Are Passive Index Funds Active Owners? Corporate Governance Consequences of Passive Investing

Abstract

The exponential rise of mutual funds designed to track stock indices has been one of the drivers behind the re-concentration of ownership of listed companies in the U.S.. Due to the high concentration of the passive index funds industry, the three leading passive fund managers (BlackRock, Vanguard and State Street) make up an increasingly important component of the shareholder base of listed companies. In spite of this however, it remains questionable whether they are actually interested in playing an active role in the corporate governance of investee companies. In fact, although passive investors are, by definition, focused on the long term and, as such, should naturally be incentivized to monitor investee companies in order to improve their performance, passive fund managers generally adhere to a low-cost approach to voting and engagement in order to keep their fees low. Against this background, this Article will provide an in-depth analysis of available evidence concerning the corporate governance role of passive investing and, taking the current EU institutional investor-driven corporate governance strategy as a reference, will demonstrate the shortcomings of the regulatory approaches to institutional shareholder engagement focused mainly on short-termism. This article will therefore argue that, in order to promote more effective passive investor engagement, lawmakers, regulators and corporate governance professionals should tackle cost-related issues more effectively. Moreover, pursuing this line of thought, it will outline a analytical framework of potential regulatory strategies aimed at reducing engagement-related costs in order to encourage passive index fund managers and, more generally, non-activist institutional investors to play a more effective oversight role over investee companies.