The Great Depression and The Rise of BlackRock
Introduction
The story of BlackRock, the world’s largest asset manager, is deeply intertwined with the history of the mortgage-backed securities (MBS) market in the United States and the 2008 financial crisis.
This article delves into the relationship between Larry Fink, his team at First Boston, the introduction of MBS, the 9/11 attacks, the great depression, and the rise of BlackRock in the aftermath of the crisis.
Larry Fink and First Boston
Larry Fink began his Wall Street career in 1976 at First Boston, a New York-based investment bank. He was placed in the bond-trading department, where he primarily traded mortgage-backed bonds due to his real estate knowledge. By 1978, Fink was running the department and had become a pioneer in the MBS market in the United States. Fink’s success at First Boston was significant, with some estimates attributing $1 billion to the bank’s bottom line. During his tenure at First Boston, Fink worked closely with other industry leaders, such as Lewis Ranieri, to develop the MBS market.
The Introduction of Mortgage-Backed Securities
Fink and his colleagues at First Boston played a crucial role in the development of the MBS market. These securities allowed banks to pool mortgages and sell them to investors, providing a new source of funding for the housing market. The MBS market grew rapidly, with trillions of dollars’ worth of securities issued by the mid-2000s. The securitization of mortgage debt, particularly subprime mortgages, in MBS and collateralized debt obligations (CDOs) played a significant role in the 2008 financial crisis.
The 2001 Attacks and the Falling Federal Funds Effective Rate
The attacks on September 11, 2001, had a significant impact on the U.S. economy and financial markets. In response to the attacks, the Federal Reserve took swift action to stabilize the financial system and prevent a potential economic collapse. One of the key measures taken by the Fed was to lower the Federal Funds Effective Rate (FFER). The FFER fell from 6.5% in 2000 to 1% in 2003.
This decline in the FFER contributed to lower borrowing costs for banks and other financial institutions, which, in turn, led to an increase in the demand for mortgage loans.
The growth in mortgage lending during the period between 2001 and 2007, led to a massive rise in the issuance of mortgage-backed securities (MBS).
The 2008 Financial Crisis and the MBS Market
The 2008 financial crisis was closely related to the MBS market in the United States. As housing prices began to fall, mortgage delinquencies soared, leading to enormous losses on MBS held by Wall Street banks. The rise in mortgage defaults undermined the value of trillions of dollars of mortgage-backed securities, severely disrupting the securitization funding mechanism. The crisis exposed the weaknesses in the financial system and the risks associated with the MBS market.
BlackRock’s Rise in the Aftermath of the Crisis
BlackRock, founded in 1988 by Larry Fink and seven partners, was well-positioned to navigate the turbulent financial landscape following the 2008 crisis. The company’s focus on risk management and its expertise in the MBS market made it a valuable partner for the US government, which contracted BlackRock to manage toxic assets from firms like Lehman Brothers and Bear Stearns. This partnership demonstrated BlackRock’s ability to adapt to the changing investment landscape and solidified its position as a global leader in asset management.
The crisis also led to a massive shift from active to passive investment strategies, as investors sought more cost-effective and reliable investment options. Between 2008 and 2015 investors sold holdings of actively managed equity mutual funds worth roughly U.S. $800 billion, while at the same time buying passively managed funds to the tune of approximately U.S. $1 trillion — a historically unprecedented swing in investment behavior.
The growth of exchange-traded funds (ETFs) fit the post-crisis investment psychology well, as they allowed investors to diversify their portfolios and reduce individual stock risk. BlackRock capitalized on this trend, becoming a dominant player in the ETF market and further solidifying its position as a global leader in asset management.
BlackRock’s Relationship with the US Government
BlackRock’s close relationship with the US government has been a key factor in its success. The company has been involved in various government initiatives, such as managing the Federal Reserve’s $120 billion per month bond-buying program as part of its pandemic relief program. This preferential relationship with federal regulators and presidential administrations has allowed BlackRock to serve as a channel of influence on the corporate world and has contributed to its growth as a dominant player in the asset management industry.
Conclusion
The rise of BlackRock is deeply connected to the history of the MBS market and the 2008 financial crisis. Larry Fink’s experience at First Boston and his role in the development of the MBS market laid the foundation for BlackRock’s success.
Together with Vanguard and State Street, Blackrock holds a majority of all shares in 88% of the S&P500, with Blackrock also holding >5 percent blocks in more than 50% of all ≈ 4,000 listed companies in the United States.
The company’s expertise in risk management, its ability to adapt to the changing investment landscape following the crisis, and its close relationship with the US government have solidified its position as a global leader in asset management.
