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Fake Stocks, Investors and Money

Counterfeit that is, thanks to 1971...

LET'S continue our exploration of why the stock market is a fraud, writes Bill Bonner in his Diary of a Rogue Economist...
...why investors' savings are not really funding US business...

...why instead, they are aiding and abetting a multitrillion-Dollar rip-off...

...and how the ripper-offers are going to get what's coming to them, good and hard.

But first, we answer our (many) critics. Feedback in the Diary mailbag is running 5-to-1 against us.

Good! We get worried when too many people agree with us.

In the present controversy, dear readers seem sure that the new trade barriers will make them better off.

Maybe they know something we don't. Maybe Adam Smith and David Ricardo were idiots. Maybe there is some theory...or some experience...that proves trade barriers will work.

We know of none. As far as we know, there is no plausible reason to think that you can make an economic gain by preventing people from doing win-win deals.

"But wait," say our critics. "The foreigners have been taking advantage of us for too long."

How so?

Colleague David Stockman, who served in President Reagan's cabinet as budget advisor, calculates that we have run trade deficits for the last 55 years...totaling about $19 trillion in today's money.

Foreigners send us refrigerators, autos, games, clothes. We send them...pieces of paper with green ink on them. Who's taking advantage of whom?

"Wait..." Our critics don't give up. "It's the principle of the thing. The foreign devils cheat. They subsidize their industries. They impose tariffs. They block our exports."

But what principle is this? If the foreigner shoots himself in the foot by queering the win-win deals that would help him, it is not a good reason for us to get out a pistol.

Free trade benefits the free trader; it doesn't matter what the other side does.

But let's step back...and continue our we can sneak up on the subject from a different direction.

Investors have been trained to believe that buying publicly listed stocks is a way for them to participate in the growth of commerce and industry...and that by buying stocks, they are "funding" US enterprise.

They think they are rewarded with what Wall Street calls a "risk premium" for supporting American industry rather than investing in supposedly "risk-free" Treasuries. As the economy grows, they are told, they get richer.

This pretends to explain what is otherwise a near-miracle.

How could some yahoo who doesn't know a put option from a call option make money in the stock market?

And why would a company – with deep contacts in the professional financial community – need the meager savings of some bumpkin? Wouldn't the pros be happy to pony up the money if it were a good deal?

In the old days, normal people put their money in banks, not stocks. The banks paid interest. They – and professional investors – did the lending to business. Typically, they lent to local projects they could understand and to people they trusted.

Then, in the 1960s, arose the idea of the Everyman Capitalist. No longer were the profits of Wall Street limited to the pros. Car salesmen and retired dental hygienists could get in on the action, too.

"One up on Wall Street," promised legendary stock market investor Peter Lynch. All you had to do was buy companies that you knew and liked. If your burger tasted good, buy the company stock.

And if you didn't want to bother picking stocks, there were mutual funds and, later, exchange-traded funds (ETFs) to help you "get in the market."

But why would the pros on Wall Street leave money on the table for the lumpen moms-and-pops?

Our explanation: The market was counterfeit, financed with counterfeit money lent at counterfeit rates to counterfeit investors.

When you buy a stock, unless it is at the IPO stage or an already publicly listed company issuing new stock, none of the money goes to the company.

You're simply taking an already existing share certificate off another investor's hands. None of it builds a factory or hires an employee.

Which is why colleague Chris Mayer likes to call the stock market a "market for secondhand goods."

This raises a question: Why did the person who knew the company better than you decide to sell his shares?

If the owner was another retail speculator, perhaps he didn't know it well at all. But how did he get the stock in the first place?

Banks...hedge funds...pension funds...Wall Street investment banks...and professional investors must have passed on it. In other words, people with much more expertise, training, and time to study the company and its business must have decided not to buy it at the offered price.

Whenever you buy or sell a stock, you are trading against a vast industry of insiders, analysts, brokers, fund managers, and other financial pros. You are betting that your guess will be better than theirs.

And it is (almost) a zero-sum game. In order for you to win, they must lose. How likely is that?

If you buy a private business, you are in a win-win transaction...and a win-win world. You only make money if the business provides goods or services that others willingly consume. Consumers win. You win, too.

Public businesses are supposed to work the same way. The stockholder believes he owns a piece of a business – which is legally true.

But since the 1980s, the character of the stock market has changed. Most investors no longer buy stocks for the dividends alone. They want their stocks to go up.

And since 1987, they've been richly rewarded. But not for financing America's productive, win-win industry. They've been rewarded for participating in the Fed's massive scam.

After the "Black Monday" Crash in 1987 – the worst single-day percentage fall for US stocks in history – the Alan Greenspan Fed slashed rates to backstop the market. And since then, the Fed has never stopped protecting speculators...and boosting stock prices.

Since then, the rate of growth of US industry has declined. But the gains from owning stocks have increased. How is that possible? How could an economy the price of its businesses rises?

And yet, that's what happened. Today's growth rates are barely half of those recorded in the 1950s, 1960s, and 1970s. But stocks are 25 times higher than they were in 1980. And today's working man earns scarcely a penny more. (Depending on how you adjust for inflation, he may actually earn less.)

What happened?

General Electric, once one of America's stalwart manufacturers, floated high on the Fed's tide of cheap money.

Celebrity CEO Jack Welch turned the business from Main Street manufacturing to Wall Street finance.

GE had no special expertise in the finance business. But that hardly mattered. Mr.Welch borrowed money. He bought up companies – at the rate of one every five business days. Earnings rose. And the company's stock went up.

The celebrity CEO was using debt to buy earnings. Investors saw earnings rise and thought he was a genius.

They didn't notice that: (1) no collection of mortals could understand, let alone assimilate, new businesses at that rate, and (2) GE's debt made it extremely fragile and vulnerable to a correction and/or business mistakes.

In the event, it ran into both.

In 2008, the company was so stretched on the rack of the financial crisis, it practically had to beg for a financial infusion from super investor Warren Buffett.

He put in $3 billion, but at a heavy price to GE – including a 10% preferred dividend and warrants priced at less than half GE's 2000 peak.

[Editor's Note: If a company is unable to pay all dividends, preferred dividends take precedence over regular dividends. A warrant allows you to buy stock at a pre-agreed price before a certain date.]

But even that price turned out to be too high. Shares in GE are down 70% from their high when Mr.Welch took his $416 million retirement bonus in 2001.

And the trouble continues...

This January, GE announced a $15 billion hit.

How did a problem of that magnitude appear so suddenly? What caused it?

GE executives explained that the losses were in their long-term-care insurance business. Apparently, they were surprised that people were living longer and filing more claims.

But what would you expect from a group that also makes jet engines for airplanes and nuclear reactors for power plants?

The people buying GE stock were not old-fashioned, careful investors. They were speculators gambling on a higher stock price.

And the money for GE's buying spree didn't come from careful savers. It came from the Fed, which has been pumping cheap credit into the system for the last 30 years.

And that is where we find the explanation for so many curious trends and grotesque developments.

In 1971, the feds introduced a new Dollar. It looked just like the old Dollar. People thought it was exactly the same as the old one.

But there was a big difference: This buck could fly.

New York Times best-selling finance author Bill Bonner founded The Agora, a worldwide community for private researchers and publishers, in 1979. Financial analysts within the group exposed and predicted some of the world's biggest shifts since, starting with the fall of the Soviet Union back in the late 1980s, to the collapse of the Dot Com (2000) and then mortgage finance (2008) bubbles, and the election of President Trump (2016). Sharing his personal thoughts and opinions each day from 1999 in the globally successful Daily Reckoning and then his Diary of a Rogue Economist, Bonner now makes his views and ideas available alongside analysis from a small hand-picked team of specialists through Bonner Private Research.

See full archive of Bill Bonner articles

Please Note: All articles published here are to inform your thinking, not lead it. Only you can decide the best place for your money, and any decision you make will put your money at risk. Information or data included here may have already been overtaken by events – and must be verified elsewhere – should you choose to act on it. Please review our Terms & Conditions for accessing Gold News.

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