BlackRock Passive Funds Could Lower Fees Forecast

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According to the recently published year-end review by State Street ( STT ), actively managed funds captured 77% of open-ended fund inflows, down from over 78% in 2009 and almost 89% in 2001 while index funds gained prominence over the same period rising from 9.3% of the market in 2002 to 12% in 2010. But Exchange Traded Funds (ETFs) jumped from 1.5% in 2001 to 11% by the end of 2010. This signals a trend towards increasing investor preference for passive investment strategies, which along with relatively lower advisory fee offer diversification at a much lower cost. BlackRock competes with other investment management services companies and banks with asset management operations, which serve both institutional and retail investors, such as State Street ( STT ), Fidelity Investments, Goldman Sachs ( GS ), Morgan Stanley ( MS ) and UBS ( UBS ).

Here we explore the impact of investors' behavioral shift, towards passive investing, on BlackRock ( BLK ), the largest asset manager in the world with over $3.5 trillion worth of Assets under Management (AuM), offering investment advisory on equity, fixed income, multi-asset class and alternate investments to both retail and institutional investors in over 100 countries across the world.

We currently estimate that Equity Investments make up for over 27% while fixed income investments constitute close to 16% of our $184 Trefis price estimate of BlackRock's stock , which is at a 5% discount to its current market price.

What differentiates Active and Passive Investing?

While active investment involves an asset manager making investments with the aim of outperforming a benchmark index, passive investment requires an asset manager to replicate the benchmark index by incorporating the constituent assets in similar proportions (weights) and thereby matching the returns of the index. Our estimates reveal that BlackRock's investment advisory fee (% AuM) for passive equity investments is ~0.05% while that for active equity investments is ~0.6%. For fixed income investments, passive investing is charged at 0.05% and active investing at 0.2%.

Asset managers earn a markedly higher advisory fee from active investment strategy and rightly so, since given the relatively more trading of assets, active investing incurs higher transaction costs but more importantly because active management relies on the skill of the asset manager which needs to be duly compensated with a higher advisory fee.

BlackRock, at present

BlackRock's asset pool grew at a staggering rate of 50% from $450 billion in 2005 by making some strategic and transformative acquisitions along the way. While Merrill Lynch Investment Manager's acquisition in 2006 increased equity in BlackRock's portfolio to 28% of AuM from 8% in 2005, the acquisition of Barclays Global Investors in 2009 tilted BlackRock's portfolio towards passive investment management, which now constituted 77% of equity investments and 43% of fixed income investments.

Since most of the so-called active investments haven't consistently defeated the benchmark over the last decade, which was further highlighted by the recent economic downturn in 2008-09, investors are increasingly moving towards passive investing. And BlackRock's inorganic growth through acquisitions has very strategically captured the evolving investor behavior.

BlackRock, in the future

We currently estimate BlackRock's AuM in active equity investments to grow from $350 billion in 2010 to over $550 billion by the end of the forecast period. If however, the investor preference for passive investing continued beyond the expected period of macroeconomic recovery, we foresee active equity investments growing at a more moderate rate, reaching $470 billion over the same time period, contributing to a 4% potential down side.

You can see a detailed analysis of our $184 Trefis price estimate for BlackRock's stock here .

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The views and opinions expressed herein are the views and opinions of the author and do not necessarily reflect those of The NASDAQ OMX Group, Inc.



This article appears in: Investing , Investing Ideas , Stocks , US Markets

Referenced Stocks: BLK , GS , MS , STT , UBS

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