|Wrong way, go back|
It's been over two years since the dot-com crash which saw so many on-paper
millionaires overnight become .. non-on-paper millionaires. Ever quick off
the mark, SBS has run a gossumentary on what went wrong.
When Netscape went public in 1995 and the stock price soared, people realized
for the first time that it was possible to float a company on the stock
exchange which had no income, and no reasonable chance of getting any for
the foreseeable future.
People saw geeks with a semi-good idea form dot-coms, float them, and
become millionaires. Then the whole thing took off, and followed the typical
greater-fool pattern - people know that buying them is foolish, but they keep
buying them because they believe there is a good chance of selling them to an
even greater fool. And in a rising market, the pattern
continues until you run out of fools. There may be one born every minute, but
that wasn't enough to keep this idiocy perpetuated.
The same thing happened in Holland's 17th century Tulip craze - where the price
of tulips followed the same pattern.
But the dot-com idiocy had a number of interesting twists, which have
allowed the Left (if
people who speculate can really be called the Left), to scream victim. The details are a
little complicated, and involve some concentration.
The floats on the stock exchange are organized through investment banks. They
buy a certain number of shares from the company, and offer them for sale on the
Stock Market (the Initial Public Offerings or IPOs). The company gets an input
of capital from selling the shares, which it can use for growth. The banks sell
the shares on the market for the price they paid, plus about 7% commission. 7%
may sound high for just buying and selling a stock, but they guarantee their
price (if the stock just doesn't sell, they make a loss), and they also put
their reputation on the line by effectively telling prospective buyers "this
stock is actually worth the price".
But then com-com stocks started to double, and then triple on their first
day of trading. Stocks would be floated for say $10, but would be trading for
$40 at the end of the first day. Once this pattern was established, everyone
wanted to buy in at the float price, and then sell (or 'flip') the stock later
that day, or a few days later.
The problem was that the investment bank was not allowed to sell above their
agreed price. Hopefully, readers who know about price fixing and market forces
are now going 'ahh', but let's spell it out. Q: If you are forced to sell
something below the market price, but have a choice who to sell it to, what do
you do? A: Sell to your mates, who you can trust to give you a kick-back. The
scourge of every command economy: corruption.
The kick-backs came in various forms - including guarantees to buy more stock
from the investment banks at higher prices thereafter. A factor which distorted
the prices of the stock.
How did this happen on Wall Street - the supposed last bastion of
free-market, free-enterprise and capitalism? A nice cushy mixture of government regulation and
created monopoly. The
government pretends it is stopping people being exploited by imposing
strict rules on how companies can be floated, and how people can buy and sell
stocks. As a result, it is not possible to float a company without going
through a government approved agent - like an investment bank.
While it is difficult to to sympathize with investors following the
greater-fool theory ("I'm being stupid, but there are still others more stupid
than me, so I can sell to them"), the whole process stopped the implementation
of more rational solutions like floating with a dutch auction - a suggestion
rejected by those protected by the government regulation.
And the result of all this? Calls for more government regulation to stop it
happening again! Apparently the common-sense approach - removing government
regulation - is still too hard for those government 'experts' with connections
on Wall Street. The same people who are in a position to buy some cheap
stocks in the next hot IPO!
No system is perfect, but this nasty little system seems to run a little more
smoothly when lubricated by government control, corruption and the naivety of a
voting public who think that government regulation is there to protect them.