Sunday, May 19, 2013

Capital markets are no longer about capital

Apple has raised an enormous amount of capital- to hand back cash to shareholders. It is sitting on tonnes of cash, yet resorted to the capital market because repatriating cash to the US from other parts of the world would have been tax inefficient. This, says John Kay in an article in the  FT, "illustrates a paradox in the modern relationship between business and finance. Companies have never had so little need for capital nor so much engagement with capital markets.

The point about listing in the market is not to raise capital- knowledge-based businesses do not need to own a whole lot of assets and hence do not need large amounts of capital. Rather, listing on the exchange has to do with providing an exit route to investors or rewards to managers who own stock options: "corporate governance, not capital allocation, is the principal economic and social function of those capital markets.".

What does this mean for investment banks, one of whose main businesses, was raising capital for firms? It would mean loss of a significant stream of revenue. Another important stream, proprietary trading, is being whittled away by regulation. No wonder investment banks are losing their sheen, as reflected in market value to book value ratios.


Anonymous said...

Let me paraphrase it for you:

"corporate malfeasance, not capital allocation, is the principal economic and social function of those capital markets."

Does the world keel over and die on weekends and holidays when the markets are closed....or at night? No. Well, then ...lets reduce the role of stock-markets - trading allowed one day a week! Just imagine the huge savings of time and resources when people divert those to more productive uses.

T T Ram Mohan said...

Anonymous, Sorry I can't go along with what you are saying. If you accept that the free market operates through the price mechanism, then stock prices are an integral part of the market's function of allocating resources. If you don't have capital markets imposing discipline, are there alternative mechanisms that would suffice?


Anonymous said...

True....but a couple of points in answer to TTR: a) Prices can stay out of whack for longer than we're alive. The entire mythology of free-market price discovery is a self-feeding tautology. How do we know what we see is the correct price - well, the market determined it. Why was it so different an hour ago - well, the market (which is another way of saying the weighted-average-of-beliefs-of market-participants) thought otherwwise....there are misallocations galore, and not just the previous global crisis is witness but the coming one; b) if you note what was said in previous comment - it does not say do away with capital markets altogether. The counterfactual would be - why not have 24/7 stock markets round the clock and round the year for instantaneous "correct" prices that can impose "discipline". If that is laughable, then obviously there is a golden mean.....all I want to know is what is it?