GPIF's stock-lending stance moving governance forward

Japan's ¥161.8 trillion ($1.49 trillion) Government Pension Investment Fund effectively raised the bar for fiduciary stewardship standards with its Dec. 3 decision to suspend the stock-lending program it introduced in 2014 for international equities.

Temporarily giving up ownership rights when stock is lent out conflicts with GPIF's responsibility to exercise its stewardship responsibilities for an international equity portfolio that had grown to ¥42.5 trillion as of Sept. 30, the fund explained in a news release posted on its website.

That decision will cost GPIF more than $100 million a year in lost revenues, according to the Tokyo-based giant's most recent annual report. For the three fiscal years through March 31, 2019, GPIF garnered $345.7 million from lending out its international equity holdings— $115.2 million a year on average — an amount equivalent to three-quarters of a basis point of the broader portfolio's value.

The fund predicts the payoff from stronger governance and stewardship will more than compensate. "While it's true that over the short term the fund will be foregoing lending revenues, the deeper level of engagement this move makes possible should boost market growth and sustainable returns over the long run," said Naori Honda, a Tokyo-based spokeswoman for GPIF.

The GPIF move meshes with broader institutional trends on voting rights — which "barely rated a mention 10 years ago" but are now widely accepted as something of considerable value, said Joey Alcock, a principal consultant and chairman of the responsible investment group at Melbourne-based Frontier Advisors Pty. Ltd.

But the new element in play with GPIF's high-profile move is "how explicitly the messaging around stewardship is being promoted as the primary driving factor behind GPIF's decision," Mr. Alcock said.

"Given GPIF's size and prominence (increasingly so on ESG in particular) … it's reasonable to expect that this announcement will prompt other asset owners to review their approaches and perhaps copy GPIF's approach," he said.

Some asset owners in the region say they have policies in place to address some of the transparency hurdles GPIF said would need to be addressed before its stock lending program can resume — such as identifying who the ultimate borrower of a stock is and why they're borrowing.

New Zealand Super has a recall program to retrieve lent-out shares of companies on its engagement list in time for proxy votes, and the fund strives to ensure that borrowers "are not borrowing to vote," said Conor Roberts, a spokesman for the NZ$44.6 billion ($28.5 billion) Auckland-based sovereign wealth fund.

The GPIF's latest announcement, meanwhile, will be one data point when New Zealand conducts a regularly scheduled broad review of its operations over the coming year. "We will do a refresh of the landscape as part of our responsible investment strategy review — including what our peers are doing, new standards" etc., Mr. Roberts said.

Mr. Alcock, meanwhile, noted that some investors have begun ascribing actual dollar values to voting rights now.

For GPIF, the value of retaining its ability to vote its shares is at least $115 million a year over the past three years.

GPIF earned almost as it did on foreign equities by lending out its roughly ¥29.3 trillion portfolio of foreign bonds as of Sept. 30 — a program that the fund's Dec. 3 announcement said will continue. The GPIF spokeswoman cited the absence of formal avenues for engagement with companies issuing bonds — such as annual shareholder meetings for equity owners — as the reason for the different treatment between stocks and bonds.

If being able to identify counterparties looking to borrow GPIF-owned shares and learn their intentions are requirements for the resumption of the Japanese pension fund's lending program for international equities, that could prove a bridge too far, some industry veterans predict.

Getting cooperation on that score will prove difficult as anonymity is an "entrenched and cherished part of the process," said Charles Van Vleet, chief investment officer and assistant treasurer for Providence, R.I.-based Textron Inc.'s $11.8 billion in retirement assets.

Borrowers are commonly short sellers — not keen to be identified, he noted.

For now, if the GPIF's latest move makes it the tip of the spear in emphasizing the importance for long-term investors of voting their shareholdings to fulfil their fiduciary obligations, it's likely to get less lonely in the coming years, industry veterans predict.

Frontier's Mr. Alcock said GPIF's approach, while potentially an emerging paradigm, is unlikely to be so widely adopted that liquidity for short selling is negatively affected — a development that would undermine the efficiency of equity markets.

Still, the speed with which environmental, social and governance approaches are being embraced by asset owners and money managers alike now is adding an element of risk to making predictions.

The speed with which responsible, sustainable investing practices are gaining traction now in global markets is simply phenomenal, noted the Singapore-based head of investor services, Asia-Pacific, with one global bank, who declined to be named.

"We can't deny ESG more generally is growing exponentially as an investment consideration so this could be one of the dynamics that follows in the wake," Mr. Alcock said.