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<ul><li><strong>A new white paper lists out reasons why investors should invest in fighting climate change.</strong></li><li><strong>Early birds will not only make big money, the investments will also limit the damage from natural disasters.</strong></li><li><strong>For example, investments in renewable energy alone is likely to hit $2 trillion by 2050: GMO.</strong></li></ul>The threat of climate change is real whether one believes in it or not. The actual choice is whether you want to invest in battling hurricanes, typhoons, droughts, and wildfires or to invest in averting such tragedies in the future.<br /><br />Battling climate change has emerged as a sector to invest in. "We see this effort providing the backdrop for decades of secular growth in the climate change sector, along with the potential for strong returns," a recent white paper from the asset management firm GMO said.<br /><br />According to the authors, GMO's founder Jeremy Grantham and Lucas White, the portfolio manager for the Climate Change and Resources Strategies, investments in renewable energy alone to approach $2 trillion per year by 2050. "Transitioning to clean energy will take a tremendous amount of investment and time. Many trillions of dollars will be needed to decarbonize the economy and overhaul our energy grids," the report said.<br /><br />India, for instance, has pushed for more <a href="https://www.businessinsider.in/2017-saw-the-largest-rise-in-renewable-energy-capacity-report/articleshow/64476812.cms" data-type="tilCustomLink" target="_blank">investments in renewable energy</a> last couple of years. <br /><br />There are three reasons why it is wise to invest in companies that are working to limit the impact of climate change.<br /><br /><strong>Protection: </strong>On the one hand, there are tangible losses from natural disasters due to climate change that can severely damage economies and the value of investments. On the other hand, as more countries move towards sustainability, there is an additional risk of more taxes on fossil fuels and regulatory curbs to force traditional businesses to reduce carbon footprint. Investing in companies working on renewable energy can offer protection in such cases. <br /><br /><strong>Diversification:</strong>  However, the returns in these investments will not correlated to broader economic growth and consumption.  As the GMO paper puts it, "expect to see periods where a climate change strategy performs well in a weak market and vice versa."<br /><br /><strong>Early mover advantage: </strong> The early bird has a better chance of catching the worm. The key is to identify companies in the 'climate change sector' that are undervalued, according to GMO. "Since inception in April 2017, the earnings growth of the GMO Climate Change Strategy has been higher than the MSCI All Country World Index (ACWI)<br />while consistently trading at a 15-20% discount to ACWI," the paper said.<br /><br />The MSCI ACWI "represents the <a href="https://www.msci.com/indexes" target="_self">Modern Index Strategy</a> and captures all sources of equity returns in 23 developed and 24 emerging markets." It's an index of stocks around the world whose cumulative performance reflect the way global share markets have performed in any given period of time.<br /><br /><strong>Hedge against inflation: </strong>When oil prices rise, clean energy becomes more competitive. "When oil spiked to $150 per barrel and coal and natural gas prices also soared. Solar and wind companies performed extremely well leading up to the peak in fossil fuel prices," according to GMO.<br /><br /><strong>The flip side<br /></strong>However, when fossil fuel prices crash like they did in the years after 2015, alternative energy companies suffer too. Electric vehicle sales slump when driving petrol cars become cheaper. <br /><br />Moreover, GMO, clean energy relies on materials too just like the traditional energy infrastructure. Instead of oil, coal, and natural gas, clean energy companies need copper, lithium, nickel, cobalt etc. While it limits the impact of the battle against climate change, money managers invested in sustainability the exposure to these alternate materials can act as a buffer.<br /><br /><strong>SEE ALSO:<br /></strong><a href="https://www.businessinsider.in/indiainsider/earth-day-2019-india-climate-change-progress-on-paris-agreement/slidelist/68998139.cms" data-type="tilCustomLink" target="_blank">Here's where India stands on climate change.</a><br /><br /><br /><br />

There is big money to be made while fighting climate change

31. Bill Nye the GMO Guy

<p><div class="KonaFilter image-container float_right"><div class="image on-image"><p class="source"><a href="http://www.apimages.com/secured_user/Download.aspx?st=dl&amp;attemptedDL=1&amp;errors=&amp;impid=&amp;hash=KEuylw75KtgPSyrXceovuFK2uIDiLhRo2wXi%252fp%252fa0FPRq9YfKH8dYrHzVcx9LC1ioLEERSsIVzy%252bxfNe64XK7g%253d%253d">AP Images</a></p></div><p></p></div><em><strong>FA Insights is a daily newsletter from Business Insider that delivers the top news and commentary for financial advisors.</strong></em></p>
<p><strong><a href="https://www.gmo.com/America/CMSAttachmentDownload.aspx?target=JUBRxi51IIBEIq6GNuTKr%2bf2o0WPxzkpzr%2bP3HvjlK76FjNoPoANwwlALT63inFWprLEELY64Wg5MCZKlzumQq3wwEcDvcI%2bAax7rLu70%2bguqx3EEZtMYw%3d%3d">James Montier: The Golden Rule Of Investing</a> (GMO) </strong></p>
<p>"The golden rule of investing: no asset (or strategy) is so good that you should invest irrespective of the price paid," writes GMO's James Montier in a new White Paper.</p>
<p>"If when buying a house the mantra is 'location, location, location,' when thinking about any investment (be it an asset or a strategy), the equivalent refrain should be 'valuation, valuation, valuation.' We would argue that one of the myths perpetuated by our industry is that there are lots of ways to generate good long-run real returns, but we believe there is really only one: buying cheap assets."</p>
<p><a href="http://www.investmentnews.com/article/20131205/FREE/131209947#"><strong>Shiller: People Make Better Decisions With Financial Advisors</strong></a><strong> (Investment News)</strong></p>
<p>"People make better decisions with financial advisors," Nobel Prize-winning economist Robert Shiller said during a conference hosted by the National Association of Personal Financial Advisors (NAPFA) and Forbes, reports Liz Skinner at Investment News. Shiller also said that people should have access to financial advice through a Medicaid-type approach if they can't afford it.</p>
<p><a href="https://advisors.vanguard.com/VGApp/iip/site/advisor/researchcommentary/article/IWE_InvComTurnabout"><strong>The Overall Municipal Market Is Still Sound</strong></a><strong> (Vanguard)</strong><a href="https://advisors.vanguard.com/VGApp/iip/site/advisor/researchcommentary/article/IWE_InvComTurnabout"><strong></strong> </a></p>
<p>Historically Treasuries have yielded more than Munis but that relationship has reversed more recently, according to Vanguard. "The turmoil started with the 2008-2009 financial crisis and continued amid dire headlines about state and local finances."</p>
<p>"Through June, July, and August, a time when investor concerns mounted over Detroit's bankruptcy filing and the financial health of Puerto Rico, 10-year municipal yields averaged about 12% more than 10-year Treasuries. By the end of October, the gap had closed somewhat, but 10-year muni yields were still averaging about 8% more. Over the past decade, however, muni yields have averaged 5% less than their Treasury equivalents." Investors should not be swayed by this says Vanguard which thinks the muni market is still "sound." Munis have a tax-favored status and Vanguard argues that investors should determine if they want muni holdings in their portfolio based on their "long-term goals, risk tolerance and tax considerations."</p>
<p><strong><a href="http://www.businessinsider.com/patience-in-asia-2013-12">3 Factors Make Us Optimistic About Investing In Asia</a> (Investment Adventures In Emerging Markets) </strong></p>
<p>While many investors are getting antsy about investing in Asian emerging markets, Mark Mobius says there are three key reasons he continues to be optimistic on the region. 1. "When compared with developed markets generally, Asia's emerging markets have had higher rates of historic economic growth, and growth expectations for the year ahead are generally higher as well." 2. "The high level of foreign reserves we generally find in emerging markets in Asia, which exceeds developed markets in general." 3. "Debt levels in Asian emerging markets are much lower than those in developed markets."</p>
<p><a href="http://www.businessinsider.com/the-circle-of-competence-theory-2013-12"><strong>The 'Circle Of Competence' Theory Will Help You Make Vastly Smarter Decisions</strong></a><strong> (Farnam Street)</strong></p>
<p>Warren Buffett has long used the concept of the "Circle of Competence" to urge investors to focus on areas they know best. "What an investor needs is the ability to correctly evaluate selected businesses," he wrote in a 1996 shareholder letter. "Note that word "selected": You don't have to be an expert on every company, or even many. You only have to be able to evaluate companies within your circle of competence. The size of that circle is not very important; knowing its boundaries, however, is vital." Even if investors don't understand the detailed workings of a company if they can define areas of expertise the can stick to it and over time expand out. And this applies outside the world of investing and to broader success in life.</p>
<p><div class="KonaFilter image-container"><div class="image"><p class="source">Farnam Street</p></div><p></p></div></p>

GMO's James Montier Presents The Golden Rule Of Investing 

<p><div class="KonaFilter image-container display-table float_right"><div><div class="image on-image"></div><p></p></div></div>In a new white paper, titled "<a href="https://www.gmo.com/America/CMSAttachmentDownload.aspx?target=JUBRxi51IIBoe1yul9uERnfCmQoglFl9k5qwJSfHx8w%2fWCnFLmEb2MC9GoFnZVlslR5NzCRY1ajgn503icBv67VQg%2fNVUMWsYvi3A2%2fL%2bS28A7Pthjp7LmOfLYQfHMJc">The World's Dumbest Idea</a>," <span>GMO Capital's James Montier explores the flaws in one the biggest shifts in the goals of modern business management: shareholder value maximization.</span></p>
<p><span><span>This paper stems from a </span><span></span><a href="http://www.businessinsider.com/montier-shareholder-value-maximization-is-bad-2014-10">presentation Montier gave</a><span> at the CFA Institute earlier this year.</span></span></p>
<p>"When it comes to bad ideas, finance certainly offers up an embarrassment of riches," Montier writes, though perhaps none of these is as bad as the idea that executives ought to strive, first and foremost, at shareholder value maximization.</p>
<p>Montier's paper takes its title from a quote <a href="http://www.ft.com/intl/cms/s/0/294ff1f2-0f27-11de-ba10-0000779fd2ac.html#axzz3KfEPBMZ5">given to The Financial Times</a> by Jack Welch, the former CEO of General Electric, who told the FT in 2009 that, "On the face of it, shareholder value is the dumbest idea in the world…<strong>Shareholder value is a result, not a strategy</strong> … your main constituencies are your employees, your customers and your products."<span style="line-height: 1.5em;"><br /></span></p>
<p>And it's Welch's sentiment, that what you achieve is shareholder value not what you aspire to, that Montier believes become inverted in modern corporate management.</p>
<p>The target Montier zeroes in on is IBM.</p>
<p>Montier writes that in its early days as a company, "IBM's mission statement was outlined by Tony Watson (the son of the founder) and was based on three principles (in descending order of importance): 1) respect for individual employees; 2) a commitment to customer service; and 3) achieving excellence."</p>
<p><div class="KonaFilter image-container float_right click-to-enlarge"><div class="image"><a title_source="GMO" title_caption="" class="zoomin" href="https://static-ssl.businessinsider.com/image/547dce5e6da811c05310debb-960/screen shot 2014-12-02 at 9.35.39 am.png"><span class="sprites click-to-enlarge-icon" title="Click to enlarge"></span></a><p class="source"><span>GMO</span></p></div><p></p></div></p>
<p>But by the early '90s, IBM's returns had been flat since the '70s, and the message changed. </p>
<p>"Lou Gerstner arrived as [IBM] CEO and stated, 'Our primary measures of success are customer satisfaction and shareholder value,'" Montier writes.</p>
<p>Montier highlights the following chart, which shows commentary from IBM CEOs overlayed with the company's stock price.<span style="line-height: 1.5em;"> </span></p>
<p>Hedge fund manager Stanley Druckenmiller has also been critical of IBM's corporate behavior, calling the company the "<a href="http://www.businessinsider.com/stanley-druckenmiller-on-ibm-2014-10">poster child</a>" for what's wrong with corporate behavior, noting that the company's sales have been flat for the last six years, though earnings have still been increasing.<span style="line-height: 1.5em;"> </span></p>
<p><span style="line-height: 1.5em;">And through this chart, Montier argues that it is the change in philosophy that accompanied the increase in IBM's share price; it was making shareholder returns the goal, not the outcome, that goosed IBM's stock.</span></p>
<p><span style="line-height: 1.5em;"><span>The idea that Montier is advancing, however, is not something that is strictly new. Naked Capitalism </span><a href="http://www.nakedcapitalism.com/2014/01/myth-maximizing-shareholder-value.html">has written</a><span> on the subject in the past, and a 2013 article from </span><a href="http://www.washingtonpost.com/business/economy/maximizing-shareholder-value-the-goal-that-changed-corporate-america/2013/08/26/26e9ca8e-ed74-11e2-9008-61e94a7ea20d_story.html">The Washington Post also explored</a><span> the change in IBM that saw the company's stock price rise during the 90s while it undertook massive layoffs. </span></span></p>
<p>But away from IBM, another shift in corporate incentives that Montier focuses on is how executives are compensated.</p>
<p><div class="KonaFilter image-container display-table float_left click-to-enlarge"><div><div class="image"><a title_source="GMO" title_caption="" class="zoomin" href="https://static-ssl.businessinsider.com/image/547dcf17eab8ea477ac4e1f9-960/screen shot 2014-12-02 at 9.38.44 am.png"><span class="sprites click-to-enlarge-icon" title="Click to enlarge"></span></a><p class="source"><span>GMO</span></p></div><p></p></div></div>In the last decade, CEO compensation has risen sharply, but more than two thirds of this compensation has been in the form of stock and options.</p>
<p>And this shift has, in Montier's view, created executive incentives that are misaligned with running productive businesses.</p>
<p>Montier traces the origins of this shift in compensation to work from Michael Jensen and William Meckling - whose work Montier argues follows from that of Milton Friedman ("It is quite staggering just how many bad ideas in economics appear to stem from Milton Friedman," Montier writes) - which argued that effective corporate governance needed to be aligned with shareholders values, which they assumed was a desire to maximize profits. </p>
<p>And so the theory followed that if executives were paid like shareholders, i.e. were compensated with stock not cash, then it would follow that their actions to maximize returns would benefit themselves, the shareholders, and by extension the company as a whole. </p>
<p>But Montier believes this has failed.</p>
<p>In 1981, the Business Roundtable, an association of US CEOs, said that, "Corporations have a responsibility, first of all, to make available to the public quality goods and services at fair prices, thereby earning a profit that attracts investment...provide jobs, and build the economy.<strong>"</strong></p>
<p><div class="KonaFilter image-container display-table float_right click-to-enlarge"><div><div class="image"><a title_source="GMO" title_caption="" class="zoomin" href="https://static-ssl.businessinsider.com/image/547dd74b6da811930210debc-960/screen shot 2014-12-02 at 10.13.53 am.png"><span class="sprites click-to-enlarge-icon" title="Click to enlarge"></span></a><p class="source"><span>GMO</span></p></div><p></p></div></div></p>
<p>But by 1997, that message had shifted to, "The principal objective of a business...is to generate economic returns to its owners...if the CEO and the directors are not focused on shareholder value, it may be less likely the corporation will realize that value."</p>
<p>And with this shift, the idea that running a business was a pursuit in maximizing returns for shareholders became conventional wisdom. </p>
<p>What followed were stock returns but not improvement in the underlying performance of companies. </p>
<p>Montier concludes his analysis with lessons for shareholders, companies, and everybody else:</p>
<ol>
<li>Shareholders returns haven't increased meaningfully and it may have led to poorer corporate performance.</li>
<li>Peter Drucker was right: "The only valid purpose of a firm is to create a customer."</li>
<li>Shareholders are just one small piece of the broader economic landscape, but if we allow companies to focus on then alone, "we have potentially unleashed a number of ills upon ourselves."</li>
</ol>

GMO's James Montier Destroys The Idea That Maximizing Shareholder Value Is Good

<p><div class="KonaFilter image-container display-table"><div><div class="image on-image"><p class="source"><span><a href="https://www.youtube.com/watch?v=niEwyTVTH78">WealthTrack</a></span></p></div><p></p></div></div></p><ul class="summary-list"><li>Jeremy Grantham, the cofounder and chief investment strategist at the $70 billion Grantham, Mayo, &amp; van Otterloo, has become a world-renowned market voice by calling every modern financial bubble - including the past two stock meltdowns.</li><li>In a recent white paper, Grantham laid out his strategy for investing around climate change - one built around riding the wave of companies focused on fighting it.</li><li>Grantham also discussed how this strategy can fit into portfolios that have varying objectives.</li><li><a href="https://www.businessinsider.com/?hprecirc-bullet" target="_blank" rel="noopener">Visit Business Insider's homepage for more stories.</a></li></ul><p>Fighting <a href="https://www.businessinsider.com/category/climate-change" target="_blank" rel="noopener">climate change</a> is going to require trillions of dollars and decades of time.</p><p><a href="https://www.businessinsider.com/category/jeremy-grantham" target="_blank" rel="noopener">Jeremy Grantham</a>, the cofounder and chief investment strategist at the $71 billion Grantham, Mayo, &amp; van Otterloo, sees this as an opportunity. And judging by his impeccable track record, his advice should be considered, if not heeded in full.</p><p>A world-renowned investor, Grantham has made his name by predicting major asset bubbles. He predicted the dot-com and housing bubbles that wound up crushing markets. In fact, his otherworldly prescience actually extends back to the late 1980s, when he called a bubble in Japanese equities and real estate.</p><p>Grantham says trillions of dollars will be deployed in a broad effort to transition away from the current global energy infrastructure and towards so-called clean energy. And when money is being spent, there's money to be made.</p><p>"As return-oriented investors, we see this effort providing the backdrop for decades of secular growth in the climate-change sector, along with the potential for strong returns," Grantham and his colleague <a href="https://www.bloomberg.com/research/stocks/private/person.asp?personId=82307789&amp;privcapId=145606102&amp;previousCapId=145606102&amp;previousTitle=GMO%20Trust%20-%20GMO%20Resources%20Fund" target="_blank" rel="noopener">Lucas White</a> wrote in a recent <a href="https://www.gmo.com/north-america/research-library/thinking-outside-the-box-how-and-why-to-invest-in-a-climate-change-strategy/" target="_blank" rel="noopener">white paper</a>.</p><p>That partially stems from Grantham's expectation that the clean-energy shift will be rife with inefficiencies ready to be exploited.</p><p>"We believe that investors who do a good job of identifying the winners in the fight against climate change will be handsomely rewarded," he said.</p><p>But that's the simplistic way of looking at it. Grantham says there are a handful of other "significant" benefits his suggested climate-change strategy can offer. They can be broken down into four main categories, each of which is outlined below:</p><h2>(1) Diversification</h2><p>Grantham says one of the main selling points of his climate-change strategy is how decoupled it is from stock-market returns. While equities are driven largely by economic profitability and growth, he notes that the impetus behind climate change will be the switch to clean energy.</p><p>For that reason, Grantham sees such a strategy hanging tough during even the most difficult market enviroment.</p><p>"We expect to see periods where a climate change strategy performs well in a weak market and vice versa," he said. "If we told you we had identified an asset class that provided equity-like returns, perhaps better, in a manner quite different from the broad equity market, you would jump at the opportunity."</p><h2>(2) Protection from climate risk</h2><p>Even the Trump administration concedes that climate change is bound to take a bite out of the economy over the rest of the century. Grantham points out that as that transpires, the companies focused on preventing it will see their products and services in higher demand.</p><p>Green energy industries "will uniquely benefit from increased government intervention, not to mention from the ever-improving technology," he said.</p><h2>(3) Indirect exposure to fossil fuel prices and the inflation protection the industry provides</h2><p>If you're keen to adopt a climate-change strategy, it may seem like a no-brainer to start divesting from fossil fuels. However, that's easier said than done. Grantham notes that the outsized returns and inflation protection the industry has historically provided will be difficult to relinquish.</p><p>But he has a solution: investing in clean energy options that compete with fossil fuels.</p><p>"When fossil fuel prices rise, clean energy solutions become more competitive, and market forces accelerate the transition to them," Grantham said.</p><p>The chart below shows how this indirect exposure can be gleaned.</p><p><div class="KonaFilter image-container display-table click-to-enlarge"><div><div class="image on-image"><a title_source="MSCI, Global Financial Data, GMO" title_caption="" class="zoomin" href="https://static-ssl.businessinsider.com/image/5cc21949b14bf465cf6f4412-960/screen shot 2019-04-25 at 43148 pm.png"><span class="sprites click-to-enlarge-icon" title="Click to enlarge"></span></a><p class="source"><span>MSCI, Global Financial Data, GMO</span></p></div><p></p></div></div></p><h2>(4) Growth at a discount</h2><p>All of the forces outlined above are great and all, but the ultimate objective of Grantham's strategy is to make money. To that end, he's appended this pillar of his strategy, which involves finding bargains in the investing universe he's already laid out.</p><p>While that may seem at first glance to be a traditional value-investing approach, Grantham notes that climate change on the whole is a high-growth area. Yet, despite that, he sees plenty of opportunity to pick out diamonds in the rough.</p><p>The chart below supports that idea:</p><p><div class="KonaFilter image-container display-table click-to-enlarge"><div><div class="image on-image"><a title_source="Russell, GMO" title_caption="" class="zoomin" href="https://static-ssl.businessinsider.com/image/5cc21b62b14bf469f9690022-960/screen shot 2019-04-25 at 44049 pm.png"><span class="sprites click-to-enlarge-icon" title="Click to enlarge"></span></a><p class="source"><span>Russell, GMO</span></p></div><p></p></div></div></p><h2>How to weave a climate-change strategy into your existing portfolio</h2><p>So how can the aforementioned strategy be best tailored to your specific portfolio? Grantham lays out four possible avenues:</p><ol><li>Global equity alpha</li><li>Real assets allocation</li><li>ESG, impact, and sustainable investments</li><li>Downside insurance</li></ol><p>"There are a variety of ways that such a strategy could fit into a portfolio," Grantham said. "It's up to investors to figure out how a climate change strategy fits into their particular investment process, but we expect it will be worth the effort."</p><p>He continued: "For those willing to think outside the box, we expect the rewards to be significant."</p>    <div class="margin-top">        <h3>NOW WATCH: <a href="https://www.businessinsider.com/lawsuit-captain-marvel-shazam-superman-comics-dc-superheroes-2019-4">How a $4 million lawsuit created 'Shazam!' and 'Captain Marvel' as we know them today</a></h3>        <div>                    </div>    </div>

Jeremy Grantham predicted the past 2 financial bubbles. Now he's formulated an 'outside the box' strategy for investing in the fight against climate change.

<div style="float: right; margin: 15px 0 20px 20px;"><table border="0" cellspacing="0" cellpadding="0"><tbody><tr><td colspan="2"><a href="https://static-ssl.businessinsider.com/category/chart-of-the-day"> </a></td></tr><tr><td><a href="http://www.businessinsider.com/category/chart-of-the-day"></a></td><td><a href="http://www.businessinsider.com/markets-chart-of-the-day-december-1-2014-12"></a></td></tr></tbody></table></div><p>The CEOs of the world's biggest companies are keeping their jobs for less and less time.</p>
<p>On Tuesday, <a href="http://www.businessinsider.com/gmos-montier-maximizing-shareholder-value-is-the-worlds-worst-idea-2014-12">we highlighted</a> a recent white paper from GMO Capital's James Montier in which Montier takes aim at the idea that companies ought to strive, before all else, at maximizing shareholder returns. </p>
<p>Montier calls this the "world's dumbest idea."</p>
<p>In his paper, Montier addresses a number of side effects seen in corporate behavior as a result of this paradigm shift towards shareholder returns over all else. <span style="line-height: 1.5em;">Among these consequences is faster turnover both at the top of the world's biggest companies. </span></p>
<p>Montier notes that since <span style="line-height: 1.5em;">the 1970s, the average length of time a company stays in the S&amp;P 500 has fallen from nearly 30 years to around 15 years. </span><span style="line-height: 1.5em;">The tenure of CEOs has also fallen dramatically, from over a decade to less than four years.</span></p>
<p>And so given this trend, Montier writes, "[i]t is little wonder that CEOs may be incentivized to extract maximum rent in the minimum time possible given the shrinkage of their time horizons."</p>
<p>Executive compensation over the last twenty years has more and more come to be comprised of stock and stock options rather than cash, which Montier argues gives executives motivation to goose share prices rather than invest in the business. </p>
<p>And the less time a CEO sticks around, the more aggressively they might take actions aimed as boosting share prices. </p>
<p><div class="KonaFilter image-container display-table"><div><div class="image"></div><p></p></div></div></p>

The Tenure For S&P 500 CEOs Is Getting Shorter And Shorter

<p></p>
<div class="KonaFilter image-container display-table float_right"><div>
<div class="image on-image">
<p class="source"><span><a href="http://www0.gsb.columbia.edu/students/organizations/cima/img/Montier.jpg">Columbia.edu</a></span></p>
<p class="caption">James Montier.</p>
</img></div>
<p></p>
</div></div>In a new white paper titled "<a href="https://www.gmo.com/America/CMSAttachmentDownload.aspx?target=JUBRxi51IIBoe1yul9uERnfCmQoglFl9k5qwJSfHx8w%2fWCnFLmEb2MC9GoFnZVlslR5NzCRY1ajgn503icBv67VQg%2fNVUMWsYvi3A2%2fL%2bS28A7Pthjp7LmOfLYQfHMJc">The World's Dumbest Idea</a>,"&#xa0;<span>GMO Capital's James Montier explores the flaws in one the biggest shifts in the goals of modern business management: shareholder value maximization.</span>
<p><span><span>This paper comes from a&#xa0;</span><span></span><a href="http://www.businessinsider.com/montier-shareholder-value-maximization-is-bad-2014-10">presentation that Montier gave</a><span>&#xa0;at the CFA Institute earlier this year.</span></span></p>
<p>"When it comes to bad ideas, finance certainly offers up an embarrassment of riches," Montier writes, though perhaps none of these is as bad as the idea that executives ought to strive, first and foremost, at shareholder value maximization.</p>
<p>Montier's paper takes its title from a quote <a href="http://www.ft.com/intl/cms/s/0/294ff1f2-0f27-11de-ba10-0000779fd2ac.html#axzz3KfEPBMZ5">given to the Financial Times</a>&#xa0;by Jack Welch, the former CEO of General Electric, who told the FT in 2009 that, "On the face of it, shareholder value is the dumbest idea in the world …&#xa0;<strong>Shareholder value is a result, not a strategy</strong> … your main constituencies are your employees, your customers and your products."<span style="line-height: 1.5em;"><br /></span></p>
<p>And it's Welch's sentiment that what you achieve is shareholder value, not what you aspire to, that Montier believes become inverted in modern corporate management.</p>
<p>The target Montier zeroes in on is IBM.</p>
<p>Montier writes that in its early days as a company, "IBM's mission statement was outlined by Tony Watson (the son of the founder) and was based on three principles (in descending order of importance): 1) respect for individual employees; 2) a commitment to customer service; and 3) achieving excellence."</p>
<p></p>
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<p>But by the early '90s, IBM's returns had been flat since the '70s, and the message changed.&#xa0;</p>
<p>"Lou Gerstner arrived as [IBM] CEO and stated, 'Our primary measures of success are customer satisfaction and shareholder value,'" Montier writes.</p>
<p>Montier highlights the following chart, which shows commentary from IBM CEOs overlayed with the company's stock price.<span style="line-height: 1.5em;">&#xa0;</span></p>
<p>Hedge fund manager Stanley Druckenmiller has also been critical of IBM's corporate behavior, calling the company the "<a href="http://www.businessinsider.com/stanley-druckenmiller-on-ibm-2014-10">poster child</a>" for what's wrong with corporate behavior, noting that the company's sales have been flat for the last six years, though earnings have still been increasing.<span style="line-height: 1.5em;">&#xa0;</span></p>
<p><span style="line-height: 1.5em;">And through this chart, Montier argues that it is the change in philosophy that accompanied the increase in IBM's share price; it was making shareholder returns the goal, not the outcome, that goosed IBM's stock.</span></p>
<p><span style="line-height: 1.5em;"><span>The idea that Montier is advancing, however, is not something that is strictly new. Naked Capitalism&#xa0;</span><a href="http://www.nakedcapitalism.com/2014/01/myth-maximizing-shareholder-value.html">has written</a><span>&#xa0;on the subject in the past, and a 2013 article from&#xa0;</span><a href="http://www.washingtonpost.com/business/economy/maximizing-shareholder-value-the-goal-that-changed-corporate-america/2013/08/26/26e9ca8e-ed74-11e2-9008-61e94a7ea20d_story.html">The Washington Post also explored</a><span>&#xa0;the change in IBM that saw the company's stock price rise during the '90s while it undertook massive layoffs.&#xa0;</span></span></p>
<p>But away from IBM, another shift in corporate incentives that Montier focuses on is how executives are compensated.</p>
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</div></div>In the last decade, CEO compensation has risen sharply, but more than two-thirds of this compensation has been in the form of stock and options.
<p>And this shift has, in Montier's view, created executive incentives that are misaligned with running productive businesses.</p>
<p>Montier traces the origins of this shift in compensation to work from Michael Jensen and William Meckling - whose work Montier argues follows from that of Milton Friedman ("It is quite staggering just how many bad ideas in economics appear to stem from Milton Friedman," Montier writes) - which argued that effective corporate governance needed to be aligned with shareholder values, which they assumed was a desire to maximize profits.&#xa0;</p>
<p>And so the theory followed that if executives were paid like shareholders - that is, were compensated with stock not cash - then it would follow that their actions to maximize returns would benefit themselves, the shareholders, and by extension the company as a whole.&#xa0;</p>
<p>But Montier believes this has failed.</p>
<p>In 1981, the Business Roundtable, an association of US CEOs, said that, "Corporations have a responsibility, first of all, to make available to the public quality goods and services at fair prices, thereby earning a profit that attracts investment ... provide jobs, and build the economy.<strong>"</strong></p>
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<p>But by 1997, that message had shifted to "The principal objective of a business ... is to generate economic returns to its owners ... if the CEO and the directors are not focused on shareholder value, it may be less likely the corporation will realize that value."</p>
<p>And with this shift, the idea that running a business was a pursuit in maximizing returns for shareholders became conventional wisdom.&#xa0;</p>
<p>What followed were stock returns but not improvement in the underlying performance of companies.&#xa0;</p>
<p>Montier concludes his analysis with lessons for shareholders, companies, and everybody else:</p>
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<li>Shareholders returns haven't increased meaningfully and it may have led to poorer corporate performance.</li>
<li>Peter Drucker was right: "The only valid purpose of a firm is to create a customer."</li>
<li>Shareholders are just one small piece of the broader economic landscape, but if we allow companies to focus on then alone, "we have potentially unleashed a number of ills upon ourselves."</li>
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Maximizing Shareholder Value Is A Terrible Idea

<p><div class="KonaFilter image-container display-table float_right"><div><div class="image on-image"></div><p></p></div></div>Howard Marks thinks almost everything an investor can buy today is expensive. </p><p>In an <a href="http://www.bloomberg.com/news/articles/2015-05-21/oaktree-s-marks-says-europe-better-bet-than-highly-priced-u-s-">interivew with Bloomberg News</a>, Marks said: <strong>"</strong><span><strong>We are at a point in the cycle where we feel virtually all assets are trading above their intrinsic value;</strong> <span>some are in 'highly priced' territory, and there are few absolute bargains available."</span></span></p><p><span>Marks, who really kicked off the market's recent obsession with liquidity in a <a href="http://www.businessinsider.com/howard-marks-liquidity-definition-2015-3">white paper published in March</a>, told Bloomberg that though assets are expensive, "there's somewhat further to go before we reach peak exuberance, and thus peak prices."</span></p><p><span><span>Marks added that he thinks assets in Europe look more attractive than the US. </span></span></p><p><span>Marks is the co-chairman of <a href="http://www.oaktreecapital.com/about/default.aspx">Oaktree Capital</a>, which has about $100 billion in assets under management. </span></p><p><span>In his most recent quarterly letter, GMO's Jeremy Grantham, who along with Marks is one of the most closely-tracked voices in markets, said that the Fed is determined to inflate a "<a href="http://www.businessinsider.com/gmos-grantham-forecasts-fed-fueled-asset-bubble-2015-4">fully-fledged bubble</a>." Grantham thinks the S&amp;P 500 will climb to 2,250 before crashing; on Wednesday it closed at 2,125. </span></p><p><strong><a href="http://www.bloomberg.com/news/articles/2015-05-21/oaktree-s-marks-says-europe-better-bet-than-highly-priced-u-s-">Read the full report at Bloomberg »</a></strong></p>    <div class="margin-top">        <h3>NOW WATCH: <a href="http://www.businessinsider.com/roar-filmed-with-100-untamed-lions-movie-injured-2015-4">70 people were injured while filming this movie with 100 untamed lions</a></h3>        <div>            <div>        <div class="ooyala-video-player" data-video-autoplay="false" data-video-id="Nzc3hmdDr4a5heo3T-j-WFkV1wYM_fEN" data-player-variable="ooyalapopvideo" id="ooyalaplayer_popvideo" style="width:1280px;height:720px"></div>        </div>        </div>            </div>

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