Posted by on March 28, 2017 10:53 pm
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Categories: Active management Blackrock Business Canada Pension Plan Investment Board Capital Markets Central Banks Economy Exchange-traded fund Finance Financial services Funds Index fund Institutional Investors Investment management Main Street Market Crash money Mutual fund Passive management risk-management technology SPY Twitter

The writing had been on the wall – and countless online articles  – for a long time…

… and on Tuesday it finally hit the world’s largest asset manager, where in the war between passive-investing robots and active-investing humans, the humans lost. As the WSJ reports, at Blackrock, the era of the star “stock picker” is coming to an end, and he will be replaced by this…

As part of a massive overhaul that has been hinted at in recent months, and was unviled on Tuesday, BlackRock announced a reorganization of its actively managed equities business that will include job losses, pricing changes and a greater emphasis on computer models that inform investments.

BlackRock’s new strategy centers on a view that has been facilitated by the not so stealthy central bank takeover of capital markets in recent years, according to which it is difficult for human beings to beat the market with traditional bets on large U.S. stocks. As a result, at least seven stock portfolio managers are among several dozen employees who are expected to go as part of the revamp.

Instead of handing their funds to other humans for investing purposes, for the first time BlackRock’s Main Street customers will be able to buy lower-cost quantitative stock funds that rely on data and computer systems to make predictions, an investment option previously available only to large institutional investors. This option also virtually assures that the next market crash will be unlike anything ever seen. Some existing funds will merge, get new investment mandates or close.

For now the overhaul is only taking place at Blackrock, and represents the most dramatic attempt to rejuvenate a unit that has long lagged rivals in performance. Clients have pulled their money from the actively managed stock business in three of the past four years even as BlackRock’s total assets climbed to a record $5.1 trillion, according to the WSJ. BlackRock had $275.1 billion in active equity assets under management at the end of December, down from $317.3 billion three years earlier.

However, the world’s biggest money manager is only the beginning. Many other firms that specialize in handpicking stocks are also struggling with low returns and shifting investor tastes. Since the 2008 financial crisis, clients across the money management industry have moved hundreds of billions of dollars to lower-cost funds that track indexes instead of promising to beat the market.

BlackRock has it better than most of its competitors in that it is solidly diversified, and has benefited from investors’ embrace of passively managed investments. The amount overseen by the entire firm has been bolstered by its exchange-traded fund business, which now comprises about a quarter of all assets under management. It also sells investment and risk-management technology, giving it a broader mix of businesses than many of its rivals.

It also won’t be the first time BlackRock has tried to rediscover itself. As the WSJ reports:

The new effort to improve the performance of BlackRock’s stock-picking unit isn’t the first but goes further than past changes. In 2012 BlackRock replaced management teams of some of its largest stock funds and analyzed the investment process of each team.

Yet by the end of last year more than half of the assets in BlackRock’s traditional actively managed equity products underperformed their benchmarks or peers over one year, up from less than a quarter a year earlier. Over three years, 38% were underperforming, compared with 40% at the same time in 2015.

Who would have though that outperforming in centrally-planned markets that make no sense could be so difficult. Oh wait…

In any case, good luck to the man who is supposed to fix BlackRock’s legacy problems. The author of the company’s new strategy is former Canada Pension Plan Investment Board CEO Mark Wiseman, who was hired last year to turn around the stock-picking business.

The effort is the first test for Mr. Wiseman, viewed by some company observers as a potential successor to Chief Executive Laurence Fink.
Mr. Wiseman—who spent his first six months examining the strengths and weaknesses of the business with staff, consultants and clients—said the firm is trying to “play offense” as smaller rivals struggle.

“We’re in really rough seas, but BlackRock is an aircraft carrier,” Mr. Wiseman said. “Everyone else is in dinghies, and they’re bailing like hell.”

Someone should tell Mr. Wiseman that aircraft carriers are also the easiest to spot, and sink, by enemy forces.

Under Wiseman’s plan, BlackRock will change the investment mandates of some funds and focus on a slightly smaller lineup of equity products that includes nine quantitative funds that will be available to retail investors. In some cases those funds come at roughly half the cost of those they replace.

The firm will also run country and sector-focused stock products where executives believe they can outperform, funds that pursue specific outcomes such as social impacts and riskier go-anywhere or funds that make more concentrated bets. The changes weed out actively managed stock funds that closely follow indexes.

At the end of the day, however, it is all about lowering prices in a world in which simply investing in the SPY has been the best trade ever since the central banks took over in 2009. Blackrock’s planned price cuts involved in creating that lineup will result in a loss of $30 million in revenue annually, the firm said. The firm will take a $25 million charge in the first quarter to fund layoffs, staff relocations and research investments. San Francisco will become the firm’s hub for quantitative investing and some emerging-markets staff will move to Asia from London. Another change, Mr. Wiseman said, will be a better integration of research and data informing both traditional and quantitative stock picks.

What happens next? It’s unclear: “executives acknowledge potential risks from the staffing and fund changes. Too much manager turnover at funds can spook customers and trigger withdrawals. And changing fund mandates can lead clients who want what they initially signed on for to head for the exits.”

But the biggest question mark is what will be the outcome of reallocating virtually all AUM to a bunch of robots who have never traded through a rate hike cycle, and have never had to participate in the process of central bank balance sheet normalization. Sadly for them, there is no instruction manual on how to trade that particular scenario. Another problem: what happens when Blackrock’s “smart beta” chasing robots start selling? Since the signal will likely be the same one that prompts all other robots at other funds to sell too, with all shorts obliterated, and with increasingly fewer humans left, who will be there to buy?

As for the humans who once made a killing in trading and are now obsolete thanks to a handful of 20-year-old math PhDs, there is always finance twitter to pass those long months (and years) of doing, well, nothing.

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Sarcasm aside, the reason why BlackRock’s decision – which will soon be adopted by most of its peers – is bad news for both the financial industry and capital markets, is because as we discussed last October, and urge all readers to skim one more time, “The Shift To Passive Investing Increases Systemic Risk, Will Make Crashes Worse.”

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