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Vanguard Group founder Jack Bogle

Editor’s Letter: December 2018

With Great Power Comes Great Responsibility—or Not

You’ll find here an interview with Gregory Davis, the chief investment officer of Vanguard, ahead of his scheduled presentation at the Inside ETFs conference in early February.

It’s one of the best investment conferences out there for advisors, not only for those who use ETFs, but anyone with an interest in current trends around asset management, index-based investing, portfolio construction and asset allocation. I sincerely urge you to consider going or sending a representative.

In our interview with Davis, I was interested, but not particularly surprised, by his take on how index investment vehicles, as popular as they are, still account for a relatively small portion of the overall ownership of securities and aren’t, therefore, disproportionately distorting the price of the market.

I don’t quibble. But, our interview went to press just as an op-ed was published in The Wall Street Journal by Vanguard Founder John Bogle, warning that there’s indeed a danger in concentrated ownership of the securities market by the “Big Three” index managers—Vanguard, BlackRock and State Street Global Advisors.

There is no economic incentive for new players to launch broad-based, plain vanilla index funds, so those three managers’ dominance will only increase as the flows to passive investing continue.

“Most observers expect that the share of corporate ownership by index funds will continue to grow over the next decade. It seems only a matter of time until index mutual funds cross the 50 percent mark. If that were to happen, the Big Three might own 30 percent or more of the U.S. stock market —effective control. I don’t believe that such concentration would serve the national interest,” Bogle writes.

Bogle isn’t worried about the effect on market pricing, but on corporate governance: If you own part of a company, you have a right to decide how that company is run. Sometimes, that means having a say on executive compensation packages, corporate strategy or employment practices. That’s done when owners vote for board directors or sometimes through filing and voting on corporate proxies.

Bogle sees a problem with owning too much of corporate America. But the danger seems to me the opposite. Vanguard, for one, has a reputation for never really standing up as corporate owner. Their stewardship report for 2017 shows they almost always side with company management when voting on proxies, basically giving corporate executives free reign when it comes to the use of shareholder money. (Outlandish compensation packages for executives is only one example of where owners have taken their eye off the ball.) It’s truly passive ownership.

The danger isn’t that Vanguard has too much control. The danger is they don’t use it.

Corporate governance isn’t perfect, but it’s important to ensure an owners’ money isn’t being squandered irresponsibly; passive investing doesn’t have to mean disengaged ownership. We’d all be better off if these firms took their power a little more seriously.

David Armstrong


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