Felix Salmon

The decline of the public stock market

By Felix Salmon
February 14, 2011

That was quick! Barely had my NYT op-ed on the decline of public stock exchanges hit the web this evening than Ira Stoll was ready with a trenchant reply.

Stoll is sanguine about the fact that the number of companies listed on U.S. exchanges has declined from 7,000 in 1997 to 4,000 today. “Suppose that the number went to 4,000 from 7,000 because many of the 7,000 companies merged with each other to become even larger and more dominant,” he writes, “and that the current 4,000 listed companies have three times the sales and three times the market capitalization they did in 1997.”

Actually, let’s not suppose that and instead let’s look at some numbers. I don’t have sales numbers, but I do have market capitalization numbers, from the World Federation of Exchanges. At the end of 1997, U.S. exchanges had a total market capitalization of $13 trillion; by the end of 2010, that had risen by about 24% to $17 trillion. Which in real terms actually works out as a slight decline in market cap. Meanwhile, GDP grew from $8.3 trillion in 1997 to $14.7 trillion in 2010 — that’s an increase of 76% in nominal terms, three times the rate of growth of U.S. stock market capitalization.

But more broadly, Stoll is making my point for me — that the U.S. stock market is increasingly made up of enormous and dominant companies and features ever fewer of the smaller, fast-growing companies which really drive the economy. When public companies are acquired or delisted or go bankrupt, there’s not nearly enough in the IPO pipeline to replace them. The result is a market of dinosaurs.

I also claim that the market is doing a bad job at allocating capital efficiently — after all, the market hasn’t allocated any capital to Apple since 1981. I don’t for a minute think I have a better idea than Steve Jobs what to do with Apple’s cash pile and in fact have said quite explicitly that it shouldn’t be paid out in dividends. But when investors buy Apple stock, their money doesn’t go to Apple, but rather to the other investors that they’re buying the stock from. The stock market becomes a money-go-round for speculators, rather than a way of directing capital at companies.

Finally, the “ultra-rich elite” I’m talking about is not the broad universe of people who are considered accredited investors by the SEC, but rather the tiny group of individuals who are given the opportunity to invest in private companies. If you’re well connected in Silicon Valley — if your name is Ron Conway or Vinod Khosla — then you have loads of such opportunities. But the rest of us don’t, whether we’re formally accredited investors or not.

I’m not making any policy recommendations in this piece — I don’t think that the rules about accredited investors should be weakened further, or that all Americans have some kind of automatic right to be able to buy a piece of Facebook. But I do think that the public stock market is less important now than it was in the past and that its decline is going to continue in future decades just as it has done since 1997.

7 comments so far | RSS Comments RSS

The market hasn’t allocated any capital to Apple since 1981? So what does it mean then, on their annual reports, when they list “Proceeds from issuance of common stock” under cash flow?

Posted by jared1456 | Report as abusive

“I also claim that the market is doing a bad job at allocating capital efficiently — after all, the market hasn’t allocated any capital to Apple since 1981.”

Apple raises money in the market pretty much every quarter, last quarter: $208 mln, same quarter last year: $374 mln

Posted by alea | Report as abusive

TERRRIFIC editorial in NYT today. One caveat, however, at least one massive international study conducted by Ross Levine about 10 years ago concluded that retained earnings (more than stock exchanges or bank-centric capital marketts) generate economic growth. It ain’t just an Apple or Google thing. What they taught us in business school regarding the crucial importance of stock markets in capitalizing business may have been slightly exagerated for some time now.

Posted by juned | Report as abusive

Those Apple shares are likely to cover option grants. Still, it increases the float and gives them more cash to play with.

The primary role of the stock market is to compensate the people who create and grow the companies. If you couldn’t take a successful company public, then VC would be more reluctant to invest their capital in the first place.

Posted by TFF | Report as abusive

It sounds like others have jumped on the same thing I did: every time Apple pays employees with stock options or acquires companies for stock, the market is putting capital in Apple.

Posted by dWj | Report as abusive

“Actually, let’s not suppose that and instead let’s look at some numbers”.

For a true son of Scotland, empiricism is ALWAYS the answer.

Hume lives!

Posted by ARJTurgot2 | Report as abusive

Our public equity markets are designed not just for companies to tap into capital on the cheap. That’s just part of it. They are also supposed to give the common man (by man I mean people, but just trying to speak a little poetically here) an equal opportunity to take part in one of the single greatest wealth creators in world history–our public capital markets. If more and more young growing companies are tapping into private capital markets, then more and more of the outstanding wealth creation opportunities are going to an elite group of the already super-wealthy. This is not good.

http://alatazerka.wordpress.com/2011/02/ 10/whats-going-on-in-exchanges-today/

Posted by offpeak34 | Report as abusive

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