Episode #71 JC de Swaan from Princeton University – Finance as a Force for Good

Jean-Christophe or JC de Swaan is a lecturer in the economics department at Princeton University, where he is affiliated with the Bendheim Center for Finance.  He teaches courses on ethics in finance and on Asian capital markets to undergraduate and graduate students.  He also teaches at the Judge Business School at the University of Cambridge.  In the past he has taught at Yale University, Hong Kong UST, and Cheung Kong Business School in Beijing. Separately, JC de Swaan is a Partner at Cornwall Capital, an investment fund based in New York.  Prior to Cornwall, he was a senior advisor on China at a global macro fund and an investment professional at an Asia-dedicated hedge fund.  Prior to that, JC de Swaan worked at McKinsey & Company. JC de Swaan received his B.A. from Yale University in Political Science, an MPhil in International Relations from the University of Cambridge, and a Master in Public Policy from Harvard University’s Kennedy School.  He is a Member of the Council on Foreign Relations and an Associate Fellow of Ezra Stiles College, Yale University.  He is the author of Seeking Virtue in Finance: Contributing to Society in a Conflicted Industry (Cambridge University Press).

In this episode we talk about how finance can be a force for good and how to lead an ethical career in finance. In the process we talk about many examples, some clearly bad, others more nuanced and complex, and then others clearly great examples.

Links

https://scholar.princeton.edu/jcdeswaan/summary-bio-0

https://www.goodreads.com/author/show/20038460.J_C_de_Swaan

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TRANSCRIPT

EPISODE 71

[00:00:04] ANNOUNCER: Welcome to The Wall Street Lab podcast where we interview top financial professionals and deconstruct their practices to give you an insider look into the world of finance.

[INTRO]

[00:00:23] AVH: Hello and welcome to another episode of The Wall Street Lab podcast. My name is Andy. I’m your host, and today with me is my guest, Jean-Christophe de Swaan or easier JC de Swaan. He is a lecturer in the economics department at Princeton University, where he is affiliated with the Bendheim Center for finance. He teaches courses on ethics and finance and on Asian capital markets to undergraduate and the graduate students. He also teaches at the Judge Business School at the University of Cambridge. In the past, he has taught at Yale University, Hong Kong UST, and Cheung Kong Business School in Beijing.

Separately, JC de Swaan  is a Partner at Cornwall Capital, an investment fund based out of New York. Prior to Cornwall, he was a senior adviser on China at a global macro fund and investment professional at Asia-dedicated hedge fund. Prior to that, JC worked at McKinsey & Company. He received a Bachelor from Yale University in Political Science, a Master in Philosophy in International Relations from the University of Cambridge, and a Master in Public Policy from Harvard University’s Kennedy School. He is also a member of the Council on Foreign Relations and an Associate Fellow of Ezra Stiles College at Yale University. He is also the author of Seeking Virtue in Finance: Contributing to Society in a Conflicted Industry.

[INTERVIEW]

[00:01:56] AVH: JC, welcome to the podcast. It’s such an honor to have you here and it’s really cool to talk to you today.

[00:02:03] JDS: Great. Well, Andy, thanks so much for having me on your podcast. I am excited to be here today.

[00:02:09] AVH: With what I just spoke about and with your background in political science, international relations, why are you teaching finance? How did you get into that, and why this combination of financial ethics and Asian capital markets? Let’s maybe start with that.

[00:02:31] JDS: Yeah. It’s an unusual combination. The genesis of this is that I’ve always been interested in public policy. My entry point into the investment world was really this notion of finance as a force for good. As you mentioned, I studied public policy, political science. I ended up focusing on finance in emerging markets and I really wanted to understand how finance can be a force for good, how it can help nations prosper. As I thought about different career paths, one of the things that got me really excited was going into finance and trying it out and trying to understand at a granular level how finance can be helpful to society, to people.

I started by – You mentioned I worked in management consulting for a few years. After school, I ended up moving to the buy side to try to test out this idea of finance as a force for good by working in a long-short equity hedge fund that was dedicated in Asia. So we were investing in all markets in Asia, mostly emerging markets as a result, and that was my first foray. Out of this was born an even greater interest to understand things because it probably took me a week or two on the job to realize that I would have literally zero impact on the society. It was actually hugely disappointing.

When I started investing, I soon realized that investing in the secondary market wasn’t particularly helpful when you think of it in terms of the positive externalities and the impact it can have on societies. So as a result, I ended up thinking more deeply about these issues. You mentioned that I divide my time between teaching investing, and it’s at that point that I started teaching. I have a true passion for teaching. I taught when I was a grad student at Harvard and I always knew I wanted to get back to it. So I created a very unusual course on Asian economies and capital markets that really tries to like see and understand the impact of the institutional development of financial institutions on societies and also the impact of investments on societies. It was part of, in some ways, a personal journey to try to understand these things better.

Later on, I created a course on ethics and finance that brought together a lot of these teams that I was interested in pursuing professionally. Just in a self-interested way, a lot of it was really driven by my desire to dig deeper and to learn about it and understand it better and try to apply it in my day job.

[00:05:38] AVH: You started developing this course. Then when did you start thinking about writing the book Seeking Virtue in Finance? Was that at the beginning already, or did that just come up over the years as a professor or as a lecturer?

[00:05:55] JDS: That was really spurred by my students. So I’ve been teaching for about a dozen years now. The first time, I taught my course on ethics and finance. The first two years, I taught a course on hedge funds actually. It was a reflection on their social value, their economic value, their social value. Then I realized that all I was really talking about was ethics and finance, so I created this broader course on ethics and finance. The first semester I taught it, one of my students halfway through the semester came to me, and she said, “So this is really interesting to me. But why is it that when we talk about ethics in finance, we always end up talking about bad behavior and people that are self-serving and that are like terrible examples? Why don’t we talk about virtuous behavior? Why don’t we talk about people that are acting constructively, that are thoughtful?” I thought, “Of course. Why is it that we never point to role models?”

As part of my ethics course, I ended up creating a section of it that was devoted to identifying, analyzing, understanding role models in the industry. At first, what I did is I invited them to the class to speak to us. So we would study their kind of career path and make specific decision points that they made over time. Then eventually, as I tried to find readings for the class, I realized I couldn’t find any. There was really no literature on this, so I ended up making it my own research project. I ended up writing this book, Seeking Virtue in Finance, which came out a few months ago.

[00:07:41] AVH: That’s really interesting. I feel like from the podcast, I’m listening to many people just like, “I just didn’t find anything on it, so I wrote the book myself.” I kind of want to have for the next couple of minutes this idea. You know Asia lots. You know the concept of yin and yang. I kind of want to bring this to the podcast for a bit now. One thing that while I was reading your book and like reading a bit into your story was were there any really bad stories that kind of like stood out that made you try to think this other way to like how can funds be foster good? Anything that comes to mind when I say, “Okay, what was the worst story that you kind of heard?”

[00:08:30] JDS: It depends. I mean, there is in some ways for the course and look at unethical behavior, and we try to understand it. So we do all sorts of case studies in it, had a very extreme – You can think of all sorts of things that are terrible like Ponzi schemes, Bernie Madoff, and all that. But in some sense, those are less interesting because in any industry, you’re going to find people who act illegally, try to take advantage of us in a way that’s very extreme. You would never be able to justify because it’s just like fraud or theft or –

We have a lot of data in the finance industry. But in some ways, that’s very uninteresting because every industry has some of that. What’s particularly interesting about the finance industry I think is that it’s an industry that’s particularly complex and opaque. There’s a lot of asymmetry of information between service providers and their customers, or at least often that’s the case. As a result, there’s an unusual amount of space to self-serve. But the challenge is that in finance, you can self-serve in a way that on the surface, at least, can be justifiable. Those are the case studies that I think are in some way the ones that resonate the most and that, for me, I look at them and I say, “Wow, we need to do something about that.”

We’d say what’s the most extreme situations. I would say, in some ways, they’re the most ambiguous. I mean, in our class, we do, for instance, a three-hour case study on Abacus Goldman Sachs security that the firm created in the mid-2000s in the run up to the global financial crisis. Those are interesting because they’re very nuanced. They’re interesting because those who are the proponents of it, those were Goldman Sachs investment bankers. In this case, they viscerally believed that they were doing the right thing. Maybe not all of them in hindsight but a lot of the primary actors truly believed that there was nothing wrong with what they did.

In some ways, these are the examples that are most interesting and some of the most outrageous in finance, right? Or if you fast forward to today, Robinhood is a great example I think of something that’s pretty extreme. So this is the trading platform in the US that offers simplifies trading for weekend investors and allows them to trade out for zero fee. That’s a perfect example I think of an extreme case of something that is peculiar to finance, where, on the surface, the service provider says, “We’re a force for good.” In this case, they say, “We’re democratizing finance. We’re actually providing a new service that is better for the people by allowing them to have the same tools as institutional investors and making it free for them.”

When in reality, they’re doing something that arguably you could look at that seems pretty nefarious actually because they’re prodding people to day trade, which is certainly the vast majority of the time not in their interest or shouldn’t be in their interest. So these are the case studies that are more interesting to me than Bernie Madoff, for instance, the more nuanced ones.

[00:12:19] AVH: Yeah. I think that the Robinhood example is a good example of actually working on my own startup right now just to kind of like try to take people a step back from this. It’s too easy to trade. Sometimes, some things should be hard because you don’t fully can grasp what you’re actually doing. But I would like to talk about Goldman Sachs a bit longer. You said investment bankers. They actually thought they were doing good. Another example that you also brought up in the book and that I want to talk about because I lived in Singapore, I spent some time in Malaysia and it’s a country really dear to my heart is the 1MDB scandal with the billion dollar whale and how Goldman was involved with that. Would you also say that when they did that, they kind of felt they were doing good? Or is this one of the bad case? Could you quickly just give people a history of what do you want them to be scandalous?

[00:13:18] JDS: That’s not a scandal that I’m particularly close to. But from the outside, that seems fundamentally different to me than Abacus, where an abacus, they created complex securities to allow institutional investors to pick their short side of securitized mortgages and that these securities would decline in value. So the premise of it was totally reasonable. The implementation, there were a lot of – In some ways, you can, you can think of them as corporate governance issues because they ended up not sharing enough information with various of their clients. They did so in a way that was self-serving.

The 1MDB case, as I understand it, there’s more clearly an element of fraud involved in the sense that if I understand it correctly, they helped some government officials essentially siphon state funds. I mean, it speaks to bad or weak checks and balances within the company. But I think it’s a little bit harder for any of those involved to pound the table and say this was completely justifiable in hindsight because there was pure theft involved. It sounds like there were at least some individual Goldman Sachs employees that went rogue there, so it’s a little bit of a different case.

I don’t want to necessarily overly focus on Goldman as a firm because in the book, I also mentioned Goldman as a fiduciary leader in some respect over the years. They’re also great examples about what they did. But there’s another example that I think goes to the core of the type of issues I’ve been interested in, which is the work they did for – So it was Goldman and JP Morgan did some really interesting work for the government of Greece and Italy in the late 1990s and early 2000s. This, to me, is particularly interesting because in this case, the governments of Greece and Italy came to these investment banks because they had a very specific problem, which was that their debt levels were going above the threshold that was mandated by the European Union. They wanted these investment banks to help them with that.

What essentially they could do in a short period of time was to obfuscate the fact that they had such high levels of debt. So Goldman and JP Morgan helped them do some financial engineering so that when they reported their sovereign debt levels in the European statistics, it did not look like they had reached the threshold that they were mandated to stay within. This, to me, is fascinating because on one hand, you might say that this is exactly why a government or perhaps a corporation might hire super sophisticated investment banks like Goldman and JP Morgan and pay them huge amounts of money because these investment banks can deliver this kind of rare combination of super deep financial engineering expertise, in addition to a really deep understanding of governmental and supranational regulations, right? It’s kind of a rare combination to be able to understand both and to navigate both of these.

At a superficial level, you might argue, “Wow, these banks really delivered on their mandate. They were asked to do something that was really complicated and they were able to do it, right?” Thus, that justifies very high fees. However, if you step back, you would say, “Well, it’s hard to conclude that these investment banks actually serve societies here because in a very narrow way, they serve their customer.” In finance, we’re always in the business of serving customers, right? As I think of the different virtues that you might have in finance, there’s nothing more important than serving your customers’ interests with their interest in mind.

On one level, they would have served their customer’s interest. However, the problem is so by extracting value from the rest of society because now the net result is that they masked the fact that these governments had huge amounts of debt. So this was late ‘90s, early 2000s. You fast forward to 2011, 2012. Now, you have a huge Eurozone crisis, and that crisis is really driven by excess debt in the system, excess [inaudible 00:18:27] debt. So in hindsight, I’m not suggesting in any way that these banks are responsible for the Eurozone crisis, but they’re part of a system that enabled that to happen over time.

Those are examples that I think we need to understand better in finance, which is things that historically finance professionals have assumed were good for them, good for their clients, and thus good for society. But that’s not necessarily the case. So that was one other example when you mentioned Goldman that I found particularly interesting. By the way, as I mentioned, I don’t want to pound on Goldman. I mean, they’re the brunt of the criticism. But to a large extent, is because they end up often being on top of the league tables and to just be the fiercest competitor out there and draw some of the top talent.

But by the same token, I mean, for many years, I hosted John Whitehead, my seminar, and John Whitehead was the co-senior partner at Goldman, from 1976 to 1984. Back then, Goldman was seen as a beacon of virtue on Wall Street, and they were the pioneers and what would be seen as very, very strong governance. So here’s a nuanced picture out there. But to your point, I think Goldman has had its share of issues over the years. 1MDB, in my sense, was a little bit of an outlier because there was a little bit more of a rogue element to it than some of the other cases that have been talked about.

[00:20:15] AVH: I think this discussion about John Whitehead is getting really interesting, and it’s kind of between yin and yang, right? There’s like a good and a bad part to it. I would like to understand where this blurry line is a bit coming from. It feels to me from what I read in your book, and I’m just making this up, you can never tell, right? But under John Whitehead, something like this whole masking depth, and then it falls back on your feet later on. It seemed to be maybe less likely under some leadership like John Whitehead versus the leadership they had back then. Does it have anything to do with incentive systems or the informal culture that is lift within a bank? I don’t try to pound the like Goldman Sachs, which is maybe you could speak a bit more broadly on what kind of systems might be in place that lead to this ambiguous behavior, let’s call it.

[00:21:18] JDS: Yeah. I think it’s worth mentioning that what you’re talking about, which is the evolution at a firm like Goldman Sachs, for instance, and the fact that over the years, it seems like the firm appears that is increasingly self-serving, right? There are greater conflicts of interest and there are more scandals or specific issues that end up being in the limelight. I would say that’s not a Goldman Sachs issue at all. It’s a Wall Street issue. It’s worth highlighting some of the key reasons why this happens because it’s not –

John Whitehead, when he was, of course, Senior Partner with John Weinberg at Goldman, that was at a time when a lot of these investment banks were still private partnerships. When you were a private partnership, you cared a lot more about your reputation. There was a lot longer term perspective that was taken, and you were a lot more cautious, frankly, because the downside was all yours. I mean, it was their money. They couldn’t just walk away from these jobs with a sense that they were protected because it was always their name on the door, and they had full responsibility.

In the early 1970s, you have the first investment bank [inaudible 00:22:48] that decides to go public. Then eventually, that leads pretty much all the other large investment banks in the US and then eventually in Europe to follow suit. They’re very few that resisted Goldman Sachs to its credit, agonized over this decision for many years. John Whitehead and Weinberg were against it. But then eventually, they were the last one or the last very large one to go public in the late 1990s. Now, once you go public, the incentives are very different, and that ended up changing the culture on Wall Street.

When you’re a senior manager or the CEO or the senior partner of one of these investment banks, your downside is more protected, your upside looks more like a call option, and you have greater incentive to show performance over a shorter period of time because your compensation is going to be tied to the stock price. So you have short-term horizon. On top of that, you have greater conflicts of interest because now you’re not only serving your clients, but you also have shareholders. Jack Bogle has written a lot about this very elegantly in that you have two principles, and that creates all sorts of issues.

Then the other piece, which in some ways you allude to by saying John Whitehead and John Weinberg were some of the last kind of bastion before culture changes, but not just like Goldman Sachs and all these firms, is because the focus of profit really shifts to the trading side. Because when John Whitehead in the ‘70s and early ‘80s was a managing the firm, the preponderance of their profits still came from the investment banking side and from the type of business where you had to nurture and foster longer term relationships. It was more the advisory business, the M&A business, and so your core focus is really a client that you have a long-term relationship with.

Then over time, the profit shifted increasingly to trading. Trading, of course, now you’re dealing with counterparties, so you don’t have the same focus on longer term relationships. It’s a lot about extracting value, right? It’s about just making some trading profits. Then on top of that, over time, you see an increasingly high proportion of profits coming from prop trading. So it’s not only just trading on behalf of clients but it’s also trading on behalf of your own account. That peaked around the time of the global financial crisis because then regulation came in, and there were a lot of these investment banks were forced out of business.

But all of these things created an environment on Wall Street, where the culture of the firms changed, and the outlook was different. But a lot of it is really the incentives. The incentives were very different on Wall Street than. When I say Wall Street, of course, I’m thinking about it very broadly in the US, in Europe, in Asia.

[00:26:09] AVH: That is really interesting. It was one of the most interesting parts for me in the book to just see how did it evolve, but I’m really glad you kind of expanded a bit on that. This may be a good segue into corporate governance, and one thing that you mentioned several times was the experience in Japan, right? Where apparently, companies were publicly traded, but they went the other way, right? They were way too conservative with their money. Their incentives were just basically as a CO to pass over the bar to next CEO. Then I might drop yours, done. Right? If you feel like this is this is a good next step, say, from moving from the darkness to the light, if we want to stay with this yin and yang. Could you describe on where the incentives might lead to too much conservatism and how that, again, might be positively impacted by more risk taking?

[00:27:15] JDS: Sure. I think Japan is a fascinating case to contrast to US, to some extent to the UK as well, where if you had to pinpoint what’s the greatest corporate governance issue in the US or in the UK today, I might argue it’s short-term incentives. I mean, it’s really the consensus to focus on short-term performance, which often comes at the cost of longer term performance and also comes at the cost of externalities. There are all sorts of ways in which you can generate short-term performance by extracting value from various stakeholders by extracting value from your community, from the environment.

When we focus on these issues, we have to bear in mind that not all countries have the same culture and approach to capitalism. Japan is a really interesting one because, in some ways, they have the opposite issue. You might argue they actually have a horizon that’s too long. If you think of what’s the ideal for the American CEO, if they think of their kind of idealized half, it’s really create a ton of value, how the share price go up a ton, and either acquire other companies or sell their company and move on, right? In Japan, their ideal is to be a steward of a company that will still be around 800 years from now. They just want to be stewards, and they care more about stability, and they care more about the ability to provide jobs to their employees for life. Those are things that are deeply ingrained in the culture.

If you ask Japanese CEOs who’s their role model, what’s the company they are admire the most, and it’s likely they’ll mention some sake company that’s been around for 1,000 years, and it’s probably tiny. It may be barely profitable but it doesn’t matter. That’s who they look up to. If you step back, the form of capitalism in Japan is uniquely Japanese. It’s on a spectrum where you might have UK, some Asian economies like Hong Kong, for instance, where the extreme, where we have focus on shareholder capitalism. It’s focused on like performance and share prices, and we have relatively short-term horizons.

Japan since the end of World War II, they have this form of community capitalism, which is for them, what they care most about, as I mentioned, is long-term stability. When push comes to shove, they don’t really care so much about the returns to shareholders. So if you’re a listed company, they’re going to care mostly. Of course, they’re going to care about their customers because no company can sustainably operate without serving their customers well. But at the end of the day, if you ask them who does the company work for, like what is the fundamental purpose of a company, they will say or they will at least believe that it’s to generate jobs for their employees.

Now, the reason why they’re not so focused on shareholder returns is that, historically, they haven’t had to. In the US, if you’re a listed company, you have to focus on shareholder returns because if you don’t, there’s going to be an activist who’s going to open your door very quickly. They’re going to buy up shares. They’re going to initiate shareholder proposals. They might threaten to acquire you by buying enough shares to take control. In Japan, historically, listed companies have been shielded from that threat because of cross share ownership, where when you look at the shareholder list of any listed companies, historically, you had this peculiar universe of companies that were invested in this listed company for uneconomic reasons because they were –

If you look at the shareholder list, typically what you’ll find is there’s going to be their primary bank, and there are other banks that are going to own shares and their insurance company and their customers and their suppliers. So you have a whole kind of cluster of companies that hold their shares, only as a sign of business loyalty. It’s a way to signal that we’re going to be partners for the long term, and these relationships tend to be very sticky in Japan. As a result, we’re going to buy your shares. We’re not going to care whether your share price goes up or down. We’re certainly never going sell your shares and certainly not an activist. It’s just a sign of loyalty.

The consequence of that is that most listed companies, historically, they have had a buffer of like safety, a safety net in the sense that nobody could come in and take them over because you always had this large buffer of shares that would never be transacted. So they felt like completely unthreatened by outside minority shareholders. At the same time, they didn’t have the personal incentive to see their share price go up because generally CEOs in Japanese listed companies, they don’t have shares in the company. Or if they do, it’s very small, and their compensation is often not linked to performance and certainly not to share price performance.

That creates a sclerotic system, and it’s an important part of the reason why the Japanese economy and the corporate sector have been in paralysis for more than 20 years. I mean, as you know, the Japanese corporate sector boomed in the ‘50s, ‘60s, ‘70s, and it really peaked in the 1980s. Then they built up a dramatic bubble, both in equities and in real estate, and that bubble collapsed. They’ve been struggling with deflation, and it’s really only with the Abe administration. Arguably, there was a period where under Koizumi in mid-2000s, where you saw a little bit of a revival. But it’s really the Abe administration that came in in 2013 with an ambitious [inaudible 00:33:53]. One of them was corporate governance reforms, and that was meant to instill more of a shareholder culture to the corporate sector. In fact, that’s one of the reasons why.

I’ve been involved as an investment professional in Asia for over 15 years now. But for the last several — or, I mean, like a large portion of my focus has been Japan. I’ve been going to Japan every three months. As part of my responsibility at Cornwall Capital, we have been constructive activists there because there is an incredible renewal taking place in Japan due to these corporate sector reforms that are getting a lot of traction. This doesn’t mean that Japanese capitalism is going to become US capitalism. It’s never going to become US capitalism. It’s going to be always its uniquely distinct form of Japanese capitalism but it’s going to be more balanced. It looks like it’s moving in the right direction. It’s probably going to be closer to Canadian or German type of capitalism. But even then, completely different because German type of capitalism has its own flavor that’s uniquely German. But it’s a more balanced form that I think it’s going to be helpful to the Japanese side.

[00:35:22] AVH: I didn’t know yet so much to do in Japan. I’ll definitely get back to you for some tips because I’m a huge Japan fan as well. But that’s just a side note. Let’s move one step closer maybe away from – We kind of move from the bad examples and quotation marks over to like a bit too good examples, where it goes into the opposite way and being in the sense that it’s being unproductive. Can you talk a bit now about like the reproductive ethical finance? You mentioned some of those in the books. You mentioned them in the beginning that your student asked about exactly those people, those – Like the lighthouses that really brought finance in a productive way to a new level and really contributed positively to society.

[00:36:18] JDS: Yeah. I mean, there are many examples. In the book, I ended up writing about 60 or so individuals and firms. But I can certainly highlight a few. The way I think about it, as I studied these role models, I really tried to understand is there a way to analytically draw lessons from their behavior, the way they make decisions, and so on. What I did was tease out a framework that we could aspire to follow at least. So I’ll mention, for instance, the first pillar of that framework is serving your customers with your customers’ interests in mind and really serving them faithfully, which is not always a done deal in finance, just because so much of finance gives you the opportunity to self-serve, right? You’re truly vulnerable to that because of [inaudible 00:37:15] and complex and so on.

I can mention the obvious example here in the US. This is Jack Bogle. Jack Bogle really made pronounce better, I should say. So he’s the Founder of Vanguard. Vanguard was the pioneer in offering index funds to retail investors. He founded the firm in the mid-1970s. He was for the last 40 years or so, 50 years, until he passed away a couple years ago, an activist in a way. He was agitating in favor of moving retail investors from active management. From having their savings and mutual funds or other types of vehicles where they paid fees to investing managers to having them invest in the index or in the S&P 500 or in the Global MSCI index or whatever but being passively invested.

What’s fascinating about the arc of his career is that it took 40 years for that revolution to happen. It’s happened. It’s happening now, and we’re seeing staggering shifts, staggering numbers of flows that are moving out of actively managed investments to passive funds or – So index funds or ETFs. The three firms that dominate that landscape, which are Vanguard and BlackRock and State Street, are getting staggering flows. That really – It happened first as a trickle and then a flood in recent years. But what’s fascinating to me about this is that we’ve known what we know today about the fact that a lot of actively managed investments destroy value for retail investors.

We’ve known this just as well 40 years ago. All the research came out in the early 1970s. Somehow, it took several decades for the revolution to happen, and no one is more fundamental to the revolution than Jack Bogle. He created Vanguard and he not only created Vanguard as a firm that mostly did index funds, but he also created it as a not-for-profit, right? It’s a mutual. The company profits are returned to its customers. By doing so, he decided to forego what would have been a vast, vast fortune right? He would have been on par with, say, the billionaires who run – The family that runs Fidelity, for instance.

But he gave that away when he set it up as a not-for-profit because that was an additional way to reduce fees because you’re already reducing fees dramatically when you’re running an index fund, as opposed to an actively managed fund because there’s no real investment function. It’s all essentially back office. You’re replicating an index. But on top of that, he’s returning profits to its customers. So it’s almost a nowadays something less than index funds or ETFs. I mean, there’s almost no fees, right? The fees are minimal.

I would argue that he’s created more social value in just about anyone in the investment world over the last decades and someone that I’ve admired tremendously and was incredibly privileged to have him as part of the class for many years until he passed away to share some of his views. That’s one example. But I don’t want to overemphasize that example because it’s hard to relate to someone like Jack Bogle. What I was looking for primarily were people we could relate to, right? Because in some ways, Jack Bogle was like – He’s a little bit of a hero. He was also borderline altruistic, like he wasn’t materialistic. I didn’t want to focus on people like that, just because that’s not – Most people are not like that. Most people want to serve society, but they’re self-interested. So that’s why a lot of my focus was to find people who were self-interested, ambitious, and successful but in their own way.

[00:41:49] AVH: Could you give an example of one of those people or several? I know that you mentioned the first pillar of your ethical framework. Maybe you could combine this a bit, say, as you said, more nuanced description of somebody, of a role model that has done good for society but has been successful him or herself? Maybe combine it with telling our listeners what are the other three pillars to lead an ethical financial life.

[00:42:23] JDS: Sure. I’ll mention – So the second pillar is really about serving your customers faithfully but without extracting value from others. That goes – And ideally by creating value to the rest of society. That speaks to these examples I talked about earlier of JP Morgan and Goldman Sachs serving the governments of Greece and Italy, where they serve their customers really well, but they probably extracted value from the rest of society in doing so. This really speaks to this great movement that we’re witnessing today in ESG, which is really a crystallization of this idea that when you invest and when you work in finance, there are externalities. You have to be mindful of these externalities because they’re going to be both positive and negative externalities.

ESG is an incredible force for good because it forces us to be just thoughtful and mindful about what our impact is, beyond just simply our customer. There are all sorts of examples out there. I’ll mention [inaudible 00:43:40] I think is a great example of someone who was a pioneer in that field. But he was a pioneer in that field when it was hard to be a pioneer in that field, when people saw it as being uncommercial because in the mid-2000s, in late 2000s, he pushed really hard. So he was still this senior manager at Amundi, which is the largest European asset manager. I followed his career closely and I have a tremendous amount of respect for people like him, who saw that there was a way to do things in a more thoughtful manner and, in fact, that you had to move finance in that direction.

But that by doing so, I think most people within the firm saw it as a career limiting move. The fact that he was pushing so hard, what he did specifically was he convened large academic conferences, where he invited the leading academics in the field and the sovereign wealth funds and the pension funds. They were the first ones really to focus on these types of issues with my friend had very little support from the management of his own firm. Little by little, he pushed forward the topic and he was the key person at Amundi, but there were like some academics involved like Patrick Bolden. Then eventually, the key turning point was when he was able to convince the pension fund manager in Sweden of AP4, which is one of the Swedish pension funds, Mats Andersson to decarbonize his benchmarks.

This was over 10 years ago, at a time when nobody else did it. That was the first time, so they cooperated with MSCI to create a new bench that would be an index, that that’s decarbonized with very little limited tracking error. He created a new path. It’s him, and there are all sorts of other people certainly. There were folks at BlackRock that were pioneers in that space as well. But those, I think, are the ones that we have to be thankful for when we’re seeing the revolution that’s taking place today in ESG. That would be an example in that kind of second pillar of creating social value while you’re serving customers.

There’s a third pillar. The third pillar is one that I’ve observed amongst many of the role model of identifying and analyze, which is this notion of simply being humane and treating your employees and your colleagues with dignity or fairness with humanity, and promoting diversity. In the hierarchy, it’s less important. The only reason it’s less important because now we’re dealing with a constituency that is just simply smaller because we’re really looking within your organization in finance. But it matters tremendously. In my mind, it’s something that’s often overlooked when we’re trying to find role models and trying to emulate role models is the simple way in which they treat colleagues and employees I think is extremely important.

Here there are all sorts of examples. Of course, one of the biggest topics today on Wall Street is diversity for good reasons because there’s a tremendous lack of diversity on Wall Street. If you look at the investment world, it’s even more pronounced there. I’ll mention as a role model Natasha Lam and I thought it was interesting because what she does, so she’s a fund manager at a firm is in North Carolina. She has been fighting for diversity on Wall Street by initiating shareholder proposals. She has done it very successfully. At first, she started by asking firms, so large listed firms, but many of them were large financial institutions, to divulge and to publish on an annual basis the gender gap in pay and understanding how men and women are paid and comparing that.

You might say, “Well, what’s the big deal? It’s just about like publishing these numbers.” In reality, it’s a huge deal because it creates a lot of pressure. She got Citigroup to be the first bank to agree to publish these numbers. Then as is often the case in these situations, the competitors followed suit. As a result, many of the largest banks now publish these numbers, and it does a couple of things. One is before they publish these numbers, they hustle internally to try to improve quickly so that the numbers that come out are not completely embarrassing, even though they are really bad. Then once the numbers are out, they’re constantly going to be compared to their historical data performance on this and to their peers.

So there’s just now institutionalizing pressure for this to improve over time, and it’s just a great mechanism, and it’s part of a broader theme of Wall Street that we’re seeing now, which is the incredible power of shareholder activism and shareholder proposal. That was epitomized this week by the huge development with Exxon Mobil when engine number one, which was a relatively small shareholder of Exxon, pushed it and got two members of the board to go on the board of Exxon and to push for decarbonization. These are issues that are absolutely fascinating, and they’re just going to continue growing. Natasha Lam is a great example.

Then the fourth pillar in some senses the most interesting and intriguing to me because it really stems from this idea that in finance, we’re lucky in that the skill set that we derive from being finance professionals is truly versatile. You can apply it to all sorts of areas of the economy and society to be helpful to society, right? This concept, it’s a concept of citizenship and it’s to what extent are you applying your skill set as a finance professional but also the network that you’ve built as a finance professional. For some that have done well financially, the financial resources that they have been able to create, to what extent are you applying those for social causes outside of your job? It can be in parallel to your job or it can be after you leave the finance industry and go on to do something else.

In the book, I talk about many different examples, and that includes people who went on, for instance, and applied their finance skills to become public servants, right? So there are people like Fraga, who was a global macro fund manager, who became the head of the Central Bank in Brazil, to Robert Lovett, who was a partner at Brown Brothers Harriman in the 1920s and went on to be one of Franklin D. Roosevelt’s most trusted public servants in the 1930s and through World War II. I’ll mention one example that I think is particularly interesting for younger listeners, and that’s Erin Godard. That speaks to the fact that you can do that very early on in your career.


Erin, so I met her maybe three years ago, and she might have been 28 or something like that, late 20s. She had spent five years at Ernst and Young in Toronto. She took a summer all funded by Ernst and Young, and that’s really to utilize credit that they would fund something like this to work for a not-for-profit in Kigali in Rwanda for the summer. She came back from that experience with an insight, which is that developing economies are dramatically hindered by the lack of accounting skills. That is – It’s a huge obstacle to development because in a country like Rwanda, there are very few accounts. As a result, a lot of their companies and a lot of their not-for-profits are run in a loosey goosey way because few people have a clear understanding of the numbers. So she left UI and moved to Rwanda to set up an accounting academy.

You fast forward to today, and she is training cohorts of up to 100 students at a time over a 13-week period to make them job-ready. It doesn’t make them CPAs but it allows them to fulfill and run the accounting function of companies. That one person and she did it with one of her colleagues. She brought one of her colleagues from UI in Toronto, just having a huge impact. It’s a very targeted impact, and she’s both enabling companies or Rwandan companies to be better run, more effective. As a result, that’s positive for the economy. She’s also creating a path for people to access the middle class in Rwanda.

That’s, I think, a great example of someone who uses her finance skills to be a good citizen. So these are the four pillars and some of the examples that I’ve learned from personally by trying to identify role models.

[00:53:32] AVH: I love the examples and I have so many more notes from your book and topics that I could dig into, that I would love to dig into. But I want to be respectful of your time and just encourage the listeners, whoever is interested in finding a way to be ethical throughout their finance careers to check out the book. For you, JC, do you have any last recommendations, any last words? [inaudible 00:54:04]  would say. Do you have anything that you want to put on a billboard? I think this is a very good topic to give you the chance to like you have some kind of slogan for this episode to wrap this up.

[00:54:18] JDS: Yeah. I mean, I’m not very good with slogans. I would just say that if you’re a younger person in the finance industry, there are all sorts of ways in which you can try to be helpful. I mentioned three quick ways in which you can try to do that as you start your careers. One of them is to pick your spot, right? Part of the book and part of what I’ve tried to learn from these role models is an understanding of where in the industry you can be most helpful to society. Then within each area, you can apply that conceptual lens to understand which firms you can be most impactful. That’s one thing.

Then the other thing is as you start your business career, this is a great time to push for transparency. You can ask the pesky questions. It’s much harder to ask the tough questions once you’ve been in your job for like 5 years or 10 years. But in your first couple years, this is a great time to try to prod your own organization and understand what they’re doing about the environment and what is the impact of what they’re doing on the rest of society.

Then finally, I would – Whatever firm you’re at, this is a great time because there are movements out there where you can raise your hand and be part of them. In most firms, they’re going to be often a priority right now, whether it’s to increase diversity within their own firm. So this is a great initiative to be involved in or to join the ESG world where it looks like that’s the process of taking over the institutional investment world. So there are all sorts of ways for you to feel like you are moving in the right direction and trying to be a true citizen as a finance professional.

[00:56:13] AVH: Awesome. I think that’s some great advice. For the listeners that wanted to check out a bit more on ESG, we have plenty of episodes that you can check out. JC, thank you so much for writing the book for teaching ethical finance, and of course, for being on the show today. Thank you so much.

[00:56:33] JDS: Great. Thanks so much, Andy. I really enjoyed this.

[END OF INTERVIEW]

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