Alongside its progress report on implementation of the recommendations of the Kay review of equity markets, the Department of Business Innovation and Skills last week published a commissioned research paper.
Ostensibly about metrics and models used to assess company and investment performance, which was one of John Kay’s concerns, it wanders far and wide; so much so that consideration of metrics and models is scant. In its 113 pages, there is no room for even a solitary mention of the most commonly reported investment performance metric, the Sharpe ratio, and alpha, beta and tracking error get only passing acknowledgement. What little there is on metrics or models is drowned by the kitchenalia that occupies most of its pages.
Given the overarching objective of this BIS work-stream is to improve the culture of long-term equity investment, some discussion of the ways in which the long-term differs from the short-term might have been expected, but it isn’t there. Indeed, we might even have expected some discussion of the differing characterisations of the long-term by investors and others, but again we would be disappointed. That was a fine opportunity missed, as we all know that a week is a long time in politics.
Principal-agent problems dominate the rambling that is present. The authors see such relations where none exists – notably between the management of a company and its shareholders. To be absolutely clear here: The relation between pension trustees and their fund managers is one of principal and agent, as is the relation between the board of directors and the management of a company. However, neither the board, nor the management of a company are the agents of shareholders, nor for that matter of any other stakeholder. This misconceived view arises from the doctrine, which is only dogma, of shareholder primacy, which promotes the idea that the pursuit of shareholder gain is the prime purpose of the company.
This view is profoundly offensive, as it places private interest ahead of the common good. It also fails to take account of the deep insight at the heart of the Black Scholes analysis, which brings into question not just whether a dispersed shareholder base can be thought of as owning a company, but extends as far as a single controlling shareholder when the company has debt. John Kay has on numerous occasions made the point that shareholders in fact possess only a very few, a minority of the property rights that together we think of as constituting “ownership”.
In this light, we should revisit much of the corporate governance and stewardship literature, noting the rather limited ability of shareholders to bring about change. Very little of this research paper, would survive this process.
There is no denying that much progress has been made towards the objectives of the Kay Review, but it is clear that in many instances the words and actions are irreconcilable. Take the minimum standards of behaviour for investment intermediaries, which were published by the BIS in response to the Law Commission’s review of fiduciary duty. These state:
“All participants in the equity investment chain should act:
- in good faith;
- in the best long-term interests of their clients or beneficiaries;
- in line with generally prevailing standards of decent behaviour.
This means ensuring the direct and indirect costs of services provided are reasonable and disclosed, and that conflicts of interest are avoided wherever possible, or else disclosed or otherwise managed to the satisfaction of the client or beneficiary.
These obligations should be independent of the classification of the client.
They should not be contractually overridden.”
The recent public controversy over fee non-disclosure clauses in investment management contracts looks extremely poor in this light. “Words and figures do not agree” was once the principal reason for returning cheques unpaid; “words and actions do not agree” should similarly carry costs and sanctions.
Con Keating is head of research at BrightonRock Group and can be contacted at: con2keating@brightonrockgroup.com
Comments