The End of Power (35 page)

A related phenomenon is the rise of acquisitions of major North American and European firms by companies based in developing and transition economies, creating a new breed of global multinational that has either its headquarters or its corporate roots in what was until recently a closed-off, state-heavy economic system. India, Mexico, Brazil, South Africa, and China are among the major provenances of these companies. A good example is the aforementioned Mexican cement giant CEMEX, which operates in nearly forty countries. CEMEX's internationalization catapulted it to nearly top place in the world building-materials market (in a dogfight with French-based Lafarge) and raised the American share of its business to 41 percent, compared to only 24 percent in Mexico. Although CEMEX had to retrench as the global economy sputtered, it is still a major global player in many developed countries in a field that once was the exclusive province of rich-country companies.
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Examples also include the parent firms of the two
largest players in the American beer industry. Anheuser-Busch is controlled by Belgian-based InBev (itself formed when Brazil's Ambev brewer sought to expand overseas) and largely led by Brazilian management. Meanwhile, the custodian of the rival beer brand to Budweiser is SABMiller, formed when South African Breweries bought Miller Brewing Company in 2002, on the heels of successful acquisitions in markets like the Czech Republic, Romania, El Salvador, Honduras, and Zambia. Brazil's Vale (formerly known by the clunky name Companhia Vale do Rio Doce) became the world's second-largest mining company in 2007 after acquiring a Canadian rival, Inco. And the world's largest steel company, ArcelorMittal, resulted from an acquisition spree by Indian billionaire Lakshmi Mittal. His Mittal Steel had cracked the Fortune Global 500 only in 2005.
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The unwieldy compound names of ArcelorMittal and Anheuser-Busch InBev show that these stories are as much about mergers and acquisitions as they are about the dynamism of new entrants from unlikely places. While these mergers will surely bring about concentration and new oligopolies with substantial market power, we should remember that they often involve companies that only a decade ago were a fraction of the size of the companies they were able to take over. The same could happen to them: a company based in an improbable location and flying completely under the radar may be the one taking over these new giant companies. That was the story of the last decade, and the forces propelling this trend are only becoming stronger.

Once-parochial companies in small, protected markets could not have leveraged up to take control of top firms in major global industries were it not for the drastic fall in entry barriers precipitated by the opening of financial markets, the spread of business education and culture, access to capital, transparent and more easily available corporate data, deregulation, trade and investment openings, growth, mobility, globalization, new technologies, and other forces discussed here. The internationalization of companies based in poor countries is a powerful example of the More, Mobility and Mentality revolutions at work.

Among the victims of hyper-competition in the global business landscape are the markets themselves—that is, the stock exchanges where most shares are traded and that media, politicians, and the public monitor for clues
about the health of the overall economy. Hallowed markets such as the New York Stock Exchange and the London Stock Exchange have rapidly lost ground to alternative marketplaces. In the US market, the traditional powerhouses NYSE (founded in 1792) and NASDAQ (founded in 1971) now barely command half the volume of trades on the public exchanges; as of 2012, the electronic exchanges Direct Edge (founded in 1998) and BATS Exchange (founded in 2005) account for about 9 and 10 percent, respectively, while dozens of other exchanges share the rest. Mushrooming exchanges and constant trading by automatic computer algorithms have contributed to market volatility, accounting for drastic falls and instant recoveries in the share price of particular firms.

The NYSE is not the only major bourse to be losing ground to new rivals; the same is true of the London Stock Exchange, Deutsche Börse, and other old-fashioned stock exchanges. As it is, Kansas-based upstart BATS (which stands for Better Alternative Trading System) runs more trading volume than any exchange other than NYSE or NASDAQ, surpassing Tokyo, London, Shanghai, Paris, and all the rest. One indicator of the struggle facing old exchanges is the loss of value of their own shares. Shares in NXSE Euronext (NYX ticker) plummeted from peaks of $108 in 2006 to about $22 in 2012. Revenues have fallen as well: in 2009, revenues from trading operations by the London bourse operator, London Stock Exchange Group Plc, fell by more than one-third.
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Rival exchanges are only one aspect of the new scattered financial markets. Another is the advent of “dark pools” exchanges, which began informally among institutions that seek to trade anonymously (without making orders, prices, or volumes known to the public) to avoid revealing their strategies. Dark pools go against the principle that markets should be transparent in order to achieve efficient outcomes; they are also fingered as a major cause of volatility and distortions in share prices, as well as a potentially unfair advantage for their participants. How to deal with dark pools is a matter of debate for regulators around the world, and views are split as to just how dangerous they are for the global financial system. What is clear is that they are proliferating.
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The Securities and Exchange Commission estimated that the number of active dark pools in the US market shot up from ten in 2002 to more than thirty in 2012. In January of the latter year, according to
Bloomberg News
, dark pools handled almost 14 percent of US equity trading.
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An earlier estimate by the SEC said that dark pools accounted for more than 7 percent of total trade volume on US
exchanges—a relatively small fraction, perhaps, but enough to have large ripple effects.
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The financial crisis and global market setbacks of 2008–2009 were assumed by many to have brought to an end the dominance of private equity funds and hedge funds in the markets. Over the previous decade, these little-known and often small operations gained control of enormous companies by means of leveraged buyouts, aggressive trading, and shareholder activism. After recovering from the popping of the Internet bubble at the start of the decade, private equity firms led successive record buyouts for the rest of the decade, culminating in the $45 billion purchase of the energy company TXU in 2007 by Kohlberg Kravis Roberts (KKR) and Texas Pacific Group (TPG).

MEANWHILE, HEDGE FUNDS PROLIFERATED, GOING FROM THREE
thousand funds to ten thousand funds between 1998 and 2008; by 2011, the hundred largest had $1.2 trillion in assets under management.
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In 2012, hedge funds took part in half of US bond trading, 40 percent of equities trading, and 80 percent of trading in distressed debt. In 2011,
Bloomberg Markets'
twenty largest hedge funds, led by Bridgewater Associates with $77.6 billion, had almost $600 billion in assets.
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The expansion of hedge funds was paralleled, albeit at a smaller scale, in Europe and Asia.

Lines began to blur as hedge funds took ownership stakes in more and more companies, acting like private equity firms while also displacing traditional banks. By 2007, the share of the primary leveraged finance market (i.e., trading in loans) handled by traditional banks slipped below 50 percent for the first time; it had been 90 percent as recently as 2000. In response, banks were purchasing shares in hedge funds themselves, thereby only accelerating the blurring of roles.

Hedge funds became the straw stirring the drink in terms of market activity and pressure on boards and management. In the United States, at a time when they held 5 percent of assets under management, they were also involved in 30 percent of trading activity. They exerted immense pressure on corporations without regard for brand and history, as when a fund (incongruously) called the Children's Investment Fund pushed so hard for the Dutch bank ABN AMRO to be sold or broken up that it had to accept being
sold to British bank Barclays. Vast amounts of money came and went in the form of massive bets, in the spirit of the most famous bet of all—when George Soros bet $10 billion against the British pound in 1992, collecting a billion-dollar profit. In 2006, a thirty-year-old trader for a fund called Amaranth lost a cool $6 billion on a natural-gas bet gone wrong. Winners in the industry walked away with gargantuan pay: in 2006, the top twenty-five hedge fund managers together reportedly earned the equivalent of the GDP of Jordan. Yet chances are that most of these people were barely known even to their neighbors in the tony Connecticut suburbs of Greenwich and Westport where hedge fund managers are known to roost.

In 2008, hedge funds lost an estimated 18 percent of their value. Yet there were plenty of exceptions, including George Soros, along with the fund run by the then not-yet-notorious figure John Paulson, who made billions betting against troubled subprime mortgage instruments, and a cohort of other obscure people who made hundreds of millions of dollars in the midst of a market bust.
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Perhaps not surprisingly, the market recovery amid the bailouts of 2009 proved profitable to hedge funds, although industry observers noted that a shake-out was under way. In fact, one argument in defense of the lightly regulated sector is that it produces winners and losers so definitively and efficiently that it acts as a kind of constant corrective helping to bring stability to the markets; according to Sebastian Mallaby, author of
More Money Than God
(a best seller on hedge funds), they “do not so much create risk as absorb it.”
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But hedge funds have also fallen under the regulatory gun and now face more constraints. In 2011 it was reported that due to new financial regulations, George Soros decided to close his funds to investors and would thereafter concentrate exclusively on managing his own funds. Volatile markets can also inflict enormous losses on these risky vehicles. John Paulson's fund suffered a significant setback when its market bets didn't pan out. (It lost $9.6 billion in 2011, the biggest-ever loss by a hedge fund.)
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At the same time, however, other hedge funds with names, approaches, locations, and technologies that are as surprising as they are innovative took their place as the biggest profit-making machines in the world. Hedge fund colossus Bridgewater, for example, made $13.8 billion for its investors that year.
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ONE LESSON THAT SEEMS CLEAR IS THAT SPECIFIC FUNDS MAY COME
and go, and their manager's compensation may veer from merely large to
the enormous and back, but the proliferation of these small, obscure shops with a huge capacity to affect markets and prices is bound to continue. In this new financial world, individual brainiacs armed with computer algorithms are frequently outwitting and outmaneuvering huge banks held back by cumbersome rules, complex internal practices, and slower-moving hierarchies.

Hedge funds are to traditional power in financial markets what Somali pirates are to the power held by the world's most advanced navies.

IN SUM, NEW ENTRANTS SUCH AS HEDGE FUNDS, NEW STOCK EXCHANGES
, dark pools, and previously unknown start-ups that suddenly upend an entire industry are harbingers of things to come: more volatility, more fragmentation, more competition, and more micropowers able to constrain the possibilities of the megaplayers.

Indeed, neither the public clamor about the dislocations created by economic globalization nor the massive shocks produced by the financial crisis of 2008 and the ensuing Great Recession have derailed the process of international economic integration. It continues largely unabated, and the predictions of a protectionist surge prompted by the attempts of countries to fence in their economies to protect jobs have been proven wrong. International trade and investment flows continue to grow and to feed the forces that constrain the power of traditional business players.

One of the paradoxes of our era is that, at the same time that corporations have become larger, more ubiquitous, and more politically influential, they have also become more exposed to risks that not only can hurt their sales, profits, and reputation but in, some cases, may even put them out of business. The list of companies that seemed untouchable by competitors or governments, and whose permanence was taken for granted but are no longer around, is long and continues to grow. The same is true for titans of banking and industry whose power and invulnerability proved to be far more fleeting than anyone—including them—had expected.

Even the large corporations that continue to thrive and are highly unlikely to be driven out of business by market forces face a more constrained set of options. For example, ExxonMobil, Sony, Carrefour, and JPMorgan-Chase still have immense power and autonomy, but their leaders are more
constrained today than they were in earlier periods. They cannot exert their huge power with the same liberty enjoyed by their predecessors—and the consequences of misusing it are more immediate and dire than in the past.

As we saw in this chapter, corporate power isn't what it used to be.