The Great Stewardship Schism: Reconciling Fiduciary Duty with Systemic Risk

Earlier this week, the FRC released an updated version of its stewardship code. One notable change is the more nuanced definition of stewardship, which removes the explicit reference to it “leading to sustainable benefits for the economy, the environment and society”. While this reflects a pragmatic acknowledgment of what stewardship should ultimately achieve, it fails to offer a compelling vision for how it can help address systemic risks.

The updated definition is a display of the contested nature stewardship has become. Catherine Howarth, CEO of ShareAction has gone so far as to describe the current state as a “stewardship recession”, resulting from a number of highly orchestrated and well-financed attacks on the stewardship activities of US investors. I would argue that what we are witnessing may be more accurately described as a “stewardship schism”: a growing divide between those who view stewardship as a tool for addressing systemic risks and strengthening long-term portfolio resilience, and those who see it primarily as a mechanism for protecting individual company value.

At the start of this year, the Investment Association hosted its annual stewardship and corporate governance forum. During one of the panel discussions, the audience was asked to respond to a live poll.

Figure 1: Which of the following represent the greatest challenges for stewardship in practice?

Misalignment across the investment chain (54.1%) was identified as the most problematic challenge, reflecting what many investors and stewardship practitioners have experienced. We struggle as an investment community to agree on what it means to be a good steward.

Sure, everyone understands that the purpose of stewardship is to create long-term sustainable value. But in practice, asset owners, investment managers and companies often operate with different time horizons and with conflicting priorities.

Central to this is our understanding and interpretation of fiduciary duty. While the concept is grounded on a relatively stable set of legal principles, the interpretation of its principles has become increasingly dynamic.

This disconnect has been exacerbated by the increased recognition of systemic risks. For example, asset owners cannot avoid the risks associated with climate change by diversifying across sectors, geographies, and asset classes.

As a result, asset owners may leverage engagement and voting to drive system-level change (and in turn hope to mitigate their exposure to systemic risks). Yet, investment managers and companies will prioritise individual returns. In game theory terms, they act rationally given their incentives, but the Nash equilibrium they settle on leads to suboptimal system-wide outcomes.

Many investment managers would argue that it is neither their role nor within their remit to drive system-level change. And even if they were willing, these are problems they aren’t empowered to fix in the absence of a supportive policy environment.

“26% of respondents in the Investment Association poll cited “unrealistic expectations on asset managers” as one of the greatest challenges facing stewardship in practice”.

In this context, system-level stewardship can be perceived as being too elusive, and with no clear links to company performance. Some managers also argue that it can strain relationships with investee companies or even expose them to litigation risk, particularly in jurisdictions like the US. As a result, they may prioritise company-level engagement where they can more easily demonstrate value.

Of course, this tension between individual and system-level outcomes is not always binary. In many cases, companies can pursue strategies that both enhance long-term returns and contribute to the resilience of the broader system. Firms that recognise the materiality of systemic risks, like climate change, social unrest, or biodiversity loss may consider these factors into core business planning. In doing so, they protect their own future profitability but also support the stability of the systems they depend on.

Stewardship, when done well, reconciles the micro and the macro, not by imposing trade-offs to companies, but by identifying shared value. Open, ongoing dialogue along the investment chain is essential to define what effective solutions can be implemented.

But to achieve this, asset owners must take the lead. In its recent report Systemic Risks: A Framework for Portfolio Resilience, UKSIF sets out practical steps asset owners can take to embed systemic risk considerations into stewardship. This includes holding managers accountable for addressing these risks alongside performance objectives. It is also clear that asset owners deserve greater transparency on achieved engagement outcomes.

At Compass Insights, we’re committed to supporting this evolution, providing tools that empower responsible investment teams, amplifying their voice and impact as stewards of capital.