The rise of index investing is giving increasing political power to a handful of asset managers.
Editor’s Note: The following is a lightly edited excerpt from The Dictatorship of Woke Capital: How Political Correctness Captured Big Business by Stephen R. Soukup, published by Encounter Books in February.
The executive-level effort to politicize capital markets and American business more generally is led by many managers from many companies in many sectors — high tech, entertainment, retail, etc. But the greatest leverage is that wielded by large asset-management companies. Tim Cook, the CEO of Apple, cannot, for example, do much to influence the social or governance behavior of Peter Thiel, other than to apply peer pressure. And while that peer pressure can be powerful — as Brendan Eich can attest — it is limited in its application.
Asset managers, especially asset managers who dominate the world of index funds and exchange-traded funds (ETFs), can have a significant impact on all sorts of companies in all sorts of sectors doing all sorts of business. That’s the whole point of an index or exchange-traded fund. It gives the holder some fraction of ownership of all the companies in an index, providing him with both diversification and the opportunities and responsibilities associated with owning shares of everything.
BlackRock
Without question, the asset manager that matters most in this battle is BlackRock, the CEO of which is Larry Fink, the star of the introduction to The Dictatorship of Woke Capital. BlackRock manages close to $9 trillion, making it by far the largest asset manager in the world. And Fink, as noted, is a crusader, a man on a mission who is bound and determined to use the power that other people’s money — your money, perhaps — gives him to impose his beliefs on the capital markets and, by extension, on the nation more generally.
BlackRock is known as one of the “Big Three” passive asset managers in the world — along with Vanguard and State Street. This is a true description, but it’s also incomplete. While its nearly $5 trillion in assets under passive management — i.e., index funds, ETFs — makes it the largest passive manager in the world, the firm also has significant assets under active management. Indeed, the roughly $2.5 trillion it has under active management would, in and of itself, make BlackRock the sixth-largest asset manager in the world. BlackRock is, in other words, a monster. It is a monster in the passive-management business, a monster in the active-management business, and a monster that public companies can hardly ignore.
As part of the Big Three, BlackRock has immense and almost shocking power to effect change at whatever companies it chooses. And the firm’s CEO is a crusader, a fanatic who intends to use this power to go set the world on fire (as St. Ignatius Loyola may or may not have told his Jesuits). This raises a host of very serious concerns — for investors, for consumers, for companies, and indeed, for American democracy.
For starters, the Big Three (of which BlackRock is biggest) holds, on average, about 22 percent of the typical S&P 500 company. This includes “18 percent of Apple Inc.’s shares. . . 20 percent of Citigroup, 18 percent of Bank of America, 19 percent of JPMorgan Chase, and 19 percent of Wells Fargo.” This gives them immense leverage. Moreover, the fact that the last three names above just happen to be the first, third, and fourth largest wealth-management firms in the United States (with $1.35 trillion, $774 billion, and $604 billion in assets under management, respectively) amplifies their power to dominate shareholder decisions exponentially.
Indexers have always insisted that the combined power they wield is irrelevant. “We aren’t necessarily aligned on issues,” they say, and we certainly don’t “coordinate.” Except that now they do. On ESG concerns, BlackRock and State Street are nearly perfectly aligned and they don’t need to coordinate, because their ESG research and proxy advisory services . . . do the coordination for them. And Vanguard, the third of the Big Three, is not far behind them.
And here’s where things get a little bit sticky. Traditionally, active asset managers who were unhappy with the performance of a company — be it for environmental, social, governance, or any other of countless reasons — simply sold the stock. They said, in essence, we don’t think you’re running your business in a manner that is conducive to the values we embrace, and we won’t be a party to that.
Passive asset managers, by contrast, do not have that option. They own the company because they own every company. And they cannot walk away from any of them. Therefore, passive managers have two choices: They can simply ignore management and governance issues, hoping that the market will eventually sort the matter out; or they can use their power to change the company — its management, its directors, its policies, even its business plan. Historically, passive managers have chosen the former. Increasingly, however, they’re choosing the latter, in part because they’re so big now that they are the market, and in part because they’re led by zealots.
Additionally, BlackRock is one of the largest American investors in the People’s Republic of China and would like very much to expand its operations there. In his March 29, 2020, letter to shareholders, Fink wrote, “Our focus on long-term opportunity and structural change is also reflected in the way we approach growing markets, such as China. I continue to firmly believe China will be one of the biggest opportunities for BlackRock over the long term. . . .” Note that this letter was sent after the COVID-19 pandemic had hit the United States, after the COVID-19 pandemic had caused a massive disruption in the American economy, after BlackRock was named by the Federal Reserve to administer and manage significant portions of the Fed’s emergency debt-purchase programs, and literally days before the Chinese company Luckin Coffee blew up in BlackRock’s face. Nevertheless, Fink continued, “China’s $14 trillion asset-management industry is the third-largest in the world, and as the Chinese market opens to foreign asset managers, our global reach and whole-portfolio approach will help us become the leading foreign asset manager in China.” True to his word, less than 48 hours later, Fink and BlackRock applied to the China Securities Regulatory Commission to establish a mutual-fund operation in China.
BlackRock is also heavily invested in Chinese companies and various other companies that do business in China, some of which would never pass Larry Fink’s religious precepts if they were American companies. At the end of 2019, the single stock that BlackRock held more of than any other was Apple Inc., which is rather firmly tied to the anchor of the Chinese Communist Party and is one of the most deceptively “green” companies on the planet. At of the end of the first quarter of 2020, BlackRock held more than 7 percent of all outstanding shares of PetroChina listed on the Hong Kong Exchange. PetroChina, of course, is the listed arm of the state-owned China National Petroleum Company. Not only is PetroChina notoriously un-green, but it also has a long history of social and political problems. In 2000, when the company brought its initial public offering (IPO) to the American market in conjunction with its American banker, Goldman Sachs, a broad coalition of interests on both the political Left and Right boycotted the offering.
Among other things, PetroChina’s parent company (China National Petroleum Company) was doing business with and thereby funding the regime of Omar al-Bashir in Sudan, which was then and remains a State Department–sanctioned state sponsor of terrorism. Additionally, al-Bashir’s regime was waging a civil war against the black and animist people of South Sudan and permitted the growth of the modern-day slave trade in Khartoum.
As noted in the introduction to this book, BlackRock has, as of January this year, officially aligned itself with the environmental goal of sustainability. “We believe,” CEO Fink wrote in a letter to CEOs in January, “that sustainability should be our new standard for investing.” Ironically, it is clear that what he meant by that is that it should be the new standard for investing in American companies alone. Chinese companies like the ones Fink and BlackRock invest in don’t have the same sort of governance and reporting standards that American companies do, which means that they can, more or less, do whatever they want. And as long as their financial statements don’t acknowledge any wrongdoing, there’s not a damn thing any American can do about it. That, in turn, means that Fink et al. intend, quite literally, to ensure that American companies are at a competitive disadvantage compared to Chinese companies. And they intend to do so in the name of “sustainability.”
State Street
State Street is the third-largest passive-asset-management company in the country. Like BlackRock, it holds significant portions of most of the companies in the American stock exchanges, and also like BlackRock, it has decided that ESG and sustainability issues will guide its interactions with the managers of the companies it holds. On May 20, 2020, at the State Street annual shareholder meeting — which was held virtually because of the COVID-19 pandemic — State Street CEO Ronald O’Hanley reaffirmed that position and reinforced his company’s plans to be an aggressive, activist shareholder. Scott Shepard, who is the coordinator of the Free Enterprise Project, a project of the National Center for Public Policy Analysis, asked O’Hanley about these subjects. “Especially during the economic crisis that is following on the heels of the pandemic lockdown,” Shepard began, “how can you justify using your clients’ shareholder status to apply a legally suspect concentration of market power to demand changes that do not serve their or national economic interests?”
O’Hanley responded, in part saying, “Any position or stewardship activity that State Street performs is with that sole goal, of ensuring long-term shareholder value creation. Ultimately it’s not our decision what companies do, and ultimately we will remain invested in those companies, but because we do not have the ability to not be invested in them, we take the stewardship role seriously and we will continue to do so.”
There is an implicit threat in O’Hanley’s statement, a threat to the companies that comprise its ETFs, whose shares it holds. To wit: Just because we engage in passive management, don’t think that we are going to be passive shareholders. We will not be. Moreover, we’re not going away, because we can’t go away. This is the same sentiment expressed several years ago by F. William McNabb III, then the CEO of Vanguard (the third of the Big Three), who said, “We’re going to hold your stock if we like you. And if we don’t. We’re going to hold your stock when everyone else is piling in. And when everyone else is running for the exits. That is precisely why we care so much about good governance.”