Inside the Index

If you write about personal finance long enough, you find yourself walking some well-worn ground. After a while, it seems we all take a crack at the same tired problems that so many other writers have over the years.

We've all written about paying off consumer debt. And who hasn't had a hot take on a way to be just a little more frugal?

So with my apologies, today I'm writing about a subject that you've all heard about too much these days: genocide, and why it's not good.

Vanguard sent us some mail the other day: a fat envelope with a proxy vote inside. Vote for this old geezer or that one to be on the board to, I don't know, maybe run a mutual fund or something. But then buried in the middle of the thing was Proposal Seven:

"Proposal 7—

Also, shareholders of certain funds will be asked to consider a proposal submitted by one or more shareholders to: Institute transparent procedures to avoid holding investments in companies that, in management’s judgement, substantially contribute to genocide or crimes against humanity, the most egregious violations of human rights. Such procedures may include time-limited engagement with problem companies if management believes that their behavior can be changed."

The example cited in the proposal, which apparently came from a shareholder, is Vanguard's $835M investment in PetroChina, which just happens to be Sudan's largest business partner. 

As a result, investors in various index funds may be unwittingly funding genocide in the Darfur region of Sudan. And the issue of Vanguard and genocide has actually come up before.

Here's how the proposal lays out its argument:

"No sound reasons prevent having a genocide-free investing policy because:

a) Ample alternative investments exist.

b) Avoiding problem companies need not have a significant effect on investment performance, as shown in Gary Brinson’s classic asset allocation study.

c) Only a handful of Vanguard’s U.S. funds would be affected.

d) Appropriate disclosure can address any legal concerns regarding the exclusion of problem companies.

e) Management can easily obtain independent assessments to identify companies connected to genocide.

f) Other large financial firms such as T. Rowe Price and TIAA-CREF have avoided investments connected to genocide by divesting problem companies such as PetroChina."

Seems reasonable enough, right? But there's a counter-argument, and it just happens to be coming from Vanguard's board.

Vanguard is openly recommending its individual investors to vote against this proposal, for a handful of reasons. Vanguard's stated reasons are in quotes, with my thoughts posted immediately after in italics.

1) "Meaningful long-term solutions to these issues require diplomatic and political resources to come together to implement change."

While this is undoubtedly true, this doesn't necessarily lead to the idea that individual investors should wipe their hands of any responsibility of funding genocide, the deliberate killing of a group of people, while politicians and diplomats work their influence. Along the same lines, diplomatic and political solutions are going to be necessary for disarming North Korea, too. But that could take decades. I don't want my FIRE dollars funding Kim Jong Un's regime in the meantime. 

2) "Vanguard is fully compliant with all applicable U.S. laws and regulations"

So while genocide is very bad, investing in companies that contribute to genocide is not technically against the law. Well whooptie-fucking-do, we've cleared the bar of legal culpability. 

3) "The addition of further investment constraints is not in Fund shareholders’ best interests."

Basically, this might not be as profitable. This seems like the 'real' reason that a board of trustees would make such a recommendation.

4) "Divestment is an ineffective means to implement social change."

Since Vanguard is selling the shares on the secondary market (i.e. - not back to the company itself, but just to another investor), this isn't a particularly effective approach. It doesn't hit the company where it hurts.

So there are both sides of the coin. You don't have to work too hard to figure out what side I'm on.

Why the fuck is this even a question?

This issue is being debated all over the personal finance space. Many of the opinions follow a laissez-faire approach. The point is to own the index, the whole index, and not to interject morality or politics into the passive investing approach. If that's your aim, go buy a socially-responsible index, right?

But must we take an amoral view in order to be index investors?

Is there literally no line that can be drawn with passive investing? If a company abroad engages in, or helps fund, warlords, genocide, slavery, child prostitution or any number of other things that might be profitable-but-reprehensible and, that, within our own country would certainly be illegal, must such a company be included in an index fund simply because it fits within the boundaries of the index?

From where I sit, it seems logical that a company could be excluded from an index if it is funding genocide. It's such an obviously immoral, and clearly illegal, activity, that it hurts my fucking brain to think of why we even need to have the discussion.

But let's play devil's advocate. As any number of faithful index-fund believers have noted, passive investors buy the whole index precisely because they do not want some guy, or some board of guys, to be picking specific companies to exclude from the mutual fund. 

That's the whole idea of index funds. You buy the whole thing. Not the whole-thing-except-these-handful of companies-we-find-disgraceful.

And that's fair. Index investing is supposed to take human decision making out of the equation. Such a proposal would change that, almost unavoidably.

But I don't really care about the performance of the index I'm investing in, or whether the type of investing I'm doing technically counts as truly passive, if something as obvious as "management deciding if a company is contributing to genocide" is off the table. 

That's probably enough time on the soapbox for a Monday morning. Perhaps I'm missing something critical about the issue. Maybe you can let me know about it in the comments below.

And remember that decisions on things like tacitly supporting genocide can be buried deep in the tiny print of junk mail.

As always, thanks for reading.


*Photo is from wagdi.co.uk at Flickr Creative Commons.