Felix Salmon

News Corp loses its news

Felix Salmon
Jun 27, 2012 04:15 UTC

“In a way,” says Jeffrey Goldfarb today, “the scandal may have been the best thing to happen to News Corp,” on the grounds that Hackgate is likely to end up forcing Rupert Murdoch to spin off his newspapers, along with HarperCollins, into a new, separate company.

I can see what Goldfarb means: it’s probably fair enough, if you’re writing for a service like BreakingViews, to assume that whatever is good for a company’s share price is good for that company. But from a journalistic perspective, the news at News is much less good.

I was at the Loeb Awards gala dinner tonight, where the WSJ’s Jerry Seib won the Lifetime Achievement Award. He’s been at the WSJ since 1978, and in his acceptance speech he talked about the culture shock which descended upon the newspaper after it was bought by Murdoch. At the same time, however, he welcomed it: “there’s a reason it’s called the News Corporation,” he said — and he’s right. Murdoch, at heart, is a news man, and although most of his wealth is attributable to sports and entertainment, it’s clear that his heart is very much in journalism. Moreso, it should probably be said, than most of the Bancrofts who sold him the Journal.

In the short term, this makes sense. It would give the entertainment company more latitude to operate without the reputational baggage associated with News International, and if anything it would allow Rupert Murdoch to further consolidate his control of his newspapers, since the valuation of the spun-off company would be low enough that he could quite easily take it entirely private, if he wanted. Rupert Murdoch won’t be any poorer after this deal is done — in fact, he’ll be richer, thanks to the eradication of the “Murdoch discount” — and so his newspapers’ charmed lives as playthings of a billionaire who doesn’t care much about ROE is likely to continue either way.

But so long as the print properties remain public, shareholders are going to be even noisier about making them pay than they are right now. At the moment, News Corp shareholders mostly just want the newspapers to go away. But after the spin-off, shareholders in the new company will be agitating noisily for profits. Murdoch will ignore them, of course — but that kind of thing is difficult to ignore entirely.

Up until now, Murdoch has never really needed to worry very much about his newspapers’ profitability, because the rest of his empire was throwing off such enormous profits. That’s going to change. Even if he does take the papers private, none of his heirs particularly wants to inherit them. There’s a big question mark over the papers’ future, now, which will only grow as Murdoch gets older.

There’s also the fascinating question of what’s going to happen with Fox News. When News Corp loses most of its news properties, only Fox News and Sky News are likely to remain — and when big broadcast companies own news operations, those news operations tend not to perform very well. The fact that news is part of News Corp’s DNA has surely been a crucial factor in Fox News’s success; now that’s coming to an end, Fox News’s new overseers might view the channel in a significantly different light.

Again, nothing is going to happen overnight: Murdoch will continue to have personal control of both companies, and both will be run exactly the way he wants them to be run. But in the world of journalistic business models, I’ve always been a fan of being owned by a benign gazillionaire, who cares about more than just profits. Both Bloomberg and Reuters fall into that category, as do outfits such as the Atlantic, Condé Nast, and The New Republic. But Murdoch has always been the first billionaire you think of when you think “press baron”. And it’s foolish to believe that a change as big as this at the corporate-structure level will have no effect on his individual properties.


Congrats on the award, Felix, always interesting around here!

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Why are US stock pricing conventions so sticky?

Felix Salmon
Jun 22, 2012 18:32 UTC

Last week I explained why Wall Street prefers lower-priced stocks: they mean that bid-offer spreads are wider, in percentage terms, and when that happens, brokers make more money.

So it comes as little surprise to see that Wall Street is now agitating for some stocks to trade in increments of 5 cents or 10 cents, rather than the current 1 cent:

Brokerage firms often can’t afford to spend money developing reports on thinly traded companies because firms are less likely to make back that money through commissions linked to trades in such securities, said Healy. With less research available on small-cap companies, mutual funds and other institutions may not be inclined to invest in such stocks, he said.

Of course, there were lots of silly reasons put forward too: one executive even said that he was pushing the change for investors‘ sake, on the grounds that they “like round numbers”. But the real reason is the obvious one: the higher the bid-offer spread, the more money brokerages make. I, like Alex Tabarrok, am naturally suspicious when industry insiders say that higher tick sizes are in the public interest.

But there’s something else going on here, surrounding the semiotics of nominal share prices. The fact is that it’s pretty easy to choose a wide or a narrow bid-offer spread without changing tick sizes at all: if you want a wide spread have a low nominal share price, and if you want a narrow spread, have a high nominal share price. Anything over $50 or so will give you the narrowest possible spread, since bid-offer spreads almost never go lower than 2bp. On the other hand, if you want a spread of 30bp to allow Wall Street to make a killing, then just do a big share split which results in a share price of $3 or so.

Why don’t companies do this? Because nominal share prices matter, at least to retail investors. After I wrote my last post, a Wall Street veteran emailed me:

Trust me on this: Individual investors HATE HATE high-priced stocks. I know the logic makes no sense but you simply cannot sell a $70 stock to an individual unless it’s a very well-known blue chip. They hate it.

You would be surprised to hear how many people say that they’re looking for something “in the $23 range.”

This is weird, and irrational, but true. What’s more, individual investors are highly suspicious of very low-priced stocks, too. If Apple suddenly announced a 150-for-1 stock split, so that its shares started trading at $3.86 apiece, that would be bearish for the stock, the conventional wisdom that investors like stock splits notwithstanding. A company whose shares trade below $4 just feels as though it’s small, or struggling: certainly not a world-beating behemoth. (Incidentally, if Apple did do that 150-for-1 stock split, it would have 140 billion shares outstanding, and would trade on average 3.1 billion shares per day.)

The subtext of nominal share prices, beyond the obvious realm of penny stocks, is something I’ve never been good at understanding; if you know any good guides to it, I’d love it if you could point me in their direction. And even penny stocks don’t make a lot of sense to me: if you don’t want the stigma of being a penny stock, why don’t you just do a reverse stock split?

In any case, for reasons I don’t pretend to understand, it’s obviously a lot easier to try to change tick sizes than it is to change nominal pricing conventions. Some things are incredibly sticky, even if they don’t make any sense. I guess they’re a bit like that weird American love of pounds and miles and gallons.


In addition to mutant_dog’s reasons (odd lots, possibility of doubling), I wonder if some is that individual investors often have a fixed amount to invest at a given time, and want to minimize left-over funds. E.g. I often have $2K to invest. At $575/share, there’s $275 “left over,” versus only $22 at $23/share.

That’s a particular heuristic I’m very guilty of — so, I end up just buying index mutual funds where I can have fractional shares.

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Wall Street’s preference for low-priced stocks

Felix Salmon
Jun 13, 2012 14:12 UTC

Three weeks ago, Alex Tabarrok found an intriguing post by high-frequency trader Chris Stuccio. The idea is very elegant: if you want to stop high-frequency traders extracting rents from the market, there’s an easy way to do so — you just allow stocks to trade in increments of much less than a penny. Matt Levine puts it well: right now, he says, “because you can’t be outbid by another bidder within the same penny increment, you get free money by just getting there first”. If high-frequency traders could compete on price rather than just on speed, then a lot of the silly arms-race stuff would be replaced by better prices for investors.

It’s a serious proposal, so I was glad to see that Matthew Philips wrote it up for Businessweek. But after starting off well, Philips ends up joking about it, and refusing to adjudicate between Stucchio and his on-the-other-hand trader, Ben Van Vliet.

The fact is that on the face of things, Stuccio is undeniably correct. Here’s the chart, from Credit Suisse via Cardiff Garcia:


The y-axis shows the bid-offer spread on any given stock, in basis points; the x-axis shows the price of the stock, in dollars. Clearly, there’s an artificial clustering around that curve. For a lot of stocks trading at less than $50 a share, the market would happily provide bid-offer spreads of less than a penny if it could; but it can’t. And when stocks get really cheap, the bid-offer spread becomes enormous. For instance, an eye-popping 3.766 billion shares of Citigroup were traded on December 17, 2009, when the stock fell 7.25% to $3.20. At that level, a one-penny bid-offer spread is equivalent to a whopping 31 basis points; if Apple traded at a 31bp spread, then its bid-offer spread would be almost $2.

Clearly, the traders were the big winners when Citi was trading at a very low dollar price — if you make the assumption that traders capture half the bid-offer spread on each trade, then the traders made almost $20 million trading Citigroup alone, in one day.

On the other hand, it seems that the market almost never trades stocks at a bid-offer spread much below 2bp. Which in turn means that for stocks over $50 per share, we’re pretty much already living in Stuccio’s ideal world, where the spread is determined by traders, rather than by an artificial rule barring increments of less than a penny.

Which brings me to my theory: that companies deliberately price their shares at less than $50, as a way of greasing their relationship with Wall Street a little bit. Back at the end of 2010, I was very confused by the fact that Facebook had done a 5-for-1 stock split, reducing its share price from about $75 to about $15. But in hindsight, maybe it was all part of its IPO preparations: you almost never see stocks go public at more than $50 per share.

Here’s a question for the data geeks out there: did nominal share prices decline after the stock market moved to penny pricing in 2000? If so, that would support my argument: that Wall Street manages to engineer stock prices so that it makes good money trading shares. And companies are generally happy to go along with Wall Street on this: most stocks trade at $50 per share or less.

It’s true that a lot of the rents from the sub-penny rule and low nominal share prices are captured not by Wall Street proper but rather by HFT shops. But all Wall Street banks have some kind of HFT operation of their own, and in general it’s probably fair to say that the lower the nominal share price, the more money that Wall Street makes. And conversely, the higher a company’s nominal share price, the less beholden it feels towards Wall Street.

To put it another way: the sub-penny rule is a way of allowing companies to price their stock so that Wall Street can make good money trading it. And we don’t need Stuccio’s rule, since it can effectively be implemented just by pricing your stock above $50 per share. If the companies don’t want to subsidize Wall Street, all they need to do is price their stock higher. And if companies do want to provide this hidden subsidy to Wall Street, maybe they should be allowed to do so.



You are so right. No one in the media, not Felix, no one, understands this. It’s criminal how bad it is. Only when you trade stocks and pay $1000s per year in “tolls” to the hft, then you understand.

There is simply no escaping. You can’t use limit orders any more than you can use market orders, despite the bull$— the hft promoters peddle. The best you can do is use a limit that reaches across a one penny spread and hope you get filled for a $0.0049 fee per share to the hft on every trade. (half of the spread, minus $0.0001)

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Is Nasdaq to blame for Facebook’s share price?

Felix Salmon
Jun 11, 2012 16:53 UTC

The WSJ has a good post-mortem on the Facebook fiasco today, pointing fingers very much at Nasdaq. And clearly Nasdaq was Ground Zero for the trading problems the day that Facebook went public. But this kind of thing smells fishy:

Some hedge-fund managers called Facebook’s chief operating officer, Sheryl Sandberg, because they hadn’t received any trade confirmations from Nasdaq, says a person familiar with the phone calls. Some hedge-fund managers apologized to Ms. Sandberg and said they needed to sell their entire positions because of the confusion, the person added.

This clearly comes from Sandberg’s office, if not Sandberg herself — and it sounds very much as though she’s blaming Nasdaq for a lot of investors dumping Facebook shares on the opening day. If I were in her position, I’d do the same thing: it’s a lot easier than finding fault with, say, Facebook’s CFO, or blaming herself.

I don’t doubt that Nasdaq glitches did take the wind out of the Facebook share price, if indeed it did open with a pop at $42. (The WSJ casts some doubt on that, quoting the head of electronic trading at Deutsche Bank as saying that it was “mathematically impossible” to come up with a $42 figure if the cross had been calculated with all of the orders put in.) But with hindsight, and given the degree to which Facebook shares have slumped in the last three weeks and not bounced back at all, any problems at Nasdaq simply hastened a fall in price that was surely inevitable.

None of which is to exonerate Nasdaq at all. The WSJ article ends with a perspicacious quote from Joseph Cohn, a retail investor in New York state:

“My experience on that day is that the markets aren’t built to handle failure,” he said. “With technology, you’re able to accomplish a lot more, but when it fails, it fails miserably.”

This I think is what the SEC’s Mary Schapiro is talking about when she says that the Facebook IPO was reminiscent of the May 2010 flash crash. The US stock market, when it works, works fine. But it’s not robust at all; it’s certainly not what Nassim Taleb would call “anti-fragile”. That’s why Nasdaq did so much testing of their systems before the IPO: they knew that if the systems failed, the outcome could be horrible. As, in fact, it was.

IPOs are a particularly hard task for stock exchanges, as we saw first with the BATS IPO and now with Facebook. Normally, any given trade happens at a price very close to the previous trade — but in an IPO, no one really has a clue what the price should be, and demand can appear and dissipate much more quickly than we see in the normal course of secondary-market trading. Momentum traders rule, and value investors know that the best thing they can do is wait patiently until things quiet down. As a result, once Facebook stock started falling and the supportive bid from the underwriters went away, there was basically no bid any more. Hence the fact that it’s now trading more than $10 below the IPO price.

On the other hand, the stock genuinely has stabilized in recent sessions, trading in a narrow band between $26 and $28 for more than a week now. That’s a pretty good sign that the market has worked out what Facebook is worth — and there’s no reason at all to believe that there were multiple equilibria here, and that if the IPO had gone better then we might have had a similar week-long stretch of trading between, say, $42 and $44 per share. Sandberg should probably call up her ex-boss Larry Summers if she really believes that. It might be a comforting unfalsifiable thought, but it’s still untrue.


Social proof is a powerful thing and the price is set by the marginal buyer, it doesn’t necessarily take that many mo-mos to take it up, and shaking them out can have a big effect on price. In the long run of course, earnings and growth are what’s going to matter, but the long run isn’t here yet.

Also, Summers is a smart guy, but I certainly wouldn’t take his advice on stocks… the market invariably humbles know-it-alls. As far as he was concerned, derivatives, leverage and deregulation were just great and bankers’ rational self-interest would keep them out of trouble.

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Lessons in pricing a scarce resource

Felix Salmon
Jun 9, 2012 00:08 UTC

There’s a fine art to pricing any scarce resource. Ex ante, it’s impossible to do a precise calibration of supply and demand, but being able to do so is crucial to getting things right. If you’re in a business where you can make more of whatever you’re selling when demand rises, that’s one thing. But when you’re selling tickets, or Facebook shares, that’s not the case.

In a world where you have to set the price in advance, and then it can’t be changed, the calculus is simple. Set the price too high, and you end up with insufficient demand and a general feeling of failure; you don’t attract the number of people you were hoping for, and even those people are likely to end up feeling ripped off. On the other hand, set the price too low, and you create disappointment among people who wanted to give you their money and can’t, quite aside from the fact that you’re clearly leaving money on the table.

In the past couple of days, we’ve seen good examples of both. At Yankee Stadium, the price of tickets is way too high, as is evidenced by the huge number of empty seats, and by the fact that on the secondary market, two thirds of tickets are sold for less than face value. Lots of seats are being sold by people asking less than $5 a pop, and at the top of the ticket-price range, the average discount to face value is more than $90.

At the same time, sold-out $125 tickets for the Big Apple Barbecue Block Party are being hawked on Craigslist for significant premiums to face value, prompting Ryan Sutton to declare that they should be more expensive next year.

The Yankees are taking a shoot-the-messenger approach to their attendance problems, blaming the secondary market in tickets, rather than the fact that the tickets cost a fortune. That’s just silly, and it’s a no-brainer that the price of Yankees tickets should come down. Just like an IPO, you want to price season tickets so there’s a small implied “pop” in there — people with season tickets should be able to sell them on the secondary market for a little bit more than they paid. That helps keep demand for season tickets healthy, year in and year out.

What’s more, the Yankees have the same stupid pricing as the Metropolitan Opera: every game or opera costs the same amount, no matter how in-demand or run-of-the-mill the matchup. Pretty much every other baseball team has pricing variable enough that at least the big games cost more; the Yankees should take a leaf out of Broadway’s book and do the same. Broadway pretty much always sells out every show, these days, at whatever the clearing price is, and scalping is way down. That would make Yankees games much less desolate.

Pricing the barbecue tickets is trickier, but Sutton is right: when you’re raising money for charity, it’s a little heartbreaking to see tickets being flipped for profit. And the cost of setting the price too high is small: if the tickets look as though they’re not going to sell out, you just run some kind of special offer where people can buy them at a discount for a limited period of time. No harm, no foul.

And what about IPOs? With them, there’s no do-over, and the process tends to be driven very much by big investment banks with more than half an eye on their reputation in the equity capital markets. They care about making money on every deal, but they care much more about getting a healthy stream of fee income from future deals. While the barbecue can overprice its tickets without too much damage, investment banks don’t have the same luxury.

And that’s probably the real reason why there’s an IPO pop. Underpricing the IPO might mean that the issuing company is leaving money on the table — but overpricing the IPO is much worse, as Facebook and its underwriters are still discovering. So banks always err on the side of underpricing. Except, as in this case, when the issuer has too much power, and gets too greedy.


I believe overpricing an ipo is bad because the market is wildly irrational and inefficient in the shortterm, so much so as to undermine longterm efficient pricing mechanisms.
Or something.

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Facebook muppet of the day: UBS

Felix Salmon
Jun 8, 2012 19:05 UTC

CNBC has a breathless report from Maria Bartiromo today, under the headline “UBS May Have Facebook Trading Loss of $350 Million”:

UBS is sitting on losses that could be as high as $350 million stemming from its investment in the Facebook initial public offering, and is preparing legal action against Nasdaq as a result, people familiar with the matter told CNBC…

These people said UBS wanted 1 million shares, but when it did not receive confirmations, it repeated the order multiple times and was left with much more than it intended…

Apparently, UBS tried to unload the stock at $35 a share, but could not catch a bid and sold some of the positions under $30 a share.

The math here just doesn’t add up. Let’s say that UBS put in an order for 1 million shares, didn’t get a confirmation, so canceled the first order and put in a second order. And then didn’t get a confirmation for that, either. Let’s say it did this, oh, half a dozen times in all. And that each time, the order went through but the cancelation didn’t. Which would mean that UBS ended up with 6 million shares at the opening price of $42. And then sold them all at an average of $33. That’s a loss of $9 per share times 6 million shares — which works out at $54 million.

So, where does the other $300 million come from?

The fact is that if UBS ended up losing anywhere close to $350 million on Facebook stock, it has no business being in the equity capital markets at all. On the day of the IPO, it makes perfect sense that UBS put in orders to buy stock, since it was surely receiving orders from its clients. And I can also believe that due to Nasdaq glitches, UBS might have ended up buying more stock than it wanted.

But if UBS only had orders for 1 million shares from its clients, and it found itself with many more shares than that, it was incumbent on UBS to sell the excess stock — immediately. UBS has no business holding millions of shares of Facebook on its balance sheet for no good reason other than that Nasdaq made a mistake.

What’s more, it was abundantly clear on that first day of trading that Morgan Stanley would buy back as the market wanted to sell, at the IPO price of $38 per share. If UBS had more shares than it wanted, there was a willing buyer at that price.

So what happened? Kid Dynamite has got some screenshots from Twitter, which show that UBS was buying aggressively in the market, at 11:40am, at $40 per share. To the tune of some 86 million shares 860,000 shares. Anything from 11:40am onwards can’t be attributed to Nasdaq glitches, it’s a simple bet that Facebook was going up rather than down.* By Monday morning, UBS advertised more shares traded even than Morgan Stanley — over 100 million in total.

The most likely thing, here, is that UBS simply bollixed up its Facebook trading strategy in the worst possible way, going massively long at exactly the same point in time as everybody else was going massively short. It was a bold and enormous bet, and like many bold and enormous bets, it wound up going spectacularly wrong. But if that’s what happened, you can’t really blame the Nasdaq. After all, if the bet had worked out, and Facebook stock had soared, you can be sure that UBS — and its traders — would be taking full credit for their genius and prescience.

*Update: Apologies to UBS, the screenshot shows actual shares for sale, not lots of 100 shares as Kid Dynamite first assumed. And there were some Nasdaq glitches even after 11:30am. But the fault here still looks as though it lies at least as much with UBS as it does with the Nasdaq.


What is amazing is that UBS was so ill informed that they would go long on facebook at $40 Fb is a fade like AOL was and will be gone in a few years so where does that leave the people who bought into this $100b hype?

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America’s jobs crisis

Felix Salmon
Jun 1, 2012 13:48 UTC

This is about as bad as the jobs report could possibly be: just 69,000 jobs created, split between 95,000 new jobs for women and 26,000 fewer jobs for men. The market reaction has been swift and merciless, with stocks and bond yields plunging: the 10-year Treasury bond now yields less than 1.45%. When stock prices fall, of course, the earnings yield on the S&P 500 goes up, even as bond yields go down. Which means that the numbers on this chart are now even more extreme than at the close yesterday:


The green line, here, should not be able to simply go up and to the right indefinitely. While market failures clearly happen all the time, things are really bad when they persist for this long. And what you’re looking at, here, is a market failure, as Brad DeLong explains: what we’re seeing, he says, is nothing less than “a massive failure of our economic institutions”.

The first reason betrays a lack of trust that governments can and will do the job that they learned how to do in the Great Depression: keep the flow of spending stable so that big depressions with long-lasting, double-digit unemployment do not recur. The second reveals the financial industry’s failure adequately to mobilize society’s risk-bearing capacity for the service of enterprise.

Basically, we have low bond yields because the Fed has failed to do its job, and persuade the markets that it is capable of engineering a healthy economy over the long run. And we have high stock yields because the market has failed to do its job, which is to treat high corporate earnings as a fantastic opportunity to invest in the economy and build something even greater in the future. Just look at the amount of money which is flowing straight to corporations’ bottom lines, and not being put to good, productive work. Corporate profits now account for significantly more than 10% of GDP: that’s never happened before.


To spell this out: high corporate profits and low levels of job growth are two sides of the same coin. If things were working properly right now, companies would take their excess revenues and use them to hire more people. Instead, they’re basically just letting those excess revenues sit on their balance sheets as cash because they’re scared to invest in themselves. It’s frankly pathetic.

The solution to this problem is nothing complex — the arbitrage is sitting there in the first chart, plain for all to see. The government can borrow at 1.45%: it should do so, in vast quantities, and invest that money back into the economy itself. Take a few hundred billion dollars and use it to fix our broken infrastructure, to re-hire all those laid-off teachers and firefighters, to provide some kind of safety net for the millions of Americans who have been out of work for more than a year. Even if the real long-term return on any stimulus package was zero, the nominal long-term return would be well over 1.45%, making the investment worthwhile.

To put it another way, not all crises look the same. Back in 2008-9, the fact that we were in a crisis was obvious, and it resulted in unprecedented levels of enormous coordinated actions between Treasury and the Fed. Now, however, when we look at the crisis-level spreads in the first chart, we don’t think “crisis” any more — and the sense of urgency that everybody felt in 2008-9 is long gone. How many more dreadful jobs reports do we need before it returns?

The 2012 election should be a referendum between two visions of America. On the left, Obama should say that we’re in a jobs crisis, and that he’s going to do everything in his power to get people back to work — by employing them directly, if need be. On the right, Romney can say that job creation should be left to US companies, despite the fact that those companies are signally failing to increase their payrolls despite their record-high profits. And then the public can choose which side they want to vote for.

Sadly, the lines won’t be drawn nearly that cleanly: Obama is bizarrely reluctant to talk about anything which rhymes with “stimulus”. As a result, the current dysfunction — and horribly weak jobs market — is likely to persist for far too long.


I don’t understand this Krugmanian obsession with “stimulus.” It made a lot of sense in WW-2, as it amounted to an actual investment in infrastructure. The new infrastructure was useful for creating new wealth in ways that were not possible before (aka, airlines, washing machines, electronics). Unless you’re actually investing in infrastructure which can increase the country’s productive power (and rehiring laid off firemen does not count as “infrastructure”), nothing good is going to happen. This is a very obvious truth, which admittedly, intelligent economists forgot to account for. The idea that squirting money around haphazardly will do anything other than line the pockets of bankers seems laughably insane.
The idea that a “stimulus” is going to do anything for unemployment: also laughably insane. You need new businesses which require labor of the sort we have available on hand. Aka, while everyone loves computer companies, it doesn’t help US citizens much, as most of our computer science guys are employed already.

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Facebook’s SecondMarket muppets

Felix Salmon
May 30, 2012 21:57 UTC


Remember how excited SecondMarket was about the Facebook IPO? I’ll bet they’re not nearly as excited any more. Because if anything demonstrates that there’s a venture-capital bubble in Silicon Valley right now, it’s Facebook.

The chart above shows the valuation of Facebook on SecondMarket, every month from January 2011 through April 2012; the red bar shows the valuation of Facebook at the close of trade today.

Now it’s true that if you bought Facebook shares on SecondMarket before 2011, then you’re in the money right now. But the chances are, you didn’t:


This chart, from SecondMarket, shows that fully 78% of all transactions in Facebook took place in 2011 or 2012. What’s more, pretty much everybody who bought Facebook shares on SecondMarket is still locked up. They never got the opportunity to exit at the IPO price of $38; indeed, they’re going to have to wait long painful months before they can sell at all. (They can of course now short the stock, or buy puts, to try to protect their downside from here on out; that in turn is only going to further depress the price of the stock.)

Mary Meeker explained the consequences, today:

Valuations in the private market are going to make it “difficult to go public.” The valuations make it “difficult to justify the goals.” The prices are going up and up. And the businesses are not keeping up.

So, when these companies start to look for public market exits, there’s a good chance the “private market will lose money.”

When Meeker’s talking about the private market, she means investors like her own firm, Kleiner Perkins, rather than the kind of people who buy shares on SecondMarket. But the principle is the same. An IPO can be looked at as another fundraising round, and no one likes a down round. In the case of Facebook, it seems as though Facebook’s share price is still just higher than its last official capital-raising round, when it raised $1.5 billion at a $50 billion valuation. But that’s going to come as little solace to anybody who bought Facebook shares in the past 16 months.

What’s more, I can easily see how the frothy Facebook valuations being seen on SecondMarket contributed to the debacle that was the Facebook IPO. Facebook executives with vested equity had the opportunity to sell their Facebook stock in early 2012 at valuations north of $80 billion; at the peak of Facebook fever, just before the IPO, the shares traded as high as $44 each. Given that Facebook was by far the most liquid stock on SecondMarket, and had weekly auctions from November 2010 onwards, it was pretty reasonable to consider SecondMarket to be a reliable price discovery mechanism.

What’s more, basic economic theory suggests that if a stock has buyers at $44 privately, then its public value will be higher than that, since the universe of potential buyers expands enormously. Given that theory, it would have been really hard, I think, for Morgan Stanley to price the IPO below the levels seen on SecondMarket for most of the previous year — a valuation of $80 billion or so.

In reality, however, it’s increasingly looking as though shares in private tech-companies are a bit like fine art prices: a place for the rich to spend lots of money and feel great about owning something very few other people can have. The minute they become public and democratic, they lose their cachet. And a lot of their value.


Amazingly, today, after such a long time has passed since the FB IPO, I read an article on Reuters in which the author said that FB was used by 900 million people, and Rob Cox, from Reuters, said a similar thing in a video…
Get real, please, and take the time to learn the difference between ‘users’ in the sense that facebook and other social media companies use the term, which just means ‘online entity’, and real people, who can each create hundreds of such (immortal) user entities for every site they use.
Over the years, I’ve created numerous ‘user’ accounts on Reuters, but I’m still one guy.
I know people who use facebook who’ve created hundreds of ‘users’ over the years.
has anyone ever audited facebook in order to find the actual number of people (persons) who use it?
My guesstimate, based on 10 years of using social media and advertising on it, is that the end figure would fall between 1 and 2 orders of magnitude below the 900 million figure.

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Why we’re right to worry about the Facebook IPO

Felix Salmon
May 29, 2012 06:04 UTC

The bad news is that the Greek stock market is down 58% over the past year; the good news is that it’s up 7% today. So far, so uncontroversial: while it’s possible to quibble with the standard CNBC convention that rising stock prices are always good and that falling stock prices are always bad, in the case of Greece it’s much harder.

In the U.S., for instance, investors with a reasonably long time horizon should like it when they can buy shares in productive companies at low prices, and dislike it when they’re forced to pay through the nose for such things. In Greece, by contrast, the level of the stock market gives a very good indication of just how bad the outlook for the country really is.

Which brings me to Andrew Gelman’s blog post yesterday, taking issue with Jim Surowiecki’s latest column, on Facebook. Surowiecki says that “there’s reason to be concerned at the spread of the dual-class structure”, on the grounds that companies with dual-class share structures tend to underperform the market. Gelman replies:

Who’s supposed to be “concerned” here? As a New Yorker subscriber, am I supposed to be concerned that dual-class firms underperformed the market? I just don’t get it. Why should I care? If the shares underperform the market, people can buy a piece of Facebook for less. That’s fine too, no?

I’m with Surowiecki on this one. For one thing, the stock market is the means that capitalist economies use to approximate what old-fashioned socialists like to call common ownership of the means of production. Surowiecki’s point here is that when you’re dealing with companies which have dual-class share structures, ownership is divorced from control, and a small group of self-selected owner-managers seize control which rightfully belongs to the majority owners of the institution. And when that happens, society as a whole loses out, because the company doesn’t generate as much value as it would or could under a more conventional ownership structure.

As for the discount which the stock market will give to companies under a dual-class structure, that’s not “fine too”. Sometimes, such discounts are OK. For instance, when I wrote about B-corps, I said that there is no reason that shares in such companies shouldn’t perform like normal shares. If company X trades at a constant discount to company Y, and both grow at the same pace, then shares in X will return just as much as shares in Y. But Surowiecki’s point is that companies with dual-class structures don’t grow at the same pace as the companies in the rest of the market. Which in turn means that the discount will go up and not down — and that, in turn, means that buying shares in such a company is not fine, and that you’d be better off not doing so.

And yet, in a world where more and more of us simply invest in index funds rather than picking our own stocks, the vast majority of us have an increasing amount of exposure to Google and Facebook and other relatively new-vintage companies with dual-class share structures. Insofar as those companies underperform their single-class peers, they’re dragging down stock-market returns for all of us.

The reason to be concerned about the rise of companies with dual-class share structures, then, is not all that dissimilar to the reason to be concerned about the rise of big private companies more generally. The stock market is no longer the common ownership of the means of production: it’s a place where early-stage investors can exit to a group of muppets and high-frequency traders. Here’s what I wrote just over a year ago:

At risk, then, is the shareholder democracy that America forged, slowly, over the past 50 years. Civilians, rather than plutocrats, controlled corporate America, and that relationship improved standards of living and usually kept the worst of corporate abuses in check. With America Inc. owned by its citizens, the success of American business translated into large gains in the stock portfolios of anybody who put his savings in the market over most of the postwar period.

Today, however, stock markets, once the bedrock of American capitalism, are slowly becoming a noisy sideshow that churns out increasingly meager returns. The show still gets lots of attention, but the real business of the global economy is inexorably leaving the stock market — and the vast majority of us — behind.

And here’s Surowiecki:

Public companies aren’t going to disappear, but we are witnessing a significant shift in power from shareholders to entrepreneurs and managers, one that may make the stock market less central to American capitalism.

What we’re saying here is that there’s a significant shift going on, and that it’s worth examining and worrying about. Insofar as the stock market is a dog-eat-dog world governed by caveat emptor, maybe there’s nothing to worry about. One person’s loss is another person’s gain. But insofar as it’s bigger than that — insofar as it’s an engine of capitalism and of capital formation and of efficient capital allocation — there are reasons to be less than ecstatic about the Facebook IPO. Because Facebook is Exhibit A in any thesis proposing that all of those things are broken right now.


“Surowiecki’s point here is that when you’re dealing with companies which have dual-class share structures, ownership is divorced from control, and a small group of self-selected owner-managers seize control which rightfully belongs to the majority owners of the institution.”

Bit funny to be making this point in the context of Facebook though? The people who bought in the IPO aren’t anywhere near majority owners of the company, and they haven’t contributed anywhere near a majority of the invested capital. They’re along for the ride, and they’ve provided an exit opportunity for a small proportion of the early VC. Why would that make them better stewards of Facebook than its founder?

Also the “50 years of shareholder democracy” thing is a bit tonto to be honest. The golden age was the 30s and 50s. The era of shareholder democracy starting with the LBO boom was also the beginning of the big stagnation, with a small interruption for dot com, which was dominated by founder-driven companies.

TFF’s point is also a good one; at some point you need to make a decision whether you want the stock market to be an engine of capital allocation, or whether you want everyone to invest in index funds.

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