BlackRock, Inc. (BLK) Q2 2020 Earnings Report, Transcript and Summary

Good morning. My name is Maria, and I will be your conference facilitator today. At this time, I would like to welcome everyone to the BlackRock Incorporated Second Quarter 2020 Earnings Teleconference. Our host for today’s call will be Chairman and Chief Executive Officer, Laurence D. Fink; Chief Financial Officer, Gary S. Shedlin; President, Robert S. Kapito; and General Counsel, Christopher J. Mead. All lines have been placed on mute to prevent any background noise. After the speakers’ remarks, there will be a question-and-answer period. [Operator Instructions] Thank you. Mr. Meade, you may begin your conference.

Thank you. Good morning, everyone. I’m Chris Meade, the General Counsel of BlackRock. Before we begin, I’d like to remind you that during the course of this call, we may make a number of forward-looking statements. We call your attention to the fact that BlackRock’s actual results may, of course, differ from these statements. As you know, BlackRock has filed reports with the SEC, which list some of the factors that may cause the results of BlackRock to differ materially from what we say today. BlackRock assumes no duty and does not undertake to update any forward-looking statements. So, with that, I’ll turn it over to Gary.

Thank you, Chris and good morning everyone. It's my pleasure to present results for the second quarter of 2020. I hope everyone and their families are remaining safe and healthy in the current environment. Before I turn it over to Larry to offer his comments, I'll review our financial performance and business results. While our earnings release discloses both GAAP and as-adjusted financial results, I will be focusing primarily on as-adjusted results. BlackRock's ability to deliver for clients, employees, the communities in which we operate, and our shareholders, no matter the market environment, is a testament to the resilience of our differentiated business model, which has been purposely built with a mindset of consistently investing for the long-term. Our performance throughout the COVID-19 crisis, including the strength of these second quarter results, is a direct result of the scaled business model, supported by diverse global investment capabilities, best-in-class technology, and rigorous risk management. Our whole portfolio approach is fostering deeper partnerships, and now more than ever clients want to hear from BlackRock. BlackRock generated $100 billion of total net flows in the second quarter, reflecting 6% annualized organic asset growth and 10% organic base fee growth, as clients re-risk and once again turned to BlackRock for solutions-oriented advice to meet their long-term investment needs. Organic growth reflected record flows into iShares fixed income ETFs and Active Equity, fifth consecutive quarter of positive flows in this product category and continued leadership in cash management solutions. Momentum also continued in sustainable strategies and illiquid alternatives. Second quarter revenue of $3.6 billion increased 4% year-over-year and operating income of $1.4 billion rose by 10%. Earnings per share of $7.85 was up 22% compared to a year ago, also reflecting higher non-operating income, a lower effective tax rate, and a lower diluted share count in the current quarter. Non-operating results for the quarter included $210 million of net investment income, driven primarily by mark-to-market gains on unhedged seed capital investments and our minority stake in Envestnet and also reflected incremental interest expense associated with the successful pre-refinancing of our May 2021 debt maturity. Our as-adjusted tax rate for the second quarter was approximately 23%. We continue to estimate that 23% is a reasonable projected tax rate for the remainder of 2020, though the actual effective tax rate may differ as a consequence of non-recurring or discrete items and issuance of additional guidance on previously enacted tax legislation. Second quarter base fees of $3 billion were up 2% year-over-year, primarily driven by organic growth and higher securities lending revenue, partially offset by the negative impact of equity beta and foreign exchange movements on average AUM and strategic pricing changes to certain products. Securities lending revenue increased 40% year-over-year and 33% sequentially, primarily driven by higher average on loan balances as hedge fund leverage recovered from March lows and higher cash spreads. Sequentially, base fees were down 3% despite higher securities lending revenue and positive organic growth in the quarter due to the significant impact of first quarter global market declines and foreign exchange movements on our second quarter entry rate and average AUM. The impact of negative divergent beta was also the primary reason we saw a decline of 0.2 basis points sequentially in our second quarter effective fee rate. Performance fees of $112 million increased 75% from a year ago, reflecting higher revenue from alternative and long-only equity products. Since the end of the first quarter, we have seen strong performance from certain single strategy hedge funds, which better positions us to generate performance fees in the second half of the year. Technology services revenue increased 17% year-over-year reflecting continued momentum in Aladdin and the impact of the eFront acquisition, which closed in May of last year. Since acquiring eFront, we have executed on our integration plan and feedback from current and prospective clients as well as our own alternatives team has been overwhelmingly positive. We remain committed to low-to-mid teens growth in technology services revenue over the long term, driven by new clients, deeper relationships with existing clients, and expansion of Aladdin's functionality. The operational and financial impacts of this crisis underscore more than ever the need for robust enterprise operating and risk management technology solutions. However, as mentioned last quarter and despite successfully implementing over 18 Aladdin go-lives since the pandemic began, near-term revenue growth may be impacted by extended sales and contracting cycles in the current environment. Advisory and other revenue of $39 million was down $25 million sequentially, primarily reflecting the absence of PennyMac equity method earnings following the charitable contribution of our remaining equity stake in the first quarter as well as lower transition management assignments. Total expense was essentially flat year-over-year, driven in part by higher compensation and lower G&A expense. Employee compensation and benefit expense was up 6% year-over-year, reflecting higher base fee and incentive compensation driven in part by higher performance fees. G&A expense was down $82 million year-over-year and $165 million sequentially, primarily due to significant amounts of non-core G&A expense, including contingent consideration fair value adjustments, foreign exchange re-measurement, and product launch deal and legal costs in prior periods. Second quarter G&A expenses of $388 million, which included $12 million related to a fixed asset impairment and several million dollars of incremental costs associated with COVID-19, also reflected meaningfully lower G&A expense versus pre-pandemic levels. In January, we communicated an expectation for an approximate 5% increase in 2020 core G&A expense versus comparable 2019 levels, driven by continued investment in technology and market data, including sustainability initiatives and the full year impact of the eFront acquisition. At present, given reduced levels of T&E in the current environment, we would expect core G&A expense for the year to be closer to 2% higher than comparable 2019 levels. Our second quarter as-adjusted operating margin of 43.7% was up 60 basis points from a year ago, primarily reflecting lower G&A expense in the current quarter. We remain margin aware and committed to optimizing organic growth in the most efficient way possible. Our long-term strategic growth plan continues to be focused on iShares, illiquid alternatives, and technology as well as driving sustainable investing and creating whole portfolio solutions. As you will hear more from Larry, we have never been better positioned to deliver for clients and to continue generating differentiated organic growth. With that in mind, we expect to restart selective hiring in the second half of this year. Our capital management strategy remains first, to invest in our business and then return excess cash to shareholders through a combination of dividends and share repurchases. During our first quarter earnings call, we reaffirmed commitments to both our dividend and share repurchase plans for the year. In late April, we completed the debt issuance to increase liquidity in the current environment, take advantage of historically low interest rates, and pre-refinance our $750 million 4.25% notes due May 2021. We successfully issued $1.25 billion of new 10-year notes with a 1.9% coupon, which was the lowest U.S. dollar coupon in BlackRock's debt stack and the second lowest 10-year coupon ever from a financial issuer. And in May, PNC successfully monetized its entire 22% position in BlackRock through a secondary stock offering, culminating a 25-year partnership with our firm. This transaction effectively completes BlackRock's evolution to a 100% publicly held company, and we are humbled by the commitment of many of our largest and longest tenured shareholders who participated in the offering and welcome a number of significant new investors to our company. In connection with the secondary sale, BlackRock repurchased $1.1 billion of its shares directly from PNC at a price of $415 per share. In total, we've now repurchased $1.5 billion worth of common shares during 2020, completing our targeted level of share repurchases for the year, but we'll remain opportunistic should attractive relative valuation opportunities arise. Over the past 15 weeks, BlackRock has been more connected to clients than ever before, offering differentiated advice and solutions that are unique to our globally integrated and scaled investment and technology platform. Organic growth of a $100 billion in the second quarter, suggest that these clients want to hear from us from us now more than ever. iShares net inflows of $51 billion, representing 11% annualized organic asset growth and 13% annualized organic base fee growth reflected continued growth in fixed income and sustainable ETF, partially offset by outflows from precision international equity exposures, as institutions continue to use these instruments for tactical allocation decision. Year-to-date, iShares net inflows are now in line with a year ago, despite a more challenging first quarter, led by strong growth in the second quarter. Many of the trends that favor the growth of ETFs have been further catalyzed as a result of recent market disruption and coupled with the performance and resilience of iShares during this period has strengthened our conviction in the overall growth outlook for ETFs. iShares fixed income ETFs generated record quarterly net inflows of $57 billion in the second quarter, driven by renewed investor appetite for fixed income and acceleration in long-term secular growth trends and even stronger investor confidence in fixed income ETFs following their strong performance in that market stress earlier this year. Momentum in sustainable iShares also continues with $8 billion of net inflows in the second quarter. iShares remain committed to its goal of increasing investor access, sustainable investing through ETFs and we now lead the market globally in this high-growth strategic product category. Retail net inflows of $16 billion representing 11% annualized organic asset growth, were positive in both the U.S. and international. Inflows were led by high-yield bond, active equity, and event-driven liquid alternatives funds. Institutional net outflows of $5 billion reflected approximately $3 billion of active inflows, primarily driven by fixed income, LifePath Target Date Funds, OCIO, systematic active equity, and illiquid alternative strategies, offset by nearly $8 billion of net index outflows primarily in fixed income. Institutional and retail demand for alternatives continued in the second quarter with approximately $3 billion of net inflows across liquid and illiquid strategies, driven by infrastructure, private equity solutions, and our event-driven hedge fund. We currently have approximately $24 billion of committed capital to deploy for institutional clients in a variety of alternative strategies, representing a significant source of future base and performance fees. BlackRock's cash management platform crossed $600 of AUM during the quarter, driven by $24 billion of net inflows. A significant portion of that growth was driven by corporate clients who acted to reinforce balance sheets and strengthen liquidity in the current environment and we also witnessed strong flows back into institutional prime funds. As gross yields have remained above relevant thresholds, we have not waived fees on flagship government funds to-date. However, we expect potential fee waivers may be implemented during the second half of the year. Finally, second quarter advisory net inflows of $14 billion were primarily linked to asset purchases managed by our financial markets advisory group. Revenue linked to these assignments is primarily reflected in the advisory and other revenue line item of our income statement. BlackRock's second quarter results once again demonstrate the resilience of our platform, underscore the importance of our deep long-standing partnerships with clients, and highlight the value of investments we have made over time. The diversification and breadth of our business positions us to serve stakeholders in a variety of environments and to continue playing offense, so we are able to deliver for clients, employees, and shareholders, both during and after this crisis. With that, I'll turn it over to Larry.

Thank you, Gary. Good morning, everyone, and thank you for joining the call. I know this continues to be a difficult time for many people. So, first and foremost, I hope you all are staying healthy and safe. Our clients are turning to BlackRock more than ever as they face increasingly uncertainty about the future. Pensions, many of them already underfunded are having an even harder time meeting their liabilities in a persistent low-rate environment. Insurers are dealing with the dual impact of a sharp increase in payouts and declining asset values. Individuals are becoming even more dependent on their retirement savings, which are all the more challenging to build in this environment. People have now worked for months home, while also maintaining distance from their friends and loved ones. This prolonged isolation is increasingly many people's desire for connectivity. I feel this way. I see it across all our people at BlackRock. I'm hearing it from our clients worldwide. BlackRock's strong fiduciary culture and our unified operating and technology platform has allowed us to adapt to serve and connect with our clients through this period. Across all segments, all geographies, clients have sought timely, contextualized context to help them analyze economic indicators, understand policy actions, make sense of these turbulent markets and rebalance their portfolios accordingly. BlackRock's strategy has been centered around sharing the insights that meet this demand and delivering the comprehensive investment and technology solutions our clients need to build resilient portfolios. We are bringing together the entirety of the BlackRock platform for more clients in more ways than ever before. And as a result, clients are entrusting BlackRock with a greater share of their assets through deeper partnership. BlackRock generated a $100 billion in net inflows in the second quarter, representing 6% organic asset growth and 10% organic base fee growth. Our platform was positioned to meet this client demand because of investments we made over time to build a truly client-centric business. It is critical that we continue to invest in our business through these difficult times, not only to serve clients and shareholders, but to support our employees and communities now more than ever, the compassion forward-thinking will be essential to our future. The human toll of COVID-19 continues to be severe. The virus is highly infectious. Therapies remain elusive, and vaccinations are still months away. While economic pressures are not comparable to the human loss, month-long shutdowns have been devastating to those who have lost their jobs and income. Over the past few weeks, government leaders have been forced to make inevitable choices between stemming the virus and reopening the economy. In some emerging market countries, these choices are even more difficult given the fragility of their economic systems, the fragility of their healthcare infrastructure, and the lack of fiscal and monetary space. Despite this backdrop, financial markets have rebounded as historic stimulus measures by the world's central banks and governments have been unquestionably successful in limiting investor fears. These policy measures, combined with the anticipated pace of recovery has fueled optimism in the market. The S&P 500, for example, has bounced back more than 40% since its lows in March and is once again approaching a record high. We are speaking to you from our New York City offices as BlackRock employees begin their return to the office in split operations on Monday. I remain cautiously optimistic about our path to recovery, and I'm heartened as we begin to return to somewhat normalcy. There will be positive societal changes from this pandemic despite the uncertainty and the suffering it is causing today. More companies will adopt a more permanent remote work coming out of this crisis, which will have a positive environmental impact as congestion eases in cities and hopefully, improve quality of life for more people. And uptake in the use of technology by more people than ever before will catalyze change in many industries, including asset and wealth management. At the same time, local and national governments must grapple with the lingering economic toll of the pandemic, including its potential to exasperate income and equality if the real and financial economies remain divergent. BlackRock is leveraging the full breadth of our capabilities to meet our clients where they are, be relevant in their changing needs and to provide them with solutions. Aladdin has enabled BlackRock and its clients to seamlessly operate from home. iShares ETFs have provided investors with transparency, liquidity, and price discovery -- and price discovery during periods of extreme market stress. Clients turn to our scaled cash management platform for liquidity and safety, driving $77 billion of inflows in the first half of this year. And BlackRock's ability to be whole portfolio partners for clients have proven critical as more institutional and client and wealth clients are turning to us for help, designing and implementing a more resilient portfolio. Our client-centric approach drove $18 billion of net inflows year-to-date in BlackRock managed models and outsourced CIO solutions. Our strong fiduciary culture is resonating in the depth of our relationship and the strength of our results. As in the past times of crisis, BlackRock's financial markets advisory team has been once again called upon to serve governments and the broader public. FMA's work as an adviser extends back to 1994, and the work they are doing today with five governments around the world, including the New York Federal Reserve Bank, on programs that support the economy is another reflection of BlackRock's ability to deliver insights and information. These recent partnerships are also a testament to the trust we have earned executing these types of assignments over time and the trust of clients and regulators have in BlackRock's culture. Volatile markets create opportunities for generating alpha and we are seeing the benefits across our active platforms, which is top performing with 82% of both fundamental active equities and taxable fixed income assets above benchmarks were peer median for the three-year period. Strong active performance across a number of our flagship mutual fund franchises drove global retail net inflows of $16 billion in the second quarter, positive across the United States, Europe, and Asia-Pacific. Flows globally were led by demand in our top-performing high-yield bonds, our health science products, our technology funds, supported by our global distribution reach, and a deepening partnership with wealth managers and financial advisers around the world as they turn to BlackRock for insight and whole portfolio solutions. Across retail and institutional active equities were generated -- generated a record $8 billion of net inflows, our fifth consecutive inflow quarter for active equities. The momentum we are seeing is a direct result of our investment to evolve the platform with better data, analytics, technology, and a more informed risk-taking culture with global scale and reach. Our diverse and top-performing active fixed income platform was well-positioned for renewed client appetite in the second quarter and saw $13 billion of inflows following outflows across the industry in the first quarter. Growth was driven by high-yield and the second close of the BlackRock securitized investor fund, which invests in assets financed under an adjacent to the recently reintroduced Federal Reserve term asset-backed security loan facility. Client demand is strong across our top-performing fixed income platform, which includes five of the 29 Morningstar gold-related active fixed income mutual funds in the United States. Clients need differentiated, sustainable alpha in their portfolios more than ever before. BlackRock has never been better positioned to meet their needs and I'm confident we will continue to generate the differentiated organic growth in all our active strategies. BlackRock is working with our clients in more ways in both active and index. iShares generated $51 billion of net inflows in the second quarter led by demand for fixed income and sustainable, partially offset by outflows in certain precision and core international equity ETFs as clients use iShares to rebalance the core of their portfolios or express risk off sentiments in Europe and the emerging market equities. iShares has a purposeful, differentiating business model that serves the broadest set of clients with the most diverse set of ETFs. Our combination of value, performance, and versatility allows us to effectively serve individuals, partner with financial advisers and wealth managers, and enable institutional investors with a tool for strategy and tactical allocations and liquidity management. Client demand for iShares is accelerating globally, particularly in fixed income and sustainability, and in the RIH where our flows are up meaningfully and our leading market share position has further strengthened since the movement to commission-free trading by U.S. brokerage firms last year. We remain confident in the long-term growth of both iShares and the ETF industry. iShares fixed income ETFs generated a record $57 billion of net inflows in the second quarter. Through extreme market turbulence, they functioned incredibly well, which is unlocking new source of client demand globally and particularly, pension funds, insurers, and asset managers, including over 60 first-time institutional clients of fixed income ETFs in the first half of this year are increasingly turning to ETFs as a preferred technology for liquidity, transparency, lower transaction costs, and a better price discovery across market cycles and across the fixed income market. They are using ETFs for active fixed income strategies and we continue to believe fixed income ETFs can double in the next five years to $2 trillion with iShares leading the market. Demand for sustainable products continue to accelerate as clients are increasingly turning to ESG, not only for investments that reflect their values, but also to enhance performance, risk management, and portfolio construction. BlackRock generated a record $17 billion in sustainable iShares ETFs inflows year-to-date, outpacing the $12 billion from all of 2019 as we innovate and expand innovate and expand innovate and expand access to sustainable investment solutions. For example, last year, when we launched our Liquid Environmentally Aware Fund or LEAF strategy, it was the first money market fund to incorporate ESG. In one year, it has grown to $13 billion. Last year, we launched four iShares ESG asset allocation ETFs, the first of their kind and together with other launches, we now have more than three quarters of the way towards our three-year commitment of 150 ESG ETF offerings. We are also developing sustainable data analytics within Aladdin to address the need for better data and better technology to focus on climate risk. We continue to anticipate BlackRock's sustainable assets under management will reach $1 trillion by the end of the decade, and we are focused on investing in this fast-growing area. We are seeing increased demand for private market strategies as clients look for uncorrelated sources of return to meet their long duration liabilities. We generated over $3 billion of illiquid alternative inflows and commitments in the quarter, driven by infrastructure and our private equity solutions. Infrastructure will be a key component to driving growth as we look ahead to restarting the global economy. Infrastructure investments benefit not only investors, but create jobs in local community for individuals who work on the development, operations, maintenance of such assets. BlackRock has purposely built a diversified infrastructure investment team, which now manages $28 billion in client assets and we look forward to partnering with more clients in this asset class. Our results today are all enabled by our unified technology platform, which is a significant differentiator and growth driver for BlackRock. Technology services revenues grew by 17% year-over-year, as clients turn to Aladdin for comprehensive end-to-end technology that supports the entire investment process. As Gary mentioned, it has been one year since we acquired eFront, and we recently crossed an important milestone with our first client going live on joint Aladdin and eFront solution. Trends that have fueled Aladdin’s growth across institutional, wealth, and provider segments are only accelerating out of this crisis. We continue to target low to mid-teens technology services revenue growth over the long-term. Two years ago, I wrote about the importance of every company operating with a sense of purpose, that in order to deliver durable long-term returns, company needs to focus on all their stakeholders, not just their shareholders. This has been further amplified by the COVID-19 pandemic. Our investment stewardship team, which has been speaking with companies for years on these issues, have intensified their focus and dialogue with companies over the last few years to better understand how they are managing the S in ESG. Asking questions like how are they -- how are corporations protecting and inspiring their employees? How are we contributing to society? How are they balancing the pressure of society with efforts to oversee long-term financial and operational performance? Within BlackRock, we are focused on living our purpose with compassion and with a lot of courage. This includes working together to build a more fair and just society. Recent events of racial injustice have been appalling, painful, and truly eye-opening, because they reveal how pervasive these issues are in our society. BlackRock has firmly committed to racial equality and while we've made a lot of progress in these recent years, it is clear to me that we have not -- we are not where we need to be. That is why BlackRock is making a long-term commitment to build a more inclusive, a more diverse firm and use our platform and our voice to advocate for change within our industry and more broadly. We laid out some very specific goals for our self over the next several years. The process of building a more just, equitable society will not be easy or quick and driving real change will require long-term accountability and measurable progress. I am honored by the trust that clients, governments, and communities that have placed in BlackRock, which we approach with a deep sense of responsibility. We are committed to staying focused on our mission and true to our purpose. This is what enables us to thrive even during these unprecedented times and to deliver long-term value to our clients, to our shareholders and to all our stakeholders. We crossed an important milestone in BlackRock's evolution as a public company in May. PNC exited their full position in BlackRock, which means many more stakeholders now have the opportunity to participate in BlackRock's future growth and performance. I want to thank PNC and their leadership for their support over the past two and a half decades. BlackRock could not be who we are today if we did not have that strong partnership with PNC. But I also want to welcome our new shareholders and thank our existing shareholders who have continued to put their trust and support in BlackRock over time. With that, operator, let us open it up for questions.

Thank you. [Operator Instructions] Our first question comes from the line of Dan Fannon of Jefferies.

Thanks.

Good morning Dan.

Good morning. My question's around flows, if you could expand upon the strength of active equities and then also talk about multi-asset where you saw some outflows in the quarter?

So, thank you, Dan. You know that we believe that all asset management decisions are active, and as clients focus more on outcomes, both alpha seeking and index are going to play a pretty big role in their portfolios to drive returns. And in a lower return environment, alpha generation is even more critical as active managers have the potential to deliver a much greater portion of total investment return. So, active strategies have a critical role in building efficient portfolios for clients, with strong performance after fees. Now, the type of volatile market that we've seen in 2020 created a lot of opportunities for alpha generation. And as Larry mentioned, our integrated platform is positioned to deliver investment solutions and portfolio construction, leveraging the industry's most comprehensive array of active and index strategies across equity, fixed income, multi-asset, alternatives, and cash. And the investments that we've made in our platform and our optimization of the unique assets that we have, our scale, access to relationships, and information globally, our data and technology, including Aladdin, and portfolio construction expertise have positioned us to capture client demand and drive investment performance. In equities, we have arrived. It's about performance. BlackRock has now seen five consecutive quarters of active equity inflows, including $8 billion in the second quarter and $18 billion over the last 12 months. The active equity net inflows in the first quarter were driven flows into several top performing franchises, where organic growth has been supported by a track record of consistent active equity outperformance, a differentiated offering at the right value and distribution partnerships included our health sciences with $3 billion of net inflows performing in the top quartile for three years and five years; technology with $3 billion of net inflows performing in the top decile for the three and five-year periods; capital appreciation and large cap growth with $1 billion of net inflows performing in the top quartile for the three-year and five-year periods. In addition, we saw $1 billion in scientific active equity flows from institutional clients. So, it's been a long journey. The investments we've made over the past few years, including high-quality, in-house research capabilities and the BlackRock Investment Institute, have positioned us better than ever before to capture client demand, and we'll continue to invest in data and technology to drive sustainable alpha generation, and we are incredibly proud of our equity team. On the multi-asset area, the net outflows of $5 billion were primarily due to outflows from global allocation as the world allocation industry category saw pressure. BlackRock's global allocation franchise significantly outperformed peers and stayed true to its three-decade promise of providing upside return and limited downside capture. Global allocation is now at the top of its peer group, performing in the seventh, 12th, and 21st percentiles over the one, three, and five-year periods. Global allocation has seen its share of the world allocation category net outflows fall from minus 32% at year end to minus 10% through May 2020, while maintaining its minus 8% market share of the category of assets under management. So, look, we continue, you know, that we've made changes in our global allocation, rebuilt the team. We are seeing very good momentum in that, and we expect to see growth return back in that, but we also continue to see multi-asset inflows into our LifePath Target Date franchise and continued momentum in our OCIO business. So, it’s an important area for us, but we are going to see both inflows and outflows as the world turns to different allocations depending upon the volatility in the market.

Our next question comes from the line of Craig Siegenthaler of Credit Suisse.

Hi, Craig.

Hey, good morning, Larry. Hope you guys all doing well. Starting with fixed income ETFs, we all saw the strong momentum in 2Q. But what do you see as the key drivers? Which client groups were the biggest buyers? And then how do you think about the addressable market relative to your $2 trillion target as we size the opportunity even longer term?

So, Craig, we obviously have big ambitions for fixed income ETFs. And this last quarter has validated that this is an important asset class, core fixed income going forward. In some of the previous comments, we mentioned that the industry has crossed $1 trillion mark in assets under management, and we predicted this would double by 2024. But today, the category is already over $1.3 trillion with over growth split evenly between the second half of last year and the first half of this year, and our conviction in iShares leadership has been strengthened as a result of the strong performance and market disruption that you saw in the first quarter, and record iShares fixed income flows of $57 billion in the second quarter. So, more directly, investors of all kinds have more confidence in fixed income ETFs than ever before following the extreme test in the first quarter. iShares Fixed income ETFs performed under extreme stress with better liquidity, price discovery, usage, tracking, and bid/ask spreads than the underlying markets and competitors. So, as a result, we've seen increased demand from both institutional and retail investors, including a notable acceleration in adoption coming from wealth managers, asset managers, pension funds, and insurance companies all around the world. We just published earlier this week a paper called Turning Point, which provides further facts around our performance and why investors are using fixed income ETFs. We have seen iShares attract over 60 new highly sophisticated pension plans, asset managers, and insurance clients to become first time fixed income ETF buyers and now hold $10 billion year-to-date. Even prior to the Federal Reserve purchase of fixed income ETFs, insurance companies were net buyers of fixed income ETFs throughout the volatile first quarter and more than $2 billion worth of LQD was purchased in the first three months by these institutional investors, with 83% occurring before the Federal Reserve announced plans to buy ETFs. So, today, we manage over $634 billion in fixed income ETF assets and that's up from 514 this time last year and 402 two years ago. So, iShares gathered 47% of the $118 billion of industry flows year-to-date into fixed income ETFs and this inflow into ETF contrast with the continuing outflows that the rest of the fixed income industry has faced over the first half of 2020. So, investors of all types are recognizing that fixed income ETFs are more efficient, more transparent, offer better performance and more convenient ways to access the bond market. So, we continue to believe that global fixed income ETFs can double to $2 trillion in the next three to four years, driven by the modernization of the $100 trillion bond market and from conversions of bond securities by institutions, central banks, and alpha managers into ETFs and we're going to continue to evangelize, and we will continue to work with clients on how these tools can provide them with good value in the fixed income market.

Our next question comes from the line of Ken Worthington of JPMorgan.

Hi Ken.

Hi, good morning. Good morning. Maybe taking fixed income from a slightly different direction. Interest rates have fallen to unprecedented lows in the U.S. and fixed income product yields are following. There's speculation that the ultra-low interest rate environment could alter traditional U.S. asset allocation, for example, the 60/40 model to the detriment of fixed income allocations. So, do you think there are longer term implications of lower or ultra-low yields on investor asset allocation to fixed income? If so, are the implications similar or different for retail versus institutional? And ultimately, what does this mean for the growth of BlackRock traditional fixed income assets?

So, with low interest rates, there is still a room for a significant allocation to fixed income. We see it in the asset allocation models and we see it in specifically in the models that we are building both for the RIA channels and also for other institutions. BlackRock generated $60 billion of fixed income inflows across both the active and index platforms and this was meeting new demand and new client appetite for fixed income. So, investor confidence in both the active fixed income funds and the fixed income ETFs actually grew. And following the strong performance and the liquidity management needed amid this market stress in the first quarter and second quarter, we were pretty well-positioned. So, even though interest rates were lower, we saw that people needed an alternative to cash. And what we saw is incredible demand into both the high-yield and the investment-grade credit area. So, we saw a $13 billion of active fixed income net inflows, and that reflected $8 billion and $5 billion of net inflows from both retail and institutional clients, respectively. Institutional flows were pretty broad based, so even through rates were low; the retail flows were led by the high-yield franchise with about $8 billion of net inflows and where our flagship high-yield bond is performing in the 17th percentile. Now, the other point about low interest rates is note that when it comes to ETFs, we're the number one global franchise player. So, rates seem low in the U.S. today, but they have been lower outside of the U.S. So, we are seeing a huge demand for U.S. fixed income from Asia and from Europe. So, even with low rates, it's all relative. I still think that the fixed income market is going to continue to grow. You also saw the volatility in the markets, which is going to lead to people needing to execute in a more efficient way. So, I understand where you're going in that. But people will be still looking for fixed income. It just may move from treasuries to credit, to alternative structures.

Our next question comes from the line of Glenn Schorr of Evercore.

Hi, Glenn.

Hello, there. How are you?

Very well.

So, I want to talk about illiquid. Thank you. Good. Good to hear. But I want to talk about illiquid build. Clearly, it's happening. I heard your comments about both infrastructure and private equity, and I see you $75 billion now. Where do you still need to build maybe focus a little more on the private credit side? And just wanted to, in conjunction with that, get your opinion on the recent DOL ruling for inclusion in 401(k) and Target Date Funds? Thanks.

Great question. So, we continue to emphasize and grow our illiquid alternatives. We're seeing growth across the world in every area of the world and across all their different distribution channels. I believe we continue to have very large and real opportunities. As I said earlier, we are going to continue to be driving great growth in our -- in the infrastructure area, and we’re going to continue to see real opportunities in some of our credit opportunities and even in some of the private equity areas. We're going to continue to build this out organically by building out our teams. Our hedge funds actually across the board have done exceedingly well in these very volatile times. Our European hedge fund is, once again, a double-digit performance. Our health science products continue to be doing exceedingly well. And so, I think, what is really happening overall is I think five years ago, we were not as recognized as being a participant in the illiquid alternative space, and today, we are. We are in the top five in terms of asset growth and we continue to be driving even more accelerated growth in these areas. And related to the DOL rule, related to Target Date Funds, this is a positive development. It will increase access for individuals, the benefit in the private markets and we're very well-positioned with the relationships in that area. And obviously, because our LifePath Target Date franchise of being more than $260 billion, we have great opportunities to present different asset categories into these strategies. And so, we are very well-positioned. It's very early days. We have to see how this implementation will work, what type of disclosure is going to be necessary. But we're excited about these opportunities, for us to have an accelerated position in the illiquid area, because of our strength and positioning in our Target Date business. And so, I'm quite excited about this opportunity. But how this is going to be implemented, the type of disclosures we need to do, we need to make sure that the investors know what they're investing, and they know the associated risk in it. We're talking about retirement assets and as a fiduciary, we have to ensure that our clients' retirement assets are protected and they understand fully the risks associated with the investments. And so, as investors move their retirement assets across different investment spectrum, a great need for risk analytics. And this is only going to mean more opportunity for eFront and Aladdin, as more and more clients are starting to look at illiquids and there's going to be a great need for technology and technology utilization to help them understand the risk. And I believe the need for technology and risk management in these areas is going to be required as -- for all of us as a fiduciary to all our clients' retirement assets.

Our next comes from the line of Alex Blostein of Goldman Sachs.

Good morning Alex. : Good morning everybody. A question for you guys around Aladdin and specifically, I wanted to talk about provider Aladdin. We haven't gotten an update on that in a little while, but it looked like Citi, I think joined the platform. I think you guys are already partnered with BK and a handful of others. So, maybe talk a little bit about where the build-out stands, whether or not BlackRock is still kind of the of the primary customer of -- provider of Aladdin and when do you guys would anticipate other asset managers potentially joining the service?

So, Aladdin provider, as you know, was created as a response to the industry's desire for closer integration along the investment lifecycle to drive efficiency. And as a leading investment management platform used by 90-plus asset managers globally, Aladdin is uniquely positioned to drive increased standardization across the ecosystem. So, by working directly with asset servicers to streamline the operating model, Aladdin provider leverages Aladdin's proprietary data interfaces and workflows to drive this connectivity and the transparency and the information symmetry between the asset manager and the asset servicer. So, through provider Aladdin, we have the capability now to enable custodians and middle office outsourcers to service client assets directly on Aladdin and this allows a further refinement and reduction of friction in our clients' operating models, improving the data quality and streamlining the workflows. So, more broadly, we are seeing the demand for what we're going to call interoperability with asset managers, trading venues, and the market data providers as they continue to grow as clients they want to increase straight-through processing. And this will consolidate the number of systems that they have to do their jobs and maintain optionality in their counterparty relationships. So, we're continuing to build this out. This is part of BlackRock's long-term technology strategy to provide technology for as much of the asset management value chain as possible. So, we are continuing to build this out, lots of interest and I think it will improve the ecosystem going forward.

Our last question comes from the line of Bill Katz of Citigroup.

Hi Bill.

Good morning everybody. Thank you so much for taking the call this morning. So, maybe a big picture question for you just given all the moving parts, I appreciate that the market beta is probably the biggest variable test. But assuming sort of a neutral view of that, how do you sort of see the fee rate evolving from here? And then, Gary, you had mentioned the potential for some money market fee waivers in the second half. Just wondering if you could help potentially quantify that? Thank you.

Sure, Bill. Good to hear your voice. So, I don't think anything has really changed with regard to our views on fee rates. As you know, we talk a lot about what we can control and what we can't control. And so as we've talked before, our fee rates are, obviously, in many respects, tied to beta, in particular, divergent beta, what's going on in FX, client risk preferences and the like. And I think as we mentioned last quarter, as we entered the quarter with a fee rate that was obviously down as a result of what was happening in the market. I think the good news is a combination of strong markets and organic growth and the second quarter has almost entirely eliminated the headwind that we had talked about last quarter. And while Q2 AUM, as you said, is up 13% since the first quarter, it's obviously still down. So, we estimate we're entering the third quarter at a run rate that's essentially equal to our first quarter base fees. We're probably about 4% higher entering the third quarter than we were over the second quarter. But on an equivalent day count basis, our base fees were still down sequentially. And as you know, that was despite higher security lending revenue as well. The impact of negative divergent beta NFX was also the primary reason we saw that decline 0.2 basis points in our second quarter effective fee rate, which will obviously impact us going forward. So, we're still -- there's still some beta issues. The good news is this quarter, we obviously saw a positive difference in our organic base fee growth relative to organic asset growth, and that's because we saw some significant success in some of our higher fee products. Rob's talked a lot about those. Obviously, iShares ETFs was this strategic category. It comes in higher than our average fee rate, as well as our active and our illiquid. So, I think to the extent that we can continue to watch and push some of those products, which I think we're incredibly well-positioned for, as we think about all of the trends coming out of the pandemic that have been in many respects magnified before the pandemic, where we were investing, so ETFs sustainability, fixed income more broadly, I think we're going to see some very positive impacts if we can see that continuation going forward. On the fee waiver point, as I mentioned in my initial calls, we haven't yet waved any fees. But in the past, when our clients have struggled with low rates and subject to market conditions, we have used yield support waivers. They typically come into play when yields fall below management fees. We typically share them with our distribution partners. And previously in other periods of time, we've tried to maintain yield floors of somewhere around one to three basis points. And so while timing is obviously depends on a lot of things depending on how quickly portfolios grow, how quickly portfolios turnover. We haven't really come into that. So as an example, our fed fund gross yield today is roughly around 26 basis points. That's in excess of the management fee, which is closer to 17 basis points. So, we do think that, kind of, putting in our -- looking at our crystal ball, that will probably start to hit us in August or September, but I would say a couple of things as you think about that. If we do choose to implement yield support waivers, we do anticipate that about 40% to 50% of those would be shared with our distributors, so that lessens the bottom line impact for us. And we would also anticipate that primary impact would be on U.S. government funds, which represents today about 50% of our overall -- our cash business. And then the final point I would -- I'll just leave you with in this current low rate environment, as we also mentioned, we've been seeing increasing flows into prime funds. And I think as long as those are operating and with the Fed currently, providing some secondary market support there, we do think we'll continue to see people migrate out of government funds and into those prime vehicles, which we don't anticipate to be impacted by fee waivers.

And ladies and gentlemen, we have reached the allotted time for questions. Mr. Fink, do you have any closing remarks?

I want to thank everybody for joining us this morning and for continued interest in BlackRock. I am proud of the progress we made and helping our clients through that uncertainty in the first half of 2020. We will continue to invest and innovate in the years to come, so we can better meet our clients' needs. That's what we're all about. We're going to continue to generate growth and importantly, fulfill our purpose in helping more and more people experience financial well-being. That is our purpose. That is what differentiates us. It is our fiduciary culture of building strong, deep, long-term partnerships with our clients, with our communities where we work with governments, and we will continue to do so. I wish all of you to have a safe and healthy start to the third quarter, and let's hope for all humanity that we find a solution quickly for this dreaded disease. Thank you, everyone, have a good quarter.

This concludes today's teleconference. You may now disconnect.