Looking Into BlackRock's Crystal Ball

T and Martin he's in charge. Well, he's in charge of the U S I Shares and that's what all the numbers I just said multiple bosses still actually right, yeah, yeah, he's in the middle. Actually, wait, why why are we interviewing again? Exactly let's talk about him. But but he's fascinating because he is sort of a wizard of the et F industry as a whole and is sort of in charge of strategy and he is just he's where the future is going. Uh. He is sitting in a

sweet spot. They have a lot of highly liquid, high asset products that others would kill for. At this point this time on tryants, we're gonna look into the crystal ball of my shares. Martin, How did you find the e t F my opening favorite question. So I actually found the et F when I was in my old job at black Rock. So I used to work in our advisory business where we worked with central banks and

financial institutions. I don't know if you remember a lot of the press that black Rock had during the financial crisis that was about black Rock helps government's value heart to value assets. One of the things that I came upon during that period of my career was many institutions were trying to figure out how to add liquidity to

their portfolio and reduce transaction costs. And it's when we first started doing institutional consulting about e t F s. I had also done a lot of work at clearing houses where they were starting to see more activity happen in ETFs, and they asked us questions like, how do we think about margining these? Are these equities? Are they bonds? How should we think about managing risk related to a big ETF marketplace? And all of that started in probably

two thousand eight or two thousand nine. That sounds really boring, no, it was. It was incredibly electrifying, and in two thousand, twelve thirteen, we started working on term Maturity t S and I had worked with the I Shares team when I was working in black Rock Solutions, and about three years later Mark and Larry asked me to take over the U S and Canadian businesses Mark Widman and Larie Fink not insignificant places. Mark and Larry, Yeah, Mark, we

hang out with them all the time. Yeah, they're great. Uh So, so tell me about that. Because black Rock actually rewind the clock a little bit acquired I Shares basically, in hindsight, may have been the greatest acquisition of all time. Yeah. I mean, my metaphor is it is the Louisiana purchase of the asset management business. What you bought it for

versus what the potential is was amazing. What was behind the decision to do it, because at the time it definitely was, you know, a pretty penny to buy it. At the time, everyone said universally that Blackrock was over paying, that this was an impossible acquisition to try to manage that bringing together religious zealots from one camp with religious zealots from another, with fundamental research driven strategies and index

based strategies. Was impossible. Sounds like a TV show. People said it was impossible, Um, but the fact was, I think two things were really happening, the first of which really pertained to what our clients were talking about. So our clients were already talking about bringing together market cap weighted indexing at the core of their portfolios, together with things that we can't index, things that we can't turn

into transparent, investible rules based bundles. And so Larry and the management team obviously heard all these things and said, this is what the portfolio the future is going to look like. And they made a big bet on transformation of the industry. And here we are nine years later, and everybody says, god, you know that that was obviously the Louisiana purchases. But at the time, uh, most people said it wouldn't work. Tell me about what you do, Martin.

So I'm responsible for our I shares businesses in the US and Canada. As Eric said, in the US, we run about one point four trillion dollars of e t F s at roughly three seventy products, and so I'm responsible for our business strategy. I'm responsible for our product teams are sales teams in institutional and in wealth marketing, PR communications. Black Rock has turned into a big matrix place.

So part of that is through resources that are dedicated through I shares, and part of it is through resources that I've actually cover things horizontally at black Rock across multiple product lines um. But our organization has always been let's really manage a product suite, which is the I shares business, along client segments, institutional, wealth, self directed, whatever it might be. So I try to bring all those

things together. Let me de jargon that a little bit, because this is fascinating, and you know who are we talking to out there. We're mostly talking to retail advisors. You've got one point three trillion. Can you break that into a pie chart kind of of how much is institutional like pensions, endowments and such, how much is advisors people who manage other people's money in the wealth side, and then how much is just do it yourself retail investors.

So broad strokes at so it's six wealth managers. So think about your major wirehouse platforms, your financial advisors, about global institutions, so that securities and derivatives buyers. It might be a professional asset manager, it might be an E t F strategist, it might be a pension plan and endowment, a foundation, whatever. And then about ten percent self directed who would come through customer facing retail brokerages like Fidelity. And isn't this interesting time where all all of those

people are in the same fund. In mutual funds, they separate those investors. If you've got a lot of money, you're gonna be in the eye class for less fees a t F. It's like Sam's wholesale club. Everybody gets the same price. People come at it for different reasons. Is that unique that all these investors are playing in the same sandbox. We think of our business and segments. We have clients segments and we have product use segments,

so we have client segments. That's what we're talking about, right. We're talking about institutional investors wealth managers like FA's, and we're talking about self direct investors. How they use the products is actually different. So you can have an institutional investor that would use the same product as a financial advisor, a self direct investor like I v v R S and P five index fund at four basis points. People use it as a trading vehicle, people use it as

a long term buy and hold um. It applies to UH lots of different segments that come together, and honestly, it's the coming together that makes the products have more viability. Right, So when institutions and wealth managers and retail investors come together, they actually make for network effects that the products become they have more utility for people. This is fascinating. Is fascinating. That was the best answer I've heard on that topic. Network effect. That got a lot of people going. And

that's that's true. It's uh, it's if it is unbelievable. I look at a product like e M R I MG is a good example. That's their emerging markets that's on the cheaper side, sporting basis ones. You know, a lot of retail investors own that, a lot of advisors own it, and then Bridgewater, that's the world's largest hedge fund, owns it. It is just unusual to see all those people using the same product. It's just still the largest holder of it. I think. So, Yeah, Bridgewater owns e

M and I MG. I think they're slowly they owned both ones more liquid ones cheaper. I think if you add it together, probably the largest owner of the I shares Emerging Market Suite. Am I wrong? They own a lot. It's like four billion, right pert filings. Yes, so think about it. The world's largest hedge fund, access to everything. And they called this guy, and they called but guys, think about why, right, Like if I ask you in the ms c I Emerging Markets Index, how many countries

are there and how many currencies? There's twenty three countries and ten currencies. So if your bridgewater, you say, do I really want to go be active in twenty three countries, get twenty three securities, licenses, set up twenty three sub custodial accounts, like pay transaction costs for every one of those securities. Like there's a reason that when but when you bundle this stuff in the easy button, that it

becomes just it becomes easier to transact. Like Greenwich Associates just released its study on institutional investors and the number one thing they cite about et F usage is that it's simple and easy to access. And so as they reduce their footprint and dealing with all this stuff that is just plumbing that they don't want to deal with, they can buy the whole index. They can buy the whole world. Basically in you know, the same thing that you'd buy in your fidelity. Okay, I'm many give away

my big idea. You ready, we've we've been sitting on it for a while. Hit me, why isn't there an e t F with the easy ticker easy button? Well, what would it hold? Well? Like everything? Yeah, like perfectly diversified portfolio. Maybe we should change the aquaticker to easy. You can, you can? You can just say now I think you have a okay, right, that's the asset allocation that holds other e t s that eventually hold everything. Okay, is pretty good. Yeah, it's pretty good. Right, that's a

good rival. It's interesting e t F that hold other e t F to try to do all that for you. They didn't. They're not really big hits. I think people like to sort assort the puzzle pieces in their own way doing acid allocation. But has asked that an event yesterday about whether an e t F vts could be a hit, And they're there already. They exist exist, but asset allocation ETFs haven't really taken off. We have we have a whole we have a whole range of them. So we have for example, I Y L D would

be the closest thing too easy. I y l D is a multi asset I know, I'm going easy y l D like I yield. It's pretty good, right. I y l D is a multi asset income portfolio. We have the core allocation series funds that would say you're conservative, moderate, aggressive, and it puts together portfolio. Here here's the rub though, and I think Eric you're right on this, which is if you're a financial advisor and you want to show your client that you're building a multi asset diversified portfolio.

If you show up for the client meeting and you say here, I'm here with a okay, all done, they go, I'm paying you one percent of my assets. This doesn't feel like you're doing what you want to do. In addition, I'd say clients all have I know I'm being a little facetious, but clients all have something they're looking for that's different than a stockport a standard PORTFOLI. So usually you're going to want some more customization in terms of target risk return, levels of income and so one size

fits all asset allocation ETFs UM. There's a market, it's just not a very big market. I want to ask another question because we talked about Larry, who's technically the boss of the boss, and we talked about Mark. Can you talk to me about and you came up on the black Rock side, right, and then jumped to the Ice shares. So can you talk to me about the evolution I do. I work at black Rock, I sell I shares, all right, So talk to me about that

acquisition that we talked about, the Louisiana purchase. How is the company's culture evolved? Because you've evolved the marketplace, but like internally, what sort of changed about black Rock and I shares in the process. Uh, Larry is for as long as I've been at black Rock. When I when I came to black Rock, it was a US centric bond manager sort of the end of two thousand five two thousand six, it had something like three hundred billion

dollars of assets and eleven people. I thought it was huge. I thought it was enormous. Uh. And we did several transformative ACQUI asians along the way. In two thousand six, we merged with Mary Lynch Investment Managers, and that I would say was our our first step in really transforming UM. Not so much the culture of the firm, but the identity and capabilities of the firm. So we went from being a US centric bond manager to truly being a

global investment firm. That was in twenty six countries sixty two cities. But the biggest change was, all of a sudden, a third of our assets were in equities. Uh. And for a bond house people who grew up in bonds, beginning to think of the world of equities is just totally different. Talk to me about that. How do bond people view the world and how is that different than this new that just showed up. Is it like going

from chess to checkers? Because bonds have a maturity. They they're much more complicated, at least for someone like me approaching me from the outside. They are harder to get your head around then stocks. I think that's absolute rubbish and fiction. Bonds are pretty Bonds are pretty simple, like but you know, it's it's uh, it's some amount of interest over some period of time and some ending date

like that's it. Bonds are pretty simple, and what drives prices and bonds is interest rates, credit spreads curve and ultimately some degree of liquidity. Equities are like poker, bonds are like chess right. Like equities, you know, you could say something about there's a seventy probability that this will be the result. In equities, you might have made a good decision, like any duke would say, but of the time you were wrong. In bonds, it's it's really more

chess right. The things are of the outcomes are pretty binary. So how did that change you? Um? I really think what it did was it changed the conversations that we were having with all of our clients. So it used to be we were hardcore bond people. We talked about mortgage pre payment speeds, we talked about relative value and credit spreads, but now we really started to talk about holistic portfolio outcomes. What are you really trying to do

with your whole balance sheet? What are you really trying to do to generate a seven percent return for your pension plan participants. That's a really different set of conversations and it requires, i'd argue, like a different kind of person at the firm. So what you would have seen over periods of time is more people who are holistic portfolio construction and asset allocation people rather than people who have focused on uh, do I pick Verizon versus a

T and T at the five year key rate duration. UM. What Larry has been relentless about over the entirety of my time there and since inception of the firm has been culture. Uh. Larry is ruthless about culture. His view as we are client focus, client centric business. Black Rock, I'm quite certain has had literally hundreds of opportunities to go into balance sheet proprietary businesses and we've never done that. We've stayed in the fiduciary business, working solely for our clients,

and that is the north star. Um. You know, I find started a hard press to go wrong. And let's talk about fixed and come a little bit because you guys have one of the most controversial e t F s h y G. We've discussed it many times. It packages junk bonds coming from the junk bond space. Just this a couple days ago at the Milk and conference,

this came up again as a worry. Now, leaving aside the motivations of the people who are worried, I know some of them are active managers and it might be uh, not the right messenger, but it's a persistent fear that how can you take something that's not that liquid, say junk bonds or any bonds really they don't trade like stocks, and put it in this stock like trading vehicle. Will there be a problem or some kind of an issue if everyone heads for the exit at once? Yeah, so

I I think the first thing I'd say is uh. Uh. The claims of the illiquidity of the high yield market are greatly exaggerated. This is a market in the US that has one point four trillion dollars dollars of outstanding balances UH. Year to date, I think we've had over the counter trading and high yield of a trillion dollars. That's about twelve to fourteen billion dollars a day of

average daily volume and high yield bonds cash trading. UH. If I take all the high l dtfs, I take every last single one of them, UH, and I look at h y G, I look at the other competitor products. There's fifty billion dollars of high YIELDTF assets year to date. The entirety of redemptions for the most funds is about

six billion dollars. That's like the entirety of the bonds that have come out of the high l DTF space and so I can hair numerator six billion over a trillion dollars of trading year to date and cash bonds that's not even one percent. So just the math to me doesn't work as to how high yield ETFs are causing any degree of price distortion and high yield. Now here's the thing that is true. The high yield market

is more cumbersome to transact in. So if you want to move two to four hundred million dollars of high yield, you have to not call one broker dealer anymore. You might have to call three, four or five to go find the bonds you want. This should not be a mystery. Then that it's easier and cheaper and lower transaction costs to trade h y G, which packages up the whole bundle.

So if you try to buy all the bonds that are in the basket of h y G in the portfolio, it would cost you fifty basis points in transaction costs. But h YG is a penny. That makes sense because I don't have to go do all this nuisance value of doing all those things up of the orders in h y G. Uh It's like Eric, you sell me your shares and I buy them from you on exchange and nothing happens in the fund. That's why I think in the hindsight, the Louisiana purcha, if you will, was

so genius. It's because bond guys looked out and said, wait a second, there's a better way, and it looks more like an equity right, like we can go get It stems from the fantasy though, of the complexity of the bond market. It's it's a fantasy like it really is. And I think it's more people talking their book than it is truth. Like we've known forever in the equity world, when we twake twenty three countries and ten currencies in em and we put it into one composite security like

in et F, it trades with lower transaction costs. Shouldn't the same be true for bonds? I think so one question I have, right, you guys have something that I call the foreheaded monster, and I really we talked about the portfolio of the future. You have i VV, which is SPI, i MG which is emerging markets, i f A which is developed international, a g G, which is like your total bond. That's really a pretty good portfolio for most people. What do you call it, I just

call it the core of the core. Yeah. I I try to decorate my we start twist some stuff because I gotta get readership anyway, stuff and not mine erica. So this fourheaded monster just takes in cash like crazy. I think the all end fee for this portfolio will be about seven or eight basis points. Somewhere in there. Other issuers have these core that are very similar, we

call the core wars. If this is the portfolio of the future, some people on Twitter come back to me and say, if everyone's in the same portfolios that are just like this, that could be a problem in terms of crowding for investors. So what do you say about this concept of everyone using this is the portfolio of the future. So, for one, I think there's there's lots

of great ideas about the portfolio of the future. So and even simpler portfolio would be like I t ot the total stock market index at three basis points I x U S, which is IFA plus e M, and then agag those four tickers at a blended rate of five, four or five basis points. Would get you basically the

efficient market hypothesis in one shot. And I'd argue that that's kind of the way institutions haven't been investing since the early nine seven these and so that market doesn't actually look very different than the institutional market looks today. It's just implemented in ETFs um in terms of it being much much bigger. There is so much room to grow, Like if I really take all of the global equities, like the entirety of stock and bond market cap in

the world, Like, let's just talk about the US. In the US, there's twenty four trillion dollars of market cap in the Russell three thousand, right, if I take all the equity E t f s, like we're you know, one twelfth of that, right, where this teeny tiny sliver, So there's just ample room to grow. The second is all that stuff is already in those exposures, right, it's

just in different rappers. So the migration of assets from one rapper to another rapper in the mutual fund industry doesn't actually change any of the nets supply demand dynamics for stocks. So I think it's wholly irrelevant where assets are located. What matters is what's the velocity of trading, and is turnover relatively high um of daily volumes and US equities is not done by E t F or

index funds. Right, It's people doing stock picking. It's my mom and her pajamas and her Fidelity accounts to trade pajamas. It really loosens the spirit up. People are more uninhibited then. You know, Um, I want to talk a little bit about this idea of that do it yourself retail investor. How many of those people are the new day traders? You remember the nineties, the day traders were their retail

investors doing Oracle and Microsoft. Some data is showing that now they're using E t f s to do that day trading. Do you find that to be something? And I guess part of that that that feeds into Jack Bogel's criticism movie TS, which is they tempt people to trade too much and thus you lose money. Yeah. So the there is no doubt that day traders, active asset allocators, and even like active mutual fund managers are using beta building blocks to run asset allocation portfolios or to make

tactical calls on markets. Uh. And if you were to look at Fidelity, E Trade, Interactive Brokers, t d Amritrade, SWAB, all of them have places where people are are using e t f s alongside so goal stocks in order to take views on markets. Uh. In fact, if you looked at something like t d A S Think or swim platform, you're seeing listed options volumes on e t f s go up as well. Um. All of which is to say, Um, these are more instruments for people to take market views on, and that just makes for

a more efficient market. It makes for more price discovery tools. As far as the frequency of trading, With all due respect to UM, you know, one of the godfathers of our industry, it's just not right and the data doesn't bear it out. And I know people love to quote it, but it's just absolute fiction. Okay, So what does the future look like for I shares? Because you talked about what was an eight of the equity overall equity market. How how will I shares grow? I think we're gonna grow, uh,

predominantly for for three reasons. And I'd argue that these are all structural forces. They're like inexorable, they're indelible impressions, like they are changing, like people are changing the way they're doing business. UM. So if you're a financial advisor, you are moving your practice, to fee based advisory and to asset allocation portfolios. The e t F is the

ultimate building block at low cost for that. If you're an institutional investor, you are finding ways to simplify your operations and you want to be able to trade in a friction lists, transparent on exchange electronic market. The e t F is ultimately a great engine for those things. And then finally Um and Eric talks about this sometimes we're going through. What I'd argue to do is like

that the beginning of the golden age of indexing. So when I talk to people about indexing, people immediately think market cap weighted indexing, and market cap weighted indexing is great, right, it actually does tell us something about the depth breadth investable opportunity set in the market. But like God did not hand down market cap weighted indexing on the tablets of SINAI is the only way of doing an index. And so we're going to see this pulling apart, this

unbundling of things that can't be indexed. I'd call that alpha from things that can things that can be subjected to a set of rules. And that's where I think factory t f s and smart beta comes comes in, which is I know how to index the value premium. It's just a set of rules about price to earnings, price to book, and enterprise value to ebada. I know

how to do a quality screen. And so as we give people more of those building blocks, I think what you'll he is a portfolio of the future that has fifty six market cap weighted indexing, it has fifty uh sort of persistent risk premium like factors, and then we'll have a bunch of stuff that can't be index market timing, stock selection liquids. Uh. That to me looks like what

the most sophisticated institutional portfolios are doing today. Speaking of institutions and their portfolios, one of the frontiers that has not been sort of captured by e t s. They haven't figured out how to do it is real assets or private equity or venture capital. His is less companies stop going public. A lot of people are saying this is where investors are going to have to stay private

longer or stay private longer. Um. Is there any way for e t s to capture it, either by you or if you could speak out of the ice shares brand. Is it possible for anyone to do it even in E T N could this be done? There is so much white space and indexing it's actually incredible. There's just huge swaths of the marketplace that we haven't touched yet.

Real assets is definitely one. Uh. There are some products in Europe that have tried to sort of mimic, through public equities and inflation portfolios, the behavior of real estate over long periods of time. I think we're early days on that, but we are deep in the innovation and research lab that I share is right now working on public markets proxies for traditionally private exposures. So if I told you I could give you eighty five percent of the return of venture capital at one of the price,

would you be interested? Like I think the answers category I want to go. It's like Bell labs, do you absolutely right? Yeah? Which trends don't get talked about enough? I think it's two things, uh. The first of which is the replacement of derivatives by E T F s. I never see people write about this stuff, but futures cost ten to fifteen times more than ETFs, like in the SMP five hundred, and we're starting to see that migrate.

The second thing is taxes. People just don't think enough about net after tax returns, and we write a lot about expense ratios. We were at a lot about transaction costs, but I think people really don't think about the implication aation of taxes, and it is really one of the I think most attractive and compelling features for a taxable investor of exchange traded funds. And I share our funds plus haven't distributed a capital gain like ever. And one question I could ask a lot is when's the first

free et F gonna come out? Now? My answer usually is look at tracking. There are some that use SEC lending to actually give you back a little basis points and therefore it is free already. But moving that little technicality aside, it will we see a zero point zero percent expense ratio in the next couple of years. I have no doubt that people will launch them because they

have other revenue models. So if, for example, you have a customer facing retail brokerage platform, you might launch zero fe E t fs in order to bring people in your system and monetize them another way, like you might take the cash that sits in your brokerage account and invested at a spread in your bank. I have no doubt we'll see zero f ETFs. You're not going to

see them from my shares at one. I think we will continue to reduce the cost of investing, but everybody has fixed costs at the end of the day are fixed. Us are much lower than many other people's because of our scale and the breadth of our platform, our use of technology. So we added two hundred and seven billion dollars of new assets and U s I shares last year. I didn't grow the expense line by uh you know

that that level either. So we have lots of scale to continue to grow our business pass along savings to to our clients and shareholders. But at the end of the day, I got no plans to offer a zero FtF. And what I'd say is, you know, of the industry is starting to consolidate in like two to three players um, which has been true for the last three or four

or five years. But at the end of the day, our business is going to look more like cloud computing or cell phones in industry structure, which is if I ask you guys, like what phones do you have, Everyone's gonna tell me Verizon, A T and T there'll be a couple of people who have sprint in T mobile, but like that's going to serve the market. Unlike other industries where you have a relative industry consolidation, the two biggest players are driving pricing down not up, which is

I think a good thing. But we both have fixed costs at the end of the day. Uh, and we go a floor. There's a floor. Like there's an equal I would call it an equal liberty them at which we need to maintain uh discipline about quality of service. As Eric said, like, our paramount objective is tracking our portfolios and tracking our indexes, deploying material amounts of capital against the index and realizing the published return. If we

don't do that, we're out of business. What's your last question? I want to talk about your music career. I failed music career, that's what you mean. One of my friends that I shares, Kate Bernhard, sent me a picture. If you want to look forward to working for Kate Burnhard one day, I'll tell you that you gotta meet Kate. She's great. Um so she's a singer. That's her sort of slash career. She's performed a lot. She's really great. She sent me a picture of you on stage. What

instrument do you play? What kind of music do you like? We love talking music metaphors here, and do you play regularly? So I have been I've been a guitar player since I was nine ten years old, and my plan was to stay in school and go to I went to law school mostly to kill times so I could try to build my music career. Uh And I don't tell my parents. Uh And so I I did a lot of work in trying to build bands and a recording career,

and uh we did, okay. I had a band. I played in two bands at the time, sort of through college through law school right afterwards for a number of years. And then I just discovered that, uh, I just wasn't good enough at it. But I love playing. I love playing guitar. I played guitar almost every day. I'm an avid guitar collector. I won't tell you how many I have, but it's a lot. Uh and how many it's a lot? Uh, it's a lot. And uhlet acoustic, both electric and I

have a particular band. So I collect a lot of the things that I lusted after when I was like thirteen. So I collect a lot of arena rock guitars from like Winger and Slaughter Metal. I like to call it arena rock hair metals. That's a little cooler. But for example, I owned four guitars for guitars from Can you name the guitarist of Winger? Uh, Kip Winger? No, he was the singer and it was named after him, Red Beach,

Red Beach. He went on later to plan Docking. I don't know Dock and he had played with Chuka Khan early in his career, but I owned four of his guitars, so I think they're super of his. Yeah, let's do the math. You probably own twenty. I'm I was gonna go, is it more than fifty? It might be Wow, we're gonna have a concert. Is a high probability that it's more than fifty? Okay? My last question if that was his, what is your master plan? What is my master plan? Uh?

You know? For me, I know this will seem boring, but I have never really planned out my career. I never have. I started my career as a lawyer. I wound up being rather interested and obsessed about the intersection of capital markets, balance sheets, and regulation and everything I've done in my career has been about that and so long as I get to keep progressing, keep learning, like in that area, I get super motivated to go to

work every day. And the other thing is, um, I just I really do enjoy being around people like I like getting to know new people, and the E T F business is just such a great place to go out and meet financial I was in Atlanta yesterday. I met with advisors at Morgan Stanley, at ub Said Balantine, the r I A. I went to a whole bunch of places just to talk to people and learn about

their clients, their business, their problems, their challenges. Um to me, it's like one big puzzle and nothing makes me happier in this business. Like flows are great, you know, but changing somebody's mind like that, that's my mission. If I can just change your mind about one thing, I get

super motivated about that. So at the end of the day, I really like to convince everybody that, like everybody should be an index investor, Like if you're not indexing some part of your portfolio, like you just haven't arrived yet. Martin Small, thanks for joining us, and Trillion, thanks for having me. It's great to be here. Thanks for listening to Trillions until next time. You can find us in the Boomberg Terminal, Bloomberg dot com, Apple Podcasts, and wherever

else you listen to podcasting. We'd love to hear from you. We're on Twitter. I'm at Joel Webber Show, He's at Eric Baltunas. Trillions is produced by Magnus Hendrickson. Francesca Levie is the head of Bloomer podcast by