Hedge fund activism has recently spiked, almost hyperbolically. No one disputes this, but divergent explanations exist for it. Some see activist hedge funds as the natural champions of dispersed shareholders, who are not economically capable of collective action in their own interest. So viewed, hedge fund activism can bridge the separation of ownership and control. That, however, may assume what is to be proved. Others believe that hedge funds have interests that differ materially from those of other shareholders. We begin therefore with a more modest, two-part explanation for increased activism: First, the costs of activism have declined, in part because of changes in SEC rules, in part because of changes in corporate governance norms (for example, the sharp decline in staggered boards), and in part because of the new power of proxy advisors (which is in turn a product of legal rules and the fact that some institutional investors have effectively outsourced their proxy voting decisions to these advisors). Second, activist hedge funds have recently reaped high profits at seemingly low risk, and unsurprisingly, their number and assets under management have correspondingly skyrocketed. If the costs go down and the profits go up, it is predictable that activism will surge (and it has). But that does not answer the question (on which we focus) of whether externalities are associated with this new activism.
Hogan Lovells Professor of Law and Finance