BlackRock's High-End Risk Management Solution
Ever since a small band of Credit Suisse First Boston executives founded BlackRock Financial Management in 1988, the firm has been known for its financial expertise—particularly in the fixed-income and mortgage-backed arenas.
It wasn't until August 8, however, that the mammoth $180 billion money management firm announced the launch of BlackRock Solutions—a risk management arm of the firm geared directly to helping large outside money managers understand their portfolios and optimize portfolio performance vs. certain benchmarks.
BlackRock has long been a consultant, first cutting its teeth when it advised General Electric on how best to dispose of Kidder Peabody's mortgage portfolio in the post-Joe Jett, pre-PaineWebber merger period. GE Credit remains one of its biggest clients, together with such names as American Re-Insurance and Cendant Mortage.
Now BlackRock is slowly starting to slip from a pure consultant and risk management role into an application service provider role, with soup-to-nuts back-office capabilities. The firm's goal is to add another few hundred medium-size financial institutions to its base of 25 large clients. And with the majority of the costs already sunk into its risk management platform, there is little harm in trying.
BlackRock's platform is clearly pointed toward capturing the high end of the risk management market. To be able to compare and contrast the old BlackRock and the new, here's what BlackRock has historically done for its outside clients. Every day, a half-dozen or so large clients have their entire portfolios shipped over to BlackRock via a variety of methodologies, but generally via an automatic interface with a client's custodian. BlackRock's Sun Unix computers then clean the data, search for possible outlying trades or settlement prices that might have been incorrectly entered, and produce detailed risk management reports that a client can access via a dedicated line or password-enabled web page the following morning.
A client has dozens and dozens of reports to choose from, all personally configurable. There are exception reports, interest rate risk reports, corporate exposure reports, mortgage-backed exposure reports, and convexity analysis reports, just to list a few. Typically, separate portfolios form row line items, and the vertical columns can be configured to show any number of risk analytics, including market value, yield, option-adjusted spread, the portfolio benchmark, benchmark duration, gap, gap in percent, and limits on how large this gap is allowed to be. You can even design a column to show the instantaneous total return for a predesignated yield curve shock—such as the 2-year/10-year spread inverting 50 basis points—or quant tools such as a swap spread duration. Current and extrapolated cash flows, calculated to the penny, are there as well.
Click on any portfolio and you can drill down deeper to specific line-item securities or derivatives held, the mark-to-market value of these holdings, their durations, the contribution of a given holding to a portfolio's overall duration, and accounting items such as a security's unrealized gain and loss.
BlackRock's ASP solution is a bit different. In lieu of simply producing risk management reports run daily on a portfolio processed by some third-party custodian and handed to BlackRock for analysis, BlackRock now provides full back-office functionality for at least one client: Freddie Mac. BlackRock is not only the risk management solution, it is the total solution, with trade capture taking place in Freddie Mac's offices using terminals that have a dedicated interface into the BlackRock Unix server, with some BlackRock personnel actually manning the terminals.
|Blackrock is starting to slip into an application service provider role, with soup-to-nuts back-office capabilities.
"That may not sound like a huge difference, but it is,” says Robert Goldstein, director of BlackRock Solutions. The company refers to this more encompassing platform as its "enterprise investment system,” and claims that it fully integrates industry-leading analytics with a highly sophisticated trade-processing system to deliver that magical concept: a paperless office with straight-through processing.
Once a trade is entered, it takes on a series of color codings as different people across an institution work toward its settlement. Perhaps blue-colored when initially entered, a trade might turn to yellow once confirmed by the portfolio manager, green once confirmed with the counterparty, red if a possible exception is noted, and perhaps black if cancelled or once it is finally settled. There is a complete trail of orders entered and cancelled, as well as a fully integrated front-end compliance mechanism. Try to enter a trade that will break a given limit, and the system will reject it or perhaps notify an administrator—depending on how severe you have set the limits to be.
BlackRock partners would probably be the first to admit that the majority of their analytics and report structures are fixed income—and specifically mortgage-backed—in orientation, but Goldstein claims that the system handles any financial instrument around—from equity futures to OTC total-return swaps, forward currency transactions and even a bond based on the performance of the Goldman Sachs Commodity Index. There is enough flexibility here that further idiosyncratic bells and whistles of individual securities can be properly defined and managed. Creating a master security in the database is as easy as typing in a counterparty name and the beginning of short-cut keys for different types of instruments. The override short-cut defaults can be expanded and amended as need be.
There are, however, a few sticking points worth noting.
The system doesn't support commodity or metals cash or futures positions. So try to hedge that Goldman Sachs Commodity Index bond you just purchased with some commodity futures sales, and you won't be able to enter the latter into the system.
On the enterprise system, BlackRock currently offers pricing page capabilities, but these have yet to be integrated seamlessly into the trade-entry module. In other words, you can't go directly from pricing a deal to entering that deal into the system. Instead, you have to exit the pricing module and re-enter the details of a trade from scratch within trade entry. Goldstein says the firm is working on a better interface between the two.
BlackRock also offers a real-time module called intraday risk viewer that displays all new deals done in a given day and various analytics. Aside from this functionality, however, BlackRock's analytics are typically performed on a once-a-day batched basis. In increasingly volatile financial markets, it's unclear whether this is quite enough. While you effectively know your portfolio's static exposures as of the prior day's close, new trades are then added to it marked to the prior day's closing prices, not the current day's real-time prices. This may seem like a small point, but it is a bit clumsy and potentially problematic in a crash-like environment where there has been a quantum jump or decline in intraday prices to worry about. Perhaps this functionality is coming, but it does not appear to be quite there yet.
Lastly, there's the question of price. First-tier analysis tends to come with a high price tag, of course, but BlackRock is shy about revealing how big a price tag this really is. The official line at the company is that there are "so many different permutations of service and different modules that can or cannot be included, that it is hard to point to any one price.” Pricing is based in part on the size of the portfolio being managed, and a full-scale enterprise investment package is many times the cost of the simple daily risk reports.
In any case, BlackRock's clients apparently feel the solution is well worth the cost. "BlackRock represents an enormous advance in our ability to track and manage our portfolios,” says Mark Schurmeier, director of strategic reengineering at Freddie Mac. "The enterprise system allows us to get a precise daily view of our risk exposures. No other system could handle the diversity and complexity of all of our products.”
Certainly, if there is ever another crisis in mortgage-backed securities trading down the road, BlackRock's risk management engines will be standing smack in the middle of it—helping Freddie Mac and other large players to judiciously weather the storm.
— Barclay T. Leib