Many critics claim that anti-trust enforcement has dangerously weakened since the 1980s, often citing the dominance of the tech giants as evidence of this. Others have noted rising concentration outside of tech: two-thirds of U.S. industries became more concentrated between 1997 and 2012. But a different form of monopoly has largely escaped the limelight. An emerging body of research alleges that trusts have returned in a more insidious form as ‘horizontal shareholdings’: investors that own significant shares in several competing firms. For example, there is substantial common ownership among U.S. airlines. Between 2013 and 2015, the seven shareholders who controlled 60% of United Airlines also controlled 28% of Delta, 27% of JetBlue, and 23% of Southwest. Together these airlines have over half of domestic market share. Theory and evidence suggests that horizontal shareholding harms competition, consumers, and the economy.

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Many critics claim that anti-trust enforcement has dangerously weakened since the 1980s, often citing the dominance of the tech giants as evidence of this. They argue that any benefit gained from Google’s free services or Amazon’s low prices is outweighed by their chokehold on suppliers, their possession of mountains of personal data, and more. Others have noted rising concentration outside of tech: two-thirds of U.S. industries became more concentrated between 1997 and 2012.

But a different form of monopoly has largely escaped the limelight. An emerging body of research alleges that trusts have returned in a more insidious form as ‘horizontal shareholdings’: investors that own significant shares in several competing firms. For example, there is substantial common ownership among U.S. airlines. Between 2013 and 2015, the seven shareholders who controlled 60% of United Airlines also controlled 28% of Delta, 27% of JetBlue, and 23% of Southwest. Together these airlines have over half of domestic market share. Theory and evidence suggests that horizontal shareholding harms competition, consumers, and the economy.

Increasing common ownership

Companies are traditionally thought of as having unique owners that try as hard as they can to drive up their market share and profits at the loss of their competitors. But when a firm is predominantly controlled by shareholders who also own that firms’ competitors, those common owners try to maximize the value of their entire portfolio — encompassing competing firms in the same industries — rather than the value of any one firm. Otherwise, any profits they gain from one firm will be roughly matched by losses at its competitors.

Consider two food trucks across the street from each other, both owned by their respective chefs. If one chef decided to cut their prices, they would direct customers away from their competitor across the street and thus increase their own profits. This is business as usual. But if both food trucks were instead owned by the same group of local investors, these owners would not support one truck cutting its prices because it would simply shift business from one outlet to another, with a lower total profit to the investors.

Competing U.S. airlines share many of the same owners and, although the effects on competition are perhaps inadvertent, the outcomes are directionally the same as the example describes. With an overlapping (but distinct) set of shareholders, a firm that takes market share from its commonly-owned rival will earn its owners some profit but, since they also own shares in the rival firm that has just lost profits, the total earned by the common owners will be smaller than if each company was owned separately. What is important for competition is therefore the relative influence horizontal shareholders have on a firm compared to other owners that are more incentivized to increase that firm’s profits because they are not also invested in competing firms.

In many industries the same institutional investors are the largest owners of many competing companies. This is true for the largest U.S. banks and in retail pharmaceutical, where Vanguard and BlackRock are the largest (non-individual) owners of CVS, Walgreens Boots Alliance, and Rite Aid (with State Street not far behind in two of the three). In supermarkets, too: Vanguard, BlackRock, Capital Research, Fidelity, and State Street are the five largest owners of Kroger, five of the six largest owners of Costco, and four of the seven largest owners of Target. The three largest shareholders of Apple are also three of the top four (non-individual) owners of Microsoft.

In fact, in many of these industries common ownership is even higher than it first appears because some large stockholders, such as J.P Morgan Asset Management, may be owned in part by other institutional owners. The following chart shows by just how much common ownership has increased in U.S. industries between 1994 and 2013. In fact, the probability of two competing firms in the S&P 1500 having a large horizontal shareholder increased from 16 to 90 percent.



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Diversification versus competition

This reflects a more general shift towards passive investment strategies such as index funds that rely on portfolio diversification. One of either Blackrock, Vanguard, or State Street is the largest shareholder in 88% of S&P 500 companies. They are the three largest owners of most DOW 30 companies. Overall, institutional investors (which may offer both active and passive funds) own 80% of all stock in the S&P 500. Their representation among the top 10 shareholders of U.S. corporations has skyrocketed since the 1990s.

This is not all bad. Institutional investors have grown so much because they offer small-scale savers the opportunity to invest in diversified funds with economies of scale. Indeed, horizontal shareholdings initially grew with the rise of institutional investors following legislative and tax rule changes in the late 1970s and early 1980s that created retirement savings accounts. BlackRock and Vanguard are “only the most recent incarnation” of a longer-term rise in diversified investment strategies. But it is impossible to have complete portfolio diversification, shareholder representation, and competition.

The necessary flip side to portfolio diversity is increased common ownership. Although theory predicting negative effects of horizontal shareholdings dates to at least 1984, only recently has a substantial amount of research emerged that articulates how common ownership leads to anti-competitive actions, provides corroborating empirical evidence, and proposes policy responses.

Anti-competitive incentives for managers and funds

The common owners of rival firms do not benefit when the firms compete by cutting prices or expanding output. In fact, they may even “soften competition” among firms in their investment portfolio. To begin with there is the potential of active efforts to stymie competition, such as encouraging the signing of anti-competitive agreements or passing sensitive information between two commonly-owned competitors. Of course, this sort of collusion is already likely to be prosecuted under current anti-trust practices. More worrying is the unintentional collusion through the owners’ corporate governance communications, the information flows between the firms and owners, and the incentives to lessen competition that common ownership brings, without any coordination or communications among the ostensibly competing firms.

Let’s look at the interplay between the shareholders of large corporations and the managers that actually run them. Managers need shareholders to vote for their corporate initiatives and their re-election. To accomplish either, smart managers will maximize the weighted average of their shareholders’ profits from across their diverse portfolio of stockholdings. This way they will gain the votes of shareholders’ whose profits they boost by increasing the value of both the manager’s firm and the other companies held by that shareholder. It would be “remarkable” if firm managers did not pay attention to the profit interests of their leading shareholders given the various sources of corporate accountability such as executive compensation incentives, takeovers, control contests, labor markets, and direct communications.

Horizontal shareholding therefore hurts competition because, as Einer Elhauge of Harvard Law School has argued, it reduces “each individual firm’s incentives to cut prices or expand output by increasing the costs [to shareholders, and thus managers] of taking away sales from rivals.” These issues are easy to imagine with direct investors (such as activist hedge funds) who typically have more concentrated holdings and thus greater ability to influence practices within a company or industry.

Some experts argue that institutional investors, particularly index funds, have little incentive to influence firms to behave anti-competitively because the direct and indirect costs incurred when influencing a firm to increase its value exceed their rewards (the annual fee charged on the market value of the index fund). But it is near-costless for index funds to influence a firm to behave anti-competitively through voting on general corporate governance matters that apply to all corporations in their portfolio. Moreover, proxy advisory firms lessen the effort that index funds need to exert by providing them with company research and vote administration services, and even guiding their voting.

Proxy firms could also shield indexes from the indirect costs of their efforts (aggravating corporate managers and causing them to divert their corporation’s pension assets to other funds), since the indexes are simply following the proxy’s guidance. Finally, the incentives to lobby for anti-competitive behavior are even greater for active funds, which are a much larger share of horizontal shareholdings. And although money managers at an institutional investor look after a relatively small portfolio, the shareholder voting rights of all funds within the institutional investor fund family are usually exercised jointly. The “rise and consolidation of intermediated asset management” increases the shareholder power of large diversified owners and reduces portfolio firms’ competitive incentives.

The harms of common ownership

Horizontal shareholding clearly has negative consequences for competition. But do the damages reach further? Since the 1980s anti-trust policy has focused on one goal: consumer welfare. Fears of the economic, political, and social harms of concentrated economic power have been narrowed in anti-trust jurisprudence to questions about how consumers are affected.

Several studies have found clear empirical evidence that anti-competitive horizontal shareholdings lead to increased consumer prices. A ground-breaking study found that the degree to which airlines serving a particular route are commonly owned is correlated with ticket prices on these routes (controlling for possible confounding factors). Ticket prices increase anywhere from 3% to 12% due to common ownership. Similarly, common ownership among banks in a particular county is associated with higher fees and lower deposit interest rates. Increased horizontal shareholding between an incumbent pharmaceutical brand and a generic entering its market made it 12% more likely that the firms would agree to pay the generic firm to stay out of the market, which led to higher returns for the incumbent because prices remained high.

One consequence of this is increased economic inequality. Higher prices result in higher returns to capital for horizontally competing firms, which mainly benefit the Americans higher up the income distribution who disproportionately own stocks. Yet all of society bears the costs of less competitive goods and services. This means that “the potential beneficiaries of anti-competitive behaviour — investors — are often wealthier than the consumers who pay the higher prices.” In fact, as the chart below shows, the increase in common ownerships from 1985 to 2015 coincides with the rise in wealth inequality. These relationships are not too far-fetched. After all, typical market share measures of concentration are associated with increased inequality. U.S. sectors where concentration rose the most experienced the largest declines in the labor share of firms’ profits.

There is also solid evidence that common ownership skews executive compensation and dampens corporate investment. Horizontal shareholders maximize profits when managers have weaker incentives to increase their firm’s profits and lower costs, since this would come at the cost to commonly-held rival firms. The result is executive compensation being based more on the performance of a firm’s total industry rather than the firm itself.

Horizontal shareholding also drives the “historically large gap between corporate investment and profits.” This gap is larger in concentrated industries and, within any industry, the investment-profit gap is driven by firms with high horizontal shareholding levels. Lower corporate investment contributes to inequality by depressing employment and wages, which disproportionately harms the non-wealthy. Finally, there is no possible efficiency defense. Horizontal shareholding does not result in increased efficiencies to firms, unlike standard mergers, because operations are not combined to create economies of scale. The benefits from common ownership are to stockowners and to investment funds.

Taking action against horizontal shareholders

Several policies have been proposed to counteract the harms of horizontal shareholdings. The U.S. agencies responsible for anti-trust have so far expressed disinterest in prosecuting any horizontal shareholdings, although the Federal Trade Commission held a hearing in December to study the matter. Some studies skeptical of the harmful effects of common ownership have been amplified by finance industry-funded groups, but have been effectively rebutted.

Current anti-trust legislation provides a basis for prosecuting horizontal shareholdings by banning stock acquisitions that may substantially lessen competition. Some argue that any horizontal shareholdings calculated to result in highly concentrated industries should be investigated for their effects on consumer prices. Others think the government should publicly offer investors a “safe harbor” from prosecution if they either limit their active holdings of a firm to a small stake or own the shares of only one firm per industry. This would allow free-standing index funds that commit to pure passivity to not be limited in size. A less drastic suggestion (but which would require new legislation) is to take away tax advantages enjoyed by retirement funds that are invested in mutual funds with a significant number of shares in more than one firm in an industry. These funds could still offer diverse investment portfolios, but only across industries rather than across competing firms in an industry.

These policy proposals merit substantial consideration. A popular anti-trust movement successfully defeated corporate trusts once in the U.S., so there is hope that meaningful action against resurgent monopolists is possible.