In this season of elections, exchange-traded funds continue to shine as effective vehicles for the “democratization of investing,” as many market observers have said, but their utility for furthering shareholder democracy is only just being tested.
In response to a mix of demand and political pressure, many of the largest equity index fund managers have recently extended the liberty of voting the underlying proxies to their own mutual fund and ETF shareholders. Such privilege previously only belonged to large asset owners in externally managed collective investment pools and separately managed accounts. But whether this is an opportunity or a nuisance for ETF shareholders remains to be seen.
“As part of their fiduciary duty to clients, asset managers look to maximize financial value creation. This is not the responsibility of their clients,” said Emma Harper, vice president and senior research analyst for responsible investing with Sage Advisory Services.
With $26.6 billion of assets under advisory, Sage recently released its stewardship report and noted “a reduction in the quality and depth of stewardship services being exercised on behalf of investors at a growing number of ETF management firms.'' Dual track engagement — one for sustainability-minded clients and another one for everyone else — creates “the potential for the miscommunication of business priorities'' between companies and ETF managers.
According to S&P Dow Jones Indices, at the end of 2023, nearly 900 asset owners in the U.S. and Canada, primarily government pension funds, were utilizing ETFs. Roughly $44 billion of the $56 billion in assets was allocated to equity ETFs, 97% of which was in passive products.
Enthusiasm for environmental and social proposals at the largest passive managers has dwindled due to the specificity of some demands. For the proxy year ended June 30, BlackRock, Vanguard Group and State Street Global Advisors exhibited a “steep” decline in support for E&S proposals, which they described as “‘prescriptive,’ ‘poor quality,’ or ‘redundant,’” according to a September report from Morningstar Sustainalytics.
Wheels in motion
Nevertheless, the wheels of fund shareholder democracy are set in motion and a vehicle with this much momentum is difficult to turn around.
Equity holders, from retail investors all the way up to the largest asset owners, utilize their votes on a range of issues, from approving corporate directors and external auditors, to nonbinding approvals on CEO pay, as well as a variety of both management and shareholder proposals. Most are rarely contested, except in the case of activist investors looking to replace corporate directors.
Through the second quarter of 2024, roughly half of BlackRock’s $5.7 trillion in index equity assets under management were eligible for Voting Choice, of which nearly $646 billion in assets took that opportunity.
According to BlackRock, investors in “over 650 global funds” are eligible, including the $566 billion iShares Core S&P 500 ETF (IVV). Investors were able to choose between BlackRock’s benchmark policy or guidelines from proxy advisory firms Glass Lewis and Institutional Shareholder Services. In July, BlackRock added Egan Jones to give clients up to 16 distinct voting guidelines.
BlackRock’s program also includes a retail pilot, launched in February, that was extended to “more than three million U.S. retail shareholder accounts invested in (IVV),” representing roughly half of the ETF’s asset under management at the time of the announcement, according to BlackRock.
Vanguard recently released details on its own Investor Choice pilot across four funds and one ETF, “representing over $100 billion in assets,” according to Vanguard. The program offers clients four options — a Vanguard policy, a company board-aligned policy, a Glass Lewis ESG policy and abstention.
For the Vanguard ESG U.S. Stock ETF, 78% of pilot participants opted for the Glass Lewis policy. For the other funds, between 18% and 22% of participants chose the ESG policy while about 45% opted for the Vanguard policy, 30% to 33% sided with the board, and few chose to abstain.
On Nov. 18, Vanguard added three funds to its pilot, replaced the abstention option with a mirror voting policy “which votes an investor’s proportionate shares in approximately the same proportions as the votes cast by other shareholders,” according to a Vanguard press release, and added a policy from Egan Jones “that focuses on maximizing shareholder value without being influenced by political or social agendas.”
At SSGA, investors in about $1.7 trillion in index equity assets have access to voting choice, including relying on SSGA, voting in line with the board or abstaining, or choosing one of seven distinct policies published by ISS. SSGA's program is now available to shareholders of all eligible U.S. index mutual funds that invest in U.S. equities.
(ETFs structured as unit investment trusts — SPDR S&P 500 ETF (SPY), SPDR Dow Jones Industrial Average ETF (DIA), and SPDR S&P Midcap 400 ETF (MDY) — use a mirror voting approach, according to each prospectus.)
"Currently the SSGA investor voting choice program is available to over 80% of SSGA's eligible equity index assets under management globally," said Edward Patterson, managing director and global head of public relations for State Street Corporation. "Unlike an SMA or unregistered commingled fund, ETFs and mutual funds have the added complexity of identifying the end shareholder," he added.
“These programs have become a competitive differentiator for asset managers,” said Danielle Gurrieri, head of bank broker-dealer and digital center of excellence product management at Broadridge, which provides the connectivity for asset managers to assess and assign investor proxy choices.
“Significant asset manager due diligence goes in to selecting the policy choices,” said Gurrieri, adding that U.K. and EMEA investors have been particularly interested. “It’s also a way to capture investor preference and apply it.”
Lindsey Stewart, director of stewardship research and policy at Morningstar Sustainalytics, confirmed that European clients “have much higher sustainability ambitions,” but also noted the “bedding down period” on environmental and social proposals from the recent proxy season results.
“In the U.S., sustainability has definitely shifted on the client side as well,” Stewart said. “To the extent of proxy choice, the complexity may overshadow the utility. For some investors, amid an array of choices, it’s just one more form to fill in.”