Updated January 16, 2024
The fiduciary standard is one of the most important sets of rules where the legal and financial professions intersect. While a fiduciary standard calls for upholding a high ethical and legal standard when it comes to managing a client’s assets, the concept and principles of financial stewardship cannot be ignored.
In this article, InvestmentNews explores several reasons why financial stewardship can be vital to financial management, perhaps more important than established fiduciary standards.
For those who have been involved with the fiduciary movement, the word “fiduciary” has been more about defining a professional standard than a legal standard. It was a way for elite advisers to differentiate themselves in the marketplace.
There is a better approach: defining a higher professional standard of care. In this case, stewardship.
Financial stewardship involves protecting the assets of a client (whether individual or an organization) with a commitment to making sound financial decisions based on principles of prudence and ethics. Financial stewardship also espouses cooperation to ensure the client’s success.
Given these financial principles, here are some of the reasons why being a financial steward and/or practicing good financial stewardship can be an excellent alternative to fiduciary duty:
When applying financial stewardship, an adviser puts in more passion and discipline when it comes to protecting the long-term interests of their clients. An investment fiduciary, on the other hand, can only go as far as demonstrating that they put their clients’ interests above theirs.
A financial steward commits themselves fully to the task, becoming an inspiration for moral, ethical and prudent decision-making. An investment fiduciary can be uninspiring in any number of ways, yet still serve as a fiduciary.
A financial steward assesses financial decisions wisely and objectively. This can only be possible through years of experience and additional training.
If regulators held all advisers to a uniform fiduciary standard, the standard would have to be written such that even advisers new to the industry can qualify. There’s a big difference between being qualified and being competent.
A financial steward is someone of good moral character and uses ethics to guide their investment decision. Any investment adviser can meet the legal requirements of a fiduciary.
As unpopular as it might be in certain situations, a financial steward should have the will and the courage to speak out. This is crucial, even as others turn a blind eye to unethical or illegal behavior.
A fiduciary, meanwhile, only has a duty to protect the best interests of a client. That duty does not extend to anyone else affected by unethical decisions.
This is a voluntary standard without legal or regulatory oversight. As opposed to fiduciary duty, financial stewards don’t wait for regulators to define the standard of care.
Good financial stewardship involves listening to the needs, ideas, and concerns of board members, stockholders, industry leaders, and government officials. Financial stewardship acknowledges that other people have their say, and their input can lead to better informed decisions grounded in ethical principles.
Financial stewardship is not a novel concept in other countries or continents. In the UK, for instance, it’s called Sustainable Investment or Socially Responsible Investment (SRI).
The origins of SRI in the UK can traced back to the 1960s, when there was increasing opposition against South African apartheid and the unpopular Vietnam War. At that time, religious organizations adopted an ethical stance to also exclude any investments they deemed unsavory, such as weapons, tobacco, and gambling outfits apart from companies based in then-apartheid South Africa.
The early SRI movement aimed at choosing or removing investments with specific ethical guidelines as their basis. SRI has since evolved into mainstream investment guidelines but under different names and strategies.
Here’s a video podcast detailing how big of an improvement the new UK Stewardship Code 2020 is for asset managers and their clients. You’ll hear the podcasters talk about how much greater transparency and reassurance the code provides for investors.
In 2005 after the UN published the “Who Cares Wins” Global Compact report, the term SRI has since been replaced by the term ESG (Environment, Social, and Governance). ESG encompasses a broad range of strategies and principles to integrate environmental preservation, social responsibility, and good governance into securities valuation and decision making for investments.
In 2019, research showed that ESG was nearly universally a top-of-mind concept among senior executives of at least 43 globally networked investment institutions.
The Financial Reporting Council of the UK has enacted the UK Stewardship Code 2020 detailing their financial stewardship code that holds investors to a high standard. These standards apply to those making investments on behalf of UK pensions and savings account holders.
The code ensures the responsible allocation, oversight, and management of capital to generate long-term value for clients and beneficiaries.
The code also aims to create ESG benefits that are realistic and sustainable.
After the UK published their own code, other countries followed suit. The Dutch corporate governance forum Eumedion drafted the Netherlands’ Best Practices for Engaged Share-ownership.
South Africa also enacted its Code for Responsible Investing in South Africa.
Meanwhile, Switzerland unveiled its Guidelines for Institutional Investors Governing the Exercising of Participation Rights in Public Limited Companies.
Japan proposed its own stewardship code in 2012, arising from the 2008 financial crisis. The code was ratified in 2013 as an effort to improve corporate governance and reduce the prevalent “coziness” that institutional investors have with corporations.
Japan’s stewardship code serves as a set of regulations for behaving as responsible financial stewards for their clients, their clients’ beneficiaries, and invested companies.
The city-state of Singapore follows its own code known as the Singapore Stewardship Principles established by the Investment Management Association of Singapore (IMAS). These stewardship principles likewise govern ESG principles set by the UN and are aimed at fostering responsible stewardship in every applicable aspect of their work.
Apart from ensuring that investment strategies adhere to an ethical standard, the SSP envisions for all stakeholders to benefit from sustainable long-term value.
About 32 financial institutions count themselves as members and advocates of the SSP. The list includes big names like JP Morgan, HSBC, Blackrock, BNP Paribas, Nippon Life, and Nomura Asset Management.
After Japan launched its own code in 2014, Malaysia launched its Malaysian Code for Institutional Investors. In terms of emerging markets, Malaysia’s is the second code right behind South Africa.
Seeing that there have been efforts in other countries to establish their own stewardship codes, what about the US? There’s some good news with regards to a US stewardship code.
In 2017, the California State Teachers’ Retirement System (CalSTRS), along with the Washington State Investment Board (WSIB) and the Florida State Board of Administration, all banded together to form the Investor Stewardship Group (ISG). These three organizations comprise some of the country’s biggest asset owners. Together, they have created a set of fundamental stewardship principles to guide institutional investors.
Providing more credence and support to this recently drafted, investor-led effort is a collaboration composed of three of the world’s biggest fund managers. Blackrock, State Street Global Advisors, and Vanguard are all signatories of ISG’s stewardship code.
Apart from the stewardship fundamentals, ISG created a corporate governance framework. Within that framework are six principles it considers fundamental for US-listed companies. These guidelines embody the common beliefs that are in each member’s proxy voting and engagement guidelines.
The six principles are meant to establish a foundational set of investor expectations about governance practices in US publicly traded companies. The six principles that the ISG drafted are as follows:
Principle 1: Company boards are accountable to shareholders.
Principle 2: Shareholders should be granted voting rights that are proportionate to their economic interest.
Principle 3: Boards should be responsive to shareholders and be proactive to understand their perspectives.
Principle 4: Boards should have a strong and independent leadership structure.
Principle 5: Boards should adopt structures and practices that make them more effective.
Principle 6: Boards should develop management incentive structures aligned with the company’s long- term strategy.
A stewardship code for US publicly-traded companies is off to a slow but modest start, but some executives remain upbeat. Fiona Reynolds, managing director of Principles for Responsible Investment (PRI) had this to say about ISG’s code: “It is a voluntary code, but has some big investors behind it, which I hope means it will gain widespread support.”
According to Reynolds, we have witnessed attempts to wind back some provisions of the Dodd-Frank Wall Street Reforms and Consumer Protection Act, so “voluntary codes may have to play an increasing oversight role”. That’s why the ISG code is an important step forward in giving investors better protection from unethical or even illegal practices.
Compared to other countries that already have established stewardship codes or principles, the US may have a bit of catching up to do. However, there have been sincere efforts made by leading firms to draft and support a universal stewardship code.
It’s possible that more financial institutions will apply financial stewardship principles and codes, since working without any guidelines can be costly. This is proof that there are indeed responsible corporate citizens working to create an ethical and sustainable financial landscape.
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