Investor Stewardship: Caught in the Crosswinds

The Financial Reporting Council (FRC) in the UK has recently closed its consultation on updates to the UK Stewardship Code, a voluntary code used by institutional investors to explain to their clients and beneficiaries how they aim to deliver effective stewardship outcomes on their behalf.

The UK Stewardship Code was first issued in 2010 and last updated in 2020. It was the first code of its type and is often used as a point of reference for other national investor codes, of which there are now over twenty around the world. London is a global market, and about 40% of the current signatories to the Code are headquartered outside the UK.

Context

The consultation, which began in November 2024, arrived in the aftermath of a series of actions in the UK and abroad that many investors considered had put barriers in the way of effective stewardship.  

In the UK, the Financial Conduct Authority changed the Listing Rules to remove several shareholder voting rights, including, controversially, the right to approve large related-party transactions.

In addition, the then UK Government and the FRC dropped planned new reporting obligations for listed companies on the grounds of avoiding adding burdens on business. A similar course is now being taken in the EU, where the recently announced Omnibus Regulation will significantly reduce the number of companies required to comply with the Corporate Sustainability Reporting and Corporate Sustainability Due Diligence Directives and the number of data points on which they have to report.

In the US, in particular, investors were coming under pressure from politicians riding the anti-ESG bandwagon, something that seems likely only to increase in the current climate.

Against that backdrop, it is perhaps understandable that investors waited with trepidation to see the FRC’s proposals for the UK Stewardship Code. The FRC has suggested what seems widely considered to be sensible revisions to clarify the purpose of the Code and rationalise reporting, which have been broadly supported by the likes of the International Corporate Governance Network (ICGN) and the Investment Association in their responses.

In this article, I will comment on only one of the proposals, a new definition of investor stewardship.  

Definition of stewardship

At this point, I should probably declare an interest. I used to work at the FRC and was involved in introducing the first version of the UK Stewardship Code in 2010 and the first revised edition in 2012. I won’t make any great claims for those early versions of the Code. They were quite general and it was too easy for investors to say that they applied the Code’s principles without giving any evidence.

However, they did help establish the importance of good investor stewardship and the need for investors to be more accountable to their clients. They were also clear that the FRC was not to instruct investors on how to invest but just to describe what they did, which we felt was an important distinction.

The Code was completely overhauled in 2020 to address its shortcomings. The current Code is much more specific about the information that needs to be disclosed, and the FRC undertakes quality reviews before approving investors as signatories. On the whole, the 2020 Code has been extremely effective in making its signatories more accountable, and it has undoubtedly prompted some of them to raise their game. But two specific changes led some to believe the FRC had moved from description to prescription as regards signatories’ investment approach.

The first change was to introduce a new definition of stewardship, which is described as “the responsible allocation, management and oversight of capital to create long-term value for clients and beneficiaries leading to sustainable benefits for the economy, the environment and society”.

The second was to add a new principle: "signatories should systematically integrate stewardship and investment, including material environmental, social and governance issues, and climate change, to fulfil their responsibilities”.

While the FRC did not intend to direct investors to pursue a particular investment approach, that was how some interpreted it. As the FRC noted in its consultation document, “some stakeholders continue to interpret the definition to mean that the primary purpose of stewardship is to pursue environmental and social objectives in and of themselves”.

To correct this perception the FRC is proposing to drop the principle and to revise the definition to read: “Stewardship is the responsible allocation, management and oversight of capital to create long-term sustainable value for clients and beneficiaries”. This wording is much closer to the definition used in the earlier versions of the Code.

Some respondents to the consultation are concerned that the draft revised definition's lack of a specific reference to environmental and social objectives sends a signal that they are not considered important or legitimate. Personally I don’t think that is the case. There is nothing in the definition of the text of the draft revised Code that prevents investors that want to include environmental and social objectives into their investment approach from doing so. The absence of specific references may help those in the US and other investors who want to remain signatories but are under pressure from the anti-ESG lobby.

That is not a universal view, but it seems broadly understood that the FRC is trying to strike a delicate balance. For example, the ICGN notes in its response that “while a range of views exist within ICGN’s membership, there is broad support for the definition, recognising that it seeks to strike a balance of pragmatic flexibility with promoting the high standards of stewardship that the Code has been a key contributor to driving”.

The Investment Association makes a similar point: “Some members do not support the removal of the benefits to the economy, the environment and society from the definition… However, on the whole, members believe there is enough flexibility in the definition to pursue these aims where they align with clients’ investment objectives”.

It will be interesting to see where the new UK Stewardship Code ends up on this issue when it is published later in the year. The FRC clearly wants to continue promoting the benefits of effective investor stewardship, but in the current environment, it is having to walk a bit of a tightrope with the prospect of more strong winds ahead.