Speaker 1:
From the library of the New York Stock Exchange at the corner of Wall and Broad Streets in New York City, you're Inside the ICE House, our podcast from Intercontinental Exchange on markets, leadership and vision and global business. The dream drivers that have made the NYSE an indispensable institution of global growth for over 225 years. Each week, we feature stories of those who hatch plans, create jobs and harness the engine of capitalism. Right here, right now at the NYSE and at ICE's Exchanges and Clearing Houses around the world. And now welcome in Inside the ICE House. Here's your host, Josh King of Intercontinental Exchange.
Josh King:
When can I retire? It's a question that investment managers have long tried to answer and then work to prove that their products are superior to make your visions of that decade's long lakeside bliss come true. The trillions of dollars and life savings squirrel away from people across the world represents a large chunk of global assets that people put money to work while you don't need it and don't have it stuffed in your mattress. Supplies much of the capital that fuels markets across the globe. Investment managers try to compete on performance, price and process. But in the second half of the 20th century, a revolution was underway. For a long time, academics and their ivory towers looked down at financial analysis as something beneath them and not worth their energy. But this attitude changed drastically with the advent of modern portfolio theory about how markets functioned.
Josh King:
The world saw a renaissance of how intellectual discipline could be applied to understand, analyze and perhaps even beat the market. Slowly, those investment managers began taking that research and applying it to their products, creating new strategies and incorporating technology into how they analyzed securities. One of those revolutionary discoveries was born out of a simple idea that a broad fund that could track the full universe of securities might help investors reach their investment goals. The idea built on years of research and iconic classic individuals with eventually become the more than $30 trillion index industry that has become a ubiquitous part of Wall Street.
Josh King:
The index fund recently celebrated its 50th anniversary and its assets continue to climb surpassing hedge funds and private capital funds. It's proven to be the perfect subject for our guests book that dissects the game changing breakthroughs in finance that led to its creation, the wider adoption of technology to support it and the larger than life Titans behind the product. Robin Wigglesworth, the global finance correspondent for the Financial Times is a self-described semi-professional Norwegian, despite the Harry Potter-esque name and the author of the recently released Trillions. How a band of Wall Street renegades invented the index fund and changed finance forever. Our conversation with Robin Wigglesworth on the history of the index fund, the iconic class behind its invention and the investment landscape is coming up right after this.
Speaker 3:
As the gold auction and also the LBMA Gold Price is the world's price for gold, particularly gold which is delivered in London. Four banks would travel to a room next to the Bank of England twice a day in to run an auction verbally. And it worked like that for about 100 years. When some of these firms moved out to Canary Wharf, they decided that actually it was too much to be sending people to the room. So they moved it to a phone call to buy and sell and establishing a price. IBA took over the auction in 2015, and we moved it to an electronic auction on the website platform. So it's fully audited to proper electronic liquidity window, a market, buyers and sellers can come together.
Speaker 3:
It still run as an auction in rounds of 30 seconds and the final price we use as the benchmark for the entire gold market. It's been extremely successful since we took over. Volumes have increased and they've pretty much more than doubled. And we've actually nearly tripled the number of participants that we have as well. And we publish the data transparently on our website so anyone can come and see what actually happened in the auction. And we introduced a centrally cleared model with ICE as the central counterpart, because that makes it much easier for new firms to join. It's up to 79% of the volume has gone cleared. This is kind of the pattern that ICE has seen through how different markets have developed, but normally that's takes 10 years whereas actually it's taken 10 weeks in the auction.
Josh King:
Our guest today, Robin Wigglesworth is the global financial correspondent for the Financial Times and author of Trillions. How a band of Wall Street renegades invented the index fund and changed finance forever, is reporting focuses on the biggest trends, reshaping markets, investing in finance and previously served as the FT's US markets editor, spearheading its coverage of financial markets across the Americas, deputy head of FastFT, capital markets correspondent and its Gulf correspondent. Welcome Robin Inside the ICE House.
Robin Wigglesworth:
Hi Josh, thanks so much for having me on.
Josh King:
You and several colleagues Robin, at the FT recently wrote a column focused on the West's response to Russia's invasion and including, it's really some of the harshest financial sanctions in boycotts, not only in finance, but in culture sport and travel. From where you sit, can you outline the severity of these sanctions and what removing the 11th biggest economy from global markets has meant thus far as you've watched it unfold?
Robin Wigglesworth:
Well, they take the cultural aspects first and they're the ones that quite often gather a lot of attention. I'm Norwegian, I love the Eurovision Song Contest, which is a big thing here in Europe, even though Americans never really appreciated it, to put it mildly, and getting thrown out of that was a big thing. Getting thrown out of FIFA, they're the world football Federation, Soccer Federation, was a huge thing as well. I mean, North Korea is still in FIFA, but that has kind of rolled into this broader cultural revulsion against Russia and Russians. That frankly, sometimes I feel might be tricky or even distasteful. Sometimes it seems to be that people want ordering Russians in the West, denounce their country, which for all sorts of personal reasons, might be very difficult to do. It reflects the scale of the transgressions that we've seen. This was a very naked 19th century style invasion of a neighboring country. Most of the time, even Russia's come up with some sort of not very plausible pretext, but at least some pretext here there wasn't really one.
Josh King:
I wonder if after Putin's crackdowns, your colleagues at the FT are still in Moscow. And I'm curious from a broader standpoint, you've mobilized to cover military conflict before, but how has the Financial Times newsroom transformed to cover breaking developments in Ukraine?
Robin Wigglesworth:
Well, I really can't talk about the on the ground issues, because there are all sorts of security issues around that. I can say it is, as you would expect, a majored event not just for people that cover Europe or the US or the State Department, but frankly the entire organization. The FT, we're a big global newspaper, but we don't have the staffing of some of the major news wise, but we tend to sort of flood the field. When there's a really big story, we want to do really well. And this is a story that has both geopolitical, economic and financial implications, global implications. I mean, just see what's happening in the entire commodity market complex now. So I think it's one of those stories where the FT can really show off the breadth of the global network, because this is a global story, even though the epicenter isn't in Europe.
Josh King:
You joined the Financial Times Robin, about 14 years ago, covering the Gulf as the Gulf correspondent. I'm curious, what drew you to the Financial Times and the move away from reporting on your more favorite Nordic economic and politics.
Robin Wigglesworth:
I think like most people, careers can be a little bit haphazard and not really planned out. And some people are very good at making plans. I wanted to be a journalist, a foreign correspondent, didn't know exactly why or how, but studied a bit of journalism, international relations and whilst I was working for The Guardian newspaper as a sub editor, just basically laying out stuff online, I saw job ad for a financial journalist in Dubai and I studied at the middle east. I knew the square root of zero about finance. But one of the great things about journalism is that you kind of have a license to talk to interesting smart people and sometimes some really boring evil people as well, sadly, but most of the time smart, interesting people are willing to share of their time to explain something to you.
Robin Wigglesworth:
And the day after I landed in Dubai, I was talking about it to a local sheik about Islamic reinsurance, which is as wildly exotic as you can imagine, but I fell in love with it. I loved figuring stuff out and learning things. It's like being a permanent student, basically. And especially finance, I think more than almost anything, it just changes all the time. The markets are just a brutal volatility machine that just throws out fascinating little things and developments all the time. And we see these professional investors get humbled year after year, decade after decade, because the markets are so fickle. So I love that fundamentally. When I joined the FT, I was a broad Gulf correspondent. I even got to be a war correspondent briefly in Libya during the civil war there in Bahrain, little bit Egypt, but finance was kind of the first cut. And the first cut is the deepest, Cat Stevens said. And I've kind of stayed there ever since.
Josh King:
I mean talking about figuring stuff out and learning things, when you're in Bahrain and Libya, you're in the middle of the Arab spring. I mean, although the protest movements were each unique in each country, there was this common thread to end corruption and promote democracy. What was it like to be in the heart of those movements? I mean, if you're an old film buff like me and you watch Mel Gibson in The Year of Living Dangerously, that's what I imagine it might have been like.
Robin Wigglesworth:
Well it varied a lot. Bahrain had a weird feeling of a sort of undeclared civil war. So you just felt like you went down the wrong street, you might end up with somebody who really, really didn't like foreign correspondence there, or another street where they absolutely loved you there. So this was mostly the sheer opposition and generally, most people like being loved more than they like being hated. But you have to as a journalist, you don't pick sides, you're there to report what's happening and to analyze it. I mean, this is what the FT tries to bring to the game, is not just saying coldly, ABC happened, but trying to add the context around it in a nuance way.
Robin Wigglesworth:
Libya was fascinating. I mean, the sad thing is the reason why quite a lot of journalist dream of being war correspondence is it is glamorous. And in some respects, it's dangerous but the stories are quite often simple. Like the drama you don't have to kind of... you kind of have to flimflam it up, like when you're covering like a Civil War in Benghazi and the fights and the political machinations around that, you don't need to sell to read as why this matters really. I think in finance, quite a lot of people end up getting very nichey. Like they have their little thing and they write for their sources.
Robin Wigglesworth:
And that's well and good, those sources need good journalism as well, but the best journalism is quite often when you take something really recondite something happen in the guts and the ins of markets and explain why that matters to a more general audience. I think that's maybe why financial journalism in some parts, I think the FT did a really good, excellent job. But before the financial crisis, didn't really kind of spend time getting stuck into the in its and explaining how this all worked. So I see sometimes like parallels between critics of untangled the tribal allegiances and politics of post-Civil war, Benghazi and Eastern Libya with modern capital markets. But they can get a little bit fanciful. They were very different fields.
Josh King:
So let's now turn to your new book, Trillions Robin, in the acknowledgements, you thank your sources for the time they spent going over the many details that make up a book about indices and make it so compelling. What was the impedance for writing the story? Talk about simplicity as simple as a call from your agent Lea after your 2018 passive attack piece.
Robin Wigglesworth:
When I first arrived in the US as the US market editor for the FT in 2015, I started to think about what stories, what angles, what themes I really want to own because at the FT, we can't cover absolutely everything. If we have to cover the stuff that's important, I don't ignore federal reserve meetings. So even though everybody covers that, you still need to do a good job there. But you look at for the things that might get ignored, either because they're too complicated or seemly too relevant or boring. And for me, the rise of index funds or passive investing was such an obviously great story that was being undercover outside certain specialists, because you didn't have these Imperial hedge fund Titans. You didn't have people really.
Robin Wigglesworth:
That was the impression that a lot of people had but well, they're just algorithms and they're growing quickly but how many times can you say it's growing really quickly? But I felt that first of all, the people involved in the industry were hugely interesting. And this trend was so mammoth that it needed for at first, a magazine feature explaining how the industry was born and why it grew so quickly. And then my agent got in touch and said, "You should really turn this magazine piece into a book," and she kind be shopped around a manuscript and penguin kindly dibbled, but it was just the size of the thing. I still think to this day, people don't really appreciate, like even the critics of passive investing don't really always appreciate how big it is.
Josh King:
I mean, talking about the size of the thing Robin, your book is replete with these illuminating anecdotes and cameo appearances from both industry and non-financial Titans and like for example, I think we get a brief allusion to Larry Bird when learning about dimensional fund advisories, Dave Butler, he was almost drafted to the Celtics or about the Barbs traded at Jack Bogle's Christmas dinner party. How did you go about mining all of your sources for this book?
Robin Wigglesworth:
One of my favorite quotes in from Isaac Newton, not to compare myself to him, but even he said, when somebody was lading his discovery of gravity that, he said that if I've seen further, it's only because I stood on the shoulders of giants. And for me, that was a lot of people like financially sowers, like Bernstein, Peter Bernstein, who'd done God's work in a lot of the early years. So I had the skeleton of what was going on and I knew it was an important story and there was it. I knew it was a pretty decent story, but then you talk to everybody involved to try and really bring it to life, almost give it this cinematic treatment to see that color that can really kind of make sure that you actually are willing to spend in time book on something.
Robin Wigglesworth:
Everybody is pressed for time these days. And I feel like if you are actually asking somebody to buy an entire book about a subject, you try to make it compelling. And if you can find these little sort of tidbits that bring it to life and make sure that people realize, yes, this is an important financial development, but it's also fundamentally about like a disruptive technology and the people that invented it and fought against it and how they kind of finally triumphed in the end, it's kind of a familiar tale really that you see in a lot of other business books and my unlikely protagonist just happen to be the index fund.
Josh King:
The book does a really great job of showcasing how financial breakthroughs build on one another to eventually culminate in what is today, this more than 30 trillion industry that I'd mentioned at the outset, I guess the first really pivotal person in this story is as you call him, the intellectual godfather of index funds, Louis Bachelier, whose research helped show that markets followed this stochastic or random movement who may have been relegated to the Dustin of history, had it not been for the faculty at UChicago, why was this 19th century Frenchman the starting point of the index fund?
Robin Wigglesworth:
Well, I think it's because how his ideas after he passed away, managed to spread among some very influential economists in the US. So, I mean, he's one of my favorite characters from my book, even though I never obviously got to interview him, he passed away long time before I was born, but I have a soft spot for people that die in obscurity and their genius is only recognized after he pass away. And he came from a fairly wealthy family, but then suffered a series or tragic misfortunes. So he was born into a sort of a banking and wine merchant family in France and he was going to study a mathematics at the Sorbonne because it was a brilliant mathematician, but then his parents died very quickly and he had to abort that to go back to take care of the family business at the age of 18 and take care of his sisters.
Robin Wigglesworth:
And then when finally the family business was kind of studied, he went to go study, but then he got called up to the French army for prescription because of wars with Germany and pensions with Germany or pressure at the time. So he only made it to the Sorbonne pretty late in life. And unlike many of the other people that studied there, he did not come from great wealth. So you had to get a part-time job working as a clerk on the Paris Stock Exchange, and that sparked interest in finance, but he was primarily a mathematician and he showed how this sarcastic movement happened. He calculated it out and also made certain observations that today seem obvious, but at the time were kind of revolutionary. That obviously for every buyer of a sock, somebody selling it, presumably they both think they're getting a good deal, right?
Robin Wigglesworth:
So at any given time that price is probably the right one otherwise other people will be bidding it up or bidding it down. As an aside, he never talks about efficient markets, but just mathematical equilibrium. But a lot of like the work he did was reasonably well known French mathematical circles, but he didn't get the top grade. He didn't get the très bien grade that you needed to get tenure in France. So he bats between jobs and died in obscurity. And he was only frankly, this guy, Jimmy Savage, who was this brilliant statistician, I think he worked on the Manhattan project actually in the '50s, discovered his PhD thesis by chance and sent a post to one of his best buddies who was Paul Samuelson, who was the rockstar of economist of the American establishment even then and later on people still read his textbooks.
Josh King:
So no très bien for Louis, but the modern intellectual impetus really sprang from the efficient market hypothesis, the brainchild of Gene Fama from near my hometown in Malden, Massachusetts, who was trying to figure out how to forecast where the stock market would land. What's the theory. And why does it remain actually still controversial today?
Robin Wigglesworth:
Well, so to be keller, you can draw a line from that to what was then known as random walk. So this was the random walk theory that Burton Malkiel made famous in the Random Walk Down Wall Street. And essentially was the observation that stock seemed to move at random. Gene Fama took that 20 steps further and built an entire fully fledged, not just a model for markets, but really almost frankly, a model for how to think about the worlds in the idea of a Phish markets. That I think sometimes people misunderstand sometimes intentionally because of the name or the word efficient that they think efficient means perfect.
Robin Wigglesworth:
That's not what Gene Fama's ever said, but it's kind of a description of how they work and that all the time, and there are a lot of participants that are constantly baking in new information and bad information into the price of financial security and markets can do dumb things, but it's very hard to know before the fact when they're being dumb or when they're being smart. And Gene Fama was the guy that really sort of helped supercharge that. And he was told about Louis Bachelier because of another mathematic and French Polish mathematician called Benoit Mandelbrot brought to briefly taught at the universe of Chicago and was a bit of a mentor for Gene Fama, a young Gene Fama in the '60s. That intellectual lineage helped inspire the first practitioners that really set up the first generation of index funds in the '70s.
Josh King:
And as we get into the '70s and one of the central characters in the story Robin, is Jack Bogle, the founder of Vanguard, who you devote, I think about three chapters, to and also makes several other appearances throughout the book. But Bogle wasn't always a proselytizer for index funds, but as Jack [Ranby 00:21:07] observed, there's nobody more religious than a convert. Can you chart Bogle's journey from criticism to near messianic devotion?
Robin Wigglesworth:
Jack Bogle was a man with just ridiculous drive. And it came, I think, from personal challenges in his family. So he was born into a wealthy family that then almost he immediately lost all that wealth in the great depression. Basically, the father became an alcoholic and left the family, was pushed out of the family and the mother, they kind of managed to state of middle class ish, but they had to share a small house and they could only afford to send one of the three Bogle boys to university. And Jack Bogle was the smartest one so he got to go, he has best grades, so he got to go to Princeton. But imagine what that does to you, that you are the one brother chosen. I mean the amount of pressure that's put on you is incredible. But he worked incredibly hard through Princeton, got good grades and then wrote his sort of thesis on this new hot, new trend that was kind of erupt in the '50s called the mutual fund.
Robin Wigglesworth:
This was a fast growing, but it's still pretty small industry at the time. And he wrote his thesis on that. And that thesis caught the eye of a guy called Walter Morgan, who was a founder of Wellington, one of the biggest mutual fund groups in America at the time and still is. And that's why Jack Bogle, he became a wonder boy of the traditional active asset management industry. And in this 1960, when you still sort of a senior vice president there, there was some academics out on the west coast that almost casually proposed a market portfolio fund. Not because in the markets were Phish or anything, but purely because there was so much choice out up there it might just be easier to have a market portfolio for investors. And Jack Bogle writing on the pseudonym, just completely crapped on the idea in the financial analyst journal and basically said, this is the most ridiculous thing in the world, because everybody knows that big active managers over time beat the market. Which is pretty incredible given that what we know what Jack Bogle later became, right?
Josh King:
I mean, you're right that Bogle and Vanguard would go on to help millions of people secure their comfortable retirements and become one of the most destructive forces in the annals of the investment industry. Why was the democratization and proliferation of the index fund so critical to Vanguard success?
Robin Wigglesworth:
Well, the first iterations of index funds, weren't actually mostly funds. There were sort of separately managed accounts and portfolios on behalf of big institutions. So pension plans that, especially primarily the baby bells. So these were those are the AT&T Pension Plan System. And they were the biggest owners of stock in America and they could see. They had some internal data that they realized that they invested in hundreds of different mutual fund managers and they did a poor job. So indexing was primarily institutional revolution in the first almost decade. Vanguard started the first index mutual fund and it was a complete bomb. It was a just outrageous disappointment because frankly, it was a very hard sell to ordinary financial advisors and individual investors. When you invest money, it's hard not to dream to dream, you want to be sold the idea that these mutual funds can do incredibly well.
Robin Wigglesworth:
As Ned Johnson once said to the Boston Globe in sort of when he was asked about Vanguard and this idea of index funds, he said, "The name of the game is to be the best." And I think especially in the US, the idea of just buying the market average just seems lazy. It seems like giving up. The name of the game in the US is to be the best. And if you don't want to be the best then just give up. It struggled just culturally as well with the ordinary investors. And that's why the index fund that Vanguard launched was kind of an abysmal failure for quite a while. And it wasn't really until the late, probably the mid-late '80s and especially '90s, that things really started to take off and Bogle kind of became the person we now know as the huge zenith, the ayatollah of passive investing.
Josh King:
After the break, Robin Wigglesworth, global financial correspondent for the Financial Times and author of Trillions. And I will talk about this active versus passive of debate, the investment landscape and where the future's headed. And that's all going to come up right after this.
Speaker 5:
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Josh King:
Welcome back before the break, Robin Wigglesworth, the global financial correspondent for the Financial Times and author of Trillions and I were talking about the macro factors moving markets now, and his career. Robin, the debate surrounding active and passive management remains heated. You spoke about this during your talk at Fordham's Centennial Speaker Series, what's the state of the industry and how should investors think about that discussion?
Robin Wigglesworth:
Well, I do think the debate has evolved. I mean, for the first 50 years, it didn't really change that much. It was a very sort of active manager hated passive or laughed it. And then they used to argue that obviously this is stupid, but now the data is so irrefutable that the argument even from died in the war active people, is that passive has a role in a portfolio that active has as well. It's active and passive. And frankly, I do think that is true. And even though I've written a book about index funds and I think it's one of the most hugely beneficial inventions that's come out of the finance industry over the past century, I don't think markets are efficient. I think there are active managers that can and do over time, beat the markets. And it's not just luck because I do think it's a lot harder than most people realize and maybe some active managers realize.
Robin Wigglesworth:
And I think that people are really good at it, hence they charge a lot for their skill or they have very hard capacity constraints. And you can literally go through the top performing hedge fund managers through history. And I think basically none of them are open to new investments and continually return the money they make at the end of every year, most of it every year. Which I think is pretty tallying, the smartest people, the people are best at doing this are saying there is limited alpha out there. I think we are still going to see a lot of money flow into passive. The arguments will go, it'll be nuance and nuance, it'll continue but broadly speaking, the trend errors are pointing one very clear direction, and I think that's not going to change. And it's just going to broaden out into other asset classes. Like fixed income we're seeing a lot of movement now.
Josh King:
So indices, the first of which were haphazardly and infrequently compiled by financial newspapers did not become a ubiquitous tool on Wall Street really until the roaring '20s. What value did the investment industry see in these benchmarks when they started to appear?
Robin Wigglesworth:
Well, zero essentially. They were curiosity. I mean, a way to kind of see what the market overall was doing, but nobody benchmarked against it. I mean, I tried to find, I found one old mutual fund perspectives from the '40s, I think. There was no talk of what the wider market did. And people primarily use these indices as kind of a way of measuring economic growth. Because this was the pre GDP days, even GDP hadn't been invented yet. People were counting railway cars and stuff like that. And the stock market was a pretty good way of capturing economic activity. So the Dow Jones Industrial Average is one of the oldest stock current indices in the world, but even there in the construction, you can see today why frankly that's a stupid index. It's weighted by price. So if a certain stock has a higher price, even though the company's way smaller, then a company with another stock has a high weighting in that index.
Robin Wigglesworth:
And also it also reflects that indices had to be compiled manually. I mean, the work involved in compiling with a slide ruler maybe, an index with more than like 30 members was just humongous. So indices were generally pretty small and very few of them luckily were price weighted. They were mostly market weighted. So that did start taking off in the '20s and '30s, but they weren't used and investors didn't think about benchmarking against them at all because frankly, people didn't even know what the long term return of the US stock market was. Sounds ridiculous yesterday, that right up until the '60s, nobody knew.
Josh King:
And then as we get into the '70s, I think it was Wells Fargo and John McLean started one of the first index funds, but that was only available to institutional investors. Like I think you mentioned the Samsonite pension fund that provided the seed capital for that first fund that attracted an equal weighted index of NYC stocks. Why were the efforts to bring these to retail customers so critical to the index fund's growth and success?
Robin Wigglesworth:
Well, this was still an era when Glass-Steagall, the post oppression era and regulation on banks, it was pretty strict. So Wells Fargo did try to launch a kind of a crossover fund that could be marketed, both the retail investors and institutions called Stagecoach, but for all sorts of reasons, it died a grisly death and never launched. There were other people that tried to launch it, but fundamentally, this was considered in the early years as something that just couldn't be sold to order investors. For the reasons that Jack Bogle discovered later and he launched Vanguard in '76, that order investors like being sold a story.
Robin Wigglesworth:
And until Bogle, there wasn't really a story to sell on indexing. And frankly, if you look at the first three pioneers of index funds and they're all institutionally aimed, they came to it through very different perspectives. So Dean LeBaron at Batterymarch, he was an active manager. He didn't think marks are efficient, but he fundamentally felt that what a lot of clients came in through door and asked for, was a low turnover, broad portfolio of diversified US blue chip stocks. And he felt that well, that's basically the S&P 500. So why don't we just set up a program that buys them automatically, and you sell that for a low price.
Robin Wigglesworth:
And Rex Sinquefield, that American National Bank of Chicago, he was an efficient markets believer. He was a protege of Gene Fama, Chicago, even he calls himself the ayatollah of efficient markets. And he believed that markets cannot be beat, which is why he... when he was at the trust department, the American National Bank of Chicago, set up or basically converted an existing fund into an index fund and used the S&P 500 as a convenient shorthand. And Wells Fargo, which got there first with this Samsonite account, it was frankly, they just wanted to research a better way of managing money. And their research showed that this was just a better way of managing money. So some of them were believers in efficient markets, some of them were not. Fundamentally, they just believed in the data and went where it took them essentially
Josh King:
One unnamed character that is ever present in your book Trillions, Robin is technology. I mean, you wrote at one point about how the IBM they were using at the time had about 250 times less processing power than the current iPhone, but the technology really proved critical to developing index and strategies and managing the portfolios. What role did technology ultimately play in this revolution to get beyond the side rule?
Robin Wigglesworth:
If the index fund is the lone ranger of my story, the computer and the computer errors, the tonto, it really is what makes this, I think, not just like an interesting financial story, but a fascinating technology stories. This was the first FinTech disruption, essentially in the investment industry. And a lot of the stuff that people realized there were a lot of people that had commented that for example, stocks seemed to move pretty randomly or that active managers or investment trust and mutual funds do a terrible job. People commented on this, but nobody was able to really correl the data and then crunch it properly before the advent of big hulking, but affordable mainframe computers in the '60s. So yeah, I see the computer as so the unsung star here. And the index fund kind of maybe a good example of how software eating the world is being paid out, but played out in finance quicker than many other industries, because essentially the index fund is just some software. And it was fancy software in the '70s, but today it's pretty much plain vanilla.
Josh King:
The American Stock Exchange, which was acquired by the New York Stock Exchange in 2008, became the home of the first S&P 500 index ETF, Spiders (SPDR). And you described the mechanisms behind it as similar to a warehouse receipt system, and that you can finance on that receipt. Why was this new rapper so important and attractive to investors and fund managers alike?
Robin Wigglesworth:
Well, it wasn't initially the attractive, but it became hugely so. I mean, fundamentally, it had a lot of legal hair on it because the way that the SEC interpreted certain rules meant that it counters a continual IPO essentially. So if you had somebody underwriting it, they have a fiduciary duty and it was messy. And I am very thankful that I did not work on the Spider team at the Amex State Street that did this. But essentially, it's just the ease of use. And I think that's why maybe the world wasn't quite ready for the ease of use, but this was the sort of beginning of the internet era as well and online brokerages were coming. So the idea of index funds had been around for them for a long time. And Nate Most who was the head of products development at the Amex at the time, he wanted to basically do something that saved the Amex to avoid getting eaten by NYSE or NASDAQ for that matter.
Robin Wigglesworth:
And tradable index funds was his idea. He thought this was a great idea. Bogle basically sent him packing. So he went to State Street and said that he had a big passive business. They saw that tradable warehouse receipt concept was what he came up with. That's how you can basically, you just trade the shares of this warehouse, which is the ETF that holds lots of stock and then you allow market makers, the specialists on the floor of the Amex to continue arbitrage and create and redeem shares, make sure that the share price of the warehouse matches the stock inside the warehouse. And there's money flows in, the warehouse buys more stock or sells more stock. And it's kind of ingenious, but complicated. But today, at the ETF, I think, is really a NextGen investment vehicle as a whole. It's not just passive, that's where most of the assets are. But I think one of the things that I've been slow to realize to my chagrin is that the ETF is far bigger than just an index for record.
Josh King:
You're right Robin, that BlackRock has in effect done for investing what Henry Ford did for the car, constructing a financial assembly line that produces products for investors more efficiently than anyone else. In BlackRock's acquisition of iShares highlighting the old Wells Fargo index unit coming full circle, it was really essential to its ability to build that scale and efficiency. Can you tell our listeners about the story of the BGI deal and how it reshaped BlackRock's legacy?
Robin Wigglesworth:
Well yeah, this is one of the big red lines that goes through the book because BGI was that the passive giant up until 2008, the financial crisis, but only because it acquired the Wells Fargo unit that had pioneered the first index funds many years earlier, but basically by 2008, it was this huge investment arm of Barclay's the UK bank. And Barclay's the UK bank was desperate to avoid a bailout that might mean that they couldn't pay bonuses if they had to take state money. So they decided to sell the family silver instead, which was BGI. Huge, massive, giant mistake. Unambiguously one of the dumbest sales, I think, in the history of the financial industry and the flip side, of course, one of the most brilliant deals in the history of the asset management industry for BlackRock. And yeah, so I talk about this factory and the factory was really BGI. The BGI had always been... had a west coast kind of culture about it. It was staffed with lots of former academics. It was very cerebral. They loved Socratic debate and they weren't very commercial necessarily.
Robin Wigglesworth:
So as part of Barclays had been forced to become a little bit more commercial, but I think the full potential hadn't quite been realized both on the classic index funds, but also the exchange traded funds unit iShares that they had developed to sort of take on State Street. Larry Fink at BlackRock realized the potential far better than frankly anybody else included certainly at Barclays and BlackRock has never been known as a place of like immense alpha or anything like that, but they have commercial mouse coming out the Yahoo. I mean, they are very smart, clever people, and they grafted their commercial sense and the strategic vision, best in class strategic vision with the investment factory of BGI. And together that has led to the BlackRock we know today that manages over $10 trillion, just astonishing amount of money. Two thirds of that is impassive index trackers.
Josh King:
In your introduction and your conclusion of Trillions Robin, you acknowledge some of the incredible benefits of the index fund, but also dig into some comments from its critics. And you wrote that the growth of passive investing will prove one of the most consequential challenges that we face in the coming decades, not just to markets and investing, but really to the fundamental way that capitalism works. Where should we net out on index funds and where might the index fund be in 10 years or so?
Robin Wigglesworth:
Until either day I die, I'll probably have discussions and arguments with people back to what extent index funds wreck the markets, or make them less efficient or volatile or whatever. For all sorts of reasons as I lay out in my book, I find many of them implausible on a macro level on a micro level, index funds are clearly so huge that they are leaving a footprint of markets. I don't think even fans of indexing are doing themselves a disservice by pretending that it isn't having an impact. I just think that impact is it contain the other investment vehicle. And a lot of the stuff that we blame index funds is just frankly, it's just a convenient bogie man for a lot of people. But I think the economics of indexing that the big naturally become bigger, leads us to some waring conclusions. So it already, there's basically an oligopoly in passive investing with State Street, BlackRock and Vanguard, utterly dominant.
Robin Wigglesworth:
And in reality, and we talk about a big three. I talk about a big three, but it's really a big two. BlackRock and Vanguard between them manage $18 trillion. And they're growing far quicker than anybody else. I mean, the Marcus Urban Flow will change things, but broadly speaking, we're talking about billions of dollars a day. So already they are the biggest shareholders of pretty much every major us company. And in the next 10 years, 20 years, 30 years, at some point, unless something meteor hits us, they're going to control the voting share of every major company in the US pretty much, almost all of them and around the world. And I think so far actually, they've handled this mounting responsibility in the power that accrues them with quite a lot of responsibility, given frankly, pushes and pulls. Some will want them to do less, some people want them to do more and nobody can decide what's the right or wrong decision.
Robin Wigglesworth:
But fundamentally the way this system has worked in models of stock markets, it's not that two or three asset management groups, maybe five basically control 50% of every major stock. It's not really set up for that. Now I think that could lead to good things, like maybe this will be a golden era of corporate governance. In the era of dispersed shareholders, maybe nobody had an incentive to manage these companies well, and actually maybe BlackRock is our new corporate overload as I call it and it'll be a benevolent one. But I can't help but feel uneasy about where we're heading. I mean, already today, I think, there are concerns about how much power they have, but just wait and see where we're going to be in 20 years time. And it's going to be extreme. So I think it's important to think about these issues today rather than when we suddenly wake up and realize that BlackRock and Vanguard essentially are the market.
Josh King:
As we wrap up Robin, when the Wall Street Journal published its review of Trillions, which I think was written by Burton Malkiel the American economist best known for that book, Random Walk Down Wall Street, describing your debut book as a magisterial delightfully written history that brings to life, the eggheads and the economy classic investors who guided indexing through its difficult birth to bangs and oversaw its exponential development. Any thought on maybe what your next book might be on. If you've now done this magisterial delightful written history?
Robin Wigglesworth:
Getting that praised from Burton Malkiel was so awesome that I'm worried I might never actually dare write another book again. I mean, Burton Malkiel literally lived the entire story that I wrote about. So I was... I'd heard through the great rhyme that he was reviewing it so that was pretty nervous. But I have to admit like Paul Singer that Paul Singer of Elliot management hates index funds, but he also thought it was a worthwhile read. So I was pretty thrilled about that. I don't know. I mean, there's so many interesting things. I mean, frankly, there were more subjects than I can tackle than I have time for. I am fascinated by capital markets and how the Bond market has taken over more and more of the world. So maybe this is too close apparel to the index fund. But really for like, since the mention of capitalism and facing economics, banks have been the central locus, like basically banks have been the central conduit of credit around the world since renaissance Italy, where Bond markets also were invented.
Robin Wigglesworth:
But over the past century, but especially in the past 30 years, 40 years, bonds have invaded a lot of areas that used to be the preserver banks. This is particularly through the US where I think something like 80% of all lending is done by capital markets and the Bond markets, not banks. So we still have a very bank-centric view of how the financial system operates that I just think is not accurate anymore and is to our detriment to understand both the sources and solutions to potential crises. So I love both that piece of big subjects like that, but also I love the history and that the Bond marketers had a lot of amazing characters over the years. So I don't think it'll be a book, but that's a project I'd love to get stuck into at some point. So if anybody's listening knows some really good of characters from the Bond market early days in the US, I don't know, birth of the MBS market, that would be great.
Josh King:
I think there may be some here at Intercontinental Exchange and we've got a lot of listeners there. And if any of that bears fruit, please give us an acknowledgement in the next book's jacket. Robin, we're recording this right before Liverpool. Your soccer club is set to take on Inter Milan for the Champions League title. Do you expect a seventh title for your club? And then could we expect an ETF based on soccer championships anytime soon?
Robin Wigglesworth:
I mean on ETFs, I kind of figure like if you can envisage it, somebody's going to make it at some point with ETFs. I mean, some of the innovation there is if you're being charitable pretty exciting. If you are me, then you think it's gone a little bit overboard, whether we're going to win the Champions League, it's tough. I mean, I think we've got a good shot and we've got a great side, but you know, I went through 30 years of very lean terrible Liverpool teams. So right now, I'm just really enjoying sharing a likable exciting team with a great manager that is competing for top titles. So whether we win them or not almost feels that's like the cherry. I'm still enjoying the cake, I'm actually looking forward to match and not watching it through my fingers as it were.
Josh King:
Well, I'm looking forward to having you actually Inside the ICE House, the New York Stock Exchange on your next visit to New York, rather than looking at you on a video screen from Norway. It's great to talk to you now, but look forward to having you back again soon.
Robin Wigglesworth:
No, thanks Josh. It's been a lot of fun. Thanks for having me on.
Josh King:
Well, that is our conversation for this week. Our guest was Robin Wigglesworth, global finance correspondent for the Financial Times, an author of Trillions. How a band of Wall Street renegades invented the index fund and changed finance forever. If you like what you heard, please rate us on iTunes so other folks know where to find us. And if you get a comment or a question you'd like one of our experts to tackle on a future show, email us at [email protected] or tweet at us @icehouse podcast. Our show is produced by Stephan Caprio with production assistance from Pete Ash, Ken Abel, and Ian Wolf. I'm Josh King your host, signing off from the library of the New York Stock Exchange. Thanks for listening. We'll talk to you next week.
Speaker 1:
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