Meeting the Demands of Investor Stewardship in Financial Services

Increased shareholder activism is likely to affect financial firms with dispersed ownership, particularly those that have institutional investors, such as pension funds, as major shareholders. Photo credit: Korea Institute of Finance.

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Published: 23 January 2019

In the Republic of Korea, the finance sector needs environmental, social, and governance evaluation criteria amid growing shareholder stewardship.


In the Republic of Korea, the adoption of a stewardship code by the state-run National Pension Service and other institutional investors has created a more conducive environment for shareholders of financial firms to exercise their rights actively. Accordingly, evaluation of ESG (environmental, social, and governance) practices and shareholders’ engagement could grow stronger; there is a need for further efforts to establish ESG evaluation criteria suitable for financial firms and to strengthen their capacity to respond to and deal with investors' active engagement.


The United Kingdom was the first to adopt a stewardship code to strengthen institutional investors’ fiduciary duty, followed by Japan; Hong Kong, China; and other countries in Asia.  In the Republic of Korea, a voluntary stewardship code was established in 2016, and the following year, many institutional investors adopted it. More recently, so did the National Pension Fund, considered the world’s third largest pension fund with a huge investment portfolio. (See Tasks for Effective Application of Stewardship Code in Korea from Korea Institute of Finance). 

The National Pension Service announced it is adopting the stewardship code in late July 2018, according to which it would (i) expand a list of companies subject to undisclosed dialogues to urge formulation of dividend policies and practice of shareholder proposal right when needed, (ii) identify key management issues (e.g., embezzlement, breach of duty) and have undisclosed dialogues with companies who made such violations, (iii) and initiate public shareholder activities and exercise its voting rights against the agenda of companies that fail to make required improvements.

Stronger shareholder activism by institutional investors is likely to affect financial firms with dispersed ownership, particularly those that have pension funds or institutional investors as the largest or major shareholders―e.g., bank holding companies, banks, or their subsidiaries―far more than nonfinancial firms that can maintain strong control through concentrated ownership and cross-shareholding. Indeed bank holding companies were among the companies whose agenda was rejected because of a veto by the National Pension Fund.

Institutional investors that adopt a stewardship code aim for responsible investment and engagement in business management with interest in nonfinancial elements, such as ESG. For overseas pension funds and institutional investors who follow a stewardship code, consideration of ESG factors is explicitly required as a principle for investment and engagement to promote sustainable management. An ESG strategy may be implemented in various forms, such as avoiding investment in firms deemed inadequate from an ESG perspective (or conversely, investment in firms with excellent ESG indicators), composition of portfolio, or exercise of voting rights. The Korean stewardship code and National Pension Service’s stewardship code also require a periodic evaluation of the financial and nonfinancial aspects of investment firms, and urge undisclosed or disclosed shareholder activities in case corporate value is deemed damaged. 

It should be noted however that ESG factors in financial services are different from other sectors and require a different evaluation criteria. As financial intermediaries, these companies can provide ESG-related services in the form of investments or loans that entail complex ESG risks. Shareholder activism in financial services that is ignorant of this distinction may confuse the issue. Financial firms, on their part, have a weak capacity to respond to and deal with these ESG evaluations and shareholder activities.


Specifically, investors need to take the following into consideration when conducting ESG evaluation for financial firms. 

First, environment (E) is related to issues such as climate change, carbon dioxide emission, pollution, and resource depletion. For financial firms, environment-related risks do not directly stem from production inputs or processes, and what is important is to assess risks associated with their businesses with companies that engage in environmentally damaging activities or sell environmentally harmful products. For instance, there could be banks with a high exposure to companies whose production or profits could be hit hard because of environmental restrictions, or may be subject to legal action for selling products that contain harmful substances. This kind of risks might keep escalating as environmental regulations strengthen.

Second, social value (S) is related to issues, such as human rights, work environment, safety, relationship with the local community, education, and job creation. The scope might continue to expand amid rising expectations of social responsibility from banks, growing awareness of the importance of creating social value, stronger consumer protection, and an emphasis on financial inclusion. In this realm, in addition to evaluating banks' social contribution, reputation risks or credit risks arising from providing financial services to companies that disregard social value need to be taken into account. 

Third, elements related to the governance (G) include the ownership structure, organization, business ethics, compliance, and corporate stability and transparency. In the case of banks, regulatory, supervisory, and reputation risks from their corporate governance are quite significant. There are also risks stemming from business relationships with companies that have an obscure governance structure, engage in unethical practices, or have significant owner risks.

As these suggest, investors and external evaluators need to set ESG criteria specifically for financial services. Financial firms also need to make greater effort in identifying suitable ESG factors for evaluation and raise shareholders’ awareness of these factors. When pension funds and institutional investors practice ESG shareholder activism against financial firms, they should be able to make comprehensive evaluation of ESG risks that can arise from financial firms' intermediary role, and such risks need to be considered in pension funds and institutional investors' internal ESG evaluation or in their use of an external evaluation agency. Meanwhile, financial firms need to promote a forum to discuss and identify factors that can significantly affect regulatory, reputation, and credit risks among a broad range of ESG factors, and establish a risk management infrastructure and risk governance accordingly. They also need to reassess resources currently used on ESG-related activities and reallocate them more efficiently. Lastly, concurrent efforts are needed to facilitate communication among shareholders and other stakeholders (e.g., workers, government) regarding ESG evaluation, and broaden disclosure, such as through a sustainability report.

Si-Yeon Lee
Research Fellow, Banking and Insurance Industry Division, Korea Institute of Finance

Si-Yeon Lee has been a Research Fellow in the Financial Industry & Institutions Division since 2008. She received her PhD in Economics from the University of California, Berkeley. Her thesis is a study on the value of the premium for corporate control and its dependence on firm-level corporate governance practices. Her research focus is on corporate governance of financial institutions, including ownership structure, board of directors system, CEO succession, remuneration schemes, risk governance, and internal control. Her other interests are business models and structure of financial holding companies.

Korea Institute of Finance (KIF)

The Korea Institute of Finance provides expert analysis for the development of the Republic of Korea's financial sector and financial policy.

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