Friday 29 May 2009

Pulling at loose threads

The US Chamber of Commerce recently put out a report rubbishing the use of shareholder resolutions to achieve governance reforms. It argued that there was no evidence that such proposals are of benefit to shareholders, and the report itself even queries the amount that investors like CalPERS and TIAA-CREF spend on activism.

The US business community is currently lobbying on two fronts - against governance reform and against the Employee Free Choice Act, which would make it easier for US workers to unionise if they wish to. This report almost ties the two together by attacking trade union investor activism for governance reform.

But I can't help thinking that the general line that employers are taking here (and it is echoed by some of the loonier voices in the UK market) actually opens up some deeper questions that they probably don't want asked.

Let's be clear - most of the shareholder resolutions that US unions put up are on very mainstream governance issues - splitting chair and CEO roles, say on pay etc. That's why non-union investors vote for quite a lot of them, and why the US unions have a strong voice in corporate governance.

If we accept that these resolutions don't have a benefit for shareholders (a big IF, but let's take the report at face value for now) that implies that investor activism in general around governance is a waste of time. Again you do get people in the business community both in the US and here who take this view. And regular readers will know that I am myself a bit sceptical about how much investors can achieve.

But if we accept the broad shape of this argument it suggests we either decide that governance problems failures are pretty much unsolvable, or we find another way of addressing them. Let's assume for now that (though I have a little sympathy with it) the first view is pretty much unacceptable to most people. How else can we address these problems, or more explicitly who else should do it? The obvious answer is the state/regulators. If shareholders can't control the companies they are supposed to own, someone is going to have to do it for them. (And by the way this makes the instinctively anti-regulation stance of some of the investment industry lobby even less credible).

What's more, this also starts cutting away at the role of investors more generally. If they can't/won't perform the ownership role, then they really are just traders. That must affect how we view governance and who the key stakeholders are in it. What's more the professional traders we employ are taking a bigger chunk of our money through increasing fees (where's the competitive pressure here btw?) though returns to our pension funds aren't getting any better. And again the investors almost implicate themselves when they try and explain why they aren't more effective as owners - they can't know as much as the company, so how can we expect them to spot & address potential problems. True enough, but the same argument must surely lead us to question how they can forecast more generally. Put simply, can they even do the job we pay them to do?

I have no doubt that neither business or the investment community think they are making the arguments above, but the more they seek (for different reasons) to downplay the role of investors in governance the more they must lead people to question what the other options are.

Thursday 28 May 2009

That ownership issue again...

I regularly bang on about the the 'ownership' problem in the investor company relationship. Lately I've found myself in the bizarre situation where this issue has actually become a topic of significant debate. I'm not claiming any insight here, as in the bit of the world I inhabit other people have been making these points for some time, but it is striking to now find an emerging consensus that the ownership problem needs to be addressed one way or another.

The issue has been in the press several times, often prompted by speeches Paul Myners has given. And this week investment consultant Watson Wyatt (which advises many of the biggest pension funds) put out a paper called No Action No Option suggesting that trustees need to up their game. Notably the Watsons report highlights the problem of just delegating responsibility for this stuff to fund managers.

If the ultimate 'owners' - pensions funds for example - really do start taking this stuff seriously then we are in for an interesting time.

The real Middle Britain

My former colleagues at the TUC have published an ace-a-tronic new pamphlet - exec summary here - this morning taking a look at the mythical 'Middle Britain'. Rather usefully, they take a look at who actually resides there, as determined by their typical earnings, rather than the image created by rather well-paid journos and (generally) right-of-centre politicians.

The real Middle Britain is -

*Much less likely to have had a university education
*More likely to have experienced unemployment
*Much less likely to enjoy a final salary pension scheme
*Much less likely to hold shares and have significant levels of savings

There's a lot more to the report so go and have a read yourself.

The TUC has also created a whizzy little gadget to see where you fit in the income scale.

UPDATE: Ian pointed out the link to the MiddleBritainometer wasn't working - should be ok now.

Wednesday 27 May 2009

Robert Shiller podcast

His talk to the RSA is here.

Risk, uncertainty and profit

I'm just about to launch into this book, which has been sitting on my shelf for a couple of months now. The edition that I have includes four prefaces (three for subsequent re-issues) and if these are any guide to the content of the book I think I'm going to enjoy it.

What's particularly interesting about them is the very sceptical views he advances about some classical economic assumptions. I say surprising as I thought he was a 'Chicago school' economist (in the policy sense), whereas some of the ideas he expresses don't seem to fit very will with that sort of framework. Get a load of this:
"[T]here is an undeniable natural tendency toward increasing inequality and concentration of power under free enterprise itself, which political action seems the only way of counteracting."

There are also some interesting comments about consumer behaviour, like:
In the great bulk of wants satisfied through the market, a desire for 'goods and services' because of any intrinsic quality is a minimal element. Any realistic treatment of economic life, especially with reference to its problems, calls for recognition of a fairly clear scale of motivation, the strata of which range away from the purely economic level where physical means are used to realise ends which are quantitavely a function of the means employed...

Compared with subsistence and comfort, a much larger element in wants is aesthetic... Largely overlapping with the aesthetic element in wants are the purely 'social' wants merely symbolised by certain economic goods, as the desire to win in a game centres on points and prizes..."

And this is before we get into the real meat of the book which is famously about the distinction between risk and uncertainty. Looks like it will be an absorbing read.

Tuesday 26 May 2009

Employee directors

What Bob Piper said. I really think the labour movement ought to consider a push for employee directors. An employee rep on a remuneration committee would surely finally get companies to pay some real attention to the widely ignored bit in the Combined Code about being sensitive to pay and conditions across the company when setting directors' pay. The idea has also been picked up by the Treasury select committee recently. The important thing would be to ensure that they were properly supported in their position, which would require unions (or someone else) to devote a bit of resource to training etc.

A few years ago this would have been seen by many in the bit of the world I inhabit as very radical. But given the governance failures we've witnessed the mainstream consensus looks rather lacking, so why not?

The BNP, the Left and categorisation

Tom has an interesting post up about that old chesnut about the BNP being left-wing (he also has an utterly ace kittens video on his blog!).

It made me think about the point that some Righties make about how most BNP support comes is areas that have previously been Labour-voting. I'm genuinely not sure what this is supposed to mean. I mean there's sort of an implication that more working class areas are somehow inherently left-wing. So I guess the argument is that if such an area provides a lot of BNP votes therefore the BNP must be left-wing in order to gain their support. But then what if a formely Labour seat is taken by the Tories, does that mean that the Tories are left-wing? It doesn't feel right as an argument somehow.

To be fair, Hayek does an alright job in the Road to Serfdom of tracing an intellectual line between 'socialism' and the Nazis. There is quite a lot of material provided from German socialists who argued that Germany embodied socialism and so was preferable to other more economically 'laissez-faire' countries, like Britain. I still think the vast bulk of the socialist movement had very little meaningful overlap with the Nazis. There was some overlap, both intellectually and in terms of people moving from one camp to the other, but I don't think it was significant. (I also don't buy Hayek's general argument about socialism leading to totalitarianism, but that's another story).

That it turn got me thinking about how we define what is real, 'legitimate' socialism, or any other -ism, and what isn't. In my mind 'real' socialism can't overlap with Nazism because core principles - ie views of equality - are fundamentnally in conflict. But why is my view of socialism any more legitimate than those socialists Hayek identified as arguing that Germany embodied the idea, and as such must triumph in war against its enemies in order to further the cause?

Are the core features of socialism those set out in various works of socialist theory, or can they be found in the policies that are adopted by parties and governments that call themselves socialist? Or should we make assessments based on the outcomes of the policies that are adopted - a tool many use to 'prove' Labour's lack of progressiveness for example. As I've said before, whichever categorisation system you pick will (to a greater or lesser extent) define your answer for you. (And to be honest I suspect that some Righties who really aren't Hayekian adopt his analysis because it allows them to designate the BNP as being on the Left).

Ultimately this one can't really be solved. If we adopt different classification systems then often we will end up with very different aswers from the same info. And we can't overlook our tendency to choose a categorisation system that enables us to reach an answer we favour.

The only thing I can see to fall back is reasonableness - and perhaps I'm reaching for a comfortable categorisation system myself. So, for example, is it 'reasonable' to class the BNP as left-wing, knowing all that we know about Left and Right, and the extremes on both sides, and how they behave? Is it a definition that people would accept in ordinary useage, as opposed to a theoretical classification argument? On this basis, calling them left-wing again just doesn't feel right. In common with the other Tom I think the clear racist element of the BNP's programme is too much of hurdle to get over. Not very scientific I know, but in light of the problems in reaching a definitive answer from a theoretical point of view, is there a better way to answer this one?

Saturday 23 May 2009

John Kay quotes

From the rather ace final chapter of his latest book. I really ought to post up a review of it, but in the meantime...
The notion that market prices are the result of a plebiscite on competing estimates of fundamental value is far removed from the reality of frenzied trading in modern financial markets. Most participants are preoccupied, not with long-term economic trends and the competitive advantage of companies, but with evolving market opinion and the ephemeral news that passes across the Bloomberg screen.

In an efficient market what is 'in the price' is an average of divergent views. But often what is in the price is the manifestation of a common City view, generally held within the Square Mile, but not necessarily well-founded. The New Economy bubble was an extreme instance of widely held perceptions that were also widely at variance with reality.
No one can have live through the New Economy and credit bubbles and still seriously believe that market prices are a balanced representation of well-considered assessments of fundamental values of securities. An understanding of information asymmetry and the winner's curse is more important to an appreciation of modern financial market than the efficient market hypothesis.

Friday 22 May 2009

Tories on select committee in trouble

Caught up in the expenses row:
Conservative MP Michael Fallon, deputy chairman of the Treasury Committee, claimed £8,300 ($13,000) more than the rules allowed in expenses related to a mortgage. Peter Viggers, a Conservative MP who has sat on the committee since 2005, claimed £1,600 for, among other things, a floating duck island -- a miniaturized replica of a Swedish house that can serve as shelter for ducks. Both have gained a high public profile from their positions on the committee, by investigating banks, hedge funds, ratings companies and other parts of the financial system as part of a probe into the financial crisis in the U.K.

Thursday 21 May 2009

Another interesting speech from Paul Myners

City minister Lord Myners gave this speech to the IMA annual dinner on Tuesday night. Once again he had a crack at the issue of ownership, and there is plenty of stuff in the speech that I completely agree with. Like:
Institutional investors are expected to exert the influence and exhibit the values of “owners” but are incentivised to behave as “investors”, with performance scrutinised on a quarterly, monthly or even a daily basis.

In this context, we have almost certainly understated the profound challenges faced by the majority of institutional fund managers in fulfilling expectations in respect of the broader definitions of governance where they relate to ownership (here I exclude those fund managers who place governance at the core of their commercial offering).

To put it simply: most institutions are not set up to act as owners; they don’t have the mindset of owners and are not incentivised by their clients to act as owners. They are investors- leaseholders rather than freeholders.

Short termism, as practised by pension funds, is self-defeating for those charged with delivering pensions over many decades in to the future, and yet it remains a predominant form of behaviour.

A focus on “shareholder value”, as measured by relative share price performance over quite short time periods lies at the heart of a number of behaviours which have delivered less than ideal outcomes, such as:

the ascendancy of momentum investing which discourages contrarian thinking by all but a small minority;

a partiality to merger & acquisition activity which so often fails to deliver the outcomes promised;

the adoption of aggressive and inappropriate capital structures to fend off predatory activity by private equity and others; and

A failure to take account of the longer-term consequences of investment activity, including impact on the broader economy and society.

Great stuff. When I was still at the TUC I wrote a paper whilst I was on the beach on holiday one year, trying to sketch out the problem of 'ownership' in terms of the company-shareholder relationship. I never put it out, because I thought it was too negative (a friend in the governance world who read it told me it made them want to kill themself!). Funnily enough I reached pretty much the same conclusions as above.

I realise I am a bit of a geek about this stuff, but it does surprise me that (with a couple of honourable exceptions) Labour supporters and other lefties aren't more interested in this ownership issue, since it's pretty important in our model of capitalism. (And it has ramifications in a number of others areas - like exec pay). It's especially surprising given that the City minister is clearly interested in this issue, understands it (and I can't think of another Treasury minister who has grappled with it to this extent) and is trying to find some policy options that would address the problems that we have at present.

If you have any thoughts about this, now is the time to be getting them off your chest (and into the Walker Review). We won't have a better opportunity for a long time.

Blogger makes untrue claim shocker

AKA Iain Dale's wobbly pen.

Wednesday 20 May 2009

What the Shell vote means (and doesn't)

First some basic technical stuff. The vote doesn't mandate anything as it is only advisory, so there is no need for the company to claw back bonuses, resubmit the remuneration report or anything like that. It's embarrassing for them but doesn't require them to do anything.

Second, they clearly will have to do something about it. An obvious reponse would be to get rid of the discretion the remuneration committee has to over-ride/ignore performance targets, but I suspect quite a few shareholders will want to see a general overhaul of policy. The company will therefore have to consult with its biggest shareholders on how to put things right. There's also some talk about whether Shell's rem committee members should be ousted.

Thirdly a bit of context. That's four companies (the others are RBS, Provident Financial and Bellway) that have lost the vote on their remuneration reports so far this season. It's actually the same number (so far) as lost the vote in the 2005 season, so currently joint-top and this could well go on to be a record season.

But actually, given the scale of the crisis, is it that significant? I know there are lots of companies that registered near misses too, so the average vote against a rem report must be up quite a bit, but it's not a generalised revolt over executive pay. What it probably does represent is a toughened approach from some of the institutional investors (ie more willingness to vote against). But guess what, without mandatory voting disclosure we still can't tell exactly what is going on out there.

Looking more broadly, this AGM season probably will lead to more questions about remuneration. The select committee report last week was right to call for a review of how the shareholder vote on rem reports has worked. Have shareholders used the right effectively, and does it go far enough? Increasingly people seem to be asking whether the vote could be binding in any way. I suspect the momentum is there now to make this a live policy issue. Let's hope the Walker Review picks this up.

But to really push the envelope I think we ought to be thinking much more about whether executive remuneration as it is currently structured really does the job. Shareholders have chucked more and more money at directors in the past few years - do the returns they have received indicate it was money well spent? Can directors even influence some of the financial measures that underly incentive schemes, except by self-defeating short-term behaviour or massaging the figures? Don't underestimate the lack of a clear understanding of these issues amongst shareholders who have blindly pushed for 'performance-related' pay.

I don't think we are yet at the stage where shareholders are asking these deeper questions. But it is certainly the time to push in this direction.

IMA shareholder engagement report

We had a few disagreements with the Investment Management Association (IMA) when I was at the TUC over the voting disclosure question. But I won't deny that their engagement report, out today, is a nice piece of research. Worth a read.

Tuesday 19 May 2009

Shell loses...

Another remuneration report bites the dust. The shareholders are revolting...

Shorting again

Just a couple of pointers to more commentary on shorting. The IMA's response to the FSA consultation, and an EDHEC paper on the impact of bans (you'll need to register to get this one, it's the third paper down in this list).

Let's be absolutely clear about this - the overwhelming consensus of opinion is that shorting bans are ineffective (if not actively damaging to financial markets). There is actually a stack of academic evidence that such opinions are based upon. Much as I am sceptical about the benefits of shorting, I really don't see any compelling case against it (except the more general point about trading costs). In short (ho hum) I don't think it is really something lefties need to worry about, unless part of a wider push to reduce stock turnover.

If I had two spare days and a bigger brain

The Paul Woolley Centre for the Study of Capital Market Dysfunctionality has its conference coming up next week, for anyone with a couple of days to spare. I've posted one of their working papers up previously, and there seems to be quite a bit of interesting stuff coming out of the Centre. Quite a lot of it is above my pay grade tho, so it's something I follow with interest from afar.

Friday 15 May 2009

GMB Pensions Q&A

The latest communique from GMB pensions czarina Naomi's Wimbledon command bunker...!

Welcome to the May edition of the Pensions Q&A, today we have some comments on the Budget and a pilot of a new section of the Q&A called ‘fascinating facts’ (please note this title is in no way intended to suggest the facts included will be fascinating). So settle back and I’ll get started. You should be aware also that my expenses claim for producing this month’s Q&A is on its way to GMB expenses HQ in my new hovercraft kindly donated by an MP who said it clashed with the helicopter the taxpayer also bought for him.

BUDGET - Tax Relief
The biggest story for hard pressed commentators was apparently the end of every defined benefit pension scheme in the country as a result of less than 350,000 people getting less tax back than they have become accustomed to. The 350,000 are those earning over £150,000 a year, the sort who can afford to use the tax relief they get on their pension contributions to line their moats.

Tax relief on pension contributions for individuals is assessed on the basis of the highest rate of tax paid. So if you earn a penny over the higher rate tax band you get 40% tax relief on all your pension contributions – rather neat for higher earners you might say. Most people get 20% of their contributions refunded into their pensions, all the budget does is say that in time (apparently this takes years to do) those earning over £180,000 (did I mention it was tapered as well) will receive 20% tax relief too instead of 50%.

This is significant for those affected certainly, but in my view is the most ridiculous reason yet for accusing the government of killing pension schemes (although the presentation of this award will be deferred until the General Election, I have faith that some Tory or Lib Dem out there will do better).

BUDGET - Home Responsibilities Protection
A lesser reported story, although one that covers many more people, albeit not of moat owning class, is the extension of HRP to those of working age who care for children under 12 or for a sick or disabled person for more than 20 hours a week. This will enable more people who save the taxpayer millions by undertaking this unpaid work to qualify for a full state pension (a massive £95.25 a week).

HRP as you’ll know having read the GMB guide on the website, is a means by which the number of years of national insurance contributions you need to qualify for a full state pension (currently 44 for those with a state pension age of 65 and 39 for those who can receive theirs at 60 – government has previously announced that this will be reduced to 30 years) is reduced.

BUDGET - Pension Credit Savings Disregard
Another change announced in the budget, one fully in line with GMB policy for once, is the increase in the amount of savings pensioners can have before their Pension Credit is reduced. Currently this is £6,000 but from November this will be £10,000. This is a move that could actually really encourage people to save, a marked contrast to the tax relief system discussed above.

BUDGET - State Pension Indexation
Before everyone gets the champagne out, no the government hasn’t restored the earnings link or followed GMB policy of increasing the state pension each year by the higher of average earnings or RPI. It has said though that even if RPI is low in September (it currently stands at -0.4%) the state pension will increase by at least 2.5% in 2010 (taking it to nearly £98 a week). Not great but better than the spectre of ‘Pension Recovery Tsars’ visiting every pensioner in the land and demanding 38p from them.


In September last year the leader of the Lib Dems, Nick Clegg when asked how much the state pension was in the UK answered ‘about £30 a week’ (real answer at the time, over £90). Despite this the Lib Dems have no noticeable proposals for a cash injection to the state pension.

Fred Goodwin, the former RBS exec and fully paid up member of the moat owning class, gets an annual pension of £703,000 – enough to pay out a state pension to 142 people or a LGPS pension to 177 local government workers.

Including Pension Credit, state pension provision is worth about £130 per week, the official poverty line is £158 a week, or 0.01 of a Goodwin pension.

So there you have it, more amazing information and news on the pensions page of GMB’s website:

Select committee report highlights

I've no time to comment properly on the report today. Here are some of the recommendations that I think are noteworthy (given my own perspective on governance):
It is not uncommon for many of the highest paid individuals in an investment bank to be below board level. Despite this, there is currently no disclosure of remuneration for senior and highly-paid individuals who happen not to sit on the board. We believe that there is a compelling case to reform the disclosure rules in the remuneration report of banks and other financial services companies to include disclosure of remuneration of senior managers at sub-board level. Such firms should be required to report details of the remuneration structures in place for high-earning individuals falling within particular pay bands, including the use of deferred bonus payments or clawback mechanisms. The provision of such information is necessary in order to strengthen the ability of shareholders to provide more effective oversight of compensation practices in financial firms and assess the appropriateness of those practices.

Shareholders have had an advisory vote on companies’ remuneration reports since 2002. However, our evidence suggests that this advisory vote has largely failed to promote enhanced scrutiny of, or provided an effective check on, remuneration policies within the sector. We believe the time is now ripe for a review of how institutional investors with holdings in the financial services sector have exercised these rights.

It is our view that remuneration committees would also benefit from having a wider range of inputs from interested stakeholders—such as employees or their representatives and shareholders. This would open up the decision-making process at an early stage to scrutiny from outside the board, as well as provide greater transparency. It would, additionally, reduce the dependence of committees on
remuneration consultants.

Select committee report on governance and pay

So this is why the previous report did not pick up on the role of shareholders. There's lots of discussion of it here. Will post up some thoughts later.

Thursday 14 May 2009

Hayek and externalities

From The Road to Serfdom:
There are... undoubted fields where no legal arrangements car create the main condition on which the usefulness of the system of competition and private property depends: namely, that the owner benefits from all the useful services rendered by his property and suffers all the damages caused to others by its use. Where, for example, it is impractical to make the enjoyment of certain services dependent on the payment of a price, competition will not produce the services; and the price system becomes similarly ineffective when the damage caused to others by certain uses of the property cannot be effectively charged to the owner of that property. In all these instances there is a divergence between the items which enter in private calculation and those which affect social welfare.; and whenever this divergence becomes important some method other than competition may have to be found to supply the services in question. Thus neither the provision of signposts on the roads, nor, in most circumstances, that of the roads themselves, can be paid for by every individual user. Nor can certain harmful effects of deforestation, or of some methods of farming, or of the smoke and noise of factories, be confined to the owner of the property in question or to those who are willing to submit to the damage for an agreed compensation. In such instances we must find some substitute for the regulation by the price mechanism.

Select committee deputy chair looks a bit daft

Good bit from Nil Pratley again (scroll down to the bottom) on Tory deputy chair of the Treasury select committee Michael Fallon's role as critic and facilitator of mega-bonuses:
Just rewards

"Conservatives have to think more deeply about the nature of reward." No, that's not David Cameron on expenses. It's Michael Fallon, prominent member of the Treasury select committee, writing on our Comment is Free site last September.

It was a lively piece with a powerful pay-off: "Mega-bonuses, out of all proportion to ordinary earnings, destroy the social consensus on which a free economy depends."

So it will be fascinating to hear at tomorrow's annual meeting how Fallon squares this statement with the policies of the remuneration committee of Tullett Prebon. Fallon is chairman of this committee, which handed Tullett chief executive, Terry Smith, a £2m cash bonus and the same again in shares.

The argument seems to be that because other inter-dealer brokers pay big bucks, so must Tullett. It's a point of view – but would you call it deep thinking?

Wednesday 13 May 2009

Who is John Kay talking about?

Genuine question - are there particular names he is hinting at in this comment about the fallout from the crisis?
The academic cheerleaders were, in the main, innocent dupes. Not especially well paid, generally centre-left in political orientation, they provided the philosophical justification for greed and for rightist ideology, through a Panglossian message of markets efficient in both a broad and narrow sense.

PS. I've just finished his book, which is great. The last chapter in particular makes a number of points I am in total agreement with.

Tuesday 12 May 2009

IEA, the crisis and shorting

The Institute of Economic Affairs is the latest organisation to put forward its thoughts on the financial crisis, which can be downloaded here. I've not read the report, which looks interesting even if I'm not likely to be in tune with its thinking, but you won't be surprised to see their headline points, like
The prevailing view amongst the commentariat (reflected in the recent deliberations of the G20) that the financial crash of 2008 was caused by market failure is both wrong and dangerous. Government failure had a leading role in creating the conditions that led to the crash.
no significant changes are needed to the regulatory environment surrounding hedge funds, short-selling, offshore banks, private equity or tax havens.
Their bullet points aren't really directed at banks, from what I can see, though they do call for more disclosure from banks to shareholders (who have done a great job of the oversight role, eh?).

I did have a quick flick through the report though, and was drawn to the paper on shorting. This is a decent enough standard liberal defence of shorting, but, as usual, I have problems with some of the assertions. Here's a particularly grating example:
Not surprisingly, a ban on short sales is popular in the boardrooms of many UK quoted companies, where the idea of markets as elections in which short sellers are free to vote against the management is anathema – far better in their view to restrict the electorate to a Yes (purchase) or an abstention (no purchase).
This is a spin on the old line about markets being a voting machine (in the short-term), but I actually think he extends the argument incorrectly and in a misleading way. Markets are likened to an election/voting machine in the sense that prices reflect opinions (votes cast). It's an illuminating idea, but not the way he applies it here.

For example, he suggests that markets without shorting only allow you to vote for or abstain. But that's exactly the same as your typical political election. I can either vote for the party of my choice, or abstain. I don't get to vote against anyone, let alone get to borrow someone else's vote to use against a party I don't like.

But I don't actually think the comparison works well anyway. For one, in an election, the action (the vote) is intended as a signal, and that is its sole purpose. In a market the action (buy/sell) sends a signal as a byproduct. The 'voters' in a market may not care that they have 'voted', and certainly often aren't interested in the 'result' if they 'abstained' by not buying or voted 'against' by selling. And that's another point against - if you want to use the ill-fitting election comparison, then selling is a vote 'no' in terms of the approach the author of this article uses. It's the equivalent of pulling your support for a political party and - unlike in an election - you can exercise that right at any time. Unlike an election the voting is going on constantly.

That the right to 'vote against' - as defined by this article - already exists in markets is actually demonstrated by proponents of shorting each time they (rightly) point out that share prices can plummet even when shorting bans are in place. Just to be crystal clear - shorting is only selling shares, just shares that you have borrowed, if it counts as a 'no' vote then so does any other sale. So if you really want to stick with the election idea, then shorting really means borrowing other people's votes to tilt the result in your favour. It's leveraged voting. Now that might be fair enough, and as I've said before I'm sceptical about the merits of shorting bans (because I'm sceptical about the merits of shorting), but don't pretend that it's comparable to an election.

2 and 20 = inequality

Another quick moan about fees... I'll kick off with a(nother) quote from John Kay's new book on the impact of the 2 and 20 fee structure (typically charged by hedge fund and private equity managers):
Suppose that [Warren] Buffett had deducted from the returns on his own investment - his own, not that of his fellow shareholders - a notional investment management fee, based on the standard 2% annual charge 20% of gains formula... There would then be two pots: one crteated by reinvestment of the fees Buffett was charging himself; and one created by the growth in value of Buffett's original investment. Call the first pot the wealth of Buffett Investment Management, the second pot the wealth of the Buffett Foundation.

How much of Buffett's $62bn would be the property of Buffett Investment Management and how much the property of the Buffett Foundation? The - completely astonishing - answer is that Buffett Investment Management would have $57bn and the Buffett Foundation $5bn. The cumulative effect of 'two and twenty' over forty two years is so large that the earnings of the investment manager completely overshadow the earnings of the invetsor. That sum tells you why it was the giants of the financial services industry, not the customers, who owned the yachts.

Similarly Nils Pratley makes the point today that the City has already made out like bandits:
private equity partners have enjoyed [a] privileged tax treatment. Carried interest – in effect, a bonus for good investment performance – is treated as a capital gain rather than income. This rate is 18%, and for many years was 10%. Given that advantage, a 50% rate of income tax ought not to be much to grumble about. The point is very simple: financiers enjoyed the fruits of the boom and being asked to pay more after the bust is reasonable.

He goes on to say that trying to tax the loot back off them might miss the point though.

I keep coming back to the view that one of the most 'progressive' things that lefties interested in how the financial system operates/could be reformed could do is co-ordinate a major push on fees. Not only do they eat a sizeable chunk of our savings and investments (far more, too, than the crumbs spent on corporate governance research and engagement), but this is how the City makes money to float free of the rest of society. Ultimately it's coming out of your pocket, and it's helping create disparity in wealth. Why wouldn't you be interested?

Monday 11 May 2009

Short snippet on short-termism

From John Kay:
Both the citizen and the investor should be concerned about the difficulty modern management finds in taking a long-term view of the growth and development of the business. The public company encounters the blight of quarterly earnings reporting; the private equity owned business must accommodate the timescale of the investors seeking a quick profit. This short termism is reinforced by the incentive schemes offered to managers - even, or perhaps especially, the so-called long-term incentive schemes that now constitute a large part of executive remuneration. Even if you are concerned with the fundamental value in which you hold shares, the managers may not be.

The Road to Serfdom

I don't know why, but I'd never got around to reading this, so in my latest Amazon order I thought I'd take a punt. I'm about two-thirds of the way through, and what really strikes me about it is the elements that really aren't that controversial. With the benefit of 60 years of hindsight it's clear that a key part of his argument - that planning leads to totatilitarianism - was wrong. Lots of states tried it to a greater or lesser extent whilst managing to maintain political freedoms. Given that the book was aimed at a UK audience, his predictions look particularly wide of the mark.

That said, some of his arguments about the drawbacks of planning, including the impact on individual freedoms, ring true. In addition it's notable that Hayek is clearly not a loony libertarian, as he stresses the need for a state to carry out core services, including the provision of a minimum income and (so far not very well defined) social services. He also makes a clear argument for the need for regulation in order to address externalities (I might actually use one of the passages when he discusses this in order to wrongfoot Rightie opponents of environmental legislation).

I haven't got onto the section about 'the socialist roots of Nazism' yet, so maybe I'll dramatically shift my opinion, but so far I'm surprised by how uncontroversial I'm finding it, even where I don't agree with him. From the pespective of early 21st century capitalism, where central planning by the state has been removed from many areas, it looks like he has won at least part of his argument. And there is no serious expectation of a rematch.

One final thought occured to be whilst I've been reading it. I genuinely don't get the rather Hayekian liberal Rightie attacks on the NHS for being obsessed with 'targets' and the extended criticism that it is too centralised. It's not that I don't think that these points have some validity, it's that I don't think that they apply solely to the public sector. In my experience private sector organisations are just as capable of measuring the wrong things, and creating perverse incentives by setting targets. What's more they often seem to spend a lot more money learning this lesson. Therefore don't Hayek's criticisms of the inefficiency of planning apply to any large organisation, not just the state?

Sunday 10 May 2009

Face. Bovvered.

I don't think anyone should lose any sleep at the news that a few hedge fund managers are threatening to leave the UK because of the new 50% top rate tax.

What are we actually going to lose if a few of them leave? The most positive thing you can about the social benefits of hedge funds is that they ought to contribute to financial market efficiency. On the assumption that this is the case, is the contribution a couple of them make of enough benefit to the UK to worry about them upping sticks? Especially since they can always bring their sparkle to the market from Zurich or wherever.

Whilst a company choosing to relocate production overseas can devastate an entire community, a hedge fund heading abroad is only likely to free up a nice office in Mayfair. And surely it would take a mass defection of funds before those that supply services to them really notice the difference, especially as again many of them can be supplied cross-border anyway.

So it's time the huffy hedgies put up or shut up. If you want to leave, get on with it, otherwise belt up and pay your taxes like everyone else does.

Friday 8 May 2009

AGM season - what's going on?

As you may have noticed, it's an unusally combative AGM season this year. Already three companies - Bellway, RBS and Provident Financial - have lost the vote on their remuneration report, and a couple more have come very close. In addition there has been a string of AGMs where what would be sizeable oppose votes in a normal season (ie 20% upwards) have been registered.

There are several factors driving this. First, the pro-cyclical nature of much governance activism. Shareholders tend to lose interest in corporate governance issues in the good years - what's the point in arguing over a few mill for the chief exec if the company is doing well? In contrast they kick off in a downturn, especially when the clients are breathing down their neck.

Second, some companies are doing some genuinely stupid things. Amending or scrapping performance targets for bonus and incentive schemes to ensure they pay something out is never popular, but in a recession it's not something even the most acquiescent of fund managers is likely to tolerate. Likewise enhancing the pension of the departing head of a failed bank. (Incidentally, note the sectors that the three companies that have lost the vote come from - housebuilding, banking, subprime lending).

Finally, it's clear that institutional investors feel under pressure to up their game. Having been criticised by the Government and regulators, the industry's rhetoric has been cranked up a notch. Key figures in the industry have acknowledged that fund managers need to be willing to vote against more often.

There remain a couple of bigger questions that (as yet) aren't really getting asked. First, what impact are oppose votes having? They are only advisory, and don't give companies a clear instruction. Companies can even ignore them if they see fit. In practice they do seem to address issues of concern, though more radical critics would argue that it's just a bit of tweaking.

Second, is this a fundamental shift in investor behaviour or not? In terms of defeats for companies, the peak year was actually 2005. Given the scale of the financial crisis, might we not expect to see an even higher level of opposition? And will it continue once the economy picks up? Experience suggests that in the wake of a major crisis behaviour can be influenced for a long time after. But on the other hand there are some pretty engrained attitudes out there about pay (and governance in general) that may not be shifted, particularly if the economic picks up relatively quickly.

The really big question is whether anything could be fundametally different. Is there any scope to get large shareholders to act more like owners, and less like traders? If there is - and it's a bif if - it will take more than voting down a few remuneration reports.

Are pension scheme members panicking?

I've just stumbled across some interesting research presented by Schlomo Benartzi to a recent ABI conference (you can download it here, scroll down to the last presentation). Basically he has taken a look at what sort of behaviour participants in US savings plans (401ks etc) have been exhibiting during the financial crisis. A couple of things that are useful to know about 401k plans are that you can take loans out of the fund, and hardship withdrawals, features that are often touted as possible features for UK savings vehicles.

Anyway here are some key findings -

No significantly increased transfer activity (ie shifting investments around)
Participation rates in savings plans are actually going up
No significant increase in loans from funds
There is an increase in hardship withdrawals, but it's still a tiny amount of employees (less than 0.2% of the total) utilising the option
No wave of enquiries or web visits that might indicate panic amongst savers

Very interesting stuff. It does suggest that people think of their retirement savings as a distinct pot of money and are happy to leave it for the long-term. Also it doesn't provide support for the idea that we should make it easier for people to access these savings early. I think this is an important point, as I think the industry would like to push the consumer down this path. The fact that the punters don't exercise the choice to access their money early demonstrates that in practice fears (which I shared) that people would deplete their savings ahead of retirement are misplaced. The one remaining question in my mind is whether insurers etc would charge more for these unwanted features. If not, then I don't see much of a problem. (Of course this might change if you started getting newspaper articles in the personal finance sections of the paper telling you how to leverage your savings).

Anyway, interesting stuff.

Thursday 7 May 2009

Pee on the bankers

One of the most famous Nudges meets the desire for retribution.

PADA investment consultation

I'm sad, but I was genuinely a bit excited when I found out the Personal Accounts Delivery Authority had (finally) issued its consultation paper on te investment arrangements for the scheme. You can download it here (PDF). Lots of interesting stuff in there, including an appendix on what behavioural economics suggests about investment choice. Geeky thrills!

Wednesday 6 May 2009

The Speculation Economy

From the last page of the book:
When corporate economies are ruled by concentrated ownership, the responsibility for success or failure is primarily on those who own the controlling interest. WHen an economy is ruled by a stockmarket characterised by the dispersal of ownership throughtout the society, responsibility shifts. Members of the speculation economy typically treat their participation in American corporate capitalism as a private matter with their decisions to be made on the basis of their own self-interest and without much regard for the behaviour or decisions of others. But the nature and power of the speculation economy make the well-being of corporate America and, with it, the financial health of the nation, a matter of public concern. Most Americans participate in the speculation economy in one way or another. It is we who bear the responsibility for the consequences. It is we who create the demands of the market, who shape the incentives that drive corporate management. Perhaps the most important lesson of the history of the development of American corporate capitalism is that the continuing strength and health of the American corporate economy and thus American society requires market behaviour that encourages management to work for the long-term economic welfare of their businesses, their people and thus of the nation. Those incentives can only be provided by the market for, in the end, the market is the master.

The speculation economy is ours. It is what we make of it.

Homer Hornby

I've spotted a great line in the select committee report on the banking crisis. It's from ex-HBOS chief exec Andy Hornby, in response to criticisms of the bank's approach to risk management:
"I really do believe we listened to siren voices very carefully." (para 47 if you're interested)
Err, Andy, siren voices are the ones that lure you onto the rocks. You don't want to listen to them even a little bit. You should get someone to fill your ears with wax rather than listen to them, or tie yourself to something so you can't do any damage if you do hear them.

Tuesday 5 May 2009

TUC trustee conference

Blimey, is it that time of the year already? A few bits about the TUC's forthcomng annual trustee conf below, more details and registration here.
Tuesday 30 June 2009, Congress House, London

In this time of financial turmoil, what are the prospects for pensions? And what can trustees do to steer pension savings through the storms and invest responsibly for the long-term future? Trustees, trade unions, employers and governments have been wrestling with these questions as the recession hits company balance sheets and investments.

This conference aims to provide trustees with informed commentary from leaders in the pensions and investment fields. It is an important opportunity to find out about and debate the latest developments in pensions policy, regulation and investment.

The conference will be chaired by Kay Carberry, TUC Assistant General Secretary, and the high-profile programme of speakers includes:

Rosie Winterton MP, Minister for Pensions and the Ageing Society

Brendan Barber, TUC General Secretary

Jeannie Drake, Acting Chair of the Personal Accounts Delivery Authority

David Norgrove, Chair of the Pensions Regulator

Nigel Peaple, Director of Policy at the NAPF

Gillian Tett, Capital Markets Editor, Financial Times

Colin Melvin, Chief Executive of Hermes Equity Ownership Services

John Evans, General Secretary of TUAC; the Trade Union Advisory Committee to the OECD

The conference is also a valuable opportunity to meet fellow trustees, trade unionists and pensions and investment experts to exchange information and experience. A series of tailored workshops will allow delegates to get into more depth on some of the issues, and the drinks reception at the end of the day is a great chance to meet fellow delegates and share thoughts over a glass of wine.

Where are the clients' yachts?

Owen rightly highlights an ace letter in the FT last week, and the paragraph he pulls put is the same one that rang true with me.
I have been in the investment business for some 20 years, during which time I have seen just how many lunches, clay pigeon shoots, tickets to the rugby and nights at the opera come between the average pensioner and his pension, or between a charity and its investment income.
Amen to that. I've been involved with the pensions industry, and latterly more the investment industry, for about 10 years in one way or another. And it really is just one jolly after another, if you choose to take advantage of it. And it's so engrained that no-one - not even the progressive types - thinks twice about it. Everyone enjoys the free food/booze/match/opera night because no-one seems to be paying for it. Only we are, it's that extra basis point. It's why the 'service providers' have better stuff than the clients. And it's why when you go on the jolly you're ultimately drinking your own champagne.

Being slightly more serious, and taking the argument wider, John Kay makes the point (I'll post up a review of his interesting new book once I've finished it) that if you are serious about investing, one thing you want to do is cut out as many intermediaries as possible.

This ought to be an area that lefties are interested in. All that largesse has a cost, more in fees means less in income, a lower pension. Investment consultants and even private equity managers think that we (or our trustees) are nuts to simply go on handing over more and more money in fees. This could be an area where a populist campaign could a) hit the right target and b) have a real impact. What about it?

Monday 4 May 2009

When analysis GOES BAD!

A snippet from The Origin of Financial Crises:
As the credit expansion progresses, teams of diligent credit analysts look at the loans being made and assess these against the market value of the assets being bought. At each point in the credit expansion the loans match the value of the assets being purchased and the credit gets approved. At the aggregate level, the stock of debt in the economy grows in proportion to the valuation of the economy’s assets. As a result, as an asset bubble expands, the corresponding debt stock never looks excessive. Indeed, in true bubbles borrowers frequently have difficulty borrowing fast enough to keep pace with rising asset prices, and as a consequence leverage ratios frequently improve as a bubble progresses. Time and again the observation that these leverage ratios are dependent on rising asset prices is missed; even up to the very peak in the recent housing bubble na├»ve analysts were citing improving household balance sheets as a reason to believe the mortgage borrowing binge was sustainable…

[I]t is useful to step back and consider why it is that analysts get it wrong in every cycle. The problem lies in what economists call a fallacy of composition, which means that analysis valid at one level does not necessarily hold at another level. When the ratings analysts are assessing the quality of a loan, or the equity analysts are assessing the condition of a company’s balance sheet, or the mortgage broker is assessing the safety of a mortgage, they evaluate each individual loan against the prevailing market prices for the loan’s corresponding assets. In this procedure the tacit assumption is that the asset in question can be sold to repay the loan. At the micro level this is always a reasonable assumption. However, at the macro level this is almost never a reasonable assumption: one house can be sold to repay its mortgage, but if one million houses are sold at the same time prices will crash and the entire housing market will become under-collateralised…

The careful analysis of balance sheets is intended to improve the quality of lending and investment decisions. At the micro level of the individual household or company this works. At the macro level of the entire economy balance sheet, analysis actually becomes a destabilising force, leading to excessive lending and financial instability.

Balance sheet variables, therefore, do not just fail to inform investors of impending economic problems, they may actively mislead them into believing conditions are safer than they really are. In predominantly debt-financed asset markets asset prices cannot be considered an independent metric of sustainable debt levels, nor can debt levels be considered an objective external variable with which to measure asset prices.

When smart people say stupid things

It's a common trait of the politically immature of whatever stripe that they are unable to find any label for ideas/groups which they oppose save the most extreme. For example, Lefties have a bad history of labelling those on further Right on the spectrum whose ideas are clearly informed by liberalism as 'hard Right'. And how many times have you heard someone try to argue that democratically-elected right-of-centre governments are comparable to fascism?

But what I've noticed since Labour's election in the UK, and Obama's election in the US, is that people on the Right are just as capable of this kind of thing. Simon Heffer describes the Government's decision to recapitalise the banks as the 'Sovietisation' of Britain, whilst I've seen US Righties accuse the Obama administration of being tyrannical, even fascistic. How hard is it to acknowledge that there are a lot of different political views, and actually there's quite a bit of space between totalitarianism and 'a political view/group I don't like'?

Typically these excitable accusations of fascism/communism involve identifying a couple of points of similarity and overlooking ..err... all other factors. The fact that, by simply using a couple of reference points, you could make the political view/group you don't like comparable to pretty much any other doesn't seem to matter.

Several things bother me about this. First is the idea that words that have a specific meaning are misused to the point that they become meaningless. If what is going on in the US at present is to be compared to 'fascism', the word surely has lost meaning. We know what fascism was like, we know what fascists believed, and we know what fascists did. If the actions of the Obama administration are fascistic then I think we could apply the label to most democratic governments. Like I say, it loses meaning.

Secondly, it worries me that people can actually believe this stuff. I was amazed that during the presidential election Democrats were asked - in all seriousness - whether Obama was a Marxist. But these things take on a life of their own and people start to genuinely believe ideas that are ridiculous. It's almost like an asset bubble. Views get pushed far from the underlying reality, but are fervently believed by those in the bubble. And I think that can be really dangerous.

Finally, I think it's plain unethical. I think that people using these types of comparisons often know that they distorting the truth. Speaking for myself, I know when I am ramping up the rhetoric, and I feel a bit ashamed of it when I acknowledge to myself what I am doing. I can't believe that many people making fascist/communist accusations of democratic governments don't know what they are up to as well. If it's a language game, I think they know they are cheating a bit, making a move that doesn't meet the rules. We have a choice about how to make our arguments, and what those who reach for inappropriate comparisons to the most extreme regimes in history demonstrate most of all is their own lack of ethical standards of conduct.

Sunday 3 May 2009



Special pleading

The Torygraph has a piece about City people on the Government's financial services group moaning about the new 50% top rate of tax for the very rich. One name in particular stuck out:
A number of members of Mr Darling's Financial Services Global Competitiveness Group, which includes heavyweight figures such as Michael Geoghegan, the chief executive of HSBC, and Dame Clara Furse, the outgoing chief executive of the London Stock Exchange, were alarmed to discover that the report would not directly address the 50pc tax rate announced as part of last month's Budget.

I've blogged before about the way some directors are provided with incredibly generous retirement provisions, and they are of course not linked to performance. Michael Geoghegan is one of them. Here's what HSBC's latest annual report (PDF) says (see page 324).
Mr Geoghegan receives an executive allowance of 50 per cent of annual basic salary to fund personal pension arrangements.

For practical purposes you might as well regard this as just another cash bonus. It will also be several times larger (as a % of salary) than staff in HSBC's DC scheme are offered. Just another sizeable slug of money trousered by the chief exec without performance conditions. It's standard operating procedure in the world he inhabits.

I don't know if Geoghegan is one of those kicking off about the 50% top rate, but I presume that's why the Torygraph has been written the piece in the way it is. What isn't surprising is that the paper has taken the line that it has. The thing is, how much longer is this kind of threat (tax us more and we'll leave) going to be taken seriously? My gut feeling is that the new top rate will prove to be more popular going forward than certainly the right-wing press is making out. The more you hear about extremely rich people moaning about it, the more the parallel some have drawn with the position of the unions in the 70s starts to ring true. Not only is there an unflinching sense of entitlement to the extremely priveleged position they have, there is also no evidence that these people have any idea that the current state of affairs might greatly aggravate people's sense of what is fair.

Behavioural research suggests a sense of fairness is hard-wired into us, to the extent that we will sacrifice our own self-interest in order to punish those perceived as acting unfairly. Is it possible that at some point even those more moderate people who are worried about the potential of driving talent abroad (I'm not making a comment about whether this is a valid argument or not) think 'sod you then' when they hear very rich people threaten to leave the UK rather than pay more tax? I think we may be near that breaking point in the public policy debate.

Saturday 2 May 2009

Where were the shareholders?

IMA chair Robert Jenkins gave an interesting speech this week about the role of shareholders in the financial crisis. The whole things is worth a read, but there's a section in it I don't agree with. He says that active managers will sell companies that they don't like, so (in effect) it's primarily up to passive managers to use voting rights to hold management accountable.

For various reasons that are well-known (benchmark hugging etc) many active managers don't sell companies they don't like, they underweight them. I've been for an extended ride on my huffy bike lately about voting disclosure. Well, one of the things I did find in the limited data available was quite a few active managers holding bank stocks (from memory only Standard Life didn't hold them all). Surely that either means that active managers liked the banks (right into 2008) or that actually they underweight rather than sell?

Also out this week of course was the Treasury select committee report on the banking crisis. Although there's a lot in there about UKFI, I couldn't see anything about the role of shareholders. Anyone know if this is supposed to get picked up at a later date or something?

Friday 1 May 2009