Market Fever

The Market. That austere and unforgiving entity that has replaced God and the Communist Party as this age’s deity. There are three types of players in the financial markets, of which only two are in evidence for most of the business cycle. Most important, though least visible is the investor. You have no doubt seen commercials for banks and mutual fund companies which seem to address you as if you were included in this rarefied breed (the same logic, in reverse, which puts someone making 200,000 a year into the middle class). You are not an investor. What you are will be made clear soon. The true investor knows what money is and what it is for. He (shes are rare in these circles) knows that the reason one buys stock in a company is a)to share in the profits through dividends, and b)to exercise control. One buys bonds in a company or government to a)ensure a steady, safe stream of income, and b)to exercise control.
The second, and most visible, breed is the speculator. He (see note above) is generally an enterprising type who has discovered that, even in normal times, buying and selling financial instruments produces a better return on his money than sticking it under the mattress or into a savings account. He buys stocks with one aim in mind: to sell them tomorrow at a profit. Bonds he scorns, unless the stock market is flat and there’s a chance of making a quick something on the yield. He scorns his less enterprising brothers at the racetrack or bookie shop, but he is essentially no different.
In ordinary times, the investor and the speculator are the only real players in the market. Every so often, however, something happens, and a new breed appears on the scene. In the carnival setting, they are known as “rubes“; the rancher knows them as “dudes“; the professional con-man welcomes them as “fish”. They are, in short, the common people, for whom the promise of higher returns on their savings has become irresistible, and they fall over themselves to hand over their hard-earned gains to anyone who can promise a slightly better rate of return than the next. The financial advisor and mutual fund manager take the place of the priest and witch doctor
During this time too, the nature of the speculator changes somewhat. The field becomes dominated by those testosterone-driven young men who have, in other times and settings, traditionally expended their excess energies in seduction, exploration, crime, or chopping or blasting each another’s heads off in the name of some patriotic or ideological cause. They now derive the same thrill and sense of purpose from the pursuit of money. Their motto: “Take no prisoners!” Heedless of risk, the new speculators plunge headlong into the great adventure of “investing”, seizing on the latest technology, the fastest prices, the hottest tips, taking in and acting on vast amounts of data, but it’s never enough, never enough…
And as more and more people enter the market, and the prices start to rise, the true investors smile. They know what money is and how to increase their own supply, in war or peace, boom or bust. They will not be buying the inflated stocks whose price bears no relation to their real value, but they will gladly create and sell them to the suckers who are begging for someone, anyone, to take their money in exchange for a promise of future prosperity and the assurance that they too are savvy investors.
A symptom of such times as these, as is often observed but equally often ignored, is the divorce of price from value. To the real a share in a company means a share in its earnings. I recently found myself at the Toronto Financial Forum, listening to the president of a little-known company explaining why we should be investing in its shares. The company has been the leader in an essential service sector for over 40 years; its clients are established companies and governments; its finances are in good order. Most importantly, its P/E ratio, which compares the current share price to the actual earnings, was remarkably low, making it a bargain by any traditional measurement. All seemed positive, until a member of the audience asked about dividends. The CEO explained gently, as to a child, that the company did not pay out dividends, but reinvested all profits right back into the business. The audience nodded wisely. Obviously this was the right choice, demonstrating a commitment to the company which could only augur an even brighter future, and make it an even more attractive addition to anyone’s portfolio. But consider the implications. I am being asked to buy a share in an enterprise, and receive absolutely nothing from them in return. The only way I can gain from my “investment” is as a speculator: buy now in hopes of selling it to someone else later at a profit. If enough people buy, the law of supply and demand will ensure that the price will indeed increase, and they will get their profit. This type of system has gone by many names over the years: Ponzi Scheme, Golden Pyramid, Tulip Craze, but the most accurate is the simple “bubble”. The main symptom, as John Kenneth Galbraith has so eloquently pointed out in his analysis of the Crash of 1929, is the willingness of enough people to believe that the fundamental laws of nature and economics can be suspended as long as enough people believe they can. Like the children at a performance of Peter Pan, they keep applauding, and Tinkerbell keeps reviving, even flying to new heights. But after a certain point the law of diminishing return sets in, as laws must always do, and more and more applause is needed every time to bring her back to even a semblance of normality. Such a system can only be sustained by a constant infusion of money from existing participants or new suckers. As long as that continues, people will keep getting rich, at least on paper. But a state of hyperinflation sets in, driving up the price of even the most worthless instruments and creating a demand for ever more, which the real investors are happy to fulfil.
A more pernicious effect can also be observed. The investors, i.e., the owners of the large banks and conglomerate corporations, begin to exercise their political muscles. They become emboldened in telling governments exactly what they want, and backing it up with threats. They begin pushing particular policies, including deficit reduction (now accomplished) and tax cuts. Besides the obvious financial benefits to themselves, tax cuts aid investors in several ways:
• In conjunction with the “battle on inflation”‘ they have a depressing effect on wages. It is easier to make people accept less money if lower taxes make it seem like they have more.
• Less taxes mean that government can no longer pay for the same services as before, and private investors can take them over and run them at a profit or, in the case of charitable or cultural activities, forthe sake of good publicity. i fear, however, that these things, especially charity, will be the first to be trimmed at downsizing time, which isjust the time they are needed most.
• Less revenue also means that governments also have less resources to police the private sector and hold it accountable for its actions. Self-regulation becomes the norm, with generally disastrous results.
I am not bashing the private sector. Far from it. The private sector has a important role in society, even if that is generally exaggerated these days. It would appear from the failed experiments in, for example, the Soviet Union, that the making and marketing of non-essential, and even certain essential goods is best accomplished by private companies working without being told what to do by society as a whole. A society must decide for itself, of course, what it considers essential. The telecom/Internet industry is certainly essential to today’s commercial world, and seems to be doing fine in private hands. But natural and essential monopolies should be in government hands. Some governments have been persuaded, for example, to hand their countries’ water supplies to private interests, with the immediate effect of deprivation and ultimately riots.
There is a lot of talk about sound fiscal management for government. It seems to come down to the odd notion that government is a business, and should be run as such. I will look at this further in a future posting.

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