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Suddenly Vanguard, BlackRock, State Street not only have the assets but the power of ESG mandates, which make them a growing threat to shareholder democracy, critics say

A handful of super-charged fund managers control $34 trillion of assets and most of the ESG inflows, giving them 'carte blanche' to shape corporate policies.

Wednesday, July 28, 2021 – 10:35 PM by Oisin Breen
John Rekenthaler: I am concerned about the amount of power the [biggest fund managers] wield, even if they wield that power well.

The embrace of ESG by an ETF power bloc of BlackRock, Vanguard Group, Fidelity Investments, Capital Group and State Street may augur a dark future where they hold the power to sway shareholder votes, according to RIAs, fund trackers, hedge funds and ESG advocates alike.

Vincent Deluard
Vincent Deluard: Shareholder democracy will not work as intended.

The rising chorus of critics say the elite exchange-traded-fund producers from Boston, New York, Philly and Los Angeles pose a rising threat to "shareholder democracy" -- albeit because the power has been thrust upon them. 

Investors and advisors have not only funneled their assets to the ETF elite for the past decade but also made them all powerful by giving carte blanche to deploy Environmental, Social and Governance (ESG) filters that would freeze out scores of companies. 

But now American investors need to be careful about what they asked for, says Vincent Deluard, global macro strategist at New York City brokerage, StoneX.

"It doesn't matter whether it's Vanguard, BlackRock, Fidelity or the California Public Employees Retirement System; if two or three investors control 20% to 40% of the vote of every US company, shareholder democracy will not work as intended," he says, via email.

Between them, the big five manage $27.7 trillion in client assets globally, and administer over $34 trillion. In US equities alone, the grouping manages $15.07 trillion, or 61.89% of all assets held in US equity funds, according to Morningstar Direct.


Indeed, one veteran Morningstar voice is troubled by the potential implications of placing so much power in the hands of so few, warning that their growing stranglehold on US equity funds will hand them a de-facto veto on all major corporate decisions by 2040.

Peter Krull
Peter Krull: 'I simply don't trust them, or their motives.'

"I'm concerned about the amount of power they wield, even if they wield that power well. If the sales trend over the past decade continues, then the 35% [cumulative voting] position will occur circa 2040," says Morningstar vice president for research, John Rekenthaler. via email.

"[Then they] truly would be kingmakers. Unless a proposal is so wildly unpopular as not to attract even a 15% vote from remaining shareholders, [they] could ensure the initiative passes."

"Conversely ... they could effectively shut down almost any activist activities," he adds, in a June 7 Op-ed.

BlackRock and SSGA signaled a willingness to comment on these raised concerns but ultimately declined. Vanguard did not respond to a request for comment.

Rekenthaler says what triggered the alarm was Vanguard, BlackRock and SSGA's early June decision to combine forces to topple a quarter of the Exxon Mobil board.

The trio acted in support of a bid by tiny activist ETF vendor Engine No. 1 to stack the oil giant's board with pro-ESG candidates.

The ETF group surely had a positive motive. 

Much of the ESG movement opposes fossil fuel companies that seek to maximize profits based on selling polluting products to customers who pump tons of carbon dioxide-- a greenhouse gas-- into the atmosphere.

"This topic wasn't on my radar when the biggest fund managers ... endorsed the status quo. I paid greater attention after the ExxonMobil vote," says Rekenthaler.

"The issue for me isn't how [this] big three voted, but my belated realization of what power they now possess," he explains.

That's no outlier, reports The Telegraph.

"BlackRock voted against 255 board directors at companies including Warren Buffett’s Berkshire Hathaway and oil and gas firm Exxon Mobil in the year to June 30, because they failed to act on climate issues," it wrote. "This is more than four times the 55 executives it rejected the year before."

Double edged sword

ESG advocates are also wary of that the power of big asset managers. They see it as a double-edged sword that, indeed, cuts both ways.

"I personally don't want Blackrock, Vanguard and SSGA to be the ultimate arbiters of proxy proposals, because I simply don't trust them or their motives," says Peter Krull, CEO of Asheville, N.C., RIA, Earth Equity Advisors, with $145 million of AUM.

"Worst case scenario is that the big three suddenly turn their backs on any sort of positive ESG voting," he adds, via email.

Indeed, even today the record of major fund managers in proxy votes shows that more often than not they effectively block pro-ESG initiatives, according to a Morningstar report.

In 2020, BlackRock funds, for instance, voted in favor of just 16% of ESG proposals put forward, and Vanguard backed just one-in-four,

Overall, Vanguard manages $7.9 trillion globally, BlackRock $9.5 trillion, SSGA $3.9 trillion and Capital Group $2.3 trillion. Fidelity  administers $10.4 trillion and manages $4.1 trillion.

In US equity funds alone, Vanguard manages $6.8 trillion, BlackRock $2.65 trillion, Fidelity $2.4 trillion, American Funds $2.2 trillion and SSGA $970 billion, according to Morningstar Direct.

Inevitable outcome

The rise of a corporate control of millions of proxy votes on behalf of investors in pursuit of their own agendas was inevitable, according to Joshua Levin, co-founder and chief strategy officer of the now JP Morgan-owned direct indexer OpenInvest.

Joshua Levin
Joshua Levin: There are significant concerns around principal engagement, conflicts of interest, and monumental voting blocs

"The problem is not passive managers, active managers, or consumers. The problem is a paper-based legacy system that favored corporatism.

"This system was already heavily consolidated in favor of corporate managers [and] it is largely paid for by corporations ... [who] have enjoyed nearly impenetrable board voting power as a result," he says, via email.

"What's happening now is that indexing consolidation is shifting some of that power from corporations to asset managers, and people are concerned. But I expect that index manager proxy power is a temporary way point," he adds. See: As part of sale to J.P. Morgan, OpenInvest is orphaning RIA clients.

Waypoint, or not, a raft of industry figures now assert that growing pressure to back 'ethical' shareholder resolutions in proxy votes has handed fund giants a license to use their increasingly decisive voting powers as they see fit, albeit wrapped in an ESG mandate.

Significant concerns

In recent years, activist groups including the Sierra Club have lobbied hard to compel asset managers to support shareholder resolutions favoring the aims of the surging "ethical" ESG movement. See: Sierra Club slams Larry Fink's 'lip-service' to green future.

Fund vendors, as a result, have begun to highlight their ESG credentials. Indeed, BlackRock CEO Larry Fink recently described what he saw as a "tectonic shift" toward ESG.

ESG lobbyists also have surging ESG asset growth to boost their ambitions.

In the last year, the value of domestic ESG fund investments more than doubled, up 123% year-over-year, to $266 billion, as of March, 2021, according to Morningstar Direct.

Indeed, since March, US ESG fund assets jumped another 14%, to $304 billion, including $17.5 billion of net inflows, according to the latest July Morningstar report.

An estimated 33% of the roughly $51.4 trillion in domestic managed assets are also held in sustainable investments, CNBC reports.

RIAs have also come under pressure from ESG lobbyists to take a more active role in convincing their clients to invest in ESG funds. See: RIAs are just not that into ESG investing -- at their peril, a new study says.

For years, however,  the shoe was on the other foot. 

"There are significant concerns around principal engagement, conflicts of interest and monumental voting blocs that historically defaulted to management positions," he explains.

Yet the more asset managers get proactive about pushing an agenda during corporate proxy votes, the more corporate decision-making becomes contingent on the caprice of a small group, according to Levin.

"Rekenthaler [was] right to call out potentially concerning levels of control over shareholder voting from the big index managers," he says.

Threat to free enterprise

All of the big five fund companies have backed pro-ESG shareholder resolutions in recent years.

Michael O'Leary
Michael O'Leary: [Investors] can't be expected to cast ten thousand ballots themselves

In June 2020, Vanguard backed resolutions to cut carbon emissions at United Parcel Service, J.B. Hunt Transport Services and oil driller Ovintiv. Later in the year, BlackRock pledged to back an increasing number of ESG resolutions in corporate voting, and

Backing ESG resolutions is increasingly good for business, too, as ESG funds grow in popularity. It also contributes to a company's corporate social responsibility agenda.

Yet Engine No. 1's plucky campaign to put four of its own candidates on Exxon Mobil's board has focused several industry minds on the possibility that the concentrated voting power of halo wearing ETF makers could pose a threat to the free enterprise system.

The mouse that roared

Founded last year by a consortium of private equity investors--Goldman Sachs, BlackRock, and Bain Capital alumni--Engine No. 1, began targeting Exxon in Dec. 2020.

Three of its four candidates now sit on the Exxon board, despite the fact that Exxon outspent its campaign by a factor of ten. Indeed, Engine No. 1 only achieved its goal as a result of Vanguard, BlackRock and SSGA's decision to back the company's bid as a bloc.

In doing so, the three firms demonstrated that they hold the balance of power, even at a company as individually powerful as Exxon, which has a market capitalization of $243.75 billion.

Today, Vanguard, BlackRock and SSGA, alone, control a minimum 43.47% of the domestic fund industry’s holdings in US-listed companies, and they have posted the highest net new US equity ETF and mutual fund sales, according to Morningstar Direct.

Engine No.1 launched its first ETF (VOTE), Jun. 22. VOTE tracks the Morningstar US Large Cap index, and the company has pledged to push ESG resolutions across the companies it invests in.

New York City robo-advisor Betterment also just rebalanced its ESG portfolios to include VOTE.

Fifty years out of date

The concentration of corporate voting power among fund vendors hinges specifically on the fact that ETFs and mutual funds disintermediate investors from the stock they hold, leaving the job of buying and selling to expert traders.

Now, as a result of the massive surge in popularity of "set-and-forget" index ETFs in the wake of the last financial crisis, the largest asset managers are responsible for the proxy votes of millions of shareholders.

It's a problem that needs to be solved, says Michael O'Leary, managing director at Engine No. 1, via email.

"Disintermediated voting is a great solution for the way people invested fifty years ago before the advent of index investing. Today, many investors hold hundreds or thousands of stocks through index funds. They can't be expected to cast ten thousand ballots," he explains.

The system worked, when no one paid attention, adds Levin.

"Proxy voting has traditionally been a perfunctory backwater, where large asset managers are mainly concerned with fiduciary compliance and operational ease. The common logic has been to default to management positions for those reasons, and no one looked askance," he explains.

System flaw

The systems built to manage proxy voting also weren't designed to handle the scale of today's fund industry, or the complexity of ESG, says Deluard

This leaves asset managers and the outsourcers they depend on underfunded and understaffed, he explains.

"Practically, BlackRock and Vanguard do not have the staff or the expertise to cover all the votes they are a part of, [so they also] rely on equally understaffed and unaccountable proxy voting firms," he continues.

"[Proxy advisors] focus on 'low-cost/low-value voting', which doesn't require much research.

"They typically vote for independent directors, splitting the roles of CEO and board chairman, and against poison pills and multiple-class share structure[s] ... [which] may reduce governance risk but is unlikely to move the [ESG] needle," he says.

At one major proxy outsourcer, Institutional Shareholder Service, a team of some 270 global research analysts covers 40,000 shareholder meetings and an estimated 250,000 votes.

BlackRock, which boasts of having the "largest global stewardship team in the industry," employs roughly 50 staff over 85 voting markets.

It's good to be king

One solution floated by Levin, among others, is to use technology to strip voting power from fund vendors and hand it back to the individual investor, although some say the proposal is pie-in-the-sky.

"Exposing voting rights to individual investors is right around the corner. Rekenthaler points out the sheer volume of ballot measures. Yet to use a metaphor, while there is an overwhelming volume of songs I could choose from, this doesn't stop me from streaming music," Levin explains.

"Once there's sufficient consumer awareness, then there's a market to deploy the curation technologies that can make proxy voting a thrilling experience. I also expect financial advisors, influencers, and other intermediaries will play a big part of that on-platform curation," he adds.

Yet fund companies are unlikely to just hand over the power they've become used to holding, says Deluard.

"Why not develop tools which would allow motivated Gen-Z-ers and Millennials to vote via their Vanguard account or Robinhood app? My guess would be that Larry Fink would resist the idea."

"It’s good to be king," he adds.

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Karl McGaugh

Karl McGaugh

August 16, 2021 — 2:09 PM
Great article! Yes, something needs to be done to limit this power but what? In my opinion, this began with the changes in the legal definition of a corporation. The limits were removed and now we have corporations owning other corporations. If this was outlawed then flesh & blood individuals would own as much as they want but corporations would be limited to their own stock. Competition would return to the market and individual investors would vote their conscience. This single change would solve every problem in this article and create vast new opportunities for investors. If Buffet wants to invest in a corporation he cannot be a corporation himself. And if he wants to be and private index fund he can not sell shares because he is not a corporation. He could sell his index picks as a research product but the selling of corporate bonds and shares are prohibited unless he is a corporation and if he becomes a corporation he is prohibited from buying shares in the companies in his index. This simple idea of prohibiting corporations from owning other corporations is the best way to limit and prevent multinational corporations (monopoly).
Mellisa Rose

Mellisa Rose

February 27, 2022 — 6:15 AM
Those that makes the rules wins the game. I'm curious, wonder what did those that made the rules have to do exactly to get where they are at? They have done the unthinkable, unimaginable, and many dishonest manipulations have they put forth, to be in the position they are at. Just think about a bunch of country folks take control of the world... TN. Way to go, what a disgrace you are, & greed doesn't look good on you !


January 23, 2022 — 1:03 AM
Hmmm History is replete with an almost endless cast of some of the vilest, evil, maniacal lunatics that bear a striking resemblance to the latest cast of would-be Kings and Queens. History also teaches us that that simply trying to change our rules imposed by their game never gets you out of the pot because they don’t follow any rules. In spite of the fact that History remains a startingly accurate and consistent guide offering considerable certainty that the latest crop of wannabe totalitarians and/or their seed will inevitably meet a similar fate, we must strengthen our resolve to resist complacency and indifference by whatever means necessary. Keep firmly in mind that if the outcome was as heavily weighted in their favor as we are being led to believe the seemingly endless machinations, manipulations and lies spewing out of every orifice of their regimes targeting the common man would not be necessary. In short, not only is it abundantly clear that the outcome is still very much in doubt, despite their every effort to convince us otherwise, that fact of the matter is that we still hold most of the hole cards…
Perry E Gibbs

Perry E Gibbs

July 29, 2021 — 8:30 PM
Those who make the rules win the game, and the people are pawns of the game, the corporate way. Nothing personal, it's business!


July 29, 2021 — 9:50 PM
Seems like every article assumes that ESG only looks at left wing issues... abortion, family values, gambling, porn, etc... never come up. Half of the investors would vote that way.

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