Is three the magic number for corporate governance?

BlackRock, Vanguard and State Street Global Advisors are known as the ‘Big Three’ asset management firms. Between them, they have a combined market share of $24.1 trillion in a global industry worth $118.7 trillion. In the US exchange-traded fund (ETF) market, the Big Three account for 76 percent of all assets. 

With three firms exerting this level of market dominance, their influence on corporate governance has been widely debated. The power they wield can influence the practices of multiple investees with a simple public statement, negating the need for time-consuming and costly engagement with individual managers. 

A comprehensive literature review carried out by Esade’s Visiting Professor Ruth V. Aguilera, with Kurt A. Desender and Monica Lopez Puertas-Lamy from Universidad Carlos III in Madrid, has examined the influence of the Big Three.  

The analysis, published in Corporate Governance: An International Review, finds mixed evidence of influence on board structure, financial reporting and disclosure, corporate social responsibility (CSR), and external corporate governance mechanisms. This ambiguity, say the researchers, warrants an urgent call for further studies. 

Shifting power dynamics

A defining characteristic of Big Three investments is that they are mainly passively managed indexed funds and exchange-traded funds (ETFs). Passive funds track markets rather than individual investment opportunities, offering a medium to long-term investment that doesn’t require active management of individual firms. 

When a network of firms in one market is owned by a small handful of investors (common institutional ownership), the power dynamic shifts from firm managers to the investors. Managing systemic industry risk takes priority, with the aim of maximizing portfolio value over individual investments. 

The Big Three can influence thousands of firms at once with public statements and open communications

In September 2023, the Big Three had over 46,000 firms listed in their combined portfolios, with ownership stakes of more than 10 percent in 1,970 firms. The sheer size of these portfolios creates multiple opportunities to shape corporate governance practices. 

Influential positions

This level of power raises important questions about the role played by the Big Three in the monitoring and stewardship of firms and the literature analysis confirms both direct and indirect influence on the companies within their portfolios.  

Influential ownership positions play a pivotal role in voting and activism campaigns, and the Big Three’s high level of visibility allows them to influence thousands of firms at once with public statements and open communications.  

However, despite this public influence, the surveys and interviews with executives that were assessed by the researchers revealed that behind-the-scenes engagement remains a favored strategy for stewardship.  

Board influence

The influence of the Big Three on boards was examined in three studies, again with conflicting conclusions. One study found that Big Three ownership is positively associated with gender diversity and triggered an overall increase in the likelihood of women holding key board and committee positions.  

However, a second found that both BlackRock and Vanguard were less supportive of diversity. A third study examining voting behaviors found no significant difference for governance issues or director elections. 

Studies that examined the wider impact of common ownership and index funds came to similarly mixed conclusions, with roughly half finding positive influences and half negative. 

Full disclosure

Financial reporting and disclosure promote oversight and control in corporate governance, yet here there are also conflicting reports on whether the link with the Big Three is positive or negative.  

Only one study examined the direct link between the Big Three and firm disclosure. It found that BlackRock’s public engagement did influence the disclosures of portfolio firms, whose lobbying efforts became more aligned with issues highlighted by BlackRock.  

A wider analysis of common ownership not specifically related to the Big Three found a slightly more negative effect on firm disclosure. Studies on impact funds found a more positive impact overall.  

Sustainable practice

As CSR takes on an increasing level of significance, the Big Three’s role in communicating their commitment to sustainability has been examined in five studies.  

In CSR disclosure and pay adoption, the links were positive. The researchers attribute this in part to the spillover effects of good practice, although they acknowledge this can also work on a negative level.  

The results on emissions were less positive. The literature found that although the Big Three do focus engagement efforts on large firms with high C02 emissions, there was “a strong and robust negative association between Big Three ownership and subsequent carbon emissions.” 

External forces

The Big Three’s power over external governance mechanisms — such as financial analysts, rating agencies and the media — has raised concerns about their influence. But again, the conclusions in existing literature were contradictory.  

Media ownership was identified as a critical external force that could promote effective governance and increase transparency. However, when institutional investors hold substantial ownership in both a media company and a rival focal firm, coverage of competitors was found to be negative.  

Similarly, some research found that the ratings of bonds by agencies can be biased towards the economic interests of their significant shareholders.  

The influence of the Big Three on shareholder behavior has been examined by several studies, one of which found that voters in passively managed funds are 9.5 percent less likely to support dissidents than in actively managed funds.  

Overall, studies that examined the Big Three, common ownership and mixed funds found a broadly equal mix of positive and negative effects on external governance mechanisms. 

While the Big Three assert an undeniable influence over corporate governance, a great deal more research is required to understand its extent. The conflicting arguments and mixed evidence uncovered by the literature review make a universal prediction all but impossible.  

And, as the research team concludes, the Big Three don’t work in isolation. The institutional context of their impact, any underlying channels, other corporate governance agents and dimensions all need further exploration to pin down their power and influence and inform future policy.