Robert G. Eccles
author FollowSustainability
Tenured Harvard Business School professor, now at Oxford University.
Yesterday I published an article in the Harvard Business Review, “The Investor Revolution: Shareholders Are Getting Serious About Sustainability,” which I wrote with Svetlana Klimenko of the World Bank. We give six reasons in support of the article’s title, one of which is the sheer size of the largest asset owners and asset managers. We argue that their size makes them “universal owners” who cannot diversify away from system-level risks. Consequently, they are becoming increasingly conscious of whether their portfolios are making these risks greater (threatening their ability to deliver expected long-term returns) or smaller (in which case they will more likely be able to meet the needs of their ultimate beneficiaries—which is all of us).
We also note that size was accompanied by a high degree of concentration, citing one source that the top five asset managers hold 22.7 percent of externally managed assets, and the top 10 hold 34 percent. Industry concentration is always a legitimate issue of concern because of its potential anticompetitive effects. Thus, in this post I want to briefly analyze concentration in the asset management industry. I will also discuss what I see is one of its largest advantages that I don’t think has been sufficiently appreciated—increasing the effectiveness of corporate engagement.
The asset management industry is getting more concentrated. A report by the Thinking Ahead Institute of investment advisor Willis Towers Watson states that in 2017 the top 20 of the largest 500 asset managers controlled a larger percentage (43 percent) of assets under management (AUM) than any time since 2000. This was the fourth straight year in which their market share has grown. Itzhak Ben-David, Francesco Franzoni, Rabih Moussawi, and John Sedunov have calculated that the share of U.S. stock ownership by institutions has increased from around five percent in 1980 to about 22 percent in 2015.
The asset management industry isn’t the only one experiencing increased industry concentration. Gustavo Grullon, Yelena Larkin, and Roni Michaely observed that more than 75 percent of U.S. industries have experienced an increase in concentration levels over the past two decades and conclude that, in general, this structural shift has weakened competition. However, while a recent OECD report agrees that concentration is increasing in the U.S. (although not in Europe) it does not believe this has resulted in a decrease in “competitive intensity.”
Bill McNabb, Chairman, Vanguard at The 2018 CECP Summit, Time Warner Headquarters in NYC; 2/26/2018 | SOURCE: CECP
Is concentration in the asset management industry a good thing or a bad thing? Opinion varies. Ben-David et al. see this as a bad thing, arguing that it leads to greater stock price volatility. A recent article in Pensions&Investments is more sanguine, noting that much of this concentration is due to the increase in passive index products by the largest asset managers for which very low prices are charged due to economies of scale. However, it also questions whether high levels of concentration create dangers to the health of stock markets, the financial system, and the larger economy. It also asks whether the rise of passive investing will lead to less efficient stock pricing.
Amanda Tepper further notes that some of these large asset managers are actually collections of boutiques which mitigates any anticompetitive effects from concentration. A recent report from the Federal Reserve Bank of Boston concludes that the rise of passive investing, and the concentration in the asset management industry it is causing, can have both positive and negative effects on financial stability. David Feldman, Konark Saxena, and Jingrui Xu have developed a theoretical model they test empirically and conclude that “Higher market concentration levels imply better utilization of industry resources and the existence of more unexplored investment opportunities, making managers’ efforts more productive” in terms of fund net alphas.
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