The power of twelve | Financial Times

FT Alphaville loves Charlie Munger, the famously irascible billionaire vice-chair of Berkshire Hathaway. Earlier this year Charlie turned his ire towards a phenomenon his partner Warren Buffett has frequently praised.

“We have a new bunch of emperors, and they’re the people who vote the shares in the index funds,” Munger said at the annual meeting of Daily Journal Corp in February. “I think the world of Larry Fink, but I’m not sure I want him to be my emperor.”

Munger’s words reflect an increasing concern among some investors, corporate executives, regulators, policymakers and politicians. Academics have even coined the term “asset manager capitalism” to describe the new reality of a financial system now dominated by money managers rather than banks.

This is a phenomenon that is only going to grow more pronounced. Some think that the end result of the current passive investing trend in asset management is that just a dozen or so people could end up enjoying de facto control over most public companies in the US — and even perhaps the world.

That was the provocative argument of John Coates, a professor at Harvard Law School, in an incendiary 2018 paper titled The Problem of Twelve.

“Unless law changes, the effect of indexation will be to turn the concept of ‘passive’ investing on its head and produce the greatest concentration of economic control in our lifetimes. . . More fundamentally, the rise of indexing presents a sharp, general, political challenge to corporate law. The prospect of twelve people even potentially controlling most of the economy poses a legitimacy and accountability issue of the first order.”

Naturally, the investment industry — and above all the biggest index fund giants — have scoffed at this. But the benefits of scale in asset management, and passive investing specifically, are becoming clearer. Iconoclastic law professors are no longer the only ones warning about mounting concentration of shareholding, with even finance industry insiders becoming increasingly uncomfortable with the current trajectory — as Munger’s acerbic observation highlighted.

Last year, the big eleven again became even bigger. At the end of 2021, Vanguard, BlackRock and State Street, the three biggest index fund providers, together control on average 18.7 per cent of S&P 500 companies, according to Lazard. Their ownership of smaller companies is even more concentrated. By the end of last year, they held 22.8 per cent of shares in the midsized S&P 400 index, and 28.2 per cent of the small-company S&P 600 benchmark.

Elon Musk is among those now railing against this. As Lazard noted in its report, “continued inflows into passive strategies have fueled ownership concentration in the ‘Big 3’ index fund complexes, inviting an increasing level of scrutiny by regulators and other stakeholders”.

The debate got FT Alphaville thinking.

Prof Coates was talking about an even more concentrated index fund future, but who are the best candidates for the roughly dozen people of power he posits today?

Here is the entirely informal FTAV list of who we recognize are currently the most powerful people of the investment industry — and therefore the financial world. Some are obvious, while others wield more subtle influence.

Larry Finck

© REUTERS

The most obvious member of this group. Fink’s astute purchase of index fund giant Barclays Global Investors in 2009 has transformed his company BlackRock into the world’s biggest investment group, with almost $10tn of assets under management — roughly two-thirds of which are in passive funds. Coupled with Fink’s tradition of an annual open letter to chief executives, it has put BlackRock in the crosshairs of both the American left and right.

Tim Buckley

©FT Commission

Leads Vanguard, BlackRock’s biggest competitor in the US, and an index fund juggernaut with about $8tn under management. Despite contemplating following his parents in a medical career, Buckley joined Vanguard in 1991 as assistant to founder Jack Bogle. In 2018, he became the company’s third CEO since Bogle’s retirement from him. The company is now transforming itself into a broader wealth manager with a big move into financial advice as well.

abigail johnson

©Bloomberg

State Street is usually considered the third member of the index fund industry’s “Big Three”, thanks to the size of its pioneering exchange-traded fund business. But Johnson’s family firm Fidelity has leapfrogged it to become the world’s third biggest asset manager, with its $4.2tn only surpassed by BlackRock and Vanguard. Its passive money management arm Geode last year crossed the $1tn-in-assets mark, underscoring its emergence as a major player in the index fund world.

Ron O’Hanley

© REUTERS

State Street’s CEO is an asset management veteran, having joined in 2015 to initially lead his investment arm State Street Global Advisors from Fidelity, where he ran the rival Boston outfit’s money management business. Although O’Hanley is widely respected in the industry, SSGA is growing more slowly than many of its main rivals, leading O’Hanley to look for acquisitions to bulk up.

Henry Fernandez

©Bloomberg

When Fernandez engineered the spinout of Morgan Stanley’s financial benchmarking venture with Capital Group, indexing was a sleepy industry and the unit was valued at just $20mn. Today, MSCI is one of the benchmarking business’ “Big Three” and is valued at more than $31bn. MSCI is particularly dominant in international indices and has close links with BlackRock. (Many of its exchange traded funds track MSCI gauges.)

Dan Draper

© S&PDJI

The CEO of S&P Dow Jones Indices is an index fund veteran, having worked at the pioneering Barclays Global Investors in the mid-noughties and since then led the ETF units of Lyxor, Credit Suisse and Invesco, before jumping ship to benchmarking giant S&P. Draper also chairs the industry’s trade body, the Index Industry Association, which brags about how its members manage over 3m indices with tens of trillions of dollars tied to them.

Arne Staal

© FTSE Russell

to former Aberdeen StandardLife Abrdn quant who ascended to the top job at the London Stock Exchange’s “big three” index provider FTSE Russell last year. In addition to the formerly FT-associated FTSE indices, Staal oversees the big Russell benchmark. Their annual changes tend to lead to the single biggest trading day in the US every year.

Gary Retelny

©ISS

Retelny has for more than a decade led one of the two least-appreciated power brokers of the investment industry, proxy adviser Institutional Shareholder Services. Thousands of investors with trillions of dollars use ISS’s recommendations on how to vote on various AGM issues, from the mundane to the incendiary, sometimes riling CEOs and their allies in the process.

kevin cameron

© Ionetix

Glass-Lewis is the second of the two dominant proxy advisers, and is led by his co-founder Cameron, a former lawyer. Like ISS, Glass-Lewis is quietly influential in the world of corporate finance, given how many investors will blindly vote whatever way it recommends.

Masataka Miyazono

©Bloomberg

There is no single pool of money larger than Japan’s $1.5tn Government Pension Investment Fund, which gives its head Masataka Miyazono a lot of sway in the financial world. Attention naturally gravitates towards asset managers like BlackRock, but vast “asset owners” like GPIF also help set standards for global markets. When it stripped a big mandate from BlackRock and gave it to Legal & General, it is said to have helped influence Fink’s decision to throw his weight behind the burgeoning ESG phenomenon.

Nicholas Tangen

©Bloomberg

A former hedge fund manager was an odd choice to lead Norway’s overwhelmingly passive $1.2tn Norges Bank Investment Management, but Tangen has thrown himself into the public spokesman aspects of the job. NBIM has long excluded companies that it finds ethically incompatible with Norwegian state ownership, but has become increasingly vocal on a range of issues, and transparent about how it votes on a host of sensitive subjects.

Peng Chun

©Bloomberg

While GPIF and NBIM will let its views be known fairly publicly and regularly, the third asset owner on this list is diametrically different. China Investment Corp was set up with $200bn in 2007 to diversify China’s foreign reserves, and is today one of the world’s biggest sovereign wealth funds, with an estimated $1.2tn of assets under management. There’s little online on his chair and CEO Peng Chun — except a fairly classic technocratic career through the Chinese banking industry — but the size of the checks he writes and China’s growing financial might make him an inescapable member of this group.

OUTSIDE CONTENDER: Hamed Bin Zayed al-Nahyan

The Abu Dhabi Investment Authority was set up in 1976, the year Mao Zedong died and when Norway was only starting to pump a few barrels of oil out of the North Sea. Adia has therefore been a major player in finance for much longer than its Norwegian and Chinese counterparts.

But it is smaller the other three asset owners on this list — while Adia has stayed schtum about its size, the Sovereign Wealth Fund Institute estimates its assets at about $700bn — and in terms of profile the investment group overseen by Sheikh Hamed is these days arguably outstripped by other Abu Dhabi funds like Mubadala.

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