aren’t required to report their votes in real time, we won’t know the exact extent of this until funds file their votes with the SEC in August.
Adding stewardship to fund selection
I suspect many investors and advisors are not well-versed in this dimension of sustainable investing, but it’s one that is likely to resonate.
If you are an advisor (or a DIY investor) selecting sustainable funds, consider how a fund votes its proxies and its broader engagement activities. To do this, check out fund stewardship or impact reports. If you can’t find such a report, that’s a red flag in itself, indicating a lack of transparency and probably a lack of notable engagement activity.
Morningstar Direct now includes fund proxy voting results. For the 2020 proxy season, I checked out how sustainable funds voted on shareholder resolutions and found a wide range, something Jackie Cook and I elaborated on in a paper last year. There are differences among sustainable funds on this front, partly because asset managers usually vote the shares of all their funds en bloc.
While sustainable funds overall exhibited high levels of support for shareholder resolutions, their support was not uniformly high. Half of sustainable funds voting on at least 25 resolutions last year supported them 75% to 100% of the time, and three quarters supported half or more of resolutions. That leaves about a quarter of sustainable funds that supported ESG resolutions less than half the time.
To be sure, sustainable funds are far more likely to support shareholder resolutions than other funds. For a quick comparison, I looked at how often U.S. large blend funds (ex-sustainable funds) supported shareholder resolutions last year. Only 6% supported resolutions 75% to 100% of the time, but 44% supported half or more, which is an encouraging sign. A majority, however, 56%, supported fewer than half the resolutions voted and 35% supported fewer than 25% of resolutions voted.
ESG issues are not only and not always contained within advisory shareholder resolutions. They play a role in “Say on Pay” resolutions, as investors weigh in on executive compensation packages, and ESG issues may be part of the calculus in the decision to support management’s slate of director nominees.
This year, a small activist hedge fund, Engine №1, offered an alternative slate of directors at ExxonMobil, arguing that the company needed to improve its financial performance and its clean energy strategy. A majority of investors agreed, and three members of Engine №1’s slate were elected.
Engine №1’s new ETF
This week, Engine №1 announced the launch of Transform 500 ETF (Ticker: VOTE), based on the Morningstar U.S. Large Cap Select Index. The ETF is committed to supporting ESG issues through proxy voting and engagement via a standard low-cost (5 basis points) index fund.
VOTE is distinct from Engine №1’s hedge fund, but it will, no doubt, cast its shares in support of any future activist campaigns undertaken by the hedge fund. In the meantime, you should expect it to be one of those funds that can be counted on to support key ESG-related resolutions, scrutinize executive compensation packages, and withhold support for directors when necessary.
Unlike ESG index funds, VOTE will not exclude any companies from its portfolio; it tracks a standard market-cap weighted index. An ESG index fund, by contrast, may lose an opportunity to engage with companies or vote at their AGMs because the companies have been excluded. However, many ESG index funds do not actually exclude all that many companies — some, in fact, just underweight ESG laggards and overweight ESG leaders — so they have plenty of opportunities to improve company ESG performance through engagement and/or voting.
Wave of the future?
My colleague, John Rekanthaler, noted in a column this week that VOTE could represent the wave of the future because it combines four attributes in which younger investors, in particular, seem especially interested: 1) passive selection, 2) active ownership, 3) exchange-traded fund structure, and 4) relationship with digital advice.
On that latter point, the on-line digital advice provider Betterment announced it will include VOTE in its socially responsible portfolios.
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