Model Mandate Part 6: Accountability

Culture and Capabilities 

An asset manager’s structure, resources, governance and control systems can influence their capacity, ability and willingness to promote their clients’ investment objective and represent their interests effectively. Asset owners are advised to seek reassurance about a manager’s culture and capabilities as part of the due diligence process before making an appointment.

Many asset owners may will seek reassurance about, for example:

♦ the size and nature of the resources dedicated to stewardship;

♦ the effectiveness of its board and other governance structures;

♦ policies such as diversity and inclusion, and how these are reflected in the composition of its senior team and workforce; 

♦ the effectiveness of its risk management and internal control systems;  

♦ its commitment to professional standards; and

♦ its remuneration policies and structures.

• Appendix A contains guidance on how asset owners can assess an asset manager’s culture and capabilities as part of the due diligence process.
   
• Section 4.4 contains a draft clause on the alignment of the asset managers’ remuneration policies and the asset owner’s investment objectives.

Asset owners may also consider that ongoing monitoring throughout the duration of the mandate would be appropriate. While clients decide to hire asset managers on the basis of the circumstances at the time of appointment, there can subsequently be certain significant changes – for example, of personnel, ownership, investment approach or financial position - which may affect the owners’ assessment of whether the manager continues an appropriate choice. Ensuring proper alignment of interests requires that clients be informed promptly of any such changes.

• Appendix B contains guidance on information that asset owners can request in order to monitor the asset manager’s culture and capabilities for the duration of the mandate.

Risk Management

In the context of this Model Mandate, ‘risk management’ refers to how the asset manager manages risks across the full range of its activities, rather than the individual risk assessments made in the management of investment portfolios.

No asset manager that fails to manage the risks inherent in its investment approach will perform effectively for its clients over the long term. Asset owners should seek assurance as to the breadth of the risks managed and the effectiveness of their management

An assessment of the asset manager’s risk management capabilities and practices should therefore be part of the due diligence process before appointing a manager. Any written representations from the manager that are presented during the due diligence process should then be incorporated into or attached to the investment management agreement.

In additional, asset owners may wish to ensure they have a continuing right to assess the ongoing risk controls to ensure that the quality of risk management observed during the due diligence process is maintained and enhanced

• Appendix A contains guidance on assessing an asset managers’ risk management capabilities.

Conflicts of Interest

Conflicts of interest may undermine the ability or willingness of asset managers to act clearly in their clients’ interests. Asset owners should be confident that managers have appropriate processes to identify, consider and manage any such conflicts of interest.

Examples might include: 

• The asset management firm overall has an apparent client-relationship conflict -for example, the asset manager provides significant products or services to a company in which they also have an equity or bond holding;
• Senior staff at the asset management firm hold roles at a company in which the asset management firm has equity or bond holdings;
• The asset management firm’s stewardship staff have a personal relationship with relevant individuals at a company in which the firm has an equity or bond holding;
• Situations where the interests of different clients diverge - for example, during a takeover where one set of clients is exposed to the target and another set is exposed to the acquirer; and
• There are differences between the stewardship policies of asset managers and their client.

The investment management agreement should provide clients insight into the framework that the asset manager uses to identify and manage conflicts, and ensure transparent reporting of how any relevant conflicts have effectively been managed over the prior period.

• Section 6.5 and Appendix B contains guidance on reporting by asset managers.

Commissions and Counterparties

One of the major frictional costs which clients of asset managers face is commission. Given the prevalence of practices like soft commission and other possible benefits to asset managers from this practice, transparency is needed so that clients can have full confidence that the costs they are bearing generate commensurate value for them.

Many asset owners wish to understand whether the research which some commission pays for is focused on issues which will help the asset manager to meet their investment objectives and, crucially, will not actively undermine them – for example, research that primarily focuses on short-term factors which can contribute to churn in portfolios or generation of long-term risk exposure.

Asset owners may want mandates to address the allocation of commission payments in a balanced manner that includes development of research aligned with the interests of long-term investors with stewardship obligations and exposure to systemic risks, and/or pursuing a sustainable development investment approach.

Asset owners may wish to ensure that contract terms require that commission payments and structures paid for, directly or indirectly, from client funds are made solely in the interests of those clients, reflect an appropriate balance between short- and long-term client interests, and are transparently disclosed to the asset owner on request so that they can make their own assessment of whether this is the case.

Significant value can be lost from portfolios where counterparty risks are not monitored and managed effectively. Asset owners may wish to understand that this risk is being managed effectively and some may also wish to have clarity of counterparty exposures so that they can aggregate and assess such risks across all of their portfolios.

Asset Manager Reporting to Clients

Asset owners have a fiduciary duty to be accountable to their clients and beneficiaries for how their investments have been managed, included those investments that are managed on their behalf by asset managers.  Asset owners should report to their clients and beneficiaries on a regular basis, and some owners are subject to detailed regulatory requirements to do so.

As well as obtaining from their asset managers the information that they in turn will report to their clients or beneficiaries, asset owners and their advisors  should also aim to obtain information that will enable them to assess the performance of the manager. As well as information on the financial performance of the assets, asset owners may want to obtain assurance  that the agreed investment management and stewardship policies and guidelines are being applied and on the impact that has been achieved.

It is therefore important that the information the asset manager will provide to the client is agreed at the beginning of the mandate. As there is a strong possibility that the information being sought may change during the duration of the mandate it is likely to be easier if this is set out in a schedule appended to the investment management agreement or in a side letter rather than in the IMA itself.  That is the approach taken in the draft clauses below.

• Appendix B identifies some existing global and regional reporting frameworks that might provide an appropriate basis for client reporting. In some jurisdictions guidance and recommended templates for reporting from asset managers to clients are available.  Further links are available on the ICGN website.

The asset manager and client should also agree the frequency and format in which the information is provided, which again should be specified in the schedule or side letter. For much of this information annual reporting is likely to be adequate but there may be some specific items of information for which quarterly or half-yearly reporting is more appropriate, for example, voting records.

Following the draft contract clauses below there is a summary of the information that asset owners would expect to receive if all the other draft clauses in the guidance have been incorporated in the investment management agreement.  Owners may wish to include these in the list of information required specified in the schedule or side-letter, or may be content to rely on the clauses in the contract itself.

Many asset owners may also seek additional information that it relevant to their investment objectives and stewardship expectations and which will help them to comply with their own reporting requirements. The exact nature of this information will depend on factors such as the agreed performance measures, the asset owner’s responsible investment policy, recognised third party standards and their own reporting obligations.

Additional information that is neither covered by the draft clauses in this guidance nor contained in the asset manager’s standard periodic reports to clients should either be specified in the investment management agreement or where that is not possible - for example, because the mandate is for a pooled fund - in an appendix or side letter agreed with the manager.

• Appendix B contains illustrative examples of the different types of information that asset owners might wish to receive on a regular basis from managers.

The Following is a summary of the information that asset owners would expect to receive if all the general draft clauses in this document were to be incorporated in the IMA.  Asset owners may wish to include these in the list of required information specified in the schedule or side-letter or may be content to rely on the clauses in the contract itself.

Information to be provided by the asset manager in accordance with the draft clauses in Parts 4 to 6 of this guidance

Note: The items listed below are based on those highlighted earlier in the guidance. Examples of other information that asset owners might potentially wish to receive can be found in Appendix B.

• How the Manager has applied the agreed investment policies and standards (Section 4.1);

• Portfolio turnover, with an explanation if turnover exceeds the agreed range (Section 4.2);

• How the Manager has advocated for appropriate and fit-for-purpose market regulation and infrastructure needed to manage and mitigate systemic risks (Section 4.3);

• Information on the Manager’s fee structure, including details of the specific services that the Manager will provide for these fees, any services or circumstances which would incur additional fees, any costs and expenses for which the Client will be liable, and the criteria to be met by the Manager in order for any performance fees to be paid (Section 4.4);

• How the Manager has ensured that the pay and incentive policies and structures for its staff align their interests appropriately with those of the Client and the investment time horizon of the portfolio (Section 4.4);

• How the Manager has implemented the agreed stewardship objectives, including evidence of the effectiveness of the Manager’s activities (Section 5.1);

• How the Manager has voted on the Client’s behalf, including: 
  • information on the number or percentage of general
    meetings at which the Manager voted;
  • an analysis of votes cast for and against;
  • details of any controversial votes at significant holdings;
  • details of any resolutions on which they voted contrary to
    the Client’s (or the Manager’s own) voting policy and the 
    reasons why; and
  • details of all votes involving companies where the Manager
    or an affiliate have a contractual relationship or other 
    material financial interest (Section 5.2);

• The Manager’s guidelines for oversight of activities to third parties and details of any third parties that have been engaged and how the guidelines have been applied (Section 5.3);

• If the Manager has applied the voting policy of a proxy advisory firm or other third party, an explanation of why it considers that to be appropriate (Section 5.3);

• If stock lending is permitted, the revenue from stocks lent and details of (a) holdings which were recalled for proxy voting, specifying how such votes were cast, and (b) holdings which were on loan and not voted by the Manager on matters involving specified subjects (Section 5.4);

• Details of:
  • any regulatory investigation or legal proceedings against the Manager, any of its key staff, staff assigned under the contract, or the Fund;
  • significant changes in the business structure or ownership of the Manager;
  • changes to key staff or to the board structure or membership of any fund structure through which the Client invests; 
  • material changes to the advisers or service providers to the Manager/Fund, including the auditor, administrator or any custodian or prime broker;
  • if at any time the Client’s investment becomes more than [X%] of the Fund;
  • material changes in investment approach, including but not limited to the responsible investment approach, or risk appetite over the life of the investment. (Section 6.1);

• significant changes in the business structure or ownership of the Manager;

• changes to key staff or to the board structure or membership of any fund structure through which the Client invests; 

• material changes to the advisers or service providers to the Manager/Fund, including the auditor, administrator or any custodian or prime broker;

• if at any time the Client’s investment becomes more than [X%] of the Fund;

• A copy of the Manager’s management accounts (Section 6.1);

• Evidence of the effectiveness of the Manager’s risk management systems (Section 6.2);

• Information on any material amendments to, and waivers of, the Manager’s conflicts of interest policy (section 6.3);

• Payments made by the Manager under the commission policy, highlighting any deviations from the policy (section 6.4); and

• The range of counterparties used by the Manager during the agreed period, the maximum and average exposures to each counterparty and the existing exposures at the end of the period (Section 6.4.)

Disclaimers               Acknowledgements