A fundamental tenet of free market capitalism is that owners choose how their assets are used to their best advantage. It’s my belief that if our system erodes the capacity for owners to effectively exercise this choice the result will be sub-optimal.
At its simplest level ‘ownership’ connotes a set of behaviours, values and powers that co-exist with the asset owned. When exercised responsibly and actively in an informed and engaged manner, ownership plays a positive force in the economy and society.
Entrepreneurial corporate capitalism of the early 20th century aligned corporate ownership with its actual owners. Think of the founding fathers, Henry Ford and Andrew Carnegie, whose very large ownership stakes empowered and enabled its shareholder owners. Today’s form of shareholder capitalism, often called ‘fiduciary capitalism’, is in direct contrast to this.
Fiduciary capitalism
Fiduciary capitalism is the term used to describe a new style of corporate governance practised by a new breed of investor - the sophisticated institutional fiduciary.
Agency issues and lack of accountability
A key characteristic of fiduciary capitalism is that its participants, predominantly institutional investors, are not owners in the sense they benefit directly from ownership; rather they are agents of these owners. They, and myriad other fiduciary agents, form the long agency chain that exists between the owner and user of that capital. They are passive in their ownership. Fiona Reynolds, in her recent Cuffelinks article on United Nations Principles of Responsible Investing (UNPRI), described this as the ‘investment chain’ and exhorted agents to become active and responsible investors.
Ownerless capital
In a system where the gap between the owner and the user of capital is vast, any ownership empowerment is virtually impossible. This dilution has led to such capital being described as ‘ownerless capital’.
It’s difficult to see how successful governance can ensue in such a system, given the complete lack of accountability for those to whom power is entrusted.
In reality, managements are neither effectively accountable to individual shareholders or to the institutions and fund managers who are the agents of the ultimate shareholders.
Universal owners
A universal owner is a large institutional investor that holds its shares for the long term, in a portfolio that represents a broad cross-section of the economy, and mostly trades to maintain its index.
Large institutional investors have a spread of asset holdings across diversified asset classes and economies. Not only the asset in which they are invested, but also the economy itself influences returns for these institutions. This breadth of ownership is the reason they have been termed ‘universal owners’.
In these economies, universal owners come to occupy a quasi-public position in effect having an economic interest in the long-term health and well-being of society as a whole. This somewhat unusual position suggests an interest in matters beyond standard macroeconomic policy issues, but more specifically in regulatory policy, and for example the provision of public goods such as education and health and infrastructure. Understandably perhaps, many universal owners confronted with this potential have moved cautiously not conceiving themselves as public policy makers.
James Hawley and Andrew Williams, in their article ‘Can universal owners be socially responsible investors’ predict the future may well be very different.
“… as the ultimate beneficiaries - pension fund participants, mutual fund owners, etc. - come to realise the importance of universal owners acting as such, more fund managers will find the political room to use the potential power that universal owners possess.”
Why Active Ownership Matters
In their article ‘Capitalism without owners will fail’, Robert Monks and Allen Sykes highlighted various weaknesses in today’s shareholder capitalism.
Among them are the inappropriate powers of corporate management, deeply entrenched short-termism, absentee ownership, managements not effectively accountable to individual shareholders or their agents, board composition and accountability, and remuneration practices.
They went on to say:
“The prime weakness underpinning all the others is undoubtedly the absence of effective, committed, knowledgeable long-term owners.”
Central to their debate is the notion of responsible ownership being critical to a corporate ethic. They state:
“The principal responsibility for shareholders is – or ought to be - to assure that the businesses they collectively own voluntarily disclose information necessary for appropriate law-making, exercise restraint in influencing the making and enforcement of law, and comply spaciously with the law. Only in this way can we ensure corporate functioning that is both profit-taking and compatible with the public good.”
I think we all buy the argument that accountability and responsibility rest with ownership. Equally shared are the frustrations that exist with respect to the frameworks within which we operate where an abundance of regulations, global and domestic, are unfolding in an attempt to safeguard our somewhat rocky financial systems. But we appear to be caught in a vicious circle where weaknesses reinforce each other.
What can we do?
A few practical suggestions come to mind:
- Analyse our own behaviours, knowledge, thought processes and commitment with respect to assets we own and enhance or change what might be necessary and practicable.
- Exhort those who act on our behalf to take responsible active roles with respect to our assets and hold these agents accountable.
- Where we ourselves act as Trustee and/or Agents in the investment chain ensure we play an active, committed and responsible role; that we have appropriate knowledge; and that we have great clarity in decision-making ensuring the long term benefit of those for whom we act is front of mind.
- With respect to our assets which one day will pass to our family members and others through our wills, ensure that those to whom the task falls have knowledge or the capacity to increase their knowledge to enable them to perform this task responsibly.
- Encourage our younger family members to involve themselves in their own assets, particularly their superannuation. First step is for these members to understand that their superannuation is an asset of theirs, they will eventually take possession of it, they have choices as owners and they stand to benefit from understanding their choices.
In today’s increasingly institutionalised and globalised world, unless empowered ownership becomes reality, capitalism, as we know it, is at serious risk. We need to act to minimise the dilution in the power that rests with the owners of assets.
Melda Donnelly is the founder of Centre for Investor Education and is an Independent Non-Executive Director of Ashmore Group, Treasury Group and Unisuper. She is a member of the Advisory Committee of the Oxford University Centre for Ageing.