View From Oxford

King of Wall Street — Guest post by Rainer Hank

BlackRock founder Larry Fink revolutionized the financial industry. His career shows that success cannot be planned — but that particular ingredients make success a lot more likely.

The man wears boring suits and rimless glasses that no sensible optician would recommend. He is neither particularly original nor particularly inspiring. From the looks, you would not guess that his firm manages more than 10 trillion dollars in assets – more than twice as much as the entire hedge fund sector. Understatement is part of his self-marketing. It serves as camouflage for his power.

Laurence “Larry” Fink is his name. His company is called BlackRock and it is the world’s largest asset manager. His firm invests money on behalf of pensioners, oligarchs, and students, for sovereign wealth funds and for small savers alike. In Germany, BlackRock became known outside the financial industry when the CDU politician Friedrich Merz worked as a lobbyist for Fink. That job may have cost Merz the succession of Angela Merkel.

Fink is a revolutionary. It is thanks to him and his industry that investing in equities has become attractive for a broad swath of the population. I know that from experience. Investing in stocks was an expensive hobby for Germans for decades. For years, my bank sold me complicated funds, which ensured the bank employees’ employment and wages, but I left the table rather empty-handed.

Fink’s team: you can’t do it without some toughness

Fink and his colleagues do not claim to beat the market with ingenious ideas. Fink’s product is as boring as his looks: most of the dollars invested in their funds track stock market indices such as the S&P500, the DAX, or the EuroStoxx. And not even this idea comes from Fink himself. It goes back to the economist Eugene Fama and his theory of “efficient markets,” according to which even the smartest person can’t beat the market.

When former Federal Reserve Chairman Paul Volcker scoffed in 2008 that the only recent innovation of significance in the financial industry was the invention of the ATM, he must have overlooked index funds and ETFs. Index funds originated in the 1970s but did not make their breakthrough until after the turn of the millennium. Contrary to what many people think, capitalism is not there for the capitalists, but for the poor, whom it can make rich. Index funds illustrate the point. With a savings plan of 100 euros per month, a fortune of almost 100,000 euros could be built up over the past thirty years.

Given the number of movies about Wall Street heroes and villains, it is surprising that the life of Larry Fink hasn’t long since been made into one. Now there is at least a partial biography of Fink in a forthcoming book by Financial Times journalist Robin Wigglesworth (“Trillions. How a Band of Wall Street Renegades Invented the Index Fund and Changed Finance Forever”). Fink’s life proves that success can’t be planned. But that a few things make success easier, maybe even more likely. One is: failure can be a blessing. Another is: loyal friends are key. Another: the right moment has to be seized. In particular, financial crises are opportunities to get rich. And: You can’t succeed without being tough on yourself and others.

Responsible for a loss of one hundred million dollars

Fink grew up near Los Angeles. His father had a shoe store (the success story of the children of shoe salesmen is yet to be written), his mother was an English teacher. He studied political science; he was hardly interested in economics. Because he was interested in money, however, he applied to Wall Street, but was rejected by Goldman Sachs. “A blessing for me,” he told Robin Wigglesworth. Instead, he started his career in 1976 in the bond business of the investment bank First Boston, where he quickly became a star. It was there that he met Robert Kapito, who remains his right-hand man to this day. Kapito is the man for the rough parts, Fink is the smooth talker.

Ten years later, in 1986, Fink was responsible for a one-hundred-million-dollar loss at First Boston, due to his failure to hedge the sudden plunge in interest rates. The former candidate for the CEO post became a pariah instead. He forestalled his oustingS by resigning. The defeat spurred his ambition: He found a generous financier in Stephen Schwarzman, owner of the private equity firm Blackstone, with whom he later fell out. He christened his own company BlackRock because of Blackstone’s good reputation (and is thus responsible for me confusing the two companies for a while). Then, in the middle of the 2009 financial crisis, Fink and his close friend Kapito were able to buy out cash-strapped Barclays Bank’s ETF division, iShares. From that point on, the business with “passive” index funds developed into a sure-fire success. By mid-2021, BlackRock’s iShares division alone had $3 trillion in assets under management.

A case for the antitrust authorities!

The Hollywood narrative demands that the hero’s rise is followed by a deep fall. There is no sign of that yet. There are estimates that index funds will soon hold half the shares of the 500 most important American companies. A concentration of economic power that is possibly more dangerous than the more frequently discussed power of Google, Amazon, or Facebook. Paradoxically, BlackRock’s danger may lie precisely in its passivity. If, roughly speaking, both “my” company and my competitor’s shares are owned by Fink, the drive to compete aggressively is lacking. It’s enough to get in good with Fink.

A case for the antitrust authorities! A few years ago, a Wall Street banker warned of “secret socialism”: a completely passive economy is worse than a centrally planned economy, because it overrides entrepreneurial initiative and the desire to take risks, so the argument went. Will total capitalism ultimately be overturned? Dialecticians from the school of Hegel and Marx would be delighted.

Yoga for Economists, Part 2: A quick fix to increase your happiness at work

Part 1 of “Yoga for Economists” explained why thinking like an economist is a direct cause of unhappiness, according to various Eastern philosophies. The way many of us mentally organize our professional lives, however, also causes unhappiness by construction. The reason is a notch deeper, but also easier to fix.

The issue is that we set up our projects in self-destructive ways. A clear goal is set: for example, publication of the paper. Or: purchase of the new Porsche. The next promotion. Whatever — add your favorite example. Before the goal is reached, there is no satisfaction. I’m not saying that’s a bad thing – after all, the lack of satisfaction may have a “motivating” and productivity-enhancing effect. Just not satisfying.

Tragically, one doesn’t get satisfaction either when the acceptance notification enters the inbox, the promotion letter comes in, or the new Porsche stands in the garage — at least not for more than a brief moment. Rather than lasting happiness, a void of meaninglessness quickly opens up. The gap has to be immediately filled with a new project or goal, or otherwise depression ensues. (If you’ve ever run a marathon, how long did it take after crossing the finishing line until you thought about when you’ll run another? Less than five minutes? Ten?)

The “mistake,” if you will, lies with ascribing meaning to the singular point in time that marks completion of the goal. That’s by contrast to valuing the ongoing engagement in the process that may lead to the goal. Hegel distinguished these alternative framings as atelic as opposed to telic activities. Yogis practice breathing and sitting still precisely to learn to focus the mind on the process of mere being. That process is continuous and does not necessitate a perpetual cycle of construction and self-destruction of projects.

Luckily, there is a quick fix for this problem that doesn’t require years of devotion, doesn’t require growing a beard, and not even sitting in a lotus. Even better: we can make ourselves happier without changing what we do, but merely by changing how we do it. How? Call it a change in attitude, or a change in the way we think about what we do. For example, if we decide to value working as economists, and, in any given moment, continuously give our best effort at producing valuable insights to the world, our activity ceases to be focused on a particular point in time. The continuity of a meaningful existence is then ensured — not only when working on a paper, but also while spending time on items that don’t directly contribute to the next A-journal publication. (Think advising students, or teaching. Or writing a couple of blog posts titled “Yoga for Economists”.)

The best thing is: such a change in attitude or mental organization of our projects does not conflict with actually scoring that next publication – it’ll just make the way there a whole lot more pleasurable and satisfying.

Yoga for economists, Part 1: why thinking like an economist causes unhappiness

Sounds like a stretch? Hear me out.

We face a global mental health crisis. Economists, even those studying happiness and well-being, are far from contributing solutions. Perhaps the field is too young to expect that? I think it’s worse. A look back at the thousands of years of study of human well-being in the Eastern traditions suggests that we economists may be causing a chunk of the problem by the way we think – and the way we confidently teach generations of students is “the right way” to think, not only about economics but about our private lives as well.

The proof is by example. First, the foundation of well-being in yogic philosophy is a precept to not harm other beings.[1] By stark contrast, in mainstream economics, whether individuals should “rationally” impose externalities on others is a question of whether the behavior is legal and whether the externality is priced.[2] To a yogi – or a Buddhist, for that matter – it is clear that maintaining mental balance on such a shaky foundation is close to impossible. They believe that the first person getting harmed by an unwholesome action is the actor himself.

As a second example, in economics, we work hard to try and think in counterfactuals and in opportunity costs: “If I don’t read this article, what else could I do with my time?” “If I quit my job, how much could I make in another?” “Who else could I date instead if I left my partner?” This way of thinking goes squarely against the basic insight of the Eastern traditions that happiness lies in practicing friendly acceptance and appreciation of the experience of the present moment, and practicing gratitude for what one has.[3] Avoiding the present moment’s experience by distracting oneself with pleasant or unpleasant counterfactual future or past scenarios is the direct cause of suffering, in that view.

The more advanced teachings from your favorite “economic principles” class make matters worse. For example, anecdotally, deliberations about whether a non-degenerate set[4] of potential romantic partners are complements or substitutes are not generally conducive to harmonious relationships either.

Suffice to say, according to the Eastern view, it would be absurd to expect that thinking like an economist would lead to a peaceful and happy mind, or even just allow for one. Instead, the ways of thinking that lead to economic success are rather obviously quite at odds with the ways of thinking that lead to mental well-being. To be clear: this is not a matter of whether thinking like an economist is the right way of thinking or not, but a question of what the different kinds of thinking are useful for. Perhaps we should caveat our teachings accordingly.

So what do I conclude? Perhaps this: one doesn’t have to bend over backwards to believe that connecting “moral sentiments” with “economics” was a good idea — and might be an idea worth reviving.

How selfish soever man may be supposed, there are evidently some principles in his nature, which interest him in the fortunes of others, and render their happiness necessary to him, though he derives nothing from it, except the pleasure of seeing it. Of this kind is pity or compassion, the emotion we feel for the misery of others, when we either see it, or are made to conceive it in a very lively manner. That we often derive sorrow from the sorrows of others, is a matter of fact too obvious to require any instances to prove it; for this sentiment, like all the other original passions of human nature, is by no means confined to the virtuous or the humane, though they perhaps may feel it with the most exquisite sensibility.

Lisa Kramer and Tony Cookson contributed puns. All remaining deviations of taste and errors of fact and logic remain my own.

[1]  There are obvious similarities to Christian and other Western religious traditions. The difference may be in the goals that the Western and Eastern traditions attempt to attain with their moral prescriptions; well-being is the explicit aim of Yoga.

[2]  Of course, some (perhaps more enlightened) economists have proposed including altruism in our descriptions of human behavior; see the end of this post for an early example. These approaches aren’t usually featured prominently in mainstream economics classes, however. Indeed, the author of that early example is better known for a later book that emphasizes the power of markets rather than of moral sentiments.

[3]  Various Western religions also encourage the practice of gratitude, of course. Perhaps that’s one of the reasons why religious people are happier than those not engaging in religious practices.

[4] For the interested reader, I should state more precisely: I mean a set with cardinality greater than one.

Lisa Kramer and Tony Cookson contributed puns. All remaining deviations of taste, and all errors of fact and logic remain my own.

The U.S. FTC is targeting common ownership – or is it?

The U.S. competition agencies issued a Notice of Proposed Rulemaking (NPRM) that advises of proposed updates to the Hart-Scott-Rodino (HSR) notification rules. Bloomberg celebrated this news as an indication that the FTC is about to scrutinize common-ownership positions of index funds, which have aroused antitrust concerns in recent years.[1] Insiders from the agency also suggested I should view the NPRM as a success of the common ownership research agenda to date. After reviewing the proposed rules, I am a bit more cautious in my optimism than previous commentators about the rule change, and indeed worried about particular aspects of it. In this post, I explain why.

The backdrop to the proposed rule change are multiple lawsuits against institutional investors that held industry competitors and engaged with them on matters that would ultimately require shareholder approval, for example regarding replacing directors and a potential merger with the commonly owned competitor. Such involvement falls outside the scope of the “investment-only” exemption in the HSR rules, and led the FTC to clarify that ”investment-only means just that”. The suit also led observers to wonder why the rules appear to be selectively enforced against hedge funds, but not against much larger mutual funds that “routinely” engage in similar ways as the rule-breakers with their portfolio firms — but on a much larger scale.  Amongst the enforced cases, however, the government also sued investors that violated the existing notification rule, as they held sufficiently high fractions of stock of the issuer to trigger the filing requirement, but were not even common owners. Does it make sense that the existing rules require such investors to file?

Industry and practitioners have long advocated for an amendment to ease the filing burden of such investors and make the rule less over-inclusive. Indeed, it at first seemed intuitive to me as well that regulators should remove apparently overbroad filing requirements for non-common owners. But on second thought, it becomes clear why my initial intuition was mistaken.

Before I point out the problems I perceive, I wish to note that the proposed rule change contains several good ideas. A perhaps incomplete enumeration is:

  1. The proposed rule covers significant common ownership links between significantly vertically related firms.[2]
  2. The proposed rules recognize that common ownership links in private markets are potentially a lot more frequent, and economically even more important than in public markets; the proposed rule explicitly covers private-equity owned competitors.[3]
  3. The proposed rule recognizes that governance interventions tend to happen at the asset manager level rather than at the fund level. The FTC is aware that “Treating these non-corporate entities as separate entities under HSR is often at odds with the realities of how fund families and MLPs are managed.“ Indeed, not only Private Equity firms, but also large mutual fund companies, including sponsors of index funds and ETFs, should have to file at the appropriate level of aggregation.[4]

Other proposed elements appear sensible on first sight, but on second thought give reason for concern. Whereas it is intuitive to relieve non-common owners of filing requirements if the goal is to get a comprehensive view of common ownership, that intuition is misguided. The reason is that the effect of common owners’ holdings depends on the holdings of everyone else as well, including the holdings of non-common owners. To illustrate, a common ownership position between Facebook and Google by an institutional investor is unlikely to significantly affect the two firms’ conduct, because large individual investors, including Mark Zuckerberg, hold the majority of control. Indeed, common ownership indexes used in research cannot be computed without having a set of ownership and control records that also includes all significant non-common owners. Yet, according to the proposed rules, investors holding less than 10% of the issuer are exempt from making HSR filings — unless they also hold at least 1% of a competitor. Having gaps in the ownership structure, e.g. due to granting filing exceptions to holdings that don’t have a “competitively significant relationship”, makes the resulting dataset unusable to study competitive effects of common ownership. Therefore, the FTC should want to obtain a full picture of the significant owners of all firms, and not just of common owners’ holdings.

What concerns me most about the proposed rule, however, is the lack of an amendment of the rules regarding what qualifies as an exemption to the filing requirement on grounds of holding the stock “solely-for-investment”[5]. The proposed rule continues to grant an exemption to investors who, at the time of the asset purchase, have no “intention” to influence the business decisions of the issuer.[6] This rule is hugely problematic for reasons the literature on common ownership has reiterated since the 1980s: an intention to influence basic business decisions is not a necessary condition for common ownership to have anticompetitive effects — the governance mechanism translating common ownership to anticompetitive conduct may simply be that management is “looking out for their shareholders”.[7] Conversely, an intention to actively push firms to maximize their own value may be necessary for firms to aim to do so — which is the basic assumption underlying textbook models of competition. Therefore, broadly exempting those investors who don’t have such an intention does not help to address the economic harm the rule is meant to help target. Instead, the overly broad exemption is likely to lead the agency to overlook the potentially most harmful investor holdings. The agency should consider tightening the solely-for-investment exemption, so that only investors who are entirely passive in matters of governance – including not voting their shares – don’t have to file.

The idea to require all significant and not entirely passive investors to file all holdings meets with some valid and some less valid critiques.

A less valid rationale is the notion that “index funds’ investment strategy means they are broadly diversified and therefore should be exempt.” The following example illustrates why thinking so would be wrong on factual and logical grounds. JETS is a “passive” ETF that tracks an index composed of competing airline companies. That is to say, JETS “passively” specializes in establishing common ownership links (whereas “passive” practically means the portfolio choice is implemented by a computer code). Surely one would not want to exclude funds that specialize in establishing common ownership links from the HSR filings, merely because human-programmed computer establishes the common-ownership positions rather than a human. Note JETS is not particularly diversified, despite being labeled a “passive” index fund.

If we don’t want to exclude JETS from the antitrust rules, then surely we wouldn’t want to exclude much larger index funds either, such as the very large S&P500 tracker SPY: SPY’s contribution to common ownership of some airlines is much greater still than JETS’s contribution. “Because these entities base their investments on an index” is therefore not a valid reason to be excluded from antitrust scrutiny.

Another misguided rationale would be to exclude funds based on the level of cheap diversification they offer to investors. A reduction in the cost of diversification is the fundamental reason for anticompetitive effects of common ownership in the theory of Rotemberg (1984), who, incidentally, concludes: “it may well be that the funds which concentrate on specific industries and those whose portfolio is very broad do the most harm.“[8]

A valid reason for complaints regarding the filing requirement on behalf of investors would be the apparent complexity of the filing process. It appears that this process could be simplified significantly and made nearly effortless for sophisticated investors that command modern IT systems. But not only is filing HSR notifications burdensome – it also comes with pecuniary costs. A single filing costs up to US$280,000! If the FTC aims for greater transparency, it should consider reducing the complexity and cost of filings to investors, so as to increase the supply of information. If the filing costs were reduced to zero, any remaining opposition by the industry would have to be interpreted as opposition to transparency.

Reducing the cost of filings has additional benefits, next to increasing transparency and the ability to research and monitor competitive effects of common ownership with a more complete ownership data set. If being active in corporate governance is taxed by the government (e.g. via filing fees for required filings), economic theory would predict that fewer investors will choose to be active. Discouraging active ownership probably reduces both the quality of governance and competition. The reason is that when fewer shareholders push firms to maximize their own value, to less productive firms, and thus higher consumer prices (though not necessarily higher margins). As such, reducing the government’s tax on active shareholders is important to maintain a competitive economy – and can be achieved without sacrificing transparency.

Reducing the cost and complexity of the filling system has additional benefits both for the FTC and investors: investors can be asked to report all their holdings, without either investors or the FTC needing to scrutinize whether the portfolio spans horizontal competitors or vertically related firms. Uncertainty whether all necessary filings have been made and the associated very significant legal liability would then be taken off the table for investors, and the FTC could focus its resources on other areas (such as the analysis of the data) if the rule required investors to report all holdings (other than those subject to a narrow investment-only exemption), irrespective of whether they pertain to related firms or not.

Taken together, the FTC should have individual or institutional investors that hold significant stakes in large private or public firms (e.g. 0.1% in publicly traded firms) report ownership and control rights of all their holdings, electronically, at zero cost, aggregated to a meaningful level, with the only exception of holdings that are entirely passive.

To sum up, the proposed rules contain several good ideas. In particular including private equity is likely important. At the same time, the competition authorities should keep in mind that measuring the entire ownership structure of the firms is necessary to be able to study common ownership and its effects. The agencies should aim to make the filings cheap for investors, and to not offer opt-outs for index funds or other investors based on their intentions at the time of acquisition of the asset. They should amend the investment-only exemption to make it as narrow as the statute allows. Greater inclusiveness of the filing requirement not only makes the collected data more useful, but also reduces the cost and complexity of the HSR system — both for investors and the FTC.

[1] A paper on airline competition under common ownership first circulated in April 2014 and published in the Journal of Finance in 2018 inspired hundreds of follow-on papers; I review that literature here and here.

[2] §802.15(b)(5)

[3] Research has shown competitive effects of common ownership of VC-owned firms, see e.g. Li-Liu-Taylor (2020).

[4] The proposed rule achieves this by expanding the definition of a person and an associate in §801.1(a)(1) and §801.1(d)(2).

[5] 15 USC §18a(c)(9)

[6] Large common owners may make such claims in the context of the antitrust liabilities their holdings create, irrespective of their statements elsewhere, where they emphasize that they do have the intention and power to influence firms to the effect of mitigating climate change, or the intention to make drug companies “put qualms about competition aside” and stop enforcing patents in the COVID-19 pandemic.

[7] Rotemberg (1984). For the same reason, the HSR filings should also not be streamlined with the SEC’s 13D filings.

[8] Notwithstanding, preventing common ownership at the asset manager level does no need to imply a reduction in diversification at the ultimate owner / household level because households can diversify across asset managers; see also Elhauge (2021).

Caesar Augustus and Europe’s Refusal to Understand the Big Data Economy

“In those days Caesar Augustus issued a decree that a census should be taken of the entire Roman world. This was the first census that took place while Quirinius was governor of Syria. And everyone went to their own town to register.”

It’s hard to fathom the incredible costs this first census imposed on the administration, and on the population. By stark contrast, collecting data today is so cheap that we do it without noticing.

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