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The stock market, investment, capitalism, and Marxism: A thread
The massive increase in the price of Gamestop stock and subsequent market chicanery (the app Robinhood cancelling the ability to buy fractional shares of the company, for example) have focused attention on 1/x
The massive increase in the price of Gamestop stock and subsequent market chicanery (the app Robinhood cancelling the ability to buy fractional shares of the company, for example) have focused attention on 1/x
the stock market, and this raises questions about how stock markets function under capitalism, how they are related to investment, as well as to the class structure of society
The stock market has been around for about 400 years, meaning that it existed at a time when capitalism was not the dominant economic system, but rather feudalism under the mercantilist period, where corporations were given royal charters to trade, e.g. the Dutch East India Co
A good overall history of this is here: https://www.amazon.com/dp/B00BV6RTUG/ref=dp-kindle-redirect?_encoding=UTF8&btkr=1
But over time, the stock market has become the most visible symbol of capitalism, and its daily movements are taken to represent the overall economy
There are several problems with this, but before I get into that, let’s define a few terms
There are several problems with this, but before I get into that, let’s define a few terms
First, financial markets are where financial assets are bought and sold (which include stocks, bonds, and derivatives)
A stock is a share of ownership of a company, so that if a company has 100,000 shares, and you own one, you own 1/100,000th of that company (what powers this grants you depends on the governance structure of the company; there are voting and non-voting shares, etc.)
Dividends are payments made based on ownership of a stock, typically at a set rate, e.g. $1 per share per year, which gives investors in the stock an income. Not all stock pay dividends, but many do, and the payment of these dividends represents one of the largest single uses of
total profit in the US, showing the importance of stock markets to capitalism overall
A bond is a promise to pay in the future, with a yield that is the difference between the promise itself, called the ‘face value’ (e.g. $100 in 1 year) and the current market value (e.g. say it is currently selling at $97, producing a gross yield of $3, or 3/97 = 3.09%)
A derivative is a financial asset whose value is derived from another financial asset based on a contract; there are many variations of this, but the oldest are options contracts (‘puts’ and ‘calls’, which allow an investor to in essence purchase only the variation of a stock)
Perhaps the biggest issue with financial markets representing the overall economy is money creation by central banks under the fiat monetary order
I have a lecture on the development of this system:
I have a lecture on the development of this system:
The Fed recently created $2.7 tril, which immediately went into financial markets, significantly boosting their value, raising the overall pace of growth of stock prices, and swinging them significantly out of their historical valuations (more on this in a sec)
I could go into detail here, but I think this is a point that most grasp: when the Fed creates and injects literally trillions of dollars into financial markets, it makes this markets overvalued, to the benefit of large Wall St firms and investors
Stock markets form a condition of existence for capitalist firms, which is to make financing investment much easier and provide the firm with far more flexibility than traditional lending
The firm can do this by simply issuing more shares of stock; there are limits to this, of course, like everything else. Issuing shares tends to decrease the current share price, which existing shareholders dislike;
and of course, if the money that is raised is not well-spent, investors could sell, causing the price to fall further
As Marx pointed out long ago, all things contain contradictions, and what supports capitalism at one moment may undermine it the next. The stock market undermines capitalism in several ways
The joint stock corporation separates ownership of a firm from control of a firm, which raises a whole host of interesting possibilities, some positive and some negative.
It can undermine the firm because the shareholders may not have much knowledge of the firm’s operations; perhaps they demand short term profits over long-term investment; perhaps the issuance of stock allows hedge funds and holding companies the ability to buy up control of
productive firms, load up the company with debt, then sell their shares before the damage to the firm is widely understood and the market price of the stock is still high
This is, of course, not just a theoretical possibility, it is the story of Bain Capital (Mitt Romney’s firm) and so many others that it has often been called ‘vulture capitalism’ -- a nice image, though I dislike implication that there's a 'special' form of capitalism here
Thus we have one form of capital (financial capital) consuming another form (industrial capital); I could list other examples, but let’s turn to the topic of valuation
This is the question of what a stock is worth, what is its value
There is a very clear and accessible discussion of this in this classic book on stock markets: https://www.amazon.com/Random-Walk-Down-Wall-Street-ebook/dp/B07DP6YGVX
There is a very clear and accessible discussion of this in this classic book on stock markets: https://www.amazon.com/Random-Walk-Down-Wall-Street-ebook/dp/B07DP6YGVX
There is a ‘fundamental value’ of a stock, which is obtained by calculating the firm’s net revenue and net assets, and projecting it into the future (I will not get into the details here, but if you’d like to learn more: https://en.wikipedia.org/wiki/Fundamental_analysis )
We might find, for example, that a company with $100 mil in assets and net revenue of $10 mil/yr has a discounted net present value of $300 mil (this means that future revenues have been accounted for in this figure)
If this company has 5 million shares outstanding, they would have a fundamental value of 300 / 5 = $60 per share (my model is simplified; other factors may also be included)
This analysis allows investors to see if the share price represents an overvaluation or undervaluation
This analysis allows investors to see if the share price represents an overvaluation or undervaluation
This is an individual company valuation; another approach looks at the market as a whole, and considers measures such as the relationship between the stock price and the company’s earnings, or the dividend relative to the stock price
These are important because investing in stocks is only one investment a person could make, and economic theory has long argued that a general rate of return should prevail; for example, I’d prefer to get a return of 10% rather than 5% assuming equal risk
This means that investors are pondering stocks next to other investments, and won’t buy stocks if they have a lower return at a similar level of risk
While there is a fundamental value, it might not be all that useful, because, as I mentioned earlier, financial markets often see large infusions of newly-created money from central banks, which pushes up stock prices, making their fundamental value largely irrelevant
This is where the misleadingly named ‘technical analysis’ comes in. Technical analysis is based on more subjective factors, and focuses a great deal on market psychology and the well-known reactions markets have to changes in stock prices
Technical analysis says markets are emotional; when prices are rising, there is a fever that sends prices further still, yet there are limits
For everyone swept along by the fever, there are others who are awaiting a fall
The attempt to guess which way prices are going, in absence of any concern for their fundamental value, gives rise to different approaches to investment
The fundamental, or ‘value’ investor buys stocks that seem undervalued, often those that pay dividends, holding them for long periods of time and benefitting from both the stock price increase and the dividend income.
The speculative investors cares not one whit for value, only for correctly foreseeing price movements so as to buy low, sell high, preferably in the short term
While it is possible sometimes to correctly guess price movements and profit from it, this is a highly competitive field, and many others are trying to do the same. If you manage to buy low and sell high, it means someone else has bought high, and may later sell low.
One cannot expect to beat the market all the time. Btw, in the finance literature beating the market is termed 'alpha', e.g. if the market's performance is 10% in a given year, and your own portfolio grew 12%, you have alpha of 2%
This is important because it takes no skill at all to get the same return as the market -- a random selection of 30 stocks should do it, or buying shares of an index fund
I have more to say on this, but this thread is already too long; let me know if you have questions, and maybe I’ll do another thread if there’s interest
Oh, one more classic book on how markets become overvalued https://www.amazon.com/Irrational-Exuberance-Revised-Expanded-Third-ebook/dp/B00P6ZJ6HC/ref=sr_1_1?crid=2X6EUV9ZUB084&dchild=1&keywords=irrational+exuberance&qid=1611963993&s=digital-text&sprefix=irratrional+%2Cdigital-text%2C219&sr=1-1
