FDIC - Federal Deposit Insurance Corporation

12/27/2024 | Press release | Distributed by Public on 12/27/2024 15:01

Monitoring the Passivity of Index Fund Complexes: Vanguard’s New Passivity Agreement

The passivity agreement entered into by Vanguard today should enable the FDIC to address, with respect to Vanguard, the concerns I raised in January1 and several times since2 about gaps in the FDIC's monitoring of the purported passivity of the largest index fund complexes.3

Those concerns have some urgency given the rapid growth of these index fund complexes and the growing body of academic work and other evidence raising doubt about whether these index fund complexes are truly passive. Some critics have pointed to evidence that these index fund complexes have pushed ESG agendas at public companies.4 Others have expressed concerns about the risks to competition posed by concentrated ownership.5 Still others have focused more generally on the concentration of power in a few institutional investors.6

The FDIC is required by law to be on the watch for influence of this sort directed at a bank supervised by the FDIC. The Change in Bank Control Act generally requires a fund complex or other person to obtain the FDIC's approval before acquiring control, whether directly or indirectly, of an FDIC-supervised bank.7

Today's agreement with Vanguard is a good step in the right direction. It adds specificity as to what it means to be a passive investor in FDIC-supervised banks or their holding companies. More importantly, it also enhances the FDIC's ability to monitor and confirm that passivity.

Going forward, it will be up to the FDIC to implement a plan to monitor Vanguard's investment stewardship activities. In particular, the FDIC will need to keep a close eye on any informal engagements Vanguard might have with management of FDIC-supervised banks.

To that end, the FDIC should scrutinize Vanguard's own compliance program. It will be critically important that the FDIC periodically assess how Vanguard's front-line business units, independent risk function, and internal audit function monitor, test, and audit its compliance with its related policies and procedures. I trust and expect that the FDIC will use its information rights under the agreement to review Vanguard's relevant internal audit reports and similar documentation.8

I would like to thank the Chairman and the other Board members for their willingness to engage on this topic over the last year. I am especially grateful to the FDIC staff who have worked creatively and diligently to find a path forward.

1 Remarks by Jonathan McKernan, Director, FDIC Board of Directors, at the Session on Financial Regulation at the Annual Meeting of the Association of American Law Schools (Jan. 5, 2024).
2 Memorandum from Jonathan McKernan, Member, FDIC Board of Directors to the FDIC Board of Directors on Monitoring Covered Fund Complexes' Compliance with Passivity Commitments (July 29, 2024)(and accompanying resolution); Jonathan McKernan, Member, FDIC Board of Directors, Proposal to Enhance Monitoring of Compliance with Passivity Commitments and Other Conditions in FDIC-Control Comfort (Apr. 25, 2024); Memorandum from Jonathan McKernan, Member, FDIC Board of Directors to the FDIC Board of Directors on Monitoring Covered Fund Complexes' Compliance with Passivity Commitments and Other Conditions in FDIC Control Comfort (Apr. 15, 2024).
3 Although some have conflated the two issues, the question as to how the FDIC monitors the passivity of index fund complexes is distinct from whether the FDIC should amend its existing regulations to require notice to the FDIC under the Change in Bank Control Act when a notice has also been submitted to the Federal Reserve Board. The latter was the objective of a July notice of proposed rulemaking that I opposed. Regulations Implementing the Change in Bank Control Act, 89 Fed. Reg. 67,002 (proposed Aug. 19, 2024); Jonathan McKernan, Member, FDIC Board of Directors, Proposed Amendments to the Change in Bank Control Act Framework (July 30, 2024). Notably, these index fund complexes generally do not submit notices under the Change in Bank Control Act to either the Federal Reserve Board or the FDIC, and would not have been affected by the July proposal.
4 See, e.g., Minority Staff of the U.S. Senate Committee on Banking, Housing, and Urban Affairs, The New Emperors: Responding to the Growing Influence of the Big Three Asset Managers (Dec. 2022).
5 Prepared Remarks of CFPB Director Rohit Chopra at Harvard Law School on the Asset Management Oligopoly (Oct. 15, 2024).
6 JOHN COATES, THE PROBLEM OF TWELVE: WHEN A FEW FINANCIAL INSTITUTIONS CONTROL EVERYTHING(2023); Graham Steele, The New Money Trust: How Large Money Managers Control Our Economy and What We Can Do About It (Am. Econ. Liberties Project, Working Paper Series on Corporate Power No. 8, 2020).
7 See12 U.S.C. § 1817(j)(7); 12 C.F.R. pt. 308, subpt. E.
8 My view is that the agreement should have expressly obligated Vanguard to periodically deliver to the FDIC appropriate descriptions of these internal audits, including the audit objectives, work plan, and any findings or recommendations. While I am generally supportive of the approach taken in the agreement, I was not able to support entry into this agreement in the absence of a provision to that effect.