The Shareholder Value Myth (2013)(europeanfinancialreview.com)
europeanfinancialreview.com
The Shareholder Value Myth (2013)
http://www.europeanfinancialreview.com/?p=883
59 comments
Nearly every long term shareholder understands that, in order to create shareholder value, the company needs to prioritize delighting customers over and over again first and foremost.
Kind of. I wouldn't describe Ryanair as having ever delighted me as a customer. They offer fantastic value, so I suppose you could say I was 'delighted' at not having to pay more, but that comes with a significant dose of resignation at the stress I'm going to go through.
I fully refuse to fly with them, no matter what. Once was enough.
I wouldn’t say they’ve delighted, but they certainly impressed.
I wouldn’t say they’ve delighted, but they certainly impressed.
Uhm.
I come from a pretty poor country. When I was a student I would fly Ryanair because otherwise I would just not fly. Ryanair provided me with a service that would otherwise be not available to me at all if it was not making be nervous.
So it provides services to a bunch of poor people who are probably _used_ to being nervous anyway in other situations.
"Refuse to fly with them". Would you refuse to fly at all if you could not afford alternatives?
I come from a pretty poor country. When I was a student I would fly Ryanair because otherwise I would just not fly. Ryanair provided me with a service that would otherwise be not available to me at all if it was not making be nervous.
So it provides services to a bunch of poor people who are probably _used_ to being nervous anyway in other situations.
"Refuse to fly with them". Would you refuse to fly at all if you could not afford alternatives?
Poor countries would have rich people too!
I refuse to fly at all nowadays. Even on a relatively short flight, I would be responsible for more greenhouse gases than all my other consumption and transports for several months give rise to.
In case you live in an US style suburb detached single family home lifestyle, I feel like suburb living contributes far more greenhouse gases than a short flight, since living in dense communities reduces how far all mass has to move, and suburb living increases how far all mass has to move.
As an American not flying simply means not traveling anywhere further than 500 miles from home, or it means an extra 2-3 days to get there. It means never really leaving North America, heck, parts of North America are not accessible but by air.
I don't have high speed rail options, I can either, take the (slow) train (if it goes there), take the bus, drive or fly. Removing flying also removed the ability for the poor to travel. That doesn't strike me as fair or reasonable either.
I do try to minimize my flying time, but, none? That's not a reasonable option for me.
I don't have high speed rail options, I can either, take the (slow) train (if it goes there), take the bus, drive or fly. Removing flying also removed the ability for the poor to travel. That doesn't strike me as fair or reasonable either.
I do try to minimize my flying time, but, none? That's not a reasonable option for me.
Train connections between countries are quite miserable in big parts of Europe too, but with increased demand, they are quite rapidly improving. Maybe that would happen in the US too if people used the trains more.
For many relative short distance flights, you don't lose that much time taking the train. If you take into account that most airports are far from the city centers, and you have to be there early to check in luggage, go through security, spend 20 minutes boarding the plane and then wait to get of, wait for luggage and then take the time to get to your final destination from the airport, total travel time by train is often faster than by plane when the flight time is an hour or less. The train usually go from city center to city center, you can show up as late before departure as you dare, no security on no luggage check. The leg room is better and nowadays all trains I have been traveling in Europe have had decent wifi so you can use the time for work or entertaining yourself.
And that poor people fly is usually not the problem. They don't go to Hawaii or Singapore or Rome just for fun.
I understand that flying is important for some people, in particular when you have family in the other of the country or even on another continent. But we, as a world, certainly can't afford to fly just for pleasure.
For many relative short distance flights, you don't lose that much time taking the train. If you take into account that most airports are far from the city centers, and you have to be there early to check in luggage, go through security, spend 20 minutes boarding the plane and then wait to get of, wait for luggage and then take the time to get to your final destination from the airport, total travel time by train is often faster than by plane when the flight time is an hour or less. The train usually go from city center to city center, you can show up as late before departure as you dare, no security on no luggage check. The leg room is better and nowadays all trains I have been traveling in Europe have had decent wifi so you can use the time for work or entertaining yourself.
And that poor people fly is usually not the problem. They don't go to Hawaii or Singapore or Rome just for fun.
I understand that flying is important for some people, in particular when you have family in the other of the country or even on another continent. But we, as a world, certainly can't afford to fly just for pleasure.
It's rare that I'm getting on a flight that lasts less that 3 hours, unless I really need to be there right now, or it's a connecting flight.
There however is functionally no passenger rail network in the United States, outside of the northeast corridor, trains are at most at a daily headway. It's not practical for me (or most people) to spend five days on the train to get from Seattle to Dallas, because I need to go to either Chicago or Los Angeles first.
FWIW, The distance between Hawaii and Los Angeles is roughly comparable to that of Los Angeles and Newark, so you're also telling some kid in California that they can't visit their grandparents in New Jersey too.
I think taxing non-connecting travel on short hop (sub 90 min) flights is a way to offset this. But even that is with controversy.
So while I conceptually agree with you, your flight-free lifestyle ignores the reality of life (and geography) in North America.
There however is functionally no passenger rail network in the United States, outside of the northeast corridor, trains are at most at a daily headway. It's not practical for me (or most people) to spend five days on the train to get from Seattle to Dallas, because I need to go to either Chicago or Los Angeles first.
FWIW, The distance between Hawaii and Los Angeles is roughly comparable to that of Los Angeles and Newark, so you're also telling some kid in California that they can't visit their grandparents in New Jersey too.
I think taxing non-connecting travel on short hop (sub 90 min) flights is a way to offset this. But even that is with controversy.
So while I conceptually agree with you, your flight-free lifestyle ignores the reality of life (and geography) in North America.
The problem is of course that the world can't afford the current life style, or as you call it, reality of life, of the people of North America. So the question really is, how important is that trip between Seattle and Dallas in the first place?
Less than a month ago I spent 23 hours on different trains and an overnight ferry to let my children visit their grandparents that live in a different country. And since we do, rail connections are rapidly improving since there is a demand for them. And I know that isn't possible everywhere in the world. But if you really want your kids to spend time with their grandparents several times a year, then you better live closer to them. Even if it means a less interesting and well paying job. In our case, my wife and I are of different nationalities (and we are certainly not unique in this regard), so we can only live close to one set of grandparents. But that means that they kids only get to see the other pair of grandparents once, maybe twice a year, and we spend quite a bit of time on travel for that.
If people and politicians would have taken the climate threat seriously a few decades ago, when scientists started to tell us that this is real and dire, then you would already drive around in an electric car, you would already have fast coast to coast high speed trains, and maybe even something like hydrogen fuelled airplanes. We already have all the money and technology to solve this. Unfortunately the most important ingredient is missing, and that is political will.
Less than a month ago I spent 23 hours on different trains and an overnight ferry to let my children visit their grandparents that live in a different country. And since we do, rail connections are rapidly improving since there is a demand for them. And I know that isn't possible everywhere in the world. But if you really want your kids to spend time with their grandparents several times a year, then you better live closer to them. Even if it means a less interesting and well paying job. In our case, my wife and I are of different nationalities (and we are certainly not unique in this regard), so we can only live close to one set of grandparents. But that means that they kids only get to see the other pair of grandparents once, maybe twice a year, and we spend quite a bit of time on travel for that.
If people and politicians would have taken the climate threat seriously a few decades ago, when scientists started to tell us that this is real and dire, then you would already drive around in an electric car, you would already have fast coast to coast high speed trains, and maybe even something like hydrogen fuelled airplanes. We already have all the money and technology to solve this. Unfortunately the most important ingredient is missing, and that is political will.
I would rather invest money in technologies that allows us to make flying carbon neutral than move backwards in time.
24 hours of time is no big deal, moving back to 1925 travel times, is.
24 hours of time is no big deal, moving back to 1925 travel times, is.
In a decade or so, I’m sure we all can fly climate neutral. But we don’t have that time. We must drastically reduce greenhouse gases now! We already squandered the time we could have used to do this the simple way without too much personal inconveniences.
It is astonishing that people just don’t get how grave the situation is, even when towns are burning to the ground. This is not something that will happen decades from now, it has already started and it will become much worse.
It is astonishing that people just don’t get how grave the situation is, even when towns are burning to the ground. This is not something that will happen decades from now, it has already started and it will become much worse.
Towns are burning to the ground, because we built them in places where there never should have been towns. Furthermore, those western megafires while probably made worse by climate change are mostly the result of 120 years of poor forrest management policy.
The drought that California and the West is seeing right now is within historical norms for the West, we just tended to ignore those norms when building population centers and developed our water expectations around the wet years.
The drought that California and the West is seeing right now is within historical norms for the West, we just tended to ignore those norms when building population centers and developed our water expectations around the wet years.
A lot of large problems tend to stem from picking short term strategies. A relentless focus on quarterly profits likely causes more issues than prioritizing investors though the two are related.
Moreover, it is quite unclear whether capitalism is capable of optimizing over the long term at all.
Suppose we had two planets. Then if global warming got really bad on one, the other would charge crazy fees to refugees --- turn them into indentured servants to the 5th generation or something, and all the investments on the hot planet would loose their value relative the good planet. Clearly, the hot planet's rich people would not want to become indentured servants like everyone else -- for they have little to offer to the cold planet, and so global warming would be prevented.
(Aside, I suppose this is/once was Musk's plan, but his timing is off.)
Without the other planet, civilization can mostly collapse, but not ones investments go to shit relative and advanced society elsewhere. I suppose there can be an small states in the far north, but the rich people will get priority to move there and could sill own everything. All our standards of living go down, but they get to keep their relative position in society, which is mostly what they care about anyways (at least as long as the standard of living declines slow enough to not be too salient.
Of course, the rich people could still do that if there are two planets, but the cold planet elite will mock and scorn the rich planet elite for being so much poorer holed up in Siberia/Canada.
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We see a similar problem with this chip shortage / lack of inventories. Everyone else did, so no one is loosing market share. The widgets you can sell command a high price, too. What are the consequences? Only when demand crashes do firms suffer.
Suppose we had two planets. Then if global warming got really bad on one, the other would charge crazy fees to refugees --- turn them into indentured servants to the 5th generation or something, and all the investments on the hot planet would loose their value relative the good planet. Clearly, the hot planet's rich people would not want to become indentured servants like everyone else -- for they have little to offer to the cold planet, and so global warming would be prevented.
(Aside, I suppose this is/once was Musk's plan, but his timing is off.)
Without the other planet, civilization can mostly collapse, but not ones investments go to shit relative and advanced society elsewhere. I suppose there can be an small states in the far north, but the rich people will get priority to move there and could sill own everything. All our standards of living go down, but they get to keep their relative position in society, which is mostly what they care about anyways (at least as long as the standard of living declines slow enough to not be too salient.
Of course, the rich people could still do that if there are two planets, but the cold planet elite will mock and scorn the rich planet elite for being so much poorer holed up in Siberia/Canada.
---
We see a similar problem with this chip shortage / lack of inventories. Everyone else did, so no one is loosing market share. The widgets you can sell command a high price, too. What are the consequences? Only when demand crashes do firms suffer.
> Aside, I suppose this is Musk's plan, but his timing is off.
I see people say things like this often but it doesn’t make sense. No matter how bad global warming gets, earth will always be more habitable than mars.
I see people say things like this often but it doesn’t make sense. No matter how bad global warming gets, earth will always be more habitable than mars.
Well yes, he can't be so dumb as not have not realized this. I also it doesn't make sense, and the more benign reasons (more planets derisk) are related. I am just sure it came up at some point in discussion, and is still useful as a family of tall-tale narratives.
> it is quite unclear whether capitalism is capable of optimizing over the long term at all.
Do you have evidence that socialism/communism is better at it?
Politicians, for example, infamously "kick the can down the road" for the costs of their decisions. They don't care about consequences after the next election.
Do you have evidence that socialism/communism is better at it?
Politicians, for example, infamously "kick the can down the road" for the costs of their decisions. They don't care about consequences after the next election.
Well, for starters, I did not claim other things were better at this than Capitalism :).
I don't know of a silver bullet. Planning can probably do it some times, and probably not do it other times.
What I do know is that poverty traps are sort of a curse of short term optimization. So it's imperative to make people feel less precarious or they will not care about these things as much as the elites who like to sit around and mull about abstract world-historic issues.
I don't know of a silver bullet. Planning can probably do it some times, and probably not do it other times.
What I do know is that poverty traps are sort of a curse of short term optimization. So it's imperative to make people feel less precarious or they will not care about these things as much as the elites who like to sit around and mull about abstract world-historic issues.
One of the things to think about is that shareholder value really is supposed to amount to what the company as a whole is fundamentally worth.
Maybe about what the company would sell for if it was for sale, or what a comparable company would cost to build. Seems most realistic and still quite difficult to pinpoint a total value. But this is where most private small companies are with an intimate group of partners holding illiquid shares having no market effect. Company growth and building shareholder value are synonymous with each other. Delighting customers has one of the strongest effects.
Anything less realistic is going to be an even less accurate estimate and this can happen with highly liquid shares where the market itself has inflated their recognized value well beyond the underlying assets. These certificates can be more like fiat currency, many companies went public so they can print more according to retail demand.
And fiat currency has an incredible advantage in its ability to be manipulated. Backed by the full faith & credit of a company believed to be strong.
Are all of these people so faithful or creditworthy?
Or is their company really that strong after they kick out half the people and sell off the crown jewels and it makes the share price go up?
Delighting customers at this point may already be out-of-reach.
Maybe about what the company would sell for if it was for sale, or what a comparable company would cost to build. Seems most realistic and still quite difficult to pinpoint a total value. But this is where most private small companies are with an intimate group of partners holding illiquid shares having no market effect. Company growth and building shareholder value are synonymous with each other. Delighting customers has one of the strongest effects.
Anything less realistic is going to be an even less accurate estimate and this can happen with highly liquid shares where the market itself has inflated their recognized value well beyond the underlying assets. These certificates can be more like fiat currency, many companies went public so they can print more according to retail demand.
And fiat currency has an incredible advantage in its ability to be manipulated. Backed by the full faith & credit of a company believed to be strong.
Are all of these people so faithful or creditworthy?
Or is their company really that strong after they kick out half the people and sell off the crown jewels and it makes the share price go up?
Delighting customers at this point may already be out-of-reach.
Stock based compensation to an extreme like Palantir does, is not that.
The question is different to what the article is implying. The broad social question is that of the nature of ownership.
What does it mean for shareholders to 'own' a company? It doesn't mean literally anything, because the company is subordinate to the law. So the question is what owners can do within that framework.
The core of the capitalist argument is it doesn't matter what Lynn A. Stout, I or a company's board thinks the shareholders want. The shareholders just need the tools to replace the board when they wish, and the rest will sort itself out.
What does it mean for shareholders to 'own' a company? It doesn't mean literally anything, because the company is subordinate to the law. So the question is what owners can do within that framework.
The core of the capitalist argument is it doesn't matter what Lynn A. Stout, I or a company's board thinks the shareholders want. The shareholders just need the tools to replace the board when they wish, and the rest will sort itself out.
The article literally says shareholders do not legally own the company according to the law, they just have a contract with it. The company owns itself.
Well, if the focus on shareholder value harms shareholder value, that's a failure of management practices, not of the focus.
The focus itself is ideological by nature, and can not be right or wrong.
The focus itself is ideological by nature, and can not be right or wrong.
This was always my take. If shareholders are only focused on the short term then the company should as well. If shareholders are focused on long term but company on short term then the shareholders should be pissed.
I mean it’s not like there is a right way and wrong way to run a company. The people that fund the venture should have a say it how it’s run?
I mean it’s not like there is a right way and wrong way to run a company. The people that fund the venture should have a say it how it’s run?
It's about the specific actions, such as executive incentives and altering stock structure based in the ideology of "maximizing shareholder value." The "ideology" should lead to some specific actions based on the logic of what you are trying to maximize (mostly stock price), but they actions don't work, so we have to look for some other "ideology" that operates better.
If the ideology leads to actions that harm its own goals, that's because you are acting based on a wrong theory. You can try to proxy it over the goals of another ideology, and since your first theory was wrong, it may get you better results, but changing your ideology to improve its goals isn't a thing. But anyway, improving your theory normally leads to better results on practice.
Notice that I'm not saying it's a good ideology. Personally, I highly disagree with it, but the article is misrepresenting the problem it talks about.
Notice that I'm not saying it's a good ideology. Personally, I highly disagree with it, but the article is misrepresenting the problem it talks about.
Shareholder Value has been slowly changed as a focus for a while now. This article gives Steve Jobs as an example of focusing on the customer.
https://hbr.org/2011/10/steve-jobs-and-the-purpose-of
https://hbr.org/2011/10/steve-jobs-and-the-purpose-of
>Shareholders are suffering their worst investment returns since the Great Depression
This aged horribly. The S&P 500 has increased an average of ~15% per year since the article was published. That's more than twice the average over the last century.
This aged horribly. The S&P 500 has increased an average of ~15% per year since the article was published. That's more than twice the average over the last century.
That doesn't take into account the roughly 50% churn rate per decade in the S&P 500. The companies that were in the S&P 500 in 2013 did not all benefit from and average 15% stock price increase, not even close.
The point was that, according to the research, publicly listed companies following the shareholder value strategy did not perform significantly better than those which didn't. The historical performance of the index as a whole will vary significantly depending on when you do the analysis, but comparing the relative performance of companies over a sufficiently long enough period is reasonable regardless of when you do it.
The point was that, according to the research, publicly listed companies following the shareholder value strategy did not perform significantly better than those which didn't. The historical performance of the index as a whole will vary significantly depending on when you do the analysis, but comparing the relative performance of companies over a sufficiently long enough period is reasonable regardless of when you do it.
The companies didn't benefit, but the shareholders did. Churn rate is indicative of a competitive and healthy economy.
Removal doesn't necessarily imply failure or stagnation; mere under performance is sufficient for removal. Companies that are removed might even see their average performance regress upwards:
https://finance.yahoo.com/news/the-company-tesla-booted-from...
Removal doesn't necessarily imply failure or stagnation; mere under performance is sufficient for removal. Companies that are removed might even see their average performance regress upwards:
https://finance.yahoo.com/news/the-company-tesla-booted-from...
I'm not saying churn is a bad thing per se, I'm saying it renders any naive usage of the S&P as a proxy for company returns introduces a huge dollop of survivorship bias. You're adding up all the increased returns of the companies that did well and culling out any influence on the stats from companies that did sufficiently poorly, which is about half of the companies.
The article makes the point that shareholders have suffered while "Shareholder Value" was touted. History promptly proved otherwise.
Survivorship introduces bias relative to the performance of the average company, but not to the performance of the average shareholder's portfolio. The largest ETFs have been S&P 500 ETFs since 2013; the index is the best readily available proxy for average investor returns.
Survivorship introduces bias relative to the performance of the average company, but not to the performance of the average shareholder's portfolio. The largest ETFs have been S&P 500 ETFs since 2013; the index is the best readily available proxy for average investor returns.
>I'm saying it renders any naive usage of the S&P as a proxy for company returns introduces a huge dollop of survivorship bias. You're adding up all the increased returns of the companies that did well and culling out any influence on the stats from companies that did sufficiently poorly, which is about half of the companies.
I'm fairly sure that's factored into the indexing methodology[1]. In other words, they're not just adding up all the market caps of the 500 companies and calling it a day. This seems to be confirmed in the price data. The s&p 500 index grew by 300.9% from july 2011 to july 2021. In the same time period, The share price of VOO (an S&P 500 index fund) went up 302.4%[2][3]. In other words, the returns of the index very closely tracks the returns had you invested (unless you think the VOO fund has the ability to print money).
[1] https://www.spglobal.com/spdji/en/documents/methodologies/me...
[2] https://www.marketwatch.com/investing/index/spx/charts?mod=m...
[3] https://www.marketwatch.com/investing/fund/voo/charts?mod=mw...
I'm fairly sure that's factored into the indexing methodology[1]. In other words, they're not just adding up all the market caps of the 500 companies and calling it a day. This seems to be confirmed in the price data. The s&p 500 index grew by 300.9% from july 2011 to july 2021. In the same time period, The share price of VOO (an S&P 500 index fund) went up 302.4%[2][3]. In other words, the returns of the index very closely tracks the returns had you invested (unless you think the VOO fund has the ability to print money).
[1] https://www.spglobal.com/spdji/en/documents/methodologies/me...
[2] https://www.marketwatch.com/investing/index/spx/charts?mod=m...
[3] https://www.marketwatch.com/investing/fund/voo/charts?mod=mw...
I'm not sure you understand my point. All the companies this article is talking about are listed and have shareholders. It's not about publicly listed versus anything else, it's about the different results from listed companies with different governance models.
That aside, if I bought a share in every company that was in the S&P 500 in 2013 and tracked their returns to now, only half of those shares would still even be in the S&P 500. The return on those that dropped out of it aren't reflected in the S&P 500 results, but they still matter from the POV of long term shareholder returns. You can't just exclude failing companies from the statistics and pretend that the stats are still valid and everything is rosy in investorland. That's sweeping under the rug on a massive scale.
Anyway investors in index funds aren't owners of the underlying shares and don't have any relationship with those companies. The article is about that notional ownership relationship between shareholders and companies, so index funds just aren't relevant to this discussion even if their performance was relevant (it isn't) or meaningful with respect to individual share ownership (also not).
The article does reference actual long term like for like studies of company performance. I'd love to see the results from updated studies.
That aside, if I bought a share in every company that was in the S&P 500 in 2013 and tracked their returns to now, only half of those shares would still even be in the S&P 500. The return on those that dropped out of it aren't reflected in the S&P 500 results, but they still matter from the POV of long term shareholder returns. You can't just exclude failing companies from the statistics and pretend that the stats are still valid and everything is rosy in investorland. That's sweeping under the rug on a massive scale.
Anyway investors in index funds aren't owners of the underlying shares and don't have any relationship with those companies. The article is about that notional ownership relationship between shareholders and companies, so index funds just aren't relevant to this discussion even if their performance was relevant (it isn't) or meaningful with respect to individual share ownership (also not).
The article does reference actual long term like for like studies of company performance. I'd love to see the results from updated studies.
>I'm not sure you understand my point. All the companies this article is talking about are listed and have shareholders. It's not about publicly listed versus anything else, it's about the different results from listed companies with different governance models.
I don't get it. Aren't all publicly listed companies supposed to maximize shareholder value? Or are you saying that it only applies to s&p 500 companies?
>That aside, if I bought a share in every company that was in the S&P 500 in 2013 and tracked their returns to now, only half of those shares would still even be in the S&P 500. The return on those that dropped out of it aren't reflected in the S&P 500 results, but they still matter from the POV of long term shareholder returns.
I fail to see how this matters "from the POV of long term shareholder returns". Even passive investment funds engage in rebalancing, which specifically mitigates the issue you described (ie. holding onto losers and not investing in new entrants).
>Anyway investors in index funds aren't owners of the underlying shares and don't have any relationship with those companies. The article is about that notional ownership relationship between shareholders and companies, so index funds just aren't relevant to this discussion even if their performance was relevant (it isn't) or meaningful with respect to individual share ownership (also not).
I fail to see why it's not relevant because you own the shares through an index fund. The incentives are still aligned the same way: Shareholder value => etf value => investor value.
I don't get it. Aren't all publicly listed companies supposed to maximize shareholder value? Or are you saying that it only applies to s&p 500 companies?
>That aside, if I bought a share in every company that was in the S&P 500 in 2013 and tracked their returns to now, only half of those shares would still even be in the S&P 500. The return on those that dropped out of it aren't reflected in the S&P 500 results, but they still matter from the POV of long term shareholder returns.
I fail to see how this matters "from the POV of long term shareholder returns". Even passive investment funds engage in rebalancing, which specifically mitigates the issue you described (ie. holding onto losers and not investing in new entrants).
>Anyway investors in index funds aren't owners of the underlying shares and don't have any relationship with those companies. The article is about that notional ownership relationship between shareholders and companies, so index funds just aren't relevant to this discussion even if their performance was relevant (it isn't) or meaningful with respect to individual share ownership (also not).
I fail to see why it's not relevant because you own the shares through an index fund. The incentives are still aligned the same way: Shareholder value => etf value => investor value.
I think what is being pointed out is:
An index fund based on an index that updates its company list based on any biased metric (unbiased = all companies, or unbiased random sampling of companies) is not representative of all companies.
Not even all publicly traded companies.
An index fund based on an index that updates its company list based on any biased metric (unbiased = all companies, or unbiased random sampling of companies) is not representative of all companies.
Not even all publicly traded companies.
>unbiased = all companies, or unbiased random sampling of companies)
Most indexes are market-cap weighted for a reason. Suppose we weigh each company equally. If you have 90 shitty companies and 10 good companies, but the 10 good companies combined are 10x as big as the 90 shitty companies combined, is it fair to conclude that "companies are shitty"? Suppose the 10 good companies spun themselves out into 100 separate companies, did the quality of companies improve by 5x (10% good to 53% good)?
Most indexes are market-cap weighted for a reason. Suppose we weigh each company equally. If you have 90 shitty companies and 10 good companies, but the 10 good companies combined are 10x as big as the 90 shitty companies combined, is it fair to conclude that "companies are shitty"? Suppose the 10 good companies spun themselves out into 100 separate companies, did the quality of companies improve by 5x (10% good to 53% good)?
I think you are mixing two different points.
1) Of course indexes are biased. Lots of good reasons for that as you point out.
2) But that makes indexes unrepresentative of average returns. Average returns include all caps, or a good estimate could be had from a random selection, weighted by their individual caps (as you correctly point out).
(That is what it means to have an unbiased estimate of total returns on total cap of all companies. An accurate estimate cannot have biases: not a bias toward smaller companies simply because there are more of them, nor biased toward large companies, as most indexes do.)
1) Of course indexes are biased. Lots of good reasons for that as you point out.
2) But that makes indexes unrepresentative of average returns. Average returns include all caps, or a good estimate could be had from a random selection, weighted by their individual caps (as you correctly point out).
(That is what it means to have an unbiased estimate of total returns on total cap of all companies. An accurate estimate cannot have biases: not a bias toward smaller companies simply because there are more of them, nor biased toward large companies, as most indexes do.)
>2) But that makes indexes unrepresentative of average returns
But average returns should be market cap weighted to be meaningful. If you made investments of $10 and $1, which were later valued $12 and $2 respectively, what was your "average return"? The average of the two investments, (12/10 + 2/1)/2 = 1.60? or the weighted average (12+2)/(10+1) = 1.27?
But average returns should be market cap weighted to be meaningful. If you made investments of $10 and $1, which were later valued $12 and $2 respectively, what was your "average return"? The average of the two investments, (12/10 + 2/1)/2 = 1.60? or the weighted average (12+2)/(10+1) = 1.27?
You are right.
Actual average returns are simply total cap at one time divided by total cap at a previous time: TC(t2)/TC(t1)
That probably is easy enough to do.
But an estimate of that would be an average of returns for randomly chosen companies, but with either:
1) straight random selection of companies, with the individual returns weighted by their company size, or ...
2) ... random selection of companies, with probabilities of each company weighted by size, then the unweighted average of those returns.
So you are right, one way or another a subsample of companies needs to weight companies by size to account for the greater levels of investment in large companies.
Actual average returns are simply total cap at one time divided by total cap at a previous time: TC(t2)/TC(t1)
That probably is easy enough to do.
But an estimate of that would be an average of returns for randomly chosen companies, but with either:
1) straight random selection of companies, with the individual returns weighted by their company size, or ...
2) ... random selection of companies, with probabilities of each company weighted by size, then the unweighted average of those returns.
So you are right, one way or another a subsample of companies needs to weight companies by size to account for the greater levels of investment in large companies.
> Anyway investors in index funds aren't owners of the underlying shares and don't have any relationship with those companies.
Why do people buy index funds?
Why do people buy index funds?
I think the quoted statement is as true as investors in companies aren't owners of the underlying bank accounts and don't have any relationship with those banks.
It's true that an index fund investor doesn't get to vote in company elections, get company reports, etc. But the funds generally follow their policies and what not, so it provides a lower effort way to invest in a multitude of companies. The current regime of zero comissions and fractional share trading makes it more possible to self index, but it's a lot less work to buy shares in one of the many competing low-cost index funds.
It's true that an index fund investor doesn't get to vote in company elections, get company reports, etc. But the funds generally follow their policies and what not, so it provides a lower effort way to invest in a multitude of companies. The current regime of zero comissions and fractional share trading makes it more possible to self index, but it's a lot less work to buy shares in one of the many competing low-cost index funds.
What's that got to do with the reasons why people buy individual shares, and the obligations of companies to those people relative to other stakeholders such as bond holder, creditors, directors, managers and employees?
I do not know, but I did not intend to imply anything with my question.
My question was to find out what incentive people have to purchase index funds if they “aren't owners of the underlying shares and don't have any relationship with those companies.”
My question was to find out what incentive people have to purchase index funds if they “aren't owners of the underlying shares and don't have any relationship with those companies.”
> That doesn't take into account the roughly 50% churn rate per decade in the S&P 500. The companies that were in the S&P 500 in 2013 did not all benefit from and average 15% stock price increase, not even close.
Which is why you generally want to invest in index funds and not individual companies.
Which is why you generally want to invest in index funds and not individual companies.
It should have made you mortgage the farm to buy stocks, just as the record returns now should make you think about finding other markets…
Things trade off-
https://inflationchart.com/spx-in-gold/?time=20%20years&show...
Things trade off-
https://inflationchart.com/spx-in-gold/?time=20%20years&show...
Both words in "shareholder value" are deeply problematic.
Who is the "shareholder"? The working person toiling away today and hopping to strike a contract with society (via insurance/pension investments) to have some support and protection during old age? Or the army of intermediaries helpfully "managing" his/her contract till there is nothing of it left?
And what is "value", or rather "who's values"? Is that the same person as above? What does the average person thing of superior financial returns that are at explicitly at the expense of environment and society?
Friedman, of "the business of business is profit" fame, is throwing a party at his grave:
"Goddam Nobel-granting suckers: I never told them that this construct will never work if their society is run as if morally bankrupt and, of course, they would never admit it being so themselves."
Who is the "shareholder"? The working person toiling away today and hopping to strike a contract with society (via insurance/pension investments) to have some support and protection during old age? Or the army of intermediaries helpfully "managing" his/her contract till there is nothing of it left?
And what is "value", or rather "who's values"? Is that the same person as above? What does the average person thing of superior financial returns that are at explicitly at the expense of environment and society?
Friedman, of "the business of business is profit" fame, is throwing a party at his grave:
"Goddam Nobel-granting suckers: I never told them that this construct will never work if their society is run as if morally bankrupt and, of course, they would never admit it being so themselves."
Who is the "shareholder"? The shareholders are the collective owners of the company. That is, the people/organizations who own a share of the company. Full stop. No one else is a shareholder. Neither the working person toiling away, nor the army of intermediaries are shareholders (unless they happen to also own stock).
And value in the phrase "shareholder value" is economic value. I.e. money or that which can be measured using money. It's not personal fulfillment, social well-being, global health or anything else like that.
At larger firms, shareholders typically contribute nothing to the management and operation of the firm. But concepts of ownership in the modern world do not hinge on labor contribution.
Note, I'm not advocating what I wrote above, I'm just describing the state of the world as it is.
And value in the phrase "shareholder value" is economic value. I.e. money or that which can be measured using money. It's not personal fulfillment, social well-being, global health or anything else like that.
At larger firms, shareholders typically contribute nothing to the management and operation of the firm. But concepts of ownership in the modern world do not hinge on labor contribution.
Note, I'm not advocating what I wrote above, I'm just describing the state of the world as it is.
i think I was not clear (enough). not referring to random pay-day loan worker but people who own stocks through their pension or insurance schemes
this group (which is quite material in the scheme of things) is only remotely linked to their shareholding role.
with important repercusions on both i) how much strict economic value they derive and ii) whether that value is at all compatible with their other sets of values
this group (which is quite material in the scheme of things) is only remotely linked to their shareholding role.
with important repercusions on both i) how much strict economic value they derive and ii) whether that value is at all compatible with their other sets of values
There is no role for shareholders other than the simple fact that they (as a group) own the company. That's all it means. It means nothing else. There is zero obligation or expectation that they do anything but simply own.
last time I checked the lack of obligation is not the same as a lack of option. owning equity in a company is THE option and there IS an expectation that any shareholder that is not disenfranchised by helpful intermediaries will be exercising it.
everything the company does is under the control of shareholders. they have they option to fire the management and rewrite practically the entire rulebook of what the company does.
now it should be pretty clear that a lot of shareholders (across the size spectrum) would not necessarily disagree with management choices that optimize short term financial returns
but to assume that every shareholder has this moral stance is simply a falsehood and that is increasingly becoming clear.
everything the company does is under the control of shareholders. they have they option to fire the management and rewrite practically the entire rulebook of what the company does.
now it should be pretty clear that a lot of shareholders (across the size spectrum) would not necessarily disagree with management choices that optimize short term financial returns
but to assume that every shareholder has this moral stance is simply a falsehood and that is increasingly becoming clear.
>Who is the "shareholder"?
From wikipedia: A shareholder (also known as stockholder) is an individual or institution (including a corporation) that legally owns one or more shares of the share capital of a public or private corporation.
>And what is "value"
From wikipedia:
The term "shareholder value", sometimes abbreviated to "SV",[1] can be used to refer to:
* The market capitalization of a company;
* The concept that the primary goal for a company is to increase the wealth of its shareholders (owners) by paying dividends and/or causing the stock price to increase (i.e. the Friedman doctrine introduced in 1970);
* The more specific concept that planned actions by management and the returns to shareholders should outperform certain bench-marks such as the cost of capital concept. In essence, the idea that shareholders' money should be used to earn a higher return than they could earn themselves by investing in other assets having the same amount of risk. The term in this sense was introduced by Alfred Rappaport in 1986.[2]
> or rather "who's values"?
the word that came before it: "shareholder"
From wikipedia: A shareholder (also known as stockholder) is an individual or institution (including a corporation) that legally owns one or more shares of the share capital of a public or private corporation.
>And what is "value"
From wikipedia:
The term "shareholder value", sometimes abbreviated to "SV",[1] can be used to refer to:
* The market capitalization of a company;
* The concept that the primary goal for a company is to increase the wealth of its shareholders (owners) by paying dividends and/or causing the stock price to increase (i.e. the Friedman doctrine introduced in 1970);
* The more specific concept that planned actions by management and the returns to shareholders should outperform certain bench-marks such as the cost of capital concept. In essence, the idea that shareholders' money should be used to earn a higher return than they could earn themselves by investing in other assets having the same amount of risk. The term in this sense was introduced by Alfred Rappaport in 1986.[2]
> or rather "who's values"?
the word that came before it: "shareholder"
see above my clarification. parroting definitions that were questionable already back in 1970 will not get us to any agreeable future