Delegitimizing the Prudent Investor
Ian Edwards is the Executive Director of The Cape Cod Center for Sustainability, what he calls a tiny, little non-profit at the extreme eastern edge of the United States, in Provincetown, Massachusetts, Cape Cod USA, leading a global inquiry into the great question facing all of Humanity in the 21st Century:
What's next in Sustainability?
Ian approaches this inquiry from a background in journalism, and prides himself on his commitment to following the question, wherever it may lead.
One of the places that Ian's questioning is leading is to money, and finance.
Why does there have to be a business case to do the right thing?
What if we thought of Nature like a bank? Ian asks. We borrow money from a bank, on terms. We need to teach ourselves to see that when we borrow from Nature, there are also always terms.
Nature is a bank. Climate change is an eviction notice.
Our human banks deal in money. But Nature does not use money. The terms of our interactions with Nature are physical, not financial.
And we are in breach of those terms. On climate, and many other things.
Because of those delinquencies, Ian tells us, the laws of Nature are coming for us, to enforce a reckoning. Physically.
We have to rectify our accounts with Nature. Or Nature will cut us off.
Ian sees that money is the only way that we humans can organize ourselves to take control of our accounts with Nature, and bring them current.
Politicians do not have the scale.
Corporations do not have the mission.
Neither has the duty.
Where can we find money that does have the mission, the duty and the scale to rectify humanity's accounts with Nature, on climate and other things. And also with each other, on social justice, and basic human decency, in money, business, and the economy?
In the last days of December 2023, the 28th Conference of the Parties to the United Nations Framework on Climate Change (COP28) concluded with a paradigm shifting Call to Orderliness, "for transitioning away from fossil fuels in a just, orderly and equitable manner".
On February 6, 2024, in a guest post to the blog from Wellbeing Economy Alliance - WEAll , Building an Economy for Life: The Great Ownership Transition, Marjorie Kelly, author of Wealth Supremacy and other books, including The Making of a Democratic Economy with Ted Howard, cofounder of The Democracy Collaborative, also based in Massachusetts, in the US, but not (yet) affiliated with The Cape Cod Center for Sustainability issues this Call to Delegitimize:
I’ve come to see that it’s not enough to build the positive. We also need to turn and delegitimize the extractive system. Delegitimizing starts with naming the system’s core dysfunction… the bias that institutionalizes infinite extraction of wealth for the wealthy, even as it means stagnation or losses for the rest of us.…
...the extractive system says those assets must continually grow…
...a second large shift needed is a next system of capital. Finance needs to support the goal of sustaining life, rather than extracting maximum gains for a few.
How can we delegitimize the old in order to make way for the new, per Marjorie Kelly, while mediating the tensions in that transition "in a just, orderly and equitable manner", per COP28?
Consider Ian Edwards and his expedition of exploration in the imagination (which began with an Applied Imagination Fellowship with the Center for Science and the Imagination at Arizona State University), for imagining a new fiduciary financing institution for fiduciary financiers that Ian has branded Bank of Nature.
Bank of Nature is imagined as an actual human bank, that deals with humans, through our money, speaking with a voice for Nature, as a proxy for Nature, in human business, and finance, and economy and society, through an innovation in fiduciary finance called stewardship equity supplied to enterprise through the innovation (derived from an amalgamation of Private Equity and Real Estate), of equity paybacks to a fiduciary cost of money, plus upside, from enterprise cash flows that are prioritized by contract for:
How does Ian's Bank of Nature stack up against Marjorie's call for a next system of capital, and COP28's call "for transitioning away from fossil fuels in a just, orderly and equitable manners"?
Marjorie tells us we must start
with naming the system’s core dysfunction
Let's name that dysfunction, the Prudent Investor.
Let's assert that it is the Prudent Investor who says assets must continually grow.
Why do we care what the Prudent Investor says?
By asserting that the Prudent Investor is Marjorie's core dysfunction in the system of capital we inherited from the late 20th Century, we are accepting Ian's insight that it is money with the mission, the duty and the scale to answer COP28's call "for transitioning away from fossil fuels in a just, orderly and equitable manner" that humanity needs to forge a new partnership with Nature in the 21st Century, that is interactive, and not extractive, as what's next in sustainability.
So how do we, as Marjorie says we must, delegitimize this inherited system?
A medical analogy may be useful here: we need to diagnose the illness (core dysfunction) correctly, so that we may prescribe the right cure.
That diagnosis starts with the observation of this anomaly: our inherited system of capital (which is a fancy word for money) dismisses money (which capital is) as merely a convenience.
This dismissal effectively cuts off inquiry into the social function of this thing we call money, so that we cannot see it as a legal instrument that facilitates exchanges of surpluses at scale between parties who are separated by distances of time, space and social connection.
This enforced blindness to the legal significance and social functioning of this thing we call money, in turn, keeps us from seeing the social function of money as a tool that we, as people, use to aggregate and direct our individual insights and initiative towards some social activities, and away from others, through recurring cycles of learning, earning, spending, saving and investing, through which we each shape for ourselves our own personal and individual place in the economy and society.
This inability to see the way money shapes the enterprises that shape the technologies that shape the choices that shape the economy that shapes society that shapes our shared future, prevents us from seeing the mechanisms by which money shapes our own individual possibilities for shaping our own ability to live our own best lives under the circumstances, as circumstances change from time to time, and over time.
This, in turn, stops us from seeing how the institutions of finance exercise agency, authority and accountability:
In four movements of:
Through six modalities of:
Since we cannot see that there are six different modalities of money through which society chooses where the money can, should and will be made to go to shape the enterprises that shape the technologies that shape the choices that shape the economy that shapes society, the possibilities for our own personal and individual place in the economy and society, and our shared future, we also cannot see the importance of making sure that each of these six different modalities "stays in its own lane", true to its own unique language and logic when choosing where and how the money that we, as individual savers, directly or indirectly, have entrusted to the authenticity and integrity of the financiers who are working as experts within these different modalities.
And this is where the idolatry of the Prudent Person begins.
It begins with the failure of Market professionals expert at deploying Mad Money through speculation on anticipated future movements in market clearing prices for securitized shares in large scale, long dated financing agreements in the public, or private alternative, markets for maintaining market clearing prices on such shares, to stay in their own lane, suborning the stewards of Fiduciary Money to breach their fiduciary duties to the Prudent Person.
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The Prudent Person is a legal avatar for centuries-old law of fiduciary duty that holds persons entrusted with plenary powers of discretionary authority under instructions in the document creating those powers accountable for prudence in the exercise of their entrusted powers in undivided loyalty to purposes specified in the documents creating that trust, according to the common sense of what makes sense to reasonable people of knowledge and experience relevant to the choices that can and should be made in the exercise of those powers for those purposes.
Before 1972, a lore evolved in the law of fiduciary duty that replaced the Prudent Person with the Legal List, as a court-made rule that limited fiduciary choices by persons entrusted with plenary powers to deploy money as investment to generate income to basically two choices: loans to governments, and loans secured by mortgages on real estate.
The reason and rationality of this lore of the Legal List can be found in circumstances of the early 19th Century, when the trust form of ownership was used almost exclusively for private purposes - as a trust for Junior's inheritance - to provide an income to widow's and orphans that became an inheritance when the minor children of a deceased ancestor, or other benefactor, "came of age" and "came into their inheritance".
In these circumstances, the primary purpose of the trust is to preserve what the law calls its corpus. Any income to be generated is secondary, in the sense that the widow, or other income beneficiaries, get whatever is earned, and has to live their lives at the level of that income, whatever it turns out to be.
Maximizing returns is not a proper purpose of such a trust.
A similar circumstance held with the other, more innovative, use of the trust form of ownership during the 19th Century: endowments for charitable or educational purposes: what are called today public charities. In the case of these social purpose trusts, that are immortal, just as with private family trusts for passing along an inheritance which are time-constrained, preservation of the corpus is paramount. Income generation is secondary. Not something to be maximized.
This circumstance changed with the innovative application of the trust form of ownership for the purpose of provisioning workplace pensions during the first half of the 20th Century. In this context, the purpose of the trust is to provision the promise of a pension in their retirement to workers as a mutual aid society that uses actuarial science to average the actual cost of fulfilling that promise across statistically significant populations of similarly situated workers. Let's call this actuarial risk pooling, and the money aggregated through this actuarial cost averaging mechanism an actuarial risk pool. The purpose of the trusts that are created to control these pools for provisioning the pension promise is twofold. One, protect the money aggregated into these actuarial risk pools against loss. And two, deploy this money as financing for enterprise to generate income sufficient to the assumptions used by the actuaries in their design of the cost averaging mechanism for provisioning a pension promise to a contractually qualified population of direct promisees, and third party beneficiaries, to keep these actuarial risk pools ongoing as the forever machines that are designed to be, both of these purposes have to be achieved, equally. Neither is more important than the other. Principal must be preserved and minimally sufficient income must be earned. Both. Equally. Or the whole thing falls apart.
In this context, the then-prevailing lore of the Legal List, which subordinated the generation of income to the preservation of principal, is not appropriate.
And so in 1972, the lore of the Legal List was set aside, and the law of the Prudent Person was re-asserted as the standard of prudence and loyalty for fiduciaries in control of Pensions & Endowments.
At that time, the only practical alternative to the old Legal List choices of government bonds or real estate mortgages, as debt, was equity in the form of ownership of corporate shares bought and held for sale in the stock markets. A practice evolved of allocating Fiduciary Money aggregated into actuarial risk pools between debt and equity in an effort to realize portfolio returns that averaged out over time to actuarial assumptions.
The legal avatar for this evolving new lore of debt and equity allocations became the Prudent Investor, where "investor" was used in its specially encoded meaning, as a person skilled in knowing what to buy and when to sell securitized shares of incremental liquidity in large scale, long dated financing agreements at market clearing prices in the markets for maintaining market clearing prices on such shares (known in the law as securities, and in common parlance as stocks and bonds).
In 1983, vast new possibilities for the exercise of plenary powers by Pension & Endowments fiduciaries opened up with the release by Mitch Kapoor of his Lotus 1?2?3 suite of integrated software programs for IBM PCs running MS DOS, including spreadsheets and word processing.
The importance of these innovations passed unnoticed by the Prudent Person, but the Prudent Investor wasted no time in combining the awesome new power of spreadsheet modeling and desktop publishing with parallel innovations in remote, real-time voice and data communication to unleash a bewildering array of acronyms for so-called financial innovations: hostile takeovers using LBOs, that became Junk Bonds, became Mergers & Acquisitions and MBOs which became modern day Corporate Gigantism and Private Equity; while CMOs became MBSs became ABSs as various kinds of consumer debt for home ownership, credit cards, car loans and leases and school tuition and related expenses, got aggregated into vast portfolios and tranches out into securitized shares that got issued for trading in what came to be known as the Capital Markets.
Stocks and bonds turbocharged by these securitized shares in tranched out portfolios of consumer debt (and other innovations) became financial assets, and classes of financial assets.
Pension & Endowments fiduciaries became Asset Owners whose fiduciary duty, they are told by market professionals speaking through the avatar of the Prudent Investor, is to allocate Assets across Asset Classes, and within Asset Classes to select Asset Managers peer benchmarked for expertise at knowing what to buy and when to sell to extract maximum profit, while externalizing maximum cost/loss/risk to maximize in each moment, from moment to moment, with no reckoning with the consequences to others or the future, purely pecuniary risk-adjusted returns solely in the financial best interests of their beneficiaries.
This is the lore of the Prudent Investor that dominates fiduciary practice, worldwide, today.
How well does this lore conform to the law of the Prudent Person?
Let's begin by asking who, exactly, these "beneficiaries" whose financial best interest the so-called Asset Owners are supposed to make their sole concern are?
As we have seen, the promisees of the pension promise (and endowment grantees) include entire populations of qualifying workers (and civil society actors), from the youngest new worker to the oldest long time retiree, in what may be called an open class of participants that is always being reconstituted as new workers are hired, current workers retire and retired workers pass away.
These diverse populations of ever-changing individuals all have diverse interests. They all share only one common interest. That is their shared interest that each one of them can live in constant confidence that whatever money they earn as being promised to them in their retirement (or otherwise for civil society endowments) will be paid to them as and when those payments become due, without doubt, delay, uncertainty or unreliability.
How does "purely pecuniary risk-adjusted returns" through reckless extraction and unreckoning externalization measure up against this purpose in the documents, of individual certainty and reliability?
Could there be a more prudent and loyal way - a safer alternative - for Pension & Endowment fiduciaries to exercise the plenary powers of discretionary authority over the deployment of tens of trillions, collectively, worldwide, in society's shared savings aggregated into social superfunds as social trusts for the social purposes of provisioning the social goods of Workplace Pensions and Civil Society Endowments, that have been entrusted to their good judgement?
What are those powers?
They include:
These powers of size, purpose and time, in combination, give Pension & Endowments fiduciaries the power to use the technologies of spreadsheet math, desktop publishing and remote, real-time communication that have been so successfully deployed by Private Equity and Debt Securitizers, to negotiate. They do not have to speculate.
Which puts these questions to the Prudent Person, as a legal avatar for reasonable people who care enough to take the time and make the effort to acquire knowledge and experience relevant to the questions:
Who can and should Pension & Endowments fiduciaries be negotiating with?
What can and should they be negotiating for?
Private Equity points the way to the answer to the question, Who with?
Real Estate Equity points the way to the answer to the question, What for?
Private Equity shows the Prudent Person that Pension & Endowments fiduciaries can, by joining together in "clubs", negotiate with enterprise of any size, directly, offering an escape from, or an alternative to, public markets ownership equity, with its insatiable demands for growth in share price, which requires growth in the volume of cash flows flowing through the corporate bureaucracy in which those shares represent ownership.
Real Estate Equity shows the Prudent Person that Pension & Endowments fiduciaries can negotiate for equity payback to a fiduciary cost of money, plus upside, from enterprise cash flows prioritized by contract for suitability, longevity and fairness.
In combination, this shows our shared common sense, if we choose to see it, that there is an alternative to the Prudent Investor; an untaken safer alternative to the proven unsafe choice of speculating with society "safe" money.
This shows us one way we can answer Marjorie's call to delegitimize the extractive system that is being financed by The Prudent Person.
How does that answer Ian's call for money with the mission, the duty and the scale to answer COP28's call "for transitioning away from fossil fuels in a just, orderly and equitable manner"?
Imagine a new conversation at the vanguard of public discourse calling on lawyers and the law to push the Prudent Investor out, and pull the Prudent Person back in, as the evidentiary standard of prudence and loyalty for Pension & Endowments fiduciaries.
Imagine the Prudent Person catalyzing Pension & Endowments fiduciaries to come together in a collaboration through Bank of Nature to: