Greater scrutiny on failures in corporate governance and the collapse of the financial system are likely to push pension funds further towards becoming more engaged shareholders, warns Watson Wyatt.

The financial consultant said a new research paper, No action no option, looks at how trustees are being challenged by the task of active share ownership. It also looks at the actions they are now forced to take in order to fulfil obligations to be more accountable in a more demanding regime.

"Unsurprisingly, governments are now keener than before to reform corporate governance with a view to addressing poor alignment of incentives and remuneration as well as ineffective shareholder oversight and challenge of company boards," commented Jane Goodland, investment consultant at Watson Wyatt.

"They will want to explore the efficiency of existing best practice standards and contemplate whether the 'comply or explain' approach alone is adequate. As a result pension fund trustees are likely to come under increased scrutiny about the robustness of their policies, systems and records."

Since most pension funds delegate investment management to external managers, Watson Wyatt noted in its report that they also therefore delegate their shareholder rights. Thus, Watson Wyatt said, trustees must evaluate the extent to which managers are exercising these rights.

"We believe that active ownership can help enhance long-term shareholder value and would support pension funds being more active. However, we are aware of the challenges involved and this being yet another draw on trustees' already stretched governance budgets. However, there are some relatively simple steps that funds can take in relation to their investment managers to satisfy themselves that they are being effective as owners," Goodland said.

Watson Wyatt added that an active ownership approach tends to be effective with equity-based strategies with medium or long-term outlooks, or certain active strategies including equity-based hedge fund strategies.

The No action no option paper is available here.

- Pensions Age May 2009

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