THERE are many excellent suggestions in John Kay’s review on the future of the UK equity markets. It makes sense for asset managers to be transparent about their costs, for an investors’ forum to be set up to coordinate collective action and for there to be a push to align incentives and create a culture of responsibility. But Kay’s evident distaste for trading and other activities he perceives as grubby taint too many of his recommendations – and even some of his good ideas have costs, as well as benefits.
Take his correct view that quarterly reporting is too frequent, promoting short-termism. It is ridiculous that listed firms are expected to meet or beat forecasts every time. This distorts priorities and encourages management to game numbers, rather than build value. But there is also a downside to ditching such reporting requirements. Private companies have a longer-term horizon – but their owners (such as private equity partners) also see financial information on a much more continuous basis. I don’t know any owner of a private firm who would want to be kept in the dark for a whole year – or even longer, as Kay implies would be possible under his reforms to listed firms. That said, I agree with Kay that firms and their shareholders should negotiate their own reporting frequency.
It would make sense for more institutional investors to act like proper owners, as Kay would like. But not all need to act in this way for the system to work – and not all can. If individual investors move in and out of pooled investment vehicles, as they do, then by definition funds will have to move in and out of equities. In many cases, that won’t be conducive to full involvement with the Plc. Other large investors do keep stakes for long periods, and they rightly should exercise greater stewardship over their assets, as Kay suggests; I also like his idea that fund managers should be invested in their own funds.
Kay is wrong to hate bonuses. He says that “many people doing responsible and demanding jobs – cabinet ministers, judges, surgeons, research scientists – do not receive bonuses, and would be insulted by the suggestion that the prospect of bonuses would encourage them to perform their duties more conscientiously.” Maybe. But most of these fall part of the public sector. Surgeons who do private work get paid according to how much they do, which is a kind of bonus, and there is a long tradition of prizes for scientific discovery, while patents are a reward for inventors.
The implication that it is wrong for money to be a motivator is pernicious. Some cabinet ministers – not all, of course – are power-hungry individuals who will promise anything in return for votes. Why is that ethical framework superior to that of the short-termist, cash-hungry bonds salesman? Of course, there is a sophisticated case for making compensation longer-term for many jobs and aligning incentives. But paying people over excessively long periods of time doesn’t work either. Kay wants “any bonuses [to executives] to be paid in shares” to be held until “significantly beyond the executive’s tenure”. I’m in favour of some of that – performance needs to be judged over the long term – but pushing it too far won’t work either. CEOs also need cash to buy houses and live – only paying them in shares is excessive. Short-termism is a problem. But is also possible to suffer from long-termism – an affliction at least as dangerous which implies turning a blind eye to problems, less accountability, a refusal to change course until it is too late and pretending people want to work for the same firm for ever. Let’s adopt the best of Kay – and forget about the rest.