Australian investors and superannuation funds have invested hundreds of billions of their life savings with active fund managers. These funds have very high fees compared with index funds to cover not only much higher trading costs but also better paid managers. Do Australians receive a benefit in exchange for high fees?
Many researchers believe that fund managers (i.e. institutional investors) actively intervene in company affairs to improve corporate governance and thus firm performance. If true, this would be a benefit.
But in a forthcoming article in the Critical Finance Review, I and Gavin Smith debunk the empirical evidence for this. To the contrary, concentrated institutional investor influence does not appear to raise either managerial incentives or lower chief executive pay.
Our findings are entirely contrary to what a prominent article by well-known researchers Jay Hartzell and Laura Starks claim. See also their rebuttal.)
What then is the justification for active fund managers that typically turn over their entire portfolio in a year or less? Is this just useless churning or expensive “make-work”, as a number of researchers believe?
Are they simply appearing to do something to justify high fees and charges, and would we not gain if we all invested in passive funds simply holding the index?
And wouldn’t putting these institutional-churners out of business make us all better off?
The answer to all these questions is no!
My research shows that actions taken by the ASX Corporate Governance Council since 2003 to discourage participation by non-executive directors with “skin in the game” has actually damaged the Australian economy.
It has reduced the market value of the assets of the mostly large firms adopting these recommendations of majority “independent” boards by as much as 25% after five years “under treatment”. It gets progressively worse over time.
At the same time, firm responses to these recommendations have dramatically raised the pay of poorly performing CEOs and directors.
The good news is that not all monitoring of management needs to be done by boards with a flawed composition and lack of incentives.
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