For Whom? Part I

An endless trail of evidence seems to emerge over time of a tilting of the proverbial playing field to the disadvantage of the ordinary investor. Currency and interest rate manipulation allegations against major Wall Street firms, accusations of stock price manipulation against hedge fund managers, rules put in place as part of the Dodd-Frank Act of 2010 rolled back with wording taken directly from a lobbyist’s recommendation, the list goes on.

As such, I thought it might be time to reflect on the prophetic warnings from Adolf A. Berle and Gardner C. Means in their seminal work, The Modern Corporation and Private Property[1]. In this depression-era book, Berle warned us of what he perceived to be a troubling trend (italics mine):

“The translation of perhaps two-thirds of the industrial wealth of the country from individual ownership to ownership by the large, publicly financed corporations vitally changes the lives of property owners, the lives of workers, and the methods of property tenure. The divorce of ownership from control consequent on that process almost necessarily involves a new form of economic organization of society.”

-Adolf A. Berle, 1967, preface to the revised edition of the original (1932)

My view is that Berle’s “divorce of ownership from control” of publicly traded corporations has led to significant changes in the economy and society as a whole. While the political economic implications are too broad to address in this format, fundamental questions remain unanswered (or even, with rare exception, posed) for the ordinary investor. To test the validity of this weighty concern, I thought it would be helpful to work through some numbers reported for a sample blue-chip American company.

An Iconic Blue-Chip U.S. Company

Inspired by a recent Wall Street Journal piece on how prominent CEO Jeffrey Immelt is managing the challenges arising from the recent oil price plunge, I will use GE as the example because of its reputation as an iconic blue-chip American company. According to the fact sheet on the company’s site, GE ranked 9th in 2015 on Fortune’s list of the world’s most admired companies. The list of awards includes accolades from Barron’s, Forbes, and MIT, among others. I am sure that many of the company’s 307,000 employees in 170 countries (per the GE fact sheet) enjoy challenging careers, and many of those may do so with excellent pay and benefits.

Given the stellar reputation the company enjoys, I think it is fair to pose the basic question facing the ordinary investor saving for retirement by way of her ownership of stocks and bonds. That question is whether and to what extent that company management works to the benefit of its owners, its shareholders. While I have done my best to assemble an accurate view from publicly available sources, all data included herein are for illustrative purposes only. None of what you see below is for use as the exclusive basis for an investment decision.

Long-term Performance

A fundamental question facing the ordinary investor regarding the publicly traded shares of any company under investment consideration is whether the ordinary investor would have been better off long-term with its stock, or instead buying and holding a low-cost diversified index fund tracking the blue-chip stock benchmark, the S&P 500 Index. Of course, history is never predictive, but it offers lessons for us to learn and infer from those lessons what we may. The earliest common date for the GE stock price and the daily net asset value for the Vanguard 500 Index fund (investor shares) is August 1976. The following chart shows this comparison:

For Whom - Part I Chart I

In other words, had you invested $10,000 in GE stock in August 1976, held onto it, reinvesting dividends along the way, you would have had $543,599.80 at the end of February 2015. However, had you instead invested that same $10,000 in the S&P 500 Index, reinvesting dividends along the way, your balance at the end of this February would have been $580,890.64. So the long-term benefits of holding individual GE stock vis-à-vis a diversified, low-cost index fund tracking the blue-chip stock market do not appear to have been there for the ordinary investor over the period since the mid-seventies.

No Steady Eddie

One response to this comparison could be that investors in GE’s common stock would have been subject to less turbulence along the way in the form of fluctuations in stock price. To test this “Steady Eddie” defense, I ran a “risk/reward scatterplot,” plotting the mean return of a given stock or bond along the vertical axis against the standard deviation (think fluctuations of returns around the mean) along the horizontal axis. The idea is to illustrate the amount of risk investors have taken in holding the given asset over the stated time-period in order to earn the mean (think “average”) return. The most history available to me was ten years. The following chart displays the 10-year mean return plotted against the 10-year standard deviation for GE, and for the Vanguard 500 Index Fund Investor shares.

For Whom - Part I Chart II

This illustration indicates that during the 10-years through February of 2015 the investor in GE stock could have endured less risk and greater return by instead investing in a low-cost index fund tracking the S&P 500 Index. In fact, the fluctuations in returns as measured by standard deviation for GE stock were nearly twice that of the Vanguard 500 Index fund (28.28 vs. 14.76). However, the mean return for GE stock over this period was just 0.56%, compared with almost 8% (7.87%) for the Vanguard 500 index fund. In other words, over the past 10 years the “Steady Eddie” defense does not hold. Granted, this defense might have been true prior to the opening of the Vanguard 500 Index fund to ordinary investors, or a broad swath of the years since then, but “Steady Eddie” defense does not appear to have been viable since the mid-2000s.

To be continued in For Whom? Part II…


[1]The Modern Corporation & Private Property, by Adolf A. Berle & Gardiner C. Means, Tenth printing 2009, Transaction Publishers, New Brunswick, New Jersey. Originally published in 1932 by Harcourt, Brace & World, Inc.

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