Nadig: Every Equity ETF Can Impact Governance

February 27, 2018

[This article appears in our March issue of ETF Report.]

This issue of ETF Report is chock full of discussion of ETFs that are specifically designed to provide exposure to ESG factors. And that’s great. I continue to think that these products fill an important hole in the ETF landscape, and that they’ll attract a slow, steady stream of assets for the long haul.

Governance & ETFs
But this past year has also brought to light a different kind of governance issue, and one that may in fact be more important. Anytime you buy any traditionally structured equity ETF, you own a prorated portion of the underlying stocks. Your $100 in an S&P 500 ETF translates into some small fractional share of Apple, Facebook and Caterpillar. We all know the big benefit of that ownership—you participate in the financial life of each company—its dividend stream, its stock market performance.

But it also gives you a say in how each one of those companies is actually run. That means, even in a small way, you’re responsible for executive compensation, voting for board members, and siding with (or defending against) activist investors, for potentially thousands of companies.

In practice, you’ve outsourced that decision to the ETF issuer. The issuer puts in place a process for voting all of the shares it owns on behalf of ETF investors. If you ask a disgruntled public company CEO, they’ll suggest that big index players like BlackRock or State Street are either rubber stamps for management, or rubber stamps for any activist who shows up with a crazy idea.

Issuers Take Action
That’s really not the case, however. This summer, State Street voted against the slates of directors proposed by companies over 400 times, because those companies failed to add women to their boards. And BlackRock recently published an open letter to markets, putting every company on notice that they would be taking a hard, hard look at everything from executive compensation to community development to environmental impact.

It may seem like marketing spin—and hey, I’m sure that’s part of it—but this really matters. Taken as a group, the index owners of the world actually wield an enormous amount of power. Heck, ETF investors alone control some $5 trillion in investable global assets. That money talks, and strong governance positions by ETF issuers will mean companies have to listen.

The day is coming—soon—when the decision about which S&P 500 ETF to own will come down to a bit more than basis points. With the fee war still in full swing, the difference between super-low-cost beta in highly liquid packages gets harder and harder to discern. Instead, you, as an investor, will have to base your decision on factors other than cost, and governance might just be the biggie. So next time you’re picking between flavors of vanilla, ask yourself how they’re going to vote.

After all, it’s your money.


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