The substantial growth of assets managed by institutional investors during the last decades has also meant that this type of investors has become, as a group, the larger shareholders of main listed companies.
Several academics argue that it is the lack of incentives that leads institutional investors to passivity in relation to their role of shareholders in the corporate governance of quoted companies.
The nature of the asset management industry itself leads to a number of reasons that creates low incentives for fund managers to have a greater involvement in the corporate governance of companies or to carry out belligerent actions by voting against of the proposals promoted by the management. That is why, in case of not agreeing with the management of the management, the first option of the institutional investors is the divestment. In the slang of corporate governance, selling a company's shares for discrepancies with the management team is what is known as "voting with the feet."
Their first reason to vote with the feet is because carrying a belligerent activity with the management of a company involves dedicating resources that can benefit many other passive shareholders, thus causing scenarios of "rational apathy" (when private costs exceed to private profits) and the opportunist problem (when shareholders avoid incurring costs in expectation of other shareholders assuming that cost), especially since many asset portfolios are highly diversified by the number of invested companies.
Second reason, the costs of coordination between shareholders are higher when the shareholders are more diversified.
Third reason, belligerent actions may make it difficult for fund managers to gain access to managers, and they may have conflicts of interest in the case of managing pension funds of certain companies or be related to entities with which the companies can have another type of activity.
Fourth, fund managers are specialized in selecting the best investments instead of entering the day to day aspects of corporate governance of companies.
In order to correct this lack of commitment to corporate governance by institutional investors on 17 May 2017, Directive 2017/828 of the European Parliament and of the Council amending Directive 2007/36/ EC with regard to promoting the long-term involvement of shareholders. It proposes a series of measures to be carried out by shareholders, asset managers and intermediaries.
In the next post, I will write about these measures. In Alembeeks VotingLab we help institutional investors to improve their shareholder engagement and to vote in a coherent and informed way according to an ad-hoc voting policy for each manager.