Market Slide Doom and Gloom in the Situation Room

Larry Fink, the co-founder and head of BlackRock, the world's biggest fund manager, tells Handelsblatt why he expects global markets to keep falling this year before things get better.
BlackRock CEO Larry Fink expects things to get worse before they get better.

Larry Fink seems to enjoy being inconspicuous. And yet he’s considered by many to be the most powerful man in the world.

BlackRock, the company he leads, manages some $4.5 trillion of the world’s money, which is more than is generated annually by the entire German economy. No other fund manager manages as much money.

The U.S. giant has stakes in a series of top companies, including most top German firms. It holds a 6.6-percent stake in Deutsche Bank and similar stakes in Bayer, BASF and Siemens.

Unlike the world’s top banks, BlackRock tends to operate outside the public limelight and has faced less regulatory scrutiny to date. That could soon change, the fund manager is known to throw its weight around when it doesn’t like what a company is doing – and going directly to the CEO rather than speaking out in annual meetings. Mr. Fink cautiously admits to Handelsblatt, for example, that BlackRock had a hand in blocking Deutsche Bank’s former chief executive Joe Ackermann from moving over to the bank’s supervisory board in 2012.

Financial sources say that BlackRock, which owns a 4-percent stake in Volkswagen, is also monitoring the Dieselgate scandal closely.

In an exclusive interview with Handelsblatt, Larry Fink makes clear that the recent global market turbulence has yet to reach bottom.

“I think what we will see now are some good old-fashioned bankruptcies. It may need to feel much worse before it gets better,” he told Handelsblatt.

That should be worrying news for stock market investors who are already close to a state of panic. Germany’s blue-chip DAX has fallen 10 percent so far this year.

Mr. Fink is not alone in his warnings. Stefan Kreuzkamp, chief strategist at Deutsche Asset Management, told Handelsblatt that “it could be summer before stock markets stabilize.”

While there is no immediate end in sight to the current turmoil, Mr. Fink is confident the situation will eventually calm down. 2016 is not like 2008, he says.

The full interview with Larry Fink is below.

 

Handelsblatt: Blackrock has $4.5 trillion under management. That's more money than Germany's gross domestic product. Is the company not too big to manage that kind of volume?

Larry Fink: If the $4.5 trillion were invested in a single product, then yes, we'd be too big. However, the assets are not ours. I'm only the trustee for all pension funds and insurers. Two thirds are invested in exchange-traded and other index funds and are not actively managed. That does not create a systemic risk as far as I'm concerned.

However, investors can buy and sell exchange-traded index funds at very short notice. Don't they cause major price fluctuations in doing so?

Let's take the market for high-yield bonds that some investors have been talking about. In December the high-yield bond fund of Third Avenue went belly-up after having invested in illiquid bonds. Of course, we weren't pleased with this failure since it destroys investor trust and confidence in funds in general. But the high-yield exchange-traded fund that we run managed to deal with the failure and performed very well. Regulators are right to look at the differences between an ETF and a conventional mutual fund.

Why is that? 

A price is only quoted once a day for mutual funds – requiring mutual funds to net out all the subscriptions and redemptions they have been building all day. That is of some concern to the regulators and poses a greater risk than is the case of exchange traded index funds, where the prices are determined continuously on the secondary market each day.

How could a greater level of safety be ensured?

If it were up to me, then mutual funds should release key liquidity figures once a day. Investors could work out for themselves whether a higher yield is tied to a poorer liquidity situation and consider whether the risk is worth taking. The supervisory watchdogs are currently thinking of adopting additional measures. We, at any rate, believe in greater transparency.

Are asset managers like Blackrock the new kings of Wall Street after the banks have lost so much influence?

First of all: we aren't Wall Street (laughs). I left Wall Street when I resigned from my job at Credit Suisse in 1988. It's abundantly clear that the people wish for less powerful banks but for stronger capital markets that grow – even in Germany. The asset managers are a reflection of the capital markets. If the capital markets continue to grow, so will we.

And increasingly become a risk to the financial system in the process?

A big bank is systemically significant; we aren't. But of course we will be regulated and investigated more intensively in future, especially with regard to individual finance products. And that's a good thing, too. I believe that more intense and comprehensive regulation of funds is the right approach.  If I were sitting on the regulators' side, many in the industry wouldn't like me. This is because I would proceed far more aggressively than many think, to prevent individual funds from becoming a danger to the financial system.

That would mean no good times for BlackRock...

On the contrary! After all, problem cases like Third Avenue show that it is mostly small investment funds that take the greater risks in order to grow. We are risk-averse because we've got too much to lose.

Aren't you worried about conflicts of interests? On the one hand, you advise such market players as the European Central Bank; on the other, your fund managers invest especially in connection with possible decisions by the ECB.

Our teams are clearly segregated; there are high barriers in place to ensure that information cannot spread and there is no conflict of interests. We manage the money entrusted to us by investors. And in the field of asset management, our good reputation is the most important capital we have. So why should I share insider information with someone else only to earn a small yield benefit? On average, I only earn 0.20 percentage points of assets under management. That would not improve much for me if I were to disclose insider information. Behavior like that would be dumb and the risk far too high.

You spend more money on lobbying work in Europe than Goldman Sachs. What do you hope to achieve with this strategy?

On a global scale, we have a team consisting barely of eight people for this topic. Besides, policymakers and regulators are not there to listen to us either. The thing is, however, that they often approach us because we have a great deal of insight into market trends. We have been praised very frequently for cooperating so closely with public authorities in the context of regulation topics.

You most recently underscored your role as a pioneer favoring a long-term mindset. You've written letters to the world's biggest companies, calling upon them to think and invest in a more long-term manner. Has that worked, do you think? 

Well, we wrote about 750 letters and received about 200 in reply. In addition, up to 300 talks were held with our investment teams. What we're trying to say is: management board members, speak to us today, discuss with us the path, the strategy you wish to take with your company. And don't contact us only when you are also approaching the proxy advisory firms. Our campaign has certainly worked. We meanwhile cooperate more closely with the companies in question.

 

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How much power does a large-scale investor like BlackRock actually have in such situations?  

Will I change anything with my letters and statements? No. Nevertheless, I believe it's important to speak up to encourage a rethinking process in the long run.

What role did BlackRock play in the management change at Deutsche Bank last year?

It's part of our corporate policy not to comment in public on ongoing talks involving specific companies. In principle, we play a constructive and moderate role in such corporate decisions. We played a stronger role, and that's also in the public domain, when Josef Ackermann, ex-CEO of Deutsche Bank, wanted to change directly from chairman of the management board to supervisory board chairman. We expressed our opinion against such a move. That was important because Ackermann planned to accomplish a direct change with the votes of the shareholders without allowing a cooling-down phase to elapse.

What about the change from  Anshu Jain to John Cryan?

From the viewpoint of many market participants, that proceeded much more quietly. As I said, we don't comment on specific companies or management personalities on principle. We are in dialogue with management and supervisory board members on a regular basis on such topics.

Are you satisfied with the change?

I don't want to talk about management personalities in public.

And what about the bank's strategic direction?

I'm afraid I can't comment on that. I'm only the asset manager - why do you want to know something from me on an individual enterprise?

Another topic: You're a friend of Anshu Jain...

... yes, that's right. But I'm friends with many people.

Have you considered hiring Anshu Jain?

Anshu is very intelligent. I'm quite sure he'll find a good job again somewhere.

Let's talk about the turmoil on financial markets. Do you think the situation can escalate any further?

I think what we will see now are some good old-fashioned bankruptcies. It may need to feel much worse before it gets better. We may need to have 25 bankruptcies, oil going down to $22 and markets to go down another 10 percent before they will stabilize.

This sounds very gloomy.

We're still in a phase of radical change. Billions of people are benefiting from the lower energy prices. On the other hand, hundreds of companies are suffering on account of the massive price meltdown; their earnings are in decline, and prices and valuations are sliding. At the same time, there are concerns about China, which is trying to accomplish in ten years what took us 50 years to achieve: namely the transition of the economy from one that is export-driven to a service performing society focusing on the domestic market. Markets hate uncertainty, however. And this is why a revaluation is taking place on stock markets worldwide, as this uncertainty will continue.

For how long?

Well, I'm no fortune-teller, but an end is not in sight at this point. So far, China has not managed to stabilize its economy and its stock exchanges. The decline in energy prices has not bottomed out either at this point. This is why markets will continue to fall for the time being. At some point, though, people will grow more confident again and spend the money they've saved through falling energy prices. At the end of the year, stock markets will be back at the level of end-2015, share prices might even be slightly higher.

What is the biggest uncertainty factor from your point of view?

In China, some investors are speaking of a credit bubble with state-owned enterprises and of an excessively high debt level of the private sector. While I see all this much more optimistically, if my optimism turns out to be wrong, then China will be to blame for that. After all, crises do not arise when we know the dangers lurking out there. It's just like an iceberg. What's dangerous is what's below the water line and cannot be seen, as is the case in China right now.

Do you think the Chinese central bank will have enough clout to absorb possible problems?

I believe the central bank and ministry of finance in China have the power to stabilize the economy and the markets in a crisis. We had expected the lower growth rates. In contrast, problems may emerge in emerging markets that have relied on exports to China for their growth. There also are emerging markets like India, however, that are meanwhile outgrowing China at roughly eight percent and possessing a respectable third of China's economic power. For this reason, the Indians are able to absorb the lower growth in China to some extent.

Are Chinese enterprises experiencing major difficulties right now?

Yes, they are frequently state-owned and inefficient. For this reason, China's companies will need a reform next year at the very latest. If it fails to materialize, I'll be worried about the country's future. The situation will be similar if China continues to devaluate its currency.

Do you fear a currency war?

No, China would like to have a hard currency, as indicated in its ten-year plan. Lower energy prices are to make the transition to a service-providing society easier. This is why I'm keeping a very close eye on what's going on there now. If the currency should depreciate by a further five to ten percent, this will also mean that the ten-year plan will be shelved. Then I would worry about a price meltdown.

Are we in a similarly precarious situation globally today as we were back in 2008?

No, we aren't battling with economic structural problems today. In the crisis year 2008, we had no idea what condition the banks were in and how high their debt levels were. That's completely different today. The equity ratio of the relevant institutions has since doubled. Today, the leverage has only increased sharply in the energy sector. Banks will certainly need to write off a number of loans. But the problem has been identified and it's not enormous.

Did  the U.S. Fed raise its policy rates too early in view of the current circumstances?  

Actually, I would have wished for the Fed to begin with a policy hike as early as September last year. The increase has now temporarily led to uncertainty. The market expects the U.S. central bank to raise interest rates four more times in succession. I expect a maximum of two further hikes. In view of the instability of the world economy, it must not pull in its reins too sharply as this would make the dollar too strong. While that would be good for Europe, it wouldn't be for the U.S.

Does the European Central Bank still have the current situation under control?

Europe began its easing policy four years later than the U.S., which was a big mistake from my point of view. And Europe was living in a kind of dreamland. While the very first stress test for banks in the U.S. in 2009 already turned out to be realistic, Europe needed as many as three stress tests to arrive at meaningful results. Having said that, I'm not quite sure yet just how realistic the result actually is.

Why is that? 

Well, five European banks got new CEOs last year. These were Deutsche Bank, Credit Suisse, Standard Chartered, Barclays, and Santander. The appointments were mostly followed by immediate capital increases. Which makes me ask myself just why? Where were the regulators and supervisors and what authoritative value did the stress tests actually have if the situation really was so difficult and the banks had to borrow fresh money to be able to survive?

You're known to be a confirmed follower of the Democrats. Who's going to win the U.S. elections?

At this stage, I'd say that the Democrat Hillary Clinton has the best chances of becoming the next president.

If Secretary Clinton becomes president of the United States, would you accept an offer to become the next treasury secretary?

Well, all I can say that I'm very happy with my present job.

 

The interview was conducted by Handelsblatt's finance section chief Daniel Schäfer and deputy section head Robert Landgraf. Anke Rezmer of Handelsblatt's Frankfurt bureau also contributed to this story. To contact the authors: [email protected] and [email protected]