In a U.S. stock market dominated by just three major asset management companies, a rising role for small investors has the potential to turn assumptions about corporate governance and market discipline on their heads. Retail shareholders in public companies have long been held the reputation of being uninformed rabble-rousers, distractions at best and saboteurs at worst. But academic research suggests small-time stock owners have exercised oversight in ways that complement, not just combat, the influence of bigger market players.
It’s time to look at small-time stock owners as a possible force for good.
Conventional wisdom debunked
A groundbreaking working paper from the European Corporate Governance Institute shows retail investors are as influential—and possibly just as informed—as the institutional shareholders that conventional wisdom views as more inherently trustworthy.
Finance and legal scholars Alon Brav, Matthew Cain and Jonathan Zytnick studied a sample of U.S. retail shareholder voting data covering virtually all regular and special meetings during the three years 2015 to 2017. It is the first detailed empirical analysis of retail shareholder turnout and voting decisions. It finds that retail shareholders play a pivotal role that acts as a counterpoint to the influence of the biggest mutual fund families.
“Those that do vote seem to behave in a sensible way,” Brav said at a seminar, noting that only about 11% of retail shareholders tend to exercise their voting rights, representing about a third of shares cast. The study looked at shareholders with portfolios of up to $650,000, who were further identified by ZIP Code.
In general, the bigger a shareholder’s stake, the more likely they were to participate and the more likely they were to side with management. In cases where they voted against management, particularly when a firm was poorly performing, they tended to sell their stake if the outcome went against their choice.
Traders not engaged
Of course, not all retail shareholders are equally motivated. Short-term traders seem less likely to vote at all, let alone with long-term interests in mind. This became painfully apparent in the case of the special-purpose acquisition company Churchill Capital Corp. IV, which almost failed to complete its merger with electric vehicle startup Lucid Motors Inc. because too few stock owners initially showed up to approve the deal.
Even so, the cumulative impact of retail investors looks to be just as high as that of institutional investors, including the “big three” of BlackRock, State Street and Vanguard. Retail investors tend to turn out in higher numbers when economic stakes are stronger, the ECGI study found. They also voted more often when their preferred method of voting was available, whether online vote-casting or older methods like voting by mail or by phone.
These findings show that some retail investors, far from being uninformed and apathetic, can play an important role in corporate monitoring and feedback. Notably, retail investors generally did not follow the recommendations of the Institutional Shareholder Services (ISS) group, which is majority owned by stock exchange operator Deutsche Boerse.
Brav said this independence could be a benefit, not a detriment—even on traditional management matters—for the company whose shares are owned. By comparison, institutional investors are frequently short-staffed when it comes to stewardship, following ISS suggestions with little attention for individual holdings.
Shareholder value or long-term value?
Other scholars have argued that small-time shareholders tend to vote against the economic interests of the company—but they define those interests strictly in terms of monetary value.
In a recent study of voting patterns, Mariassunta Giannetti and Nickolay Gantchev concluded that gadfly shareholders seem to put forward a disproportionate number of proposals that take up too much time, pass with some randomness, and destroy shareholder value. Giannetti said in June that retail investors hence thwart market discipline by neutralizing short selling and otherwise interfering with external forms of corporate governance. As examples, she cited companies with older technology such as GameStop
that were protected by retail investors from more “value-minded” trading strategies, even when “we would think that having investors shorting the company was a good idea.”
Narrowly defined economic gains are not the only way to measure benefits, however. Environmental and diversity initiatives also contribute to long-term performance. While institutional investors may now be pushing for changes such as more women on corporate boards and more climate-friendly management, corporate outsiders have helped bring them to the fore.
It’s also worth noting that activist shareholders and retail shareholders are not identical groups, as the recent case of the Templeton Global Income Fund shows.
Sustainable finance textbook authors Dirk Schoenmaker and Willem Schramade argue that current business practices need a wider focus given the existential threat of global warming. “The financial and corporate sectors could play an important role in turning the tide by truly managing for long-term value creation, i.e. by managing for positive financial, social and environmental returns in the long term,” they wrote.
Under the Biden administration, U.S. regulators seem to recognize that what retail investors need most are safeguards and reliable infrastructure, not curbs on how they express themselves. When it comes to smaller shareholders, the Securities and Exchange Commission focus is currently on day traders and dark pools, rather than on reining in corporate gadflies. Chairman Gary Gensler said retail trading apps—such as Robinhood—and fee-charging market makers would be in the crosshairs as the agency looks into how U.S. equity markets work.
Now that climate change and social equity are mainstream investor priorities, it feels reductive and outmoded to say financial returns are all that is best for a company and its stakeholders. In the aftermath of the global financial crisis and subsequent market shocks, Main Street has little reason to put its trust solely in the lords of finance. Maybe it’s time for the markets to embrace everyday investors for not just their money, but their advice.
Rebecca Christie is a nonresident fellow at Bruegel, a Brussels-based economic think tank. She has been an occasional guest commentator at ECGI. All views are her own.