The Great Index Fund Takeover

A recent Bloomberg article describes the ongoing trend toward index investing as “one of the biggest shifts in corporate power in a generation,” citing the “Big Three” firms of BlackRock, Vanguard and State Street—who manage $7 trillion, $5.6 trillion and $2.9 trillion, respectively– as the most important players.

Here are highlights from the article:

  • The success of the “Big Three” has had “a weird and unintended consequence” whereby millions of investors—while making a sensible financial choice for themselves, have also contributed to a concentration of power within these firms. For example, the group owns a total of 18% of Apple Inc.’s shares, up from a reported 7% at the end of 2009.
  • While the fund companies claim there’s nothing to worry about since they don’t vote as a bloc, the article notes, “voting power is voting power: The fund companies’ combined votes and back-channel jawboning, in which they make their views known to directors and chief executive officers, could swing the outcome of important matters…even if not fund house has the ability to decide the outcome of such matters alone.”
  • The article argues, “Where the critics agree is that index funds, as good as they are for investors, may be also indirectly harming consumers and workers.” It cites a comment made by indexing pioneer Jack Bogle shortly before his passing in which he warned that there may be “too many shares in too few hands.”
  • Concerns include antitrust issues— “Academics have long theorized that common ownership might encourage coordinated behavior among companies linked by the same set of owners.” But the article notes that the potential impact of common ownership “reaches beyond antitrust matters to questions about how companies are run.” It cites comments by Harvard law professor John Coates, who argues that following passive strategies doesn’t mean that fund managers just choose stocks and sit back idly. In a recent paper, he wrote, “A small number of unelected agents, operating largely behind closed doors, are increasingly important to the lives of millions who barely know of the existence much less the identity or inclinations of those agents.”
  • Because the rise in indexing is still fairly new, the article concludes, “academics who study common ownership have different ideas about how the fund managers’ influence might be felt.” While some believe they could become “key power players” able to push for deals and/or corporate restructurings, others worry that index funds could enhance the power of CEOs by keeping quiet.
  • The article notes an additional concern that the corporations in the Big Three’s portfolios may also be clients of those firms: “Vanguard, for example, administers 1,900 retirement plans with about $1.4 trillion in assets under management.” The worry is that fund houses might cast votes as shareholders that appease executives but are not necessarily in the investors’ best interests.