Investors vs. Consumers: Misaligned Interests?

The key to better matching the interests of investors and consumers may lie in shifting from a short-term to a long-term focus, and socially responsible fund managers are leading the way

By David Bogoslaw

As the mortgage loan securitization fiasco has shown, business practices that generate the highest returns for investors are often at odds with the best interests of consumers. By now, most people are aware that one of the driving forces of the reckless availability of cheap credit to home buyers was the need to ensure an ongoing flow of mortgage-backed securities to ravenous and overly confident investors.

This misalignment of interests persists. Witness the recent success of investment banks in defeating legislation that would have allowed bankruptcy court judges to change the terms of underwater mortgages to help keep people in their homes rather than suffer foreclosure. To be fair, loan servicers' objections to so-called bankruptcy cramdowns are as much about concerns over legal exposure to investor lawsuits as refusal to settle for lower returns on pools of mortgages.

Socially responsible investing (SRI) managers and advisers have been at the forefront of efforts to get investors to focus more on sustainable practices that work to all stakeholders' advantage over the long term instead of just short-term returns. Much of the appeal of the SRI approach, besides addressing issues of responsible environmental practices and treatment of workers, lies in increasing awareness among investors about the misalignment of their interests with those of consumers.

Consumer Balance Sheets

For Reynders, McVeigh Capital Management in Boston, which follows an SRI model for the separately managed accounts it handles, the common ground between investors and consumers comes down to the idea of sustainability.

Although economists and policymakers keep focusing on the need for a recovery in home prices, "maybe the best thing for the housing market long-term and for people who bought houses responsibly is to keep a higher savings rate and to have the market stay muted for a longer time so their balance sheets can improve," says Chat Reynders, a principal at the firm.

"If house prices go up everywhere, it doesn't help you" as a consumer since you can't afford to buy a new home in the same market, says Richard Green, director and Lusk Chair in Real Estate at the Lusk Center for Real Estate at the University of Southern California. "The only way you can benefit is if you sold a house in California in 2006 and moved to Alabama." But while you would have cashed out, you would no longer be living where you wanted to live, he adds.

In reality, there's a lot of overlap between investors and consumers, since all investors are also consumers, and even instititional investors, such as employee pension plans, represent thousands of individual consumers. Some institutional investors, including the California Public Employees' Retirement System (CalPERS), have been giving a lot of thought to a more holistic and sustainable approach to investing for some time. The list of principles that the Aspen Institute published two years ago—aimed at getting companies and institutional investors to shift from a short-term focus to a long-term one when measuring value creation—was developed in cooperation with CalPERS and other groups concerned about business ethics.

Short-Term Thinking

For Judy Samuelson, executive director of the Aspen Institute's Business & Society program, it's a question of how to "extend the time horizons of investors and align money managers with the real endgame investors here who, in fact, are thinking long-term. [As an individual investor], I don't need alpha tomorrow. I need to be widely invested and make sure I have money in the bank when I retire."

While individual investors are mostly thinking about the long term, however, the problem is mutual fund managers are compensated based on very short-term performance, which explains much of the churn in ownership of equity shares, Samuelson says. That forces corporate executives to pay more attention to short-term growth instead of how to provide high-quality goods and services that stand the test of time.

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