Proxy advisers Public companies often ask their shareholders to vote on things. Sometimes these votes are symbolic, but the symbolism is nonetheless important. Shareholders are asked vote on approving executive compensation, for instance, in what is called a "say on pay" vote; if they vote no, the executives still get the money, but it is generally considered embarrassing and bad for the executives. Other times the votes are binding and high-stakes. An activist shareholder might run a proxy fight to replace the board of directors, or the company might propose a merger and ask shareholders to approve it. If the shareholders vote for the activist's slate, the directors are out; if they vote against the merger, it doesn't happen. The traditional way for big institutional investors to decide how to vote was mostly that they'd do whatever the management of the company told them to do. The company would send a proxy statement saying "we recommend that you vote 'Yes' on our pay package" or whatever, and the shareholders would do it. This had some obvious justification: The managers knew the company better than the shareholders did, and deciding how to vote on every proposal would be a lot of work for a busy investor. Also investors want to be friendly with the managers of their portfolio companies: They want to be able to meet with the managers, ask questions, get a sense of corporate strategy and outlook. Also they might be competing for the managers as customers: Investment firms want to manage corporate cash piles and pensions and 401(ks), so they don't want to alienate the managers. But just doing whatever management says is pretty lazy, and arguably not consistent with institutional investors' fiduciary duties to their clients, and bad for entrenching management and reducing shareholder power and all that. So now big institutional shareholders are expected to make up their own minds. Sometimes if managers are paid too much, a lot of shareholders will vote against approving their pay packages; sometimes if managers are very bad they will lose a proxy fight and get kicked out. But none of the reasons for the old tradition have really gone away. It's still work to figure out how to vote, and institutional investors still want managers to like them so they can keep getting corporate access and corporate business. One solution to these problems would be for big institutional investors to get together and talk about how they want to vote. This lets them share information and reduces the workload on any one of them: You can do the research on Company X and tell me how to vote there, and I'll do the research on Company Y and tell you how to vote there. It also reduces the risk of the company's managers getting mad at investors who vote against them: If just one or two investors vote against company management, then those are bad rebel investors who can be frozen out, but if everyone votes against management then that's management's problem and no one can be punished. But this is a tricky solution. It is generally awkward for institutional investors to get together and discuss their investments. We have talked many times about worries that it might be an antitrust problem for the big institutional investors who own all the companies to get together to talk about how to run those companies. Securities regulation of "groups" can also make it difficult for investors to coordinate their voting with each other. Also, just, big institutional investors do compete with each other and have proprietary views and methods and preferences, and they might not want to sit down with each other and compare notes. So there is a more refined solution. There are companies called "proxy advisers" whose business is to advise institutional investors on how they should vote. The institutional investors pay those advisers to subscribe to their recommendations, and then often act on them. How do the proxy advisers decide what to tell the investors? Well, various ways, but one important part of the answer is that they ask the investors how they want to vote. As the Council of Institutional Investors put it, in a letter to the Securities and Exchange Commission: Those recommendations are not the view of a disembodied advisor wielding power independently of its clients. Rather, proxy advisor voting recommendations are the product of many years of engagement with institutional shareholders and issuers alike. Through this process, proxy advisors have received and taken into account many viewpoints on corporate governance issues, policies and feedback received from prior and active situations. This process has ensured that proxy advisors' recommendations reflect the views they receive from institutional investors, whose interests they serve. You can think of the proxy advisers as a sort of pooling and deniability mechanism: If investors think that a company's managers are doing a bad job and want to vote against their pay package, they can share those views with the proxy advisers and not share them with management. If lots of investors do that, then the proxy adviser will recommend a vote against the pay package, and the investors can vote against it while also telling managers "look we love you, obviously we support you, but we have committed to doing what the proxy adviser tells us to and by the way everyone else is doing that too." It makes the vote against management seem less personal. Of course the proxy advisers are also a workload-reduction mechanism: If an institutional investor isn't all that focused on a particular issue or company, it can just follow the adviser's recommendation without doing a lot of independent research, because it figures that the proxy adviser is generally responsive to the sorts of concerns that the investor generally cares about. This strikes me, and most institutional investors, as a pretty good solution to the problem. Corporate managers do not like it, and prefer the old system of investors just doing whatever management tells them to. And so there has been a lot of lobbying from corporate managers—often through the Business Roundtable, the association of big-company chief executive officers—to restrict proxy advisers. The managers' basic argument is that the proxy advisers are too powerful, and that institutional investors blindly follow their recommendations rather than doing their own work.[1] It seems like the CEOs are winning a round: The US Securities and Exchange Commission is set to propose new limits on shareholders' ability to agitate for change at companies, handing a win to pro-business lobby groups. The SEC, led by chairman Jay Clayton, is expected to vote to propose rules that would require proxy adviser firms to give companies two chances to review proxy voting materials before they are sent to shareholders, according to people familiar with the plans. ... If ultimately passed, the rules would be a blow to proxy adviser firms Institutional Shareholder Services (ISS) and Glass Lewis, and a significant win for business lobby groups such as the US Business Roundtable, which has argued that proxy adviser firms wield too much influence in corporate governance battles. The firms give investors advice on how to vote on various corporate issues, including climate change disclosures and executive compensation. "The commission is expected to vote to put the changes out for comment on November 5," and I don't know exactly what will be involved; the Business Roundtable has also asked the SEC for other restrictions on proxy advisers. But even just this change—making proxy advisers run their recommendations by corporate managers twice before sending them to customers—is pretty significant, turning the proxy advisers from independent agents of investors into neutral arbiters subject to lobbying by companies and restrictions from regulators. Instead of being a market-based way for investors to effectively pool their work, the advisers will become quasi-regulatory actors who have to work for the companies too. There are parallels here to the work of stock index providers. There is a view that index providers are all-powerful, that they decide what stocks investors can buy and so dictate the flow of funds to companies and countries. But of course the index providers do not view themselves as whimsical despots. They think of themselves as participants in a desperately competitive customer-service business, and they decide what goes into their indexes based on what their customers want to invest in.[2] If your analysis of, say, Americans investing in China is like "American investors do not want to invest in China but MSCI makes them," then you are sort of missing how indexing works. If American investors didn't want to invest in China, they'd pick an index that didn't have Chinese stocks in it! The index providers' decisions do not (only) lead the market, they also follow the market, telling people to invest in the places they wanted to invest in anyway. The same is true of proxy advisers: They don't just invent voting criteria and then force investors to follow them; they attract investor clients because the voting criteria they use are the ones that the investor clients want. The other thing I want to mention here is that, the last time we talked about the Business Roundtable, it was because they put out a pious letter saying that companies should consider the interests of all stakeholders and not just try to maximize shareholder value. I was skeptical of that letter. "It is productive—not 100% accurate, but a useful heuristic—to assume that all corporate governance debates in the U.S. are about whether shareholders or managers should have more power to control the corporation," I wrote, and I figured that the letter was a way for CEOs to justify giving shareholders less power. Here, too, a fight over proxy advisers, with the Business Roundtable (CEOs) on one side and the Council of Institutional Investors (big shareholders) on the other, is pretty clearly about the allocation of power between corporate CEOs and shareholders. And the SEC's view is apparently that CEOs should have a bit more power and shareholders a bit less. Blockchain blockchain blockchain: ICE/Starbucks I dunno, this is just a weird series of sentences: Intercontinental Exchange Inc. said Monday that it will begin testing its consumer app for digital assets with its partner Starbucks Inc. in the first half of 2020. That follows a jump in Bitcoin futures on the exchange to a record. A total 1,179 monthly Bitcoin futures changed hands on Oct. 25, according to the company. None of the daily contracts traded. The ICE contracts differ from other Bitcoin derivatives because they deliver actual Bitcoin if held to expiration, unlike cash-settled contracts at competitor CME Group Inc. "We've assembled a strong team of payments engineers and are nearing completion of our core payments and compliance platform," Mike Blandina, chief product officer at ICE's Bakkt unit, said in a blog post. Like the headline is "App to Literally Buy a Cup of Coffee With Bitcoin Set for 2020," and to be fair to Bitcoin, this means that it will only be 12 years between the invention of Bitcoin and the time you can buy a cup of coffee with it. It took some 800 years from the invention of the English pound until you could buy coffee with it, and then a few hundred more years before it was accepted at Starbucks, so Bitcoin really is making relatively quick progress. But the sentences here are like "Consumer payments. Futures trading. Futures trading. Futures trading. Consumer payments." I insist that it is weird for the people in charge of the consumer payments app to be a futures exchange. That is not how you'd expect the world to work. There are plenty of companies that are naturally in the consumer-payments business: credit-card networks, banks, payments companies like Stripe and Paypal; even Starbucks itself has a very popular payments app. But, no, if you want to buy coffee with Bitcoin, the natural thing is apparently to download the app of a futures exchange. I suspect that this is not just a weird coincidence. As Patrick McKenzie puts it, "the dominant use case for cryptocurrency is speculation." If you just want to buy coffee you really, really, really, really, really do not need any Bitcoins. You can buy coffee with dollars, or dollar-denominated credit or debit cards, or the Starbucks app; it would never occur to you that there'd be some gain in efficiency or convenience or privacy or usability or any other practical benefit from using a Bitcoin app instead. If, on the other hand, you want to speculate on Bitcoin prices, you might trade futures on Bakkt. (Or you might not—there are a lot of Bitcoin exchanges—but there is an appeal to investing through a regulated U.S. futures exchange.) And then once you have an account at Bakkt anyway, maybe they can sell you on the ability to buy coffee with it. In other words the message here is that, for Bitcoin, consumer payments are a nice bonus convenience added on to the essential product, which is financial speculation. Obviously the dollar is useful for all sorts of financial speculation, but the paying-for-coffee part of the dollar's usefulness feels more primary, and less wrapped up in the financial-speculation part, than is the case with Bitcoin. Blockchain blockchain blockchain: Paxos Meanwhile in blockchain for stock trading: Paxos Trust Co., a blockchain company that caters to financial institutions, has been given the green light to settle stock trades in near real-time in a direct threat to the Depository Trust & Clearing Corp.'s half-century equity market dominance. "This is really a completely different way for the securities to be settled," Paxos Chief Executive Officer Charles Cascarilla said in an interview. "It can potentially be as fast as instantaneous, but it won't be initially." While using blockchain to improve the speed and efficiency of financial markets has been tested, the Paxos system will be the first to settle real trades, Cascarilla said. … The Paxos system connects investors directly so trades are settled between them without the need for a central counterparty like the DTCC. In the DTCC system, each side of the trade must reconcile its books, recording the assets bought and sold. In the Paxos plan, no third party is involved, which greatly reduces the time it takes to settle trades. Eh, well, sort of. You can read the no-action letter that Paxos got from the SEC giving it permission to do this pilot program. The letter describes how Paxos's mechanism will work; note that DTC features prominently[3]: Paxos is a New York limited purpose trust company that is regulated by the New York State Department of Financial Services and is a participant of The Depository Trust Company ("DTC"). …. Each participant may hold cash and securities in its Paxos Settlement Service account ("PSS account"). A participant will deposit an eligible security into its PSS account by using free of payment delivery instructions through DTC to transfer the security from the participant's DTC account to Paxos's DTC account. Upon receipt of a security into Paxos's DTC account, Paxos will create a digitized security entitlement, which is a digital representation of the security deposited into Paxos's DTC account. This security entitlement will be credited to the participant in its PSS account on the Paxos ledger. Similarly, a participant will deposit funds in U.S. dollars by initiating a wire transfer from its bank account to the specified Paxos bank account. Upon receipt of cash into a Paxos bank account, Paxos will create a digitized security entitlement representing U.S. dollars credited to the participant in its PSS account on the Paxos ledger. To meet its settlement obligations, each participant must have the required securities or operating cash in its PSS account by each trade's settlement date; however each participant is not required to fund its securities or operating cash in advance of settlement. Basically: Some brokers have shares in their DTC accounts, they transfer those shares into Paxos's DTC account, they get back a receipt for those shares that lives on Paxos's blockchain, and then they can trade those receipts with each other on the blockchain. (Eventually, if they want, they can get back the shares in DTC.) They don't own the shares in some more direct or primal way than they would by using regular DTC settlement. They own them in a less direct way: Instead of DTC being the record owner of the shares and the brokers owning them on DTC's ledger, as is usually the case, here DTC is the record owner, Paxos owns the shares on DTC's ledger, and the brokers own them on Paxos's (distributed, blockchain) ledger. Instead of one third party (DTC) being involved, two are (DTC and Paxos). But it is true that neither is involved in settlement, in that the brokers can trade and settle the receipts among themselves on Paxos's blockchain without telling DTC or Paxos about it. That's a gain of sorts. But it comes by layering abstractions, and third parties, over the existing settlement system. I don't particularly mean to be negative here; if this program is a roaring success and settlement using the blockchain is obviously way better than normal settlement mechanisms, then maybe it will one day replace the DTC system. Also separately if the program is a roaring success then that will be good anyway; fast efficient reliable blockchain settlement could be an improvement over the current system even if it always lives on top of the DTC ledger. It makes sense that, if blockchain technology really is a better way to settle stock transactions, it would start as an incremental add-on to the existing system of intermediation. But that, so far, is what it is. Blockchain blockchain blockchain: China Probably best not to think too hard about this: China's Communist Party (CPC) is taking its leader's support for blockchain to heart. Following Xi Jinping's bombshell speech last week urging his countrymen to "seize the opportunity" created by the technology, the CPC released a decentralized app (dapp) for members to attest their loyalty on a blockchain. According to a post from the CCP's propaganda office on Saturday, the dapp, in literal translation called "Original Intentions Onchain," allows members to pledge their allegiance to the party and store it on a blockchain, which can be shared and seen by others. Obviously you could pledge your allegiance to the CCP by, like, sending them an email. And they could share that by, like, publishing a list of allegiance-pledgers on their website? It is a trivial use case for blockchain, sure, but I suppose there are some benefits. For instance, the blockchain prevents the CCP from overstating its support by publishing a doctored list on its website; because there is an auditable public blockchain, everyone can see how many people have pledged their support, without fear of manipulation. That's … important … I guess? Or conversely if you have pledged your support on the blockchain, the CCP can't falsely accuse you of not pledging your support, because that auditable immutable record proves your … loyalty … on the blockchain … I am going to stop typing now. Not everything needs to be on the blockchain but everything probably will be, it's fine, whatever. Metaphors This story about co-working startup Knotel and its co-founder Amol Sarva features two absolutely incredible moments. One is Sarva's description of the opportunity that WeWork's failed initial public offering has created for competitors like Knotel: With WeWork wobbling — the company has postponed its public offering, sidelined co-founder Adam Neumann, and is sacking thousands of staff — Knotel is hoping to grab the limelight. "We've been waiting for the music to be over. And now the music is over, and it's time to dance," Mr Sarva said. Is that how … dancing … works? The second thing is that Sarva "greeted a reporter wearing a sweatshirt embroidered with the phrase: Grave Dancer," which, fine, fair enough, that's funny, for a guy giving an interview that is mostly about how he's dancing on WeWork's grave. Maybe grave dancing is best done in silence. But what elevates it to art is the correction at the bottom of the article: "Mr Sarva's sweatshirt slogan was 'Grave Dancer', not 'Crave Danger'." Either way! Both good startup founder shirts! Depending on the context! Get them both, and then wear "Crave Danger" to talk to reporters about the bold steps you are taking and "Grave Dancer" to talk to reporters about how you're capitalizing on your rivals' bold missteps. If I ever start a venture capital fund it's going to be called Crave Danger/Grave Dancer Capital Partners. Things happen Mnuchin Open to Looser Rules Backed by Dimon to Ease Repo Stress. The Always Exhilarating, Sometimes Lucrative Lives of Brexit Currency Traders. Powell Faces Tightrope Act Framing Potential Pause on Fed Rate Cuts. JPMorgan Weighs Shifting Thousands of Jobs Out of New York Area. Investors are demanding to trade hundreds of bonds by the bundle, fueling an arms race among Wall Street giants who want a piece of the action. Tesla Model 3 Survey. Libra threat has central banks eyeing faster payments. China Investors Keep Making Deals in Silicon Valley Amid Washington Pushback. Robert Friedland, China and the rush for copper in the DRC. America's Middle Class Is Addicted to a New Kind of Credit. The man who tried to disrupt Wall Street's stranglehold on Silicon Valley is retiring. U.K. to Destroy Commemorative 50p Coins in Brexit Meltdown. Don't Even Think of Selling CBD as a Door-to-Door Vacuum Salesperson. "The job also comes with 'the excitement of finding pythons.'" If you'd like to get Money Stuff in handy email form, right in your inbox, please subscribe at this link. Or you can subscribe to Money Stuff and other great Bloomberg newsletters here. Thanks! [1] There is a secondary argument that the proxy advisers make a lot of errors, though the errors seem to consist mostly of disagreements with corporate managers about how much the managers should get paid. Here is the Business Roundtable's complaint: "Executive compensation, in particular, is an area in which proxy advisory firms' analysis often falls short. One member company has had significant discrepancies with ISS's analysis of its pay practice for multiple years in a row. The company has had to resort to public letters to its shareholders to defend its practices and to highlight the nuances that ISS's analysis and recommendations glossed over. The letters illustrated that ISS's executive compensation standards fail to adequately address structural differences among industries that require compensation systems to be designed with different incentives. The member company pointed out that its business model requires long-term investments beyond the typical time horizon of ISS's evaluations, with incentive timing to match, that ISS's one-size-fits-all approach inappropriately assessed. Additionally, ISS's measurement of CEO compensation for this company failed to account for the full value of realized and unrealized compensation for CEOs in a peer group, resulting in ISS stating that the CEO's relative compensation was two quartiles higher versus peers than the company's analysis showed." Those are not factual errors but just disagreements on methodology. As the CII letter puts it, "the differences between an issuer's analysis and those of proxy advisors are rarely due to factual errors, but rather differences in analytical approaches and opinion." [2] Of course they also take into account the requests, and sometimes the explicit pressure, of other stakeholders, including companies who want to be in the index and national governments who want their companies to be in the index. That's true of proxy advisers too, who talk to companies and consider their arguments. But in each case there are *customers*, and in each case the customers are *institutional investors*, and in each case you'd expect the index providers or proxy advisers to put more weight on the customers' opinions than on those of other stakeholders. [3] Don't worry about the missing "C." DTC is the stock-settlement subsidiary of DTCC. | 
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