Might short-term shareholders be better monitors?

by on October 17, 2017 at 1:35 am in Economics | Permalink

Another plausible thing to believe…is that someone who holds a stock for a minute, or a quarter anyway, might pay more attention to this sort of stuff [longer-term company prospects] than someone who holds it for 10 years. It is hard to pay attention to anything for 10 years, plus a buy-and-hold investor might well be an index fund, or a casual retail investor, who doesn’t care at all about the underlying fundamentals of the company. The short-term shareholders have a clear incentive to demand long-term improvements: They’re going to sell their shares, so they want the price of the shares to go up, and the way to get a share price up is to discount in future growth.

If you combine those — debatable! — ideas then you might conclude that medium-term active shareholders are more likely to hold managers to account and demand long-term productivity improvements than are long-term shareholders who never sell. On the other hand, the managers might prefer the long-term shareholders, since managers — according to another fairly standard piece of financial-economics theory — love not being held accountable by shareholders.

That is from Matt Levine at Bloomberg, much more at the link.

1 Kevin Erdmann October 17, 2017 at 2:18 am

That’s a great point.

2 Ray Lopez October 17, 2017 at 3:55 am

Is this like that Keynesian maxim “the long run is a series of short runs”? (since both Keynesianism and monetarism, largely bogus concepts, only work say economists in the short run).

3 Al October 17, 2017 at 11:45 am

Agreed. We done Matt.

+1

4 Kevin Erdmann October 17, 2017 at 12:52 pm

I also liked the point in the article that giving more voting power to long term holders was a sort of backdoor way of giving the founder a tremendous amount of power, since his shares would have the most votes.

5 rayward October 17, 2017 at 6:45 am

What about earnings, does anybody care anymore? This is the era defined by rising asset prices. It’s partly by design and partly by default. While capital markets are praised for bringing together investors with capital and entrepreneurs with ideas, the bulk of investors don’t care about earnings they care about rising asset prices. As well they should, since earnings alone don’t guarantee rising asset prices; indeed, in many cases the focus on earnings creates a drag on asset prices. Of course, index investing is the rage today, and anyone not with the program is considered a fool soon to part with her money. Do rising asset prices reflect economic growth or do they reflect fantasists enthralled with the illusion of economic growth dependent on the bigger fool?

6 Dick the Butcher October 17, 2017 at 8:34 am

I don’t know.

Since November 2016, equities markets have risen what-20%? while GDP sluggishly up at 2%. What could go wrong? .

A Fed report for 2Q2017 reflects record-high household debt. Prior record was immediately prior to the 2007 – 2009 recession. Also, there is record high household net worth and very high household net worth to disposable income. This could signal asset prices are misaligned as in 2006 when housing prices soared (some investors expected 10 years of double digit prices gains) while disposable incomes and GDP relatively stagnated.

Still, I’m not betting against this market. Earnings have been strong, money is easy, no where else is there sufficient yield, low inflation, investors are very bullish: which may be a cautionary metric. Narratives – Trump hopes.

Bull markets end when everybody is invested and no money is available to buy more.

Earnings are there. What is “interesting” are the low capitalization/discount rates the markets are signaling. Dr. Shiller’s Cyclically-Adjusted PE is 31; only twice higher – 32.5 in 1929 and 44 late 1999.

7 msgkings October 17, 2017 at 12:04 pm

CAPE doesn’t work (hasn’t for this entire bull market) because there’s an artificial collapse in earnings in 2008. Once that year falls off the 10 year CAPE, the ratio will drop sharply.

8 Mark Brophy October 17, 2017 at 1:59 pm

There’s a CAPE calculator at https://dqydj.com/shiller-pe-cape-ratio-calculator/ where you can substitute 8 years for 10. You get the same result, a market overvalued more than any time in history except the 2000 bubble.

9 msgkings October 17, 2017 at 2:16 pm

Surprising, I don’t have time to check. But still, the CAPE has flashed ‘overvalued’ for this entire bull run. Not a useful indicator.

10 Dick the Butcher October 17, 2017 at 2:31 pm

OT I was abducted by aliens.

Not sure about that, msgkings. The low (15.17) CAPE for January 2009 will remain in the ten-year average.

I think Dow fell to 8,000 or 9,000 in March 2009. While earnings declined, stock prices also fell to very low levels. CAPE January 2009 was 15.17; January 2008 was 24.02. October 17, 2017 was 31.18; January 2017 was 28.06; January 2016 was 24.21. Possibly, the October 2017 number reflects the 4,600 point rise since Election Day.

Other “indices” to look at: Dow to Gold (10 now 17.5); Gold to Oil (12 now 25.4) ; Gold to Silver (15/40 now 5/1.88). Silver seems most attractive.

Here’s another: Stock Values to GDP – recent 207% )likely higher today); 202% in the dotcom bubble; 181% in the credit bubble.

11 Alan Goldhammer October 17, 2017 at 1:22 pm

“What about earnings, does anybody care anymore?”

As an investor I certainly do but then I’m schooled in Graham & Dodd.

12 Bill October 17, 2017 at 7:51 am

How much noise is contained in the information that a short term trader relies upon?

If the noise/information ratio is high, I am not sure its worth being active, controlling for risk.

What might be the case is that those who are highly diversified are less likely to monitor individual stocks, which means that inattention to recognizable information is ignored by those who are diversified in this way.

But, then, don’t diversified portfolios with ETF’s beat those composed of actively managed mutual funds?

13 chuck martel October 17, 2017 at 8:10 am

“managers …. love not being held accountable by shareholders.”

When things aren’t working out. When they’re successful it’s a different story. Then their compensation increases.

14 celestus October 17, 2017 at 8:39 am

The best monitors, of course, are competitors to issue the company’s stock (i.e. short sellers). Guess how most managers feel about them.

15 Al October 17, 2017 at 11:47 am

Another great point.

16 charlie October 17, 2017 at 10:39 am

I wonder if the same logic would apply to owners vs renters in a city.

17 Mark Brophy October 17, 2017 at 2:04 pm

It’s the opposite. Many subdivisions allow owners to own dogs but they can’t rent to dog owners. Many condo towers limit the number of renters because of fears of falling property values.

18 BBQ October 17, 2017 at 3:37 pm

Although I see where you are coming from using this example, I am not sure this is a valid comparison. Renters have no economic interest in the homes/apartments they rent outside of their liability for damages under the terms of the lease. A renter incurs no risk and no reward from changes in asset prices. Yes, housing values can have an affect on rental rates but that is typically market driven. Short-term vs long-term investors/stewards both have the same goal in mind (price appreciation), however their time horizons are very different and thus their risk tolerances are likely to be very different…renters have no ownership/rights to the assets that they rent, so their interests/actions cannot be compared to those of stakeholders.

19 Dave Smith October 17, 2017 at 12:08 pm

Exit > Voice.

20 Quite Likely October 18, 2017 at 11:47 am

This only works if you make the very dubious assumption that the smart moves for the long run are what will most increase stock prices in the short run. What we’ve seen is that short term investors prioritize short term boosts like dividends, stock buybacks, cuts to wages, etc. rather than investments that will take longer to pay off like building a positive company culture or making big capital investments.

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