Morehouse College President David Thomas and Airbnb executive Tara Bunch joined rareified company this past year with appointment to Vanguard Group’s board of directors. They can expect annual pay of about $300,000 to help oversee the money-management giant’s 240-some mutual funds and ETFs.
Beyond that, they will be at the forefront of a battle to reorient investment portfolios toward “ESG”–outcomes desired by environmental, social and governance activists. The financial sector generally is assuming more prominence on ESG—even assuming a front-row position at the recent COP26 climate-change powwow.
As the nation’s second largest funnel of investor assets, Vanguard is in a tricky place. Its historical mantra is that passively held, well-diversified and low-cost funds are in the best interest of those investors. ESG promotion, to which Vanguard has managed a cautious straddle, is seemingly at odds with a minimal-touch philosophy. Although proponents argue that adherence to ESG standards (whatever they may be at any given time) adds value to investment performance, that is an unsettled question. See, for example, the recent criticism of socially-conscious Unilever’s attempt to “define the purpose” of its best-selling mayonnaise by the founder of Fundsmith Equity of the UK.
At Vanguard’s even bigger rival BlackRock, there’s a more pointed stance, entailing a “reallocation of capital” within its actively managed funds. CEO Lawrence Fink has become a vocal critic of what he might call “unsustainable” businesses—and with the weight of his firm’s $10 trillion asset portfolio behind him, he’s hard to ignore. Vanguard takes a somewhat different slant: It emphasizes it watches for ESG exposure not as a critic but as a conservative fiduciary. Its concern is the prospective costs to companies from environmental, social or governance developments—including political actions. It will seek to influence those companies internally (sometimes by favoring dissident shareholder proposals).
This can be seen as an “ESG echo” policy—Vanguard isn’t saying it disapproves of contra-ESG business practices (fossil fuel extraction, for example), but that the disapproval by others—such as elected officials, regulators and pressure groups–could hurt investments and therefore the boards of portfolio companies must be mindful of these in some measurable way. Likewise, of course, they should be wary of first-order risks from climate-related weather events, pollution, labor or other civil strife and corporate corruption.
An ESG-echo approach much like Vanguard’s seems to be the way sustainability is commonly being sought. As a major piece from Bloomberg Businessweek acknowledged with implied surprise at year’s end, Wall Street’s main ESG evaluator is weighing how the social and environmental dynamics may affect the companies, rather than vice versa…so your ESG-themed fund may not be wearing quite the halo you think it is. (Bloomberg itself, both as an editorial operation and as the founding billionaire’s overall thrust, is a Fink-like scold on such matters.)
Indeed, major commercial banks have adopted an echo stance on carbon emissions, and the U.S. Federal Reserve has similarly, in support of them. They are watching loan exposures that could bite them if “net-zero” becomes the order of the day. This creates a double-echo effect: Bank lending is one of red flags that Vanguard says it is watching in order to apply sway as an equity investor. Which comes first, the debt or the stock?
Whether as a proactive ESG scold, or as a reactive ESG echo, the influence is similar. But Vanguard, owing to its root investment philosophy, is clear that it won’t disinvest as a tactic. Rather, while continuing to hold the shares of ESG laggards in most circumstances, it will vote its proxies in line with the ESG echo guidelines.
This is where directors like the newcomers Thomas and Bunch come in. They are the stewards of the Vanguard investment ship, setting its compass. There’s a further twist, however: Unlike at BlackRock, where Larry Fink and other directors are elected by shareholders in the asset manager, or at private companies like Bloomberg that are not beholden to outsiders, Vanguard is a firm ostensibly owned by the investors in its funds. Thus those investors, who are directly affected by how ESG impacts the assets in their funds, might wish a say in setting the ESG policies. But they actually don’t have that at Vanguard. The group’s directors are chosen, effectively, by the management at Vanguard. (In literal terms, the Vanguard funds—without a vote by fund-holders–choose the Vanguard Group’s directors.) Policymaking is, you might say, circular.
No wonder, then, that whatever their own political views, those who control Vanguard have staked out a cautious—if nevertheless powerful—presence in the ESG push. So far, at least. American institutions are in these times not necessarily anchored.