Controls nearly as much U.S. debt as China
Author of the article:
Bloomberg News
Ye Xie and Liz Capo McCormick
Published May 10, 2023 • Last updated May 10, 2023 • 6 minute read
Vanguard Group Inc.’s US$1 trillion bond indexing business for the Americas grew in size in the wake of the recent U.S. banking crisis. Photo by BRENDAN MCDERMID/Reuters Few, if any, made more money than Josh Barrickman when March’s bank failures ignited a historic bond rally.
Advertisement 2 This advertisement has not loaded yet, but your article continues below.
THIS CONTENT IS RESERVED FOR SUBSCRIBERS ONLY Subscribe now to read the latest news in your city and across Canada.
Exclusive articles by Kevin Carmichael, Victoria Wells, Jake Edmiston, Gabriel Friedman and others. Daily content from Financial Times, the world’s leading global business publication. Unlimited online access to read articles from Financial Post, National Post and 15 news sites across Canada with one account. National Post ePaper, an electronic replica of the print edition to view on any device, share and comment on. Daily puzzles, including the New York Times Crossword. SUBSCRIBE TO UNLOCK MORE ARTICLES Subscribe now to read the latest news in your city and across Canada.
Exclusive articles by Kevin Carmichael, Victoria Wells, Jake Edmiston, Gabriel Friedman and others. Daily content from Financial Times, the world’s leading global business publication. Unlimited online access to read articles from Financial Post, National Post and 15 news sites across Canada with one account. National Post ePaper, an electronic replica of the print edition to view on any device, share and comment on. Daily puzzles, including the New York Times Crossword. REGISTER TO UNLOCK MORE ARTICLES Create an account or sign in to continue with your reading experience.
Access articles from across Canada with one account. Share your thoughts and join the conversation in the comments. Enjoy additional articles per month. Get email updates from your favourite authors. His army of funds gained roughly US$26 billion, the equivalent of more than US$1 billion in paper profits every single trading session.
FP Investor Canada’s best source for investing news, analysis, and insight on investment strategies, stocks and more.
By clicking on the sign up button you consent to receive the above newsletter from Postmedia Network Inc. You may unsubscribe any time by clicking on the unsubscribe link at the bottom of our emails or any newsletter. Postmedia Network Inc. | 365 Bloor Street East, Toronto, Ontario, M4W 3L4 | 416-383-2300
Yet Barrickman didn’t predict Silicon Valley Bank’s collapse, or Credit Suisse Group AG’s tortured final days. He doesn’t even have a view (at least that he’s willing to share) on what the United States Federal Reserve will do next.
He runs Vanguard Group Inc.’s US$1-trillion bond-indexing business for the Americas, a class of investing that — to the outside world, at least — is as vanilla as it gets.
There’s nothing vanilla about the money he’s pulling in, though. The soft-spoken 47-year-old’s funds lured US$31 billion last year, even as active managers posted unprecedented outflows amid the worst year for bonds since at least 1977. He now controls nearly as much U.S. debt — including Treasuries, agency and corporate bonds — as China, America’s second-largest foreign creditor.
Advertisement 3 This advertisement has not loaded yet, but your article continues below.
That makes Barrickman exhibit A of a passive management revolution that’s reshaping the world of fixed-income, just as it did equities a decade ago. No longer dominated by traders making multimillion-dollar bets and eating what they kill, the real money is flowing to guys like him, whose decisions are increasingly rippling through markets.
“We do have size and scale, and that matters in the marketplace,” Barrickman said. “Tracking is job one, two and three,” he said, adding “if we can have a basis point a year, that’s a lot of real money.”
Shift to passive indexes Equity investors have been shifting to passive index products for years. Created decades ago, their popularity ballooned following the 2008 financial crisis, fuelled in part by skepticism of active money managers after stocks cratered.
Advertisement 4 This advertisement has not loaded yet, but your article continues below.
The transition has been slower in fixed income. Indexes are made of tens of thousands of over-the-counter bonds, many of which are so illiquid they won’t change hands for weeks at a time. It’s hard to buy the entire market the way equity investors can buy every stock, making it more difficult for an index fund to track the performance of its benchmark closely.
Indeed, the fixed-income market has long been seen as more complex relative to stocks, allowing firms to justify the need for active management, and the juicier fees that come with it.
But history is repeating. The dramatic losses in debt markets last year, fuelled by the most aggressive Federal Reserve policy tightening in a generation, has turned what was once a relatively slow and steady shift away from active bond funds and toward passive products into a stampede.
Advertisement 5 This advertisement has not loaded yet, but your article continues below.
The gap between passive and active net flows reached a record US$1.04 trillion in 2022, almost triple any other year, according to data from EPFR Inc., which tracks fund flows and asset allocation. Passive funds lured US$279 billion in new cash, while active funds bled US$757 billion.
As of March, assets managed by passive funds surpassed US$3 trillion for the first time. They now account for 31 per cent of the fixed-income fund universe, the data shows, up from just 13 per cent a decade ago.
Barrickman himself now oversees three of the world’s four largest bond funds, including the US$298 -billion Vanguard Total Bond Market Index Fund, according to data compiled by Bloomberg.
That means many of the decisions he makes, such as which bonds to buy when trying to replicate his funds’ underlying benchmarks, can have big consequences for the market (the Vanguard Total International Bond Index Fund, for example, only holds roughly half the 13,000 bonds in the index it tracks.)
Advertisement 6 This advertisement has not loaded yet, but your article continues below.
“We have to be, by definition, overweight some places and underweight others to build a sample,” Barrickman said. “We’re dealing in a market that forces us to take some active positions.”
Moving markets Beyond Vanguard, the other big beneficiary of the shift to passive from active in fixed income has been BlackRock Inc. The firm’s more than 90 U.S. index-tracking bond ETFs have taken in over US$100 billion in the past year, according to data compiled by Bloomberg, more than any other firm.
Gang Hu, managing partner at Winshore Capital Partners LP, which specializes in inflation-protected investments, said passive funds, particularly those run by Vanguard and BlackRock, have become so big and influential that he keeps a spreadsheet tracking their daily flows. Their impact is particularly significant toward the end of the month, when funds move large swaths of securities around to accommodate investment flows, new issuance and maturing bonds as their benchmarks rebalance.
This advertisement has not loaded yet, but your article continues below.
Article content “Everyone watches their flows,” Hu said. “They could easily move the market. You have to anticipate their moves.”
The sheer size of passive mutual funds and bond exchange-traded funds run by Barrickman and a few others have changed the dynamics of the market in recent years, said Thomas di Galoma, co-head of global rates trading at BTIG LLC.
“There used to be a time in the bond market when a lot of funds would move on the last day of the month,” he said. “But because they are so large now, they have to move days before month-end,” which means their position adjustments affect yields for a longer period.
A native of Ohio, Barrickman graduated from Ohio Northern University before earning his MBA from Lehigh University in Pennsylvania. In 1999, he joined Vanguard as a municipal bond trader, before working as a bond index trader.
This advertisement has not loaded yet, but your article continues below.
Article content Rising through the ranks, he became the head of bond indexing in 2013. He likes to keep a low profile, rarely appearing on TV or social media.
Last year, his US$92-billion Vanguard Total Bond Market ETF lured US$14 billion to become the world’s largest bond ETF.
ETFs attract bigger share Barrickman said he expects ETFs to attract a bigger share of passive inflows in the years ahead on account of their cheaper cost structure and the ability of investors to trade them in real time, like stocks.
Ironically, the increasing penetration of passive investing in the bond market has come as active managers have had some of their best years in recent memory relative to their benchmarks.
Over the past five years, 65 per cent of actively managed bond funds tracking the Bloomberg USAgg index have outperformed the gauge, according to data compiled by Bloomberg. The analysis includes 72 funds with assets of at least US$1 billion.
This advertisement has not loaded yet, but your article continues below.
Article content For some, the nuance of the bond market, where issuers can have hundreds of securities, all with slightly different governing rules, lends itself to active managers who can capitalize on the complexity.
“Far too much money has gone into passive indexation both on the equity side and the fixed-income side,” said John Davi, chief executive officer at Astoria Portfolio Advisors LLC. “Active management in the bond world actually makes sense, because you have more opportunity to pick and choose your credit and to make calls on interest rates and duration in order to outperform.”
6 ways to make more income from your investments Buffett’s Canadian heir-apparent steps into Berkshire spotlight 5 market bubbles including one that is just starting to blow up now Barrickman agrees that there’s a place for active funds in fixed-income investing, even as passive products continue to eat away their market share.
“We’re not anti-active, we’re anti high-cost,” he said. “Good low-cost active options, those absolutely have a place. The ETF structure itself has a lot of momentum and adoption.”
— With assistance from Katie Greifeld and Michael Mackenzie
Bloomberg.com