Larry Fink’s private index dream may be holy grail
The author is a Reuters Breakingviews columnist. The opinions expressed are his own.
By Neil Unmack
LONDON, Sept 19 (Reuters Breakingviews) -BlackRock’s BLK.N status as an asset-management behemoth stems from the success of passive investing, where customers buy an index rather than picking stocks or fund managers. It’s therefore notable that founder Larry Fink sees the chance for a similar revolution in alternative assets like buyout funds. His chief financial officer even said that private-market index products could be one of the most attractive opportunities in the company’s history. The reality, however, looks more complicated.
Fink’s recent $3.2 billion purchase of private-markets data provider Preqin raises a tantalising idea. Could BlackRock, which is synonymous with the rapid growth in index products like exchange-traded funds, repeat the trick for private equity and direct lending? Fink has talked up the potential for indexing to aid the “democratization” of private markets.
There’s lots at stake for BlackRock, whose index business now manages around $5 trillion of assets. One problem facing Fink’s core business is that public tracker funds are increasingly commoditised and low margin. Meanwhile, the companies who compile the underlying benchmarks, like S&P Global SPGI.N and LSEG’s LSEG.L FTSE Russell, gobble up a large chunk of the fees.
Private markets offer Fink the chance for an even rosier future. Assets under management across private equity, infrastructure and private debt hit almost $12 trillion last year, Preqin data shows. BlackRock’s purchase of Global Infrastructure Partners helps it tap into that potential. The more transformative opportunity, however, is using Preqin’s granular fund-performance figures to create private-market benchmarks, in turn allowing Fink to sell broadly accessible index products without having to pay someone else for the underlying data.
There are already a few private indexes available from players like Morningstar’s MORN.O PitchBook, MSCI MSCI.N, as well as Preqin. Yet they’re a long way from Fink’s dream. A common problem is patchy data. The process of building a private-market benchmark typically involves arduously gathering the performance of individual funds, either by persuading buyout barons and the underlying investors to share it willingly, or through freedom of information requests to public pension funds.
Preqin’s private-asset indexes, which track over 14,000 funds, give Fink an edge in this regard, because it’s one of the most comprehensive datasets. Yet none of the benchmarks are perfect. Scouring investors’ performance reports inevitably means missing some funds, while private-capital managers may not want to share data on bad vintages. And there’s no common standard for handling tricky questions like when to drop a fund from the index if its reporting becomes infrequent.
Turning the indexes into investable products brings further difficulties. Public tracker funds typically buy the underlying assets they’re supposed to track, which isn’t easy with closed-end buyout vehicles. Admittedly, there’s an increasingly lively secondary market for private fund stakes, but it’s still extremely illiquid relative to listed stocks. Sellers often swallow double-digit percentage discounts to face value. The upshot is that index mutual fund and ETF-style vehicles, which rely on market-makers trading the underlying securities on a daily or intraday basis, aren't always suitable for Fink’s quest.
Derivatives might offer a solution. For example, investors could speculate on buyout returns through futures contracts linked to the performance of a private benchmark. Some real-estate futures markets and cash-settled commodity derivatives work in a similar way. Several players are currently working on similar products for private assets, industry sources told Breakingviews. They might in theory appeal to wealthy individuals who otherwise struggle to get money into private funds.
But for the market to work, someone else would have to take the other side of the bet. It’s not clear who that would be. Much of the money in private equity and private credit comes from pension funds and insurers, who are keen to avoid daily price fluctuations. The risk is a thin market. U.S. housing futures, for example, recorded just $15 million of trades on the Chicago Mercantile Exchange this year.
Reporting standards would also need to step up a gear for the derivatives products to work. Currently, private funds disclose information every quarter, whereas a widely traded index would need something closer to monthly or even weekly updates to stop valuations becoming stale and trading flows drying up. It would arguably be possible for Fink’s or a rival’s analytical whizzes to fill in the data gaps by inferring fund performance from public-market comparables, like stocks for private equity and broadly traded loans for private credit. Yet that would require a leap of faith from index investors, who would essentially be investing in the index valuer’s assessment of the likely returns, rather than the reality.
Despite the challenges, the possible prize on offer probably justifies Fink’s effort. Currently, private individuals account for just 16% of the money allocated to alternatives, according to Bain & Co. Creating a more transparent and easily accessible set of index products could invite a flood of new cash.
And private markets are slowly moving in a direction that may help Fink’s dream. Blackstone BX.N, KKR KKR.N and others have been launching so-called evergreen funds as part of their efforts to tap the workaday rich. Such vehicles have no expiry date and can report monthly valuations, potentially making it easier to construct indexes. Evergreen funds currently manage $350 billion across real estate, debt and equity, according to Preqin.
The rapid growth of private credit, meanwhile, is another helpful trend. That’s because leveraged loans are already widely traded, making them more liquid and therefore amenable to passive investing. Apollo Global Management APO.N is dipping its toe, by launching an ETF with State Street STT.N that will invest in public and private debt.
For Fink, it’s both good and bad news that the private-markets players are getting in on the act. More investment and marketing dollars will probably speed up adoption and help to create viable products. The downside of competition, however, is that BlackRock will struggle to attain the kind of rapid index-investing dominance that it enjoys in public markets.
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CONTEXT NEWS
BlackRock on June 30 said it had agreed to buy UK-based financial data company Preqin for 2.6 billion pounds ($3.2 billion) in cash.
On a July 15 earnings call, the asset manager’s Chief Financial Officer Martin Small said that the long-term opportunity was to create a “machine” to help build indices for private markets.
He compared the opportunity to the effect that public benchmarks have had on stock markets. “We think this opportunity to index the private markets is really one of the most attractive that we've had in the history of BlackRock”, Small said according to an LSEG transcript of the event.
Index products' multi-decade boom https://reut.rs/3B49yp3
Private markets' rising assets under management https://reut.rs/4dW9dDg
Editing by Neil Unmack and Streisand Neto
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