Can you still make money on the stock market?
Nicholas Davenport
As a postscript to my discussion last week on penal money rates there is a report in the market that one of the discount houses is in trouble and is being helped out by one of the joint stock banks. This Is not surprising. When the discount houses had to keep 50 per cent of their assets in public sector debt they stood to lose millions on their holdings of ' shorts.' The rules have now been changed and they are no longer bound to this ' liability ' but they still have to cover the weekly Treasury bill offer, which means that bill rates have gone sky high — to close on 11 per cent. One begins to wonder whether it is necessary to make the discount houses perform what seems to be a superfluous function — as intermediaries between the Treasury and the joint stock banks. The Ratcliffe report considered this point and came to the conclusion, somewhat reluctantly, that the discount houses performed a useful function. But no one now regards the Ratcliffe report as very discriminating.
There is no denying the fact that we are all in the grip of a dangerous monetary boa constrictor. The Bank of England believes that it has to raise money rates to support the floating f.: abroad and refuses to believe that dearer money aggravates the price inflation at home. (Why it does not draw more on the official reserves Heaven only knows!) The trouble is that the Bank is no longer in control of money rates. As I have pointed out, the Euro-dollar rates call the tune and the rest follow. Euro-dollar rates cannot fall until American rates fall and the Federal Reserve has put money rates up to kill their domestic inflation. A complication is the huge speculation rampant in the commodity markets. A world shortage of wheat already has put up the price of our bread and if it is followed by a bad harvest at home this month it will put it up even further. This money crisis is serious enough for the finance ministers of the OECD countries to call a special conference without delay to bring their money markets under stricter Control. I repeat, moneylenders should never be allowed to have complete freedom.
The slump in the gilt-edged market — the government bond index has fallen by 11 per cent and War Loan is standing at 31! — may have caused some nonprofessional investors to make a vow never to touch government bonds again but to keep their savings in equity shares. But alas! equity shares have not proved to be a satisfactory or reliable hedge against inflation. The FT index of thirty industrial shares has fallen this year by 16} per cent — from 509 to 425 — and retail prices have risen by 8 per cent.
The Christian Science Monitor has recently had a series of five articles by Richard Nenneman, their financial editor — all well reasoned and documented — on the title Can you still make money on the stock market?' The American experience is so like our own that it is well worth examining his conclusions.
The first point he brings out is that the average non-professional American investor has already answered the question in the negative. The collapse of the 1968/69 boom disillusioned him. Incompetence and corruption in high finance turned him sour. Even after the sensational falls in Wall Street prices — 50 per cent down in the bear market — it is estimated that 34 million jaundiced and bruised American investors sold out their remaining holdings this year. This left Wall Street in the hands of the institutional investors — the banks and finance houses which handle the pension funds. They now account for 70 per cent of the turnover and control 45 per cent of the stock quoted on the New York Stock Exchange. Vast pools of money — running into $100,000 million — are in the hands of a few managers — a nightmarish thought.
This has had the curious result of making Wall Street a two-tier market. At the top are the glamour growth stocks selling at high multiples — for the past ten years IBM has sold at between 35 and 43 times the current year's earnings — which have not fallen significantly in market value because the pension funds are continually being invested in them. At the bottom are the nonglamour stocks belonging to smaller companies whose growth record has not been timely established. Many of these are now selling at only eight times earnings because the pension funds give them a miss. This does not make Wall Street any more attractive. As Mr Nenneman says, there is a big risk in the high multiples. If growth slips below expectations, the price has a long way to fall. For example, a number of unseasoned growth stocks have taken a beating. American Medicorp dropped from 27 to 5, Levitz Furniture from 61 to 7 and Pennsylvania Life from 30 to 4. Even some of the old seasoned growth stocks have fallen sharply. Disney, for instance, has come down from 124 to 84 but is still selling at 52 times earnings. I must confess that I would like to see these high glamour stocks take a real beating but if the pension funds keep supporting them I may remain disappointed.
The optimists have, however, three points on the entry side. First, dividend controls were partially lifted on June 21. Companies are now allowed to pay out a cash dividend equal to their average pay-out ratio in the five years 1968/72. This could mean a substantial increase. For instance, General Motors could pay $5.25 which would give it a yield of 8 per cent at present prices. Secondly, Watergate, which has badly affected the morale of the market, must end some day and the possibility of a Presidential resignation or impeachment may have been over-discounted. (But would it be good or bad ftg, the market if Nixon went?) ' Third, the dear money tactics of the Federal Reserve may succeed in curbing the inflation. Fourth, the fading out of the boom need not endanger most companies because there has been no big build-up of plant capacity and no overstocking. Finally, the market always over-reacts. It goes up too far and it comes down too far. If it is the case of the latter, there are 6i million investors waiting to jump in.
Mr Nenneman is wise, I think, to end on a note of caution. Something basic has changed to make investing in the stock market more risky than it has been for the past fifty years. The worker revolution, he says, is changing the nature of American capitalism — just as, I might add, it is changing the nature of British capitalism. Inflation has led to a controlled economy in America — just as it has in the UK — and two freezes and two periods of price control have left the American business man utterly confused. The turn towards government management — "where there is little evidence to support its competence in the task" — has taken the heart out of the stock market which now fears that profit-making has become a dirty word.
The American public has therefore been shifting its savings from equities to high-yielding bonds on the assumption that inflation will be eventually curbed by the government control measures, in other words, that government intervention in business will be better for bonds than it will be for equities. So far that has not been the British experience, but it may well come.
If any investor here is impressed by the more optimistic view and believes Wall Street to be sold out be can buy a British investment trust without paying the dollar premium to give him a substantial interest. For example, Montagu Boston at 88i is selling at a discount of 54 per cent on its net asset value and West Coast and Texas at 77 at a discount of 2 per cent. Both are 100 per cent invested in Wall Street. At the moment, however, all stock markets are under a heavy cloud of public disapproval. We have just seen excellent British shares go down on the publication of booming profits.
Previous page
