BlackRock Shares Under Pressure, But There Is Some Hope

With the recent volatility in the financial sector, choosing a sound investment has become an increasingly daunting task. However, BlackRock still offers some hope. While the stock is down about 10 % YTD, it has fared much better than the Financial Sector SPDR, (XLF), which is currently down around 30% YTD. BlackRock, (BLK), which offers investment management, risk management and advisory services to institutional and individual investors worldwide, has assets under management totaling $1.428 trillion as of June 2008. The firm has remained profitable, posting net income of $2.05 per share in the second quarter of 2008, up 23 % on the previous year.

Avoiding the Crisis

BlackRock has emerged relatively unscathed by the subprime crisis, as the conservative investment manager used extensive risk models in late 2005 when deciding not to purchase any more subprime loans. BlackRock played it safe at a time when most large banks and investment firms were doing just the opposite. When the liquidity crisis emerged, BlackRock was well positioned to take advantage of the market, benefiting as investors sought safer investments. They should continue to gain from this trend as investors are not inclined to turn to riskier assets in the presence of sustained market turmoil. Investors will typically stick to money market funds until the markets and overnight rates stabilize.

BlackRock’s CEO, Larry Fink, has a strong track record as well. Fink has a wealth of knowledge about credit securities, as he began his career at First Boston where he was one of the first mortgage-backed securities traders on Wall Street before becoming a Managing Director. Since he founded BlackRock in 1988, it has grown from a New York office with $1 billion in assets into an investment giant managing operations in 20 countries. Since the firm went public at $14 a share in 1999, BlackRock’s share price has peaked over $229 a share.

Industry Leader

BlackRock’s Solutions business is currently benefiting from their advisory services and risk management, which have received increased demand due to market turmoil. When J.P. Morgan (JPM) acquired Bear Stearns on March 16^th, 2008, the Federal Government hired BlackRock as the lead advisor on the deal, in which the firm manages the risk of $29 billion of Bear Stearns’ mostly residential mortgage securities and is responsible for liquidating troubled assets. The government has sought out BlackRock for other bailout advice as well; the firm worked with the government on the conservatorship of Fannie (FNM) and Freddie (FRE)  and even offered to buy $4 billion in U.K. residential assets from Lehman before the bankruptcy.

Industry consolidation has facilitated expansion of the asset management industry over the past few years, and BlackRock has not been excluded from this trend. They have been able to expand globally while diversifying their products through strategic acquisitions. In September 2006, BlackRock decided to merge with Merrill Lynch’s (MER) investment management business, MLIM, moving Merrill Lynch’s stake in BlackRock to 49.8 %. This merger allowed BlackRock not only to expand internationally but also to broaden their products, including more equity and alternative strategies. The deal added $300 billion of equity funds to BlackRock’s mostly credit funds. I have a positive take on their international expansion; in the second quarter, over 50 %of their pre-tax income came from international clients. They also acquired Quellos Group, which added about $22 billion in assets under management.

How will the Bank of America/ Merrill Lynch deal affect BlackRock?

Since the announcement of Bank of America’s (BAC) acquisition of Merrill Lynch, many investors are wondering how the deal will affect BlackRock. Upon the closing of the transaction, BofA becomes a shareholder of BlackRock. BlackRock will remain an independent firm, meaning that BofA will not be any more involved in their day to day business. BlackRock will continue to operate as they have in the past. If anything, I see BlackRock benefiting from the deal. The firm will clearly benefit from the larger distribution platform; more importantly, the takeover will bring stability to the money manager by removing the threat of a rushed sale by Merrill to raise capital.

BlackRock shares were under pressure at the end of the second quarter, as investors worried that Merrill’s declining financial position due to the credit crisis would force it to sell its stake. Merrill announced in July that they decided not to sell the stake in the asset manager, but concerns remained as the credit crisis worsened. The acquisition by Bank of America should quell investors’ fears.

Conclusion

The bottom line is that BlackRock is going to continue to lead the industry. Clients are drawn to their analytical and risk management capabilities which allow them to assess the client’s most complex risk exposures. The current market conditions have further magnified the many risks that exist, and recent events should only serve to make investors more aware of the need for risk management.

Disclosure: The mutual fund that the author is associated with is long BLK.

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