Apr 6 | 10 min read
Web3 is new and we are all working as fast as we can to invent, refine, and move forward as fast as possible. In that frantic pace, it’s easy to forget that there are existing models in business and finance that can be reapplied; we don't have to invent everything. While we are striving to build the rails of tomorrow's economy in a decentralized, autonomous, and permissionless way, it’s helpful to have a point of comparison to see how we are doing. Here again, existing models can help us calibrate.
In this paper we will take a critical look at metagovernance and compare it to the traditional finance counterpart known as “investment stewardship.” We will be looking for ideas from traditional finance to reapply to DeFi metagovernance in order to continue pushing the boundaries of transparency and decentralization.
We will begin with a quick history of the metagovernance and explain how that applies to the traditional finance concept called investment stewardship. Then we will look at how Goldman Sachs approaches investment stewardship to identify concepts we can reapply to metagovernance. Using that lens, we will challenge the boundaries of metagovernance today so we can deliver a decentralized, autonomous, and permissionless tomorrow.
Metagovernance is when Protocol A holds governance tokens from Protocol B, and uses those tokens to vote on proposals in Protocol B. Common metagovernance scenarios include treasury token swaps and token delegation from a token holder to a voting delegate. The most successful model of metagovernance may be when structured products are created and the basket of tokens in the index includes governance tokens. That basket of governance tokens can add up to a significant voting block that has real influence. This approach has been popularized and pioneered by the Index Coop, a decentralized autonomous organization (DAO) that creates and maintains structured DeFi products and cryptocurrency structured products like MVI (Metaverse Index token) DPI (the DeFi Pulse Index) along with their own governance token INDEX. In the case of DPI, governance tokens held in the structured product (Balancer, AAVE, Yearn, Compound) are used to vote based on the votes cast by Index token holders.
In traditional finance this is known as investment stewardship. Companies like BlackRock andVanguard have teams dedicated to this practice. These companies have also funded several major organizations, like the Investor Stewardship Group and the Council of Institutional Investors, to drive education and awareness of investment stewardship opportunities and responsibilities.
According to an annual report by Broadridge and PriceWaterhouseCoopers, 71% of stocks are held by institutions with the remaining 29% owned by individual investors. To see the power of investment stewardship in this action, we can look at how BlackRock (with $9 trillion in assets under management) brought “environmental concerns” to the board rooms of the world’s largest companies in 5 years. In 2017, in an open letter to CEOs, BlackRock declared “the environment matters” to BlackRock index fund investors. This message got louder every year until in 2022 Blackrock charged CEOs to publicly “disclose how they will compete in a net-zero economy.” Because BlackRock votes with their $9 trillion AUM, CEOs listened.
Catherine Winner is the Global Head of Stewardship at Goldman Sachs Asset Management. According to Winner, the objective of investment stewardship at Goldman Sachs is the “responsible allocation, management, and oversight of capital that creates long term value." Catherine and her team do this using two primary tools: proxy voting, and leadership engagement.
Goldman Sachs has about $2T in assets under management which gives them significant voting influence. Winner oversees a team that cast over 100,000 votes in 2021—topics ranging from executive compensation and board elections to shareholder proposals. Because her firm wields such substantial voting power, her team holds more than 400 C-level meetings annually. During these meetings, as a representative for Goldman Sachs’ customers and shareholders, her team provides feedback and guidance to CEOs, COOs and CFOs.
Goldman Sachs focuses on three components to drive long-term shareholder value; the environment, social issues, and good governance practices, commonly referred to as ESG. ESG as a term provides a framework for governance practices that can be compared across industries and companies.
The “environment” is a broad concept and relevant action across industries may differ. So, Goldman Sachs defines appropriate environmental stewardship as 1) individual company disclosures on ESG activities 2) identifying and publishing target reductions and 3) track and publish their implementation results. In relation to social, Goldman Sachs is recommending company boards include at least 10% women (or more in some markets) and have at least one additional diverse candidate on the board.
For corporate governance, Goldman Sachs actively discourages classified boards and staggered elections, and the removal of dual-class voting structures. To note, dual-class voting structures are where a company has two or more classes of shares with different voting rights. Typically, insiders are given access to a class of shares that provide greater voting control and voting rights, while the general public is offered a class of shares with little or no voting rights. Discouraging the weighted class voting is common across Investor Stewardship given the inherent risks associated.
Across the landscape of ESG, Goldman Sachs (and other financial institutions) use proxy voting, C-level engagement, and their votes on executive compensation as means to influence executives. Should the company fail to make appropriate progress, large houses can (and do) divest completely..
This kind of influence is where metagovernance is headed. Imagine a future where major structured product like those made by Index Coop or partner delegates like Rabbithole.gg can set the long range tone of crypto markets much like BlackRock or Goldman Sachs do today using similar influencing methods.
Our initial premise was that metagovernance was underdeveloped and this survey of traditional finance illustrates we have work to do. Whereas Catherine Winner and Goldman Sachs have outlined three clear objectives, entities within the cryptocurrency and DeFi space have yet to define what good metagovernance could look like.
The metagovernance starting point is essentially similar to traditional finance: build for long-term community value and resist short-term-only gains. Based on this principle, an investment steward might be against “voter bribe” markets delivering only short-term monetization but would likely advocate for token appreciation based on good governance practices across the landscape. Two vectors that can help drive good governance are the hallmarks of Web3: transparency and decentralization. It is here we model the X and Y of these two vectors in four cases, 1) TradFi Investor Stewardship, 2) Crypto token holder voting, 3) TradFi shareholder voting and 4) Crypto centralized metagovernance.
Starting in the upper left is 1) TradFi Investor Stewardship like what was described above with Goldman Sachs. This method is more transparent than I expected but is completely centralized and not subject to individual shareholder influence. On the upper right is 2) Crypto on-chain token holder voting where you can see exactly what votes were cast (transparent) and every governance token has the right to vote (decentralized) including individual token holders (whales notwithstanding). On the lower right we see 3) TradFi shareholder voting which is transparent to the voter on the individual level, but not in the aggregate. In the middle left, we have 4) Crypto delegated metagovernance which is somewhat opaque in that technical superusers can see votes on-chain, but you have no visibility to principles applied and no postmortem reporting function.
In the discussion following, we will be addressing metagovernance in cases of delegation, where a small group of delegates are speaking on behalf of many token holders. We take this specific segment because it is most analogous to the traditional finance case of Investor Stewardship, where one group is voting on behalf of individual investors.
Good governance in Web3 and metagovernance should start with transparency. In delegated metagovernance, there are two components; visibility on how metagovernance delegates plan to vote, and visibility to what the delegate did. For those looking to delegate their tokens to a community or person, the first question the token holder needs to ask is “what principles are going to be applied to make decisions, and do I agree with those principles?” By knowing this upfront a delegate can have a window into what kind of influence the voter is giving up. Is the delegate principled in short-term gains and hope to pass those along to the token holder, or is the voter going to be sacrificing short-term gains for structural stability and long-term project growth? What we would expect to see is a “principles” statement from the delegate (or metagovernance committee) that outlines their voting principles. We are starting to see echoes of this in specific cases like theMGC (Metagovernance) Election – February 2022 election of metagovernance members into the Index Coop metagovernance committee. In this example, we can see brief backgrounds laid out by candidates, and in the future, we can hope to see the inclusion of voting principles.
Voting principles might include statements on investment horizons (6-month vs. 48-month time horizons), positions on profits vs. people, statements around treasury diversification and risk profiles, preferences for market segments (defi vs. metaverse), or speed vs. decentralization. Being able to read these profiles in advance allows a token holder to map their positions to potential delegates.
Looking backward, we should expect regular updates from the voting committees or delegates outlining votes cast and when controversial, a short description of why the vote was cast as it was. We can look to TradFi for guidance; Goldman Sachs has a quarterly report from which outlines every vote cast and if the vote cast is against the company recommendation, is a brief description as to why the vote was cast.
By implementing a similar approach, we should be able to see how voting records begin to align with stated voting principles. When misalignments begin to show themselves, stakeholders can hold delegates to their standards and if warranted, investors should remove their delegations or remove the delegate from the committee. To note, transparency is more than making something available on an open server seven clicks deep. A reporting function needs to be easy to find, easy to access, and posted with regularity.
We are seeing progress. Crypto delegate profiles are emerging that include individual declarations of voting principles and organizational delegate voting principles like the Recognised Delegate Code of Conduct published by MakerDAO. We are also seeing on chain voting histories, and standing monthly governance reports like those posted by Index Coop.
Additionally, the Index Coop Metagovernance Committee is an elected body with seasonal elections decided on by token holders complete with candidate biographies and significant voter turnout. There is a Metagovernance tracker that illustrates the voting results of the committee which is a solid starting point for visibility.
But, given that TradFi gives us a solid roadmap, it’s time to start asking for this TradFi transparency from our metagovernance processes.
In a fully decentralized DAO utopia, we can envision automated AI bots or predictive algorithms that are able to map liquidity adjustments, fee splits, code upgrades as well as policy decisions, strategy adjustments, and new product launches to an algorithmic application of your principles. Imagine answering a battery of questions and being matched up to a delegation bot that is programmed to vote according to your principles. We are not there yet, and this stuff is hard.
It's hard, but it's crucial. Remember the future of metagovernance will harness massive influence and power. And as the influence grows, so does the appetite for attack; that is the problem we need to solve before it becomes a headline.
To note, the outline is the starting point, and by no means the end to the journey. This article outlines the low hanging fruit that can easily be put in place to drive our industry “up and to the right”. As we put those basic principles in place, we have to continue stretching into what we will become. Other areas we could dive into include:
Adoption of core principles we want to drive across Web3
Reducing the amount of dormant or nonvoting tokens,
Educate token holders on the value of governance & metagovernance
Simplify governance processes so voters find it easy to cast informed votes
Replace outdated governance methodologies for better technology based solution
Create industry consortiums and partnerships to drive good governance
In later publications, it would be interesting to compare TradFi stockholders who use their shares to vote (General Electric) as compared to individual crypto holders who use their tokens to vote (AAVE), and build self-assessment tools so that DAOs could baseline and track their progress on transparency, decentralization, and permissionless operations.
Transparently, none of this exists in Web3 yet, but it is time to start building to a higher standard.
First things first - thank you to Catherine Winner and the Gabelli Center for Global Security Analysis and Fordham University for sponsoring the discussion that started this article. I appreciate your work and thank you for helping us think deeper about where crypto metagovernance could go. I also had help from some of the most innovative pioneers in the field of metagovernance; many thanks to Puncar, Mel.Eth, Lavi, and sixtykeys.eth for the lively debate as we battled about the future of metagovernance.
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