Tag Archives: Stocks

Owning Bonds Despite A Bearish Perspective

I enjoy following financial markets and implementing investment ideas in which I am confident will perform as expected. Recently, I have become bearish on bond prices. I am bearish on bond prices because interest rates are low and are expected to begin rising in mid-2015. Bond yields will rise as interest rates rise, which also means bond prices fall (i.e. bond yields and prices have an inverse relationship). As a result, I am thinking of ways that I can trade on this perspective. According to the Wall Street Journal, “If you expect lower returns from an asset class than it has provided historically, such as lower returns from bonds, then the math, and probably logic, would tell you to lighten up on bonds”. In order to lighten up on bonds, I would need to sell any bonds that I own. However, I do not own any bonds so I have considered shorting bonds instead through an exchange-traded fund (ETF) such as ProShares UltraShort Lehman 20+ Year Treasury.

Although this investment logic might be right, I have made a mistake by not having any exposure to bonds in the first place. According to the Wall Street Journal, “To be clear, the solution is not to eliminate bonds from your portfolio because they will still provide the very important diversifying benefit of cushioning your portfolio if the market should pull back”. Diversification is an important part of asset allocation to protect against the random walk of financial markets. For example, eliminating my exposure to bonds and only being exposed to stocks puts me at extreme risk of loss if the stock market declines. According to Burton Malkiel, “But note that even though correlations between markets have risen, they are still far from perfectly correlated, and broad diversification will still tend to reduce the volatility of a portfolio” (212). With my portfolio consisting of 100% large cap United States equities, I am subject to a significant amount of volatility. By adding some exposure to bonds, I might be able to reduce the volatility of my portfolio.

Despite my bearish view on bond prices, there are still ways for me to invest in bonds and gain benefits from diversification. My bearish view on bonds is due to interest-rate risk. In this case, increasing interest rates will push down bond prices. If I wanted to still purchase bonds in order to gain some exposure, then I could purchase bonds with short maturities. The shorter the maturity of a bond, the less it is subject to interest rate risk. This can be seen in the yield curve, which has a positive slope as maturities increase. Although the prices short term bonds will still fall as rates rise, there will still be benefits from diversification.

In addition to interest-rate risk, bonds are also subject to default risk that arises when a debtor fails to pay back the creditor. If a debtor is thought to have a high risk of default, then that debtor is charged a default risk premium and charged a higher rate of interest. If I wanted to still purchase bonds in order to gain some exposure, then I could purchase bonds with a higher risk of default. This is another way to still own bonds and decrease interest rate risk. In addition,  there will be benefits from diversification.

Malkiel vs. Lewis

In this post, I’d like to look at the differences between the ideas presented in Burton Malkiel’s book A Random Walk Down Wall Street with some of the ideas that have come out about the stock market. Michael Lewis is a Wall Street author who claims that high-frequency trading gives the big names and companies in Wall Street an unfair advantage when it comes to the market. This idea is especially worrisome to people like Lewis because it seems that HFT is here to stay. From a recent article in the Wall Street Journal, here is what Lewis has to say about high-frequency trading:

“High frequency traders have found ways to use their speed to gain an advantage that few understand,” says Lewis in the interview.

“They’re able to identify your desire to buy shares in Microsoft and buy them in front of you and sell them back to you at a higher price,” says Lewis. “The speed advantage that the faster traders have is milliseconds…fractions of milliseconds.”

I think that few would doubt that the big names on Wall Street find HFT a very useful tool — they can trade so quickly that they are able to respond to market information much more quickly than the average stock user. But I think Malkiel would take issue with what Lewis is claiming here. The idea that anyone can identify the average trader’s desire to purchase an asset, and therefore take advantage of the price changes that will result, sounds a lot like the Caste in the Air theory that Malkiel discusses at length and ultimately dismisses.

In case you forgot, the Castle in the Air theory says that one can beat the stock market by predicting how stock prices will change in the future and taking advantage of this knowledge by buying and selling at the appropriate times (this is in contrast to the Firm Foundation theory which says that a stock has an intrinsic value that the market price will on average always reflect). I think that if Malkiel were to comment on Lewis’s claim, he would say that no one, even the professional investors, can beat the market consistently. The journey through the stock market, he would claim, is really like a random walk, and no one can predict with certainty what the future will hold. If this is the case, then it cannot be that HFT investors have an unfair advantage — after all, if the stock market is unpredictable, then HFT traders cannot really hope to identify what stocks other investors are going to purchase in the future.

I think I would have to agree with Malkiel’s view. HFT is a useful tool, but the market is, in a way, much more powerful than any individual.

A Random Walk With MetLife

MetLife is one of the largest publicly traded insurance companies in the United States. The company has shown a lot of growth in the past years. An interesting twist is that its stock price is relatively cheap. According to the Wall Street Journal, its shares trade at around $52, and its projected profits are $5.69. The journal continues to say that the prices could rise up to $60 within the next year. The stocks are relatively cheap for the market. An analyst at Barclay’s valued it at $62 per share. One reason why the stocks are so cheap is that the firm does not buy back any shares to drive up prices. This is all in spite of its earnings and book value. The New York Times Profile for MetLife shows graphs about the company’s growth. In the past three years, the company has grown 15.56% in operating profit margin, and 28.7% in the last 52 weeks, which is outperforming the S&P 500. To add to its profits, MetLife will be investing in real-estate in large cities, such as Los Angeles and New York. This will be an attempt at fighting the ongoing housing slump of the past few years. According to the Washington Post, MetLife sold an apartment complex it developed for $5.4 billion sixty years after purchase.

For someone who did not read A Random Walk Down Wall Street by Burton G. Mankiel, this would be more than enough reasons to invest in MetLife. The stocks are relatively cheap, the firm has big plans for the future, and it has an impeccable track record. Mankiel would argue otherwise. He critiques fundamental analysis in predicting the direction of a stock. Yes, the new investments in real-estate could bring in more money for the firm and rise the value of its stock. However, it is not guaranteed that these investments will have positive effects on the firm. Mankiel also discusses how using past performance as an indicator for future performance is not the best method for investing. Yes, the firm has shown very strong growth in the past few years. He argues that one cannot consistently outperform the market, which is what it would seem that MetLife is doing. It might seem like that right now, but something could easily happen, which could hinder the company’s growth. At that point all of these people who put their eggs in one basket, with the “I can’t lose” mentality, will lose a lot of money.

 

The End of Online Commission Trading

The online stock brokerage industry may be changing as we know it. The days of $5-$10 trade commissions may soon come to a close as a new Silicon Valley tech startup emerges called Robin Hood. Robin Hood is setting out to become the first commission free securities broker. The app was recently approved by the Financial Industry Regulatory Agency (FINR) and has started running its beta version in January. The founders Vladimir Tenev and Baiju Bhatt created the app a year ago with the young retail investor in mind. Co-founder Vlad Tenev said, “You’re losing the amount the stock market appreciates in a year in just commissions,” when investing with $500 accounts. (TechCrunch) All this sounds great, but it begs the question how can they operate a brokerage with $0 commissions when everyone has always charged $5-$10 trading fees?

It turns that most of the $5-10 in trading fees isn’t actually used to execute trades, but is often used to pay for retail locations, numerous sales and support employees, and all the research features included on the brokerage site. By eliminating all of these features, Robin Hood was able to create a brokerage app that simply executes trades for zero fees. Currently the app is pretty bear in regards to its research features, but the company plans on partnering with independent app designers to possibly create an independent open-sourced research community. You’re still probably wondering how this company will make any money.

Robin Hood currently has three revenue sources. First by charging independent developers for API access they will soon be able to charge app designers for creating add-ons to the app. The second source of revenue is common in brokerage houses and is the interest rates charged on margin accounts. The final and most intriguing revenue source is the “payment” for order flow,” meaning exchanges will pay Robin Hood to execute orders through their exchange in order to increase the exchange’s volume and thus its liquidity so that they can more efficiently execute orders. (TechCrunch –Zero Commission Stock Market App)

With this being said Robin Hood has the potential to really shake up the environment for retail investors. By having zero commission fees, traders will be more incentivized to increase the frequency of their day trades, thus potentially spiking overall market volume. Another effect that could marginally increase the volume is the introduction of small scale investors that had previously been disparaged to trade the markets due to the costly commission fees. If the concept of zero commissions catches on quickly other brokerage firms may be forced to lower fees or even drop commission fees all together. This trickle effect could potentially eliminate trading fees all together from brokerage houses. In my opinion, the introduction of commission fee trades may have a slight effect on commission fees early on for brokers like Scottrade and Etrade, but many investors will continue to use their current brokerage houses do to the resources and research that they provide. Until Robin Hood is able to provide competitive tools and research for investors, the major brokerage houses will still have the edge, but as Robin Hood installs more add-ons the brokerage houses need to watch out!

Municipal Bonds: Time for a Change

When it comes to investing, there are obviously many options from which to choose in terms of where an individual would like to put their money. Which one of these options any particular individual should pick depends on his or her current financial situation, as well as the tax bracket he or she is in. One of these possibilities is municipal bonds. Municipal bonds are tax-exempt bonds that are generally issued by state and local governments or by some governmental authorities. As Malkiel discusses in A Random Walk Down Wall Street, given that municipal bonds are tax-exempt, the people most likely to purchase these types of bonds are those who are in a very high tax bracket, since they do not want to lose a large chunk of their interest earned to taxes, which would be the case if they invested in corporate bonds instead (page 330). While municipal bonds have the advantage of being tax-exempt, what is currently taking place does not make them look all that attractive. According to the Wall Street Journal, individual investors that are putting their money into municipal bonds are paying twice as much in brokerage fees as those putting their money into corporate bonds. This is due to reasons I will discuss below, and a change needs to be made.

When it comes to corporate bonds and stocks, brokers have to disclose market pricing and offer “best execution” on trades, so that individuals receive the best possible price. However, this is not the case for municipal bonds. Since this same sort of protection does not exist for municipal bonds, brokers have been getting away with higher spreads. Essentially, brokers do not have to “show the market” to the investors, and in this way they can get away with making these extra profits that investors simply have to fork over, or decide to put their money elsewhere. It is a very unfortunate situation that gives investors very little leverage, and needs to be changed.

And while brokerages have come up with reasons for why it is okay for them to make these excess profits, such as the fact that “municipal bonds cost more to trade because they change hands far less frequently and in smaller amounts than do other securities,” I do not believe that these reasons are good enough to justify such profits. The circumstances are simply unfair to the investors who are just trying to invest their money tax-free, and don’t deserve to pay extra fees than are necessary. Further, brokerages warn that changes in the regulations of municipal bonds could hurt the activity in this market. This just sounds to me like the brokerages don’t want to lose out on the ability to make extra profits like they currently do. To respond to this worry that the brokers have stated of stifled trading, similar worries were had by stock brokers and corporate bond brokers when similar amendments were proposed for their markets. Any problems there? No. In fact, it turned out to be just the opposite.

Here is a quote from Peter Coffin, a municipal-bond manager for wealthy individuals at Boston-based Breckenridge Capital Advisors, that I believe sums up this entire situation: “You think of how the retail industry has gone from the local grocery store to Wal-Mart to Amazon,” he said. By contrast, he said, “In municipal bonds, we’re still shopping at the local grocery store.”

It is time for a change in the municipal bonds market and I believe everybody knows it, including the brokerages. They can pretend that a change would hurt the market just so they can continue making extra profits on their trades, but they know as well as anyone that the regulations need to be updated. Investors should feel just as comfortable putting their money into municipal bonds as they do investing in corporate bonds or stocks. If the regulations do not change, and soon, I would not be surprised if many investors stop looking towards municipal bonds as frequently for investing purposes, as the extra costs involved may be canceling out the advantage of them being tax-exempt.

Earnings Growth Must Drive the Equity Market Up From Here

When it comes to equities, there are two basic drivers to valuation and understanding these drivers is key to understanding market movements. The first determinant is simply the earnings streams of individual companies. After all, investors are purchasing ownership stakes in a company, which ultimately entitles them to the earnings th

at the company generates by conducting its ordinary business. The income attributable to equity holders is best represented by the accounting metric “net income” as this is the income after debt holder’s have been paid the interest they are due and taxes have been paid to the government. In general, if earnings rise over time there is more income to share and so the price of the stock increases as well. From an intrinsic valuation perspective, the price of a stock (or any asset for that matter) is the present value of the future cash flow or income that stock will generate.

The second key determinant of a company’s valuation is known as a multiple. A valuation multiple is simply the amount that investors are willing to pay for one dollar of that company’s income. Typically, equity investors look at the price to earnings multiple, which is the share price divided by the earnings per share. The beauty of multiples is that they provide an easy way to value companies relatively against other companies or the market as a whole. A company with a high multiple is viewed positively by the market – investors are willing to pay more for it because of high growth prospects, stellar management, or other factors. A company with a low multiple may have declining growth but could also be a cheap investment opportunity if it is able to improve its prospects. Multiple’s tend to change over time as companies change or investors view companies differently.

From a macro perspective, it can be most useful to look at earnings and multiples for the equity market as a whole. Bull markets can be driven by increasing earnings, which are fueled by improvements in the underlying economy. Even in periods where earnings remain stagnant, multiple expansion can drive the market up. It makes sense that in low interest rate environments we could expect to see multiple expansion as investors move out of low-yielding bonds into riskier, higher returning equities. Often times market rallies are driven by some combination of both of these drivers. As the chart from Bloomberg below (apologies for the crudeness) shows, multiple expansion typically accounts for about 70% of the returns in a bull market.

While the most recent rally has so far been driven primarily by earnings growth, I believe that earnings growth must continue in order to sustain the rally, rather than multiple expansion making up the difference. For one, the market multiple has increased considerably as the asset management firm BlackRock describes in their 2014 outlook:

Over the course of 2013 the trailing price-to-earnings (P/E) ratio on the S&P 500 rose from 14.2 to 17.50, a 22% increase. Based on P/E measurements, stocks are commanding the highest valuation since early 2010, when multiples were still high due to depressed earnings. Using a different metric, price-to-book, the S&P 500 is now trading at the highest multiple since before the financial crisis.

Stocks look relatively expensive at this level to many investors. Combine that with the looming rise of interest rates in the near future and multiple expansion would seem to be losing steam. What matters now is earnings growth. If the economy continues to improve and companies begin to invest their stored capital, we can see earnings grow and continue to support the equity bull market. Indeed, the Wall Street Journal reports a similar viewpoint from Goldman Sachs, whose chief equities strategist David Kostin says:

“Multiple expansion was the key U.S. equity market story of 2013. In contrast the 2014 equity return will depend on earnings and money flow rather than further valuation re-rating.”

Given these conditions, it is best to remain cautious on equities. Multiple expansion has driven us to highs not seen since the financial crisis. Now we must wait for the fundamentals to catch up and for earnings to grow. If the economy continues to improve and companies can boost their profits, the Fed’s tapering and rising rates will not be a huge detriment to equities, but instead the market will continue to push ahead.

If You Love Something, Set it Free: Avoiding Loss Aversion

Today Mark Hulbert ran an intriguing post in the Weekend Investor section of the Wall Street Journal suggesting that investors should take the opportunity to do some spring-cleaning of their asset portfolios.  Hulbert outlines a very common problem that both lovers and investors face: both are often afraid to end bad relationships. From a romantic context this is ancient wisdom, but to economic and financial researchers, understanding the aversion many investors have to selling their stocks is a relatively new development.

Terrance Odeon, a professor of finance at New York University and principal at AQR Capital Management, describes this concept very succinctly: “for most investors, buying is a forward-looking activity and selling is a backward-looking activity.” Odeon maintains that there are a lot of strange things investors do when they’re faced with selling a stock they own, especially when faced with realizing a loss. For instance, in his article Once Burned, Twice Shy: How Naïve Learning, Counterfactuals, and Regret Affect the Repurchase of Stocks Previously Sold, Odeon and Michal Ann Strahilevitz explain that investor’s previous experiences with a stock affect their willingness to repurchase a stock. After surveying the trading records of several tens of thousands of individual investors, Odeon and Strahilevitz found that investors are reluctant to repurchase two types of stocks: those that they sold for a loss, and those that had risen in price soon after their sale. This phenomenon appears to occur regardless of whether these stocks are reasonably good investments after the initial sale. The reason for this behavior, according to the authors, is the cognitive dissonance, or negative and disappointed emotions, that investors feel when reflecting on their previous investing actions. Many investors are easily manipulated by these emotions, and as a result often tend to follow reinforcing behavior in which they purchase stocks associated with positive emotions and avoid those that inspire negative emotions.

This behavior seems consistent with Amos Tversky and Daniel Kahneman’s research in their article The Framing of Decisions and the Psychology of Choice. In their article, Tversky and Kahneman describe how individuals tend to switch from risk aversive behavior to risk taking behavior depending on how a problem was phrased. For instance, when presented with a hypothetical problem in which a flu outbreak is expected to kill 600 people, with a choice between solutions A: “saving 200 people with 100% probability” and B: “saving 600 people with 33% probability” (which has the same expected value as the other option: 600 people * 33% = 200 people saved), individuals tend to choose option A. In this case, the bias of the participants towards picking the “most positive sounding” answer seems consistent with the Odeon paper where investors tend to choose stocks that they have the most “positive emotions” towards. On the other hand, when participants in the Kahnemann study are presented with the same question but are offered equivalent “negative sounding answers,” they tend to switch their preferences. Here, participants are more likely to choose option B: where there is a 1/3 probability that no one will die (same as the option B in the previous question, since 600 people * 33% = 200 people not dying is equivalent to 600 people * 33% = 200 people saved) over the option A: where 400 people will die for sure (equivalent to option A in the previous question in which 200 people will for sure be saved). In this case, much like in the Odeon paper, individuals tend to avoid the options that inspire negative emotions (the “negative sounding “option where 400 people are certain to die, and the “negative sounding” option to avoid a stock on which they had previously lost money), and tend to choose those that appear “more positive.”

In order to combat these mental biases and to identify stocks to sell, Hulbert offers a few tips to investors. First, he suggests that investors pay attention to the companies  financial analysts have given “sell” ratings to. This is because even financial analysts are reluctant to tell investors to “sell” stocks, so the logic is that if they actually do muster up the courage to give a stock a “sell” rating then the stock likely deserves it.  Along these same lines, Adam Reed, a finance professor at UNC-Chapel Hill, suggests to look at short-interest data (number of people who are “shorting” the stock and hope to profit from a fall in its price) as an indicator of whether or not you should sell a stock. Despite all of the tips offered in Hulbert’s article, it’s probable that the best advice is to take a tip from Tversky, Kahneman, and Odeon: don’t be afraid to cut your losses; the only thing that you should avoid is loss aversion.

Overall, what holds true in love appears to hold true in investing as well: if things are truly not working out, it’s often better to end your love affair (with a stock) than to prolong your suffering.

 

The Stock Market Goes for a Dip

In 2013, the Standard and Poor’s 500 (S&P 500) index went up by 30%. This year, speculation of slowed growth has been conrifmed by the index going down by about 2.2% on its first day in February 2014. However, 2014 has, so far, been a year of stock decline. The Wall Street Journal and The New York Times both accredit this to the Federal Reserve’s recent tapering policy. Furthermore, this has caused turmoil in markets around the world. The emerging markets were hit the hardest by the fed’s new policy due to their reliance on low interest rates. Yahoo Finance has also made a point that slower growth in other countries, such as China and Turkey, have helped impact the drops throughout the year of 2014. This is because those countries’ markets are very integral to western trade.

Along with the S&P 500 decking by about 25 percent today, The Dow Jones Industrial Average (DJIA) also dropped by about 2.1%, and the NASDAQ index dropped by about 2.6%. It is clear that the central bank’s paring of bond purchases is already making an impact when the three most-references stock market indices all plummet on the same day.

From an economic standpoint, the connection between the fed’s new policy and the dip in the stock market can be explained. When the fed buys bonds, it lowers interest rates. Low interest rates make investments more appealing. Along with that, investors are more inclined to take on riskier investments. By reducing bond purchases, also known as tapering, the fed is advocating the rise in interest rates. Therefore, investments are not as appealing and investors are not as interested in riskier investments.

Interest rates can also be used to explain the impact on emerging markets. When a country is emerging, investments are being made. With lower interest rates, there will be more investment. Thus, the country will most likely see more growth. This is why these countries are so dependent on low interest rates. With the increase in interest rates, investments decline and the countries growth is impaired.

Emerging markets, such as China and Turkey have their impacts as well. Recently, China has been seeing decline in its economy. It is, without a doubt, one of the most important markets to the Western economy. Furthermore, Turkey has been seeing drops in its currency, the Lira. That means that this will cause investors to become disinterested in stocks. The Lira’s depreciation will cause it to be a less risky investment than a stock. This is due to the tendency of increased demands for weaker currencies because they are cheaper. When demand for a currency increases, its value appreciates. If one were to invest early in the Lira, the profits from their future appreciation would be great.

 

Apple Dwindling? Not Really

Today, news about Apple’s profits last quarter hit the media – with much exaggeration. The hype seems to be about the company’s profits – which fell slightly short of its projected figure. Had the company had negative profits, then the hype would be understandable. But this isn’t the case; Apple still had a $13.07 billion profit last quarter. The Wall Street Journal article reporting on the news (Apple Reports Flat Earnings for Holiday Quarter), explains that the company “is coming off its first decline in annual profit in more than a decade.” This decline is from a $13.08 billion earning in the same holiday period, a year ago.

However, the company still saw an increase in share value and in sales. According to a Bloomberg article (Apple iPhone Sales Trail Estimates for Holiday Quarter), Apple shares are currently $14.50 a share, up from $13.81 a year ago. Analysts had predicted shares to be valued at $14.07 – which the current value has exceeded. Additionally, sales rose 5.7% to $57.6 billion – analysts had predicted $57.5 billion in sales. Apple said in a statement today that “it sold a record 51 million iPhones for its fiscal first quarter that ended Dec. 28, missing analysts’ estimates of 54.7 million handsets.”

It seems like the focus on this report is rather skewed. Why should Apple be reprimanded for not having met analysts’ projections – which are after all an estimate – when it still saw immense gains? Instead, we should simply look at the reports and conclude that analysts slightly over-estimated profits that quarter.

Let’s put things into perspective. According to the Fortune 500 list, of the wealthiest companies in the US, Apple ranks number 6. Above General Motors, General Electric, and Ford, it is among the companies with the highest revenue today. In fact, in terms of profits, it is the second-most profitable company in the US (after Exxon Mobil). Its gains are roughly $41.73 billion annually. And it is well ahead of the third most profitable, Chevron at $26.18 billion.

Understandably, this poses concern for stocks. While its stock is down 1.9% this year, it has increased 26% in the past six months. When the report came out about its earnings, Apple stock fell as much as 9.1% in extended trading. But this is probably heavily influenced by media reports that negatively portray the news.

I agree that Apple has to diversify itself and introduce new products, because competition is getting more and more intense. However, to say that it is in trouble because its gains fell slightly, is a huge exaggeration. Like I said, it is still one of the biggest companies in the US and is even more profitable than many oil companies.

Should the Fed Start Buying Stocks?

Today we discussed various theories of the Fed’s best practices for quantitative easing and monetary policy. Professor Kimball proposed one idea on how the Fed should inject money into the economy sparked my interest. In order to help stimulate the economy, the Fed has the power to buy large quantities of certain financial assets, such as bonds or more recently mortgage-backed securities. In addition to injecting more money into the economy, buying up different types of assets allows the Fed new economic “powers”  (ie: buying bonds to affect the interest rates, buying up MBS allows the Fed to remove risky assets from banks in danger of collapse while providing them with cash to cover their obligations). Professor Kimball also proposed that if the Fed could buy up other assets, such as stocks or ETFs (Equity Traded Funds), in order to increase its repertoire and increase the efficacy of its money infusions in the economy. This seemed like an interesting idea, but I had a few questions about its other potential effects outside of monetary policy. Let me explain…

Today Carl Icahn, the infamous billionaire investor and owner of the diversified holding company Icahn Enterprises, announced via Tweet that he recently upped his holdings position in Apple Inc. This brings his total investment in Apple stock up to a whopping $3 Billion, which currently represents a 0.6% ownership of Apple’s outstanding (not to be confused with the exclamation “outstanding!”) shares. Not willing to let his newfound power go to waste, in his third tweet of the day Icahn announced “We [Icahn Enterprises] feel $APPL board is doing great disservice to shareholders by not having markedly increased its buyback. In-depth letter to follow soon.” In this ominous note, Icahn refers to his very public distain for the decision by Apple’s board of directors not to continue buying back its own stock with its massive $150 billion in cash-holdings. A company stock buyback program will increase demand to the stock and remove shares outstanding from the market. Similarly to how distillation can dilute wine into brandy, buying back a company’s stock will concentrate the company ownership into the remaining shares, meaning that by taking more shares off the market the remaining shareholders increase their ownership of the company. This benefits the short-term investor, such as Icahn, who aims to profit from the increase in the artificial demand for a stock that will cause the price to climb while enjoying the benefits of increased shareholder power with their new “concentrated” shares.

This in itself is not a new, nor always a particularly negative scenario. Large investors, many of them looking for stable long-run returns, buy up large shares of companies all the time so that they might wield more influence over the company’s board of directors, hoping to convince them to change their policies to benefit shareholders. Large asset management firms own very sizable stakes in many public companies; BlackRock, the largest asset management firm with over $4 trillion under management, currently owns 5% or more of more than 40% of all publicly traded companies in the country. Overall, in a lot of cases this is probably what’s best for both the company and shareholders, if done honestly and appropriately, as companies can get advice and guidance from experienced advisors, and asset management firms can boost their long-run returns for their investors, who often include governments and other public entities (i.e. pension funds).

On the other hand, as we have Carl Icahn, a man who has a reputation of being a cutthroat “corporate raider” with a penchant for executing hostile takeovers of public companies in order to strip them of their assets. For instance, he executed a hostile takeover of TWA airlines in 1985, turned it into a private company, and chopped it up into parts to sell to other companies for a personal profit.  While I won’t get into the ethics of his actions, the point I am trying to make by contrasting him with other, (hopefully) honest investors is that it seems that in general, power can both be beneficial in the right hands, but corrupt in others.

This leads me to the question: although it looks promising on paper, if the Fed decided to start buying stocks, ETFs, and other financial assets based on public companies, would this be a positive or negative thing in reality? Would the companies appreciate the boost to their stock prices and assistance from the government, or would the Fed decide to implement harsher regulations on certain industries using its voting rights as leverage? How would this change the relationship between the Fed and certain industries, such as the financial industry? I know the central government has often taken actions to ensure the survival of companies “too big to fail,” so in this case would the Fed take similar actions? I don’t know enough about the current financial system and its regulations to have an opinion on this yet, but I was curious what ideas other students in the class might have.