Exxon Slayer's New ETF Courts Passive Aggressive Money

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Having grown up in the U.K., I longed for the moment when passive money would morph into passive aggressive money. And now it is here: the Engine No. 1 Transform 500 ETF:

Instead of excluding companies with bad scores in environmental, social and governance metrics, or handing “good” companies a bigger weighting, the fund aims to encourage better behavior using its shareholder voting rights. It will follow voting guidelines aiming to get businesses to invest in employees, communities, customers and the environment, according to a filing. (Taken from this Bloomberg Green article)

Engine No. 1 LLC is the tiny fund manager that scored a major upset by getting three dissident directors into oil’s holy of holies, the Exxon Mobil Corp. boardroom. This was something of a judo move, leveraging Exxon’s own traditional strength — financial discipline — against it, while also putting passive fund giants like BlackRock Inc. on the spot to back up their calls for environmental, social and governance reforms. The ETF is a logical next step, and kind of genius.

First and foremost, it is a logical way of monetizing the Exxon victory during a boom in ESG investing. Having shown it could achieve the seemingly impossible, a fund no one had heard of eight months ago is suddenly the most talked-about ESG activist.

But the very nature of the Engine No. 1 fund also echoes the Exxon campaign.

Engine No. 1 injected some new thinking on energy transition into the oil giant. But Exxon’s apparent unpreparedness for fundamental shifts in energy demand was pitched as an outgrowth of the mundanities of governance and spending decisions, rather than strictly on its own, green terms. This set the campaign apart from environmentalism framed as a moral crusade.

Similarly, the ETF won’t exclude those deemed reprobates or overweight the nominal elect. It is mostly indistinguishable from the sort of large-cap U.S. equity fund most anyone with a 401(k) owns to some degree. It will charge five basis points, which is only a smidgen above that of passive S&P 500 tracker funds and way below what some values-based funds cost true believers. It’s been established under the aegis of Chief Executive Officer Jennifer Grancio, a founder of BlackRock’s iShares business.

The difference is that while the ETF will be benchmarked against passive money, it intends to run campaigns pushing companies to focus on ESG issues “that create value.” It isn’t quite full-on activist, but it isn’t strictly passive either. It is passive plus; passive positive — passive aggressive. Even the ticker, VOTE, strikes a fine balance of conveying empowerment without dictating the exact agenda. 

For such a strategy to truly work — especially in terms of conducting campaigns on five basis points — VOTE would need to attract much more than its initial $100 million. On the other hand, Engine No. 1 can point to having already landed a whale with a shrimp net. The ETF may better be seen as another funnel of (cheaper) capital to presumably vote in conjunction with the private fund’s objectives.

The underlying premise is that there are many investors, especially younger ones, who would like their money not just to work for them but to work for something a bit bigger than them. Engine No. 1’s case with Exxon was that doing good would ultimately lead to better returns over the long term. That has yet to be proved, though the case for addressing climate change in particular has hardened in recent years. It helps, too, that the fund could point at Exxon’s past decade and say business-as-usual definitely wasn’t cutting it. In any case, whether VOTE pulls off more coups or doesn’t, the financial impact of any wins or losses will feed into the benchmark index against which it is judged anyway.

One big question is how the big funds will take this. The Exxon campaign worked in part by forcing the likes of BlackRock CEO Larry Fink to walk the ESG talk. VOTE can similarly be viewed as something like the Fink Conscience Fund.

In theory, even passive money managers are supposed to hold management accountable. Yet the path of least resistance remains to resist the least possible. Things get very tricky for the quiet-life-loving fund manager when ESG enters the room; it’s hard to take a stand when your marketing materials extol the virtues of lying back. Similar to its role in the Exxon proxy battle, Engine No. 1’s ETF can act as the vanguard for issues that the likes of, say, Vanguard might like to see addressed but can’t campaign on themselves.

There’s something of a paradox here, because VOTE will now compete for ESG-curious, if not strictly active, dollars against those same money managers it hopes to co-opt. How aggressive they feel in response will help determine the success of the passive aggressive approach. 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

Liam Denning is a Bloomberg Opinion columnist covering energy, mining and commodities. He previously was editor of the Wall Street Journal's Heard on the Street column and wrote for the Financial Times' Lex column. He was also an investment banker.

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