aladdin and his lampThe financial crisis perpetuated the worst recession the US has seen since the Great Depression. The financial industry was caught in the middle, facilitating transactions and in some cases, breaking laws and certainly societal morals. What created the mess was largely banks and other financial companies betting house money on the outcomes of various events and investments. Since the crisis, new regulations seek to curb that behavior. To an extent, it has been working, and some of the rules have yet to even be written.

The Economist has an in depth article about BlackRock, one of the largest companies on Wall Street most have never heard of. There’s a big difference between something like BlackRock and the likes of JP Morgan Chase. And the easiest way to explain it is by differentiating assets and assets under management.

  • JP Morgan Chase (JPM) is first and foremost a bank. They offer every financial product under the sun but they’re in the business of taking risks. Much of that comes in the forms of loans to people and businesses. When a bank makes a loan or investment it is stored as an asset on their balance sheet. Other assets include everything from intellectual property to the chairs in their offices. All told, JPM had about $2.4 trillion in assets at the end of 2012.
  • BlackRock isn’t in that business. By comparison, their assets are miniscule. At $200 billion they’re 8% the size of JPM. But they aren’t in the business of making loans or investments. They’re in the business of managing money. All told, they directly manage over $4 trillion in assets. By comparison, JPM manages just over $2 trillion in assets under management (AUM).

AUM are assets that a financial institution manages for others. One of the most well known might be Vanguard or Fidelity. Mostly through mutual funds, Vanguard and Fidelity manage investments for other people. They aren’t investments for the company, they’re investments for you and me. BlackRock is by far the biggest, but you may not often see their brand. They might be managing your pension, or your university’s endowment, in addition to offering services to retail investors through brands like iShares.

At the center of BlackRock is a computer system called Aladdin. Aladdin allows financial professionals to assess risks and test investment strategies using very sophisticated models. Like most models, the models are based off historical data (you should be able to see where I’m headed here). Aladdin is very popular and continues to grow (they tout the thing right on their site). In addition to being used internally, it’s also available to other investors and advisors as a subscription service. So in total, an ever growing percentage of the total assets in the world are being looked at through the same lens.

All the other models used before the financial crisis relied on historical data too. This isn’t the same kind of risk as that though. It’s simply a matter of a lot of investor money perhaps converging on the same type of way of looking at the world.

Through history, we’ve faced all kinds of financial risk and learned from the lessons along the way. We had the risk that companies weren’t disclosing enough information. This is closely watched through accounting and disclosure rules. We’ve also seen systemic risk, the risk that the banks that keep the financial system afloat would actually fail themselves and lock up the system. This is a new one. The risk that investors all start to look at information the same way (whether through a tool like Aladdin or Bloomberg).

Risk doesn’t mean threat though. But as technology continues to pervade our lives, it’s important to know what tech is being used to manage your money, and how.

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categories: investing, personal finance, technology