“The mandates we award to them drive short-term decisionmaking, churning and transaction costs. We’re not realising the benefits of long-term horizons because we’re sponsoring trading and transactions. “One way of looking at the investment industry is as a number of participants generating transactions and benefiting from them. We sponsor that.” Melvin said the investment industry’s short-termism had worsened over time. This was not caused by malice or recklessness among investment managers, but was simply the way the industry, and the way it measures performance, had evolved. Ratings agencies cop the blame for publishing performance league tables, but they are only symptomatic of a deeper ailment “to benchmark, compare and rate,” Melvin said. “It has arisen as a consequence of the need to measure.” He recalled a conversation with a funds management colleague, who said the long-term could be seen as a series of short-terms.
“It may look that way,” Melvin replied, “but you’re profiting from those short-terms while your beneficiaries are not.” Essentially, engagement with funds managers does not do enough: mandates must be structured so that funds are provided with more transparency of managers’ actions so they can see if managers are truly investing for the long-term. The £32 billion ($51.8 billion) BT Pension Scheme, Hermes’ owner, is mulling over whether to introduce this policy. Such measures would be aligned with the notion of fiduciary duty, which has become a rallying call for institutional investors but has no formal definition in superannuation law, but could be described in a working definition as the trust exercised in taking care of beneficiaries’ assets.
Melvin, who played a central role in developing the United Nations Principles for Responsible Investment (UN PRI), advised investors to revisit principle one, which concerns investment decisions. “It’s really about how you invest: what sort of mandates you give to funds managers. If you judge them on their annual performance, that’s what they’ll prioritise.” The UN PRI seemed to assume that pension funds make investment decisions, but should rather focus on how asset owners select managers, Melvin said. He said managers’ focus on short-term earnings could be distressing for companies, since their standard discussions with shareholders were not about the business and its long-term profitability but the current price of its shares. He said engagement targets were often pleased to be pulled up on their slack practices, talk about the operations of their business with long-term shareholders and focus on generating long-term value. “It’s a relief.”