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Which way are pension funds going?

arrowsIt used to be that pension funds and other real money asset managers were passive investors.  If they didn’t like a stock or management at a corporation, they sold their positions and moved on.  Things are changing, though, and these “sleeping giants” are stirring.  Indeed, they are being forced to wake up because they are being pulled in two opposite directions.

On one side are the activists, who have learned that it’s better to have allies among institutional shareholders than go it alone when trying to pressure boards and management.  On the other side is management, which realizes that if they keep their institutional shareholders close, they have a better shot at resisting or event deterring activist campaigns.

Corporations have stepped up their IR game and a pension plan like TIAA-CREF can meet with as many as 450 companies in the span of one year.  On the corporate agenda: getting support for pay packages, board members and other governance issues that are frequently the target of agitation by hedge funds.

Furthermore, a new working group among pension funds and corporate boards  intends “to establish more open lines of communication between companies and institutional investors, allowing companies to get their message out, and investors to express concerns, more frequently.” Called the Shareholder-Director Exchange, the working group developed a 10-point protocol to facilitate more productive interaction between boards and investors.  Activist hedge funds are not part of the SDX group.  This shows a preference, at least among several influential asset managers, like BlackRock, to to give the system a chance — to focus on evolution rather than revolution.

So, which way is the pendulum swinging?  Are boards regaining firmer footing? Or are activists finding support among firms that didn’t historically advocate for corporate change?  

It appears that the corporate strategy of engagement is having mixed results.  A report last year by Institutional Shareholder Services called said that 2013 witnessed a “pivot point where the central focus of shareholder activism shifted” to “direct challenges to board members.”

Put your money on the activists.  The SDX is a nice idea and formalizing how large shareholders engage with boards is probably overdue.  But, corporations don’t like change and their first instinct is to resist outside pressure, regardless of the source.  The SDX was formed in part by law firms and consultancies closely aligned with the corporate status quo and they may find that their plan backfires if pension funds follow the protocol but corporations don’t effectively engage or dismiss shareholders’ concerns.  That would have the effect of driving pension funds into the waiting arms of activists.

Good for the Icahns of the world, right?  Not so fast.  Not all activist hedge funds are created equal and the question is which activist funds are positioned to win the support of real money funds?  It will take a special kind of activist to effectively enlist the heretofore reluctant support from pension funds.  The activist has to demonstrate a strategy and culture that is acceptable to the more conservative world of pension funds.  The activist winners will have the brands that a) pension funds feel comfortable supporting and b) enhance the pension funds own brand by affiliation.

It boils down to reputation, but reputation and brand management are relatively new to the activist world.  Today, there is no IBM, no safe partner in activist investing.  The big firms have uneven reputations and the small firms might be too small to be seen as effective partners for big pension funds.  There is much work to be done.

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