Bronfman Rothschild 2017 Q2 Review

Supply and Demand

We do not often write about technical concepts in our quarterly commentary. Besides being dry, they rarely provoke the type of engagement that personal stories, references to history, or even the ruminations of market wizards often do. Occasionally, however, getting a bit more detailed is important. We did a little of that last quarter where we discussed the difficulties of comparing the S&P 500 of the mid 1900s (when it was all industrials, utilities and railroads) to the index as it is composed today. We will expand on that this quarter by reviewing one of the most basic of economic concepts, supply and demand, which seems to have been placed on the backburner in today’s world of prognosticating inflation, employment, and GDP.

Source: (Chart) Doidge, Karolyi, and Stulz, “The U.S. Listing Gap” and Credit Suisse estimates (Bullet point data) NBER, Credit Suisse, ECGI, Bloomberg

The first point is the supply of publicly traded stock in the US. Although there has been a fair amount written about this in industry magazines and blogs, seldom does it make it out as more than a quick missive in mainstream coverage.

In short:

  • The number of publicly traded stocks in the US has been in decline for roughly 20 years, falling from more than 7,500 in 1997 to under 3,700 today. The number is 1,000 smaller than it was more than 40 years ago.
  • The average publicly traded company is more than 18 years old, compared to an average of 11 to 12 years old from 1976 to 1996.
  • The average market cap of a US listed company is nearly $7 billion, compared to less than $1.5 billion 20 years ago ($2.3 billion inflation-adjusted).
  • Merger and acquisition (M&A) activity accounted for almost 2/3rds of the reduction over the last 20 years. Private takeouts accounted for less than 10% of the activity. The rest were delisted due to bankruptcy or the inability to meet listing requirements.
  • IPO activity (primary source of new public shares) has fallen precipitously since the bursting of the tech bubble, averaging nearly 300 new listings from 1976 to 2000, but just over 100 per year since (this is largely a US phenomenon, as the number of listings has increased by anywhere from 30% to 50% across other developed nations).

The reasons for what has been deemed “de-equitization” are too many to discuss in detail here, but a combination of loosened anti-trust rules, increased regulatory costs of going public, better access to capital through private channels, increased presence of overseas firms, and a structural change in how today’s businesses use money (e.g. less fixed asset investment and more R&D) are all playing a role.

That’s all well and good, but what does that mean for investors today? It means that the survivors have gotten bigger organically and through M&A. It means that these companies are older and in industries with fewer competitors. It means that they are likely growing a bit slower, but are also more apt to buy back shares and issue dividends. Bottom line, however, is that the supply of publicly traded stocks is down.

The second point is the supply of money. When the printing press was turned on and the Fed’s balance sheet ballooned from less than $500 billion to over $4.5 trillion during the Great Recession, it began an experiment (which is/was unprecedented in the US) that is hard to translate to things like Price to Earnings (P/E) multiples. This topic has been discussed ad nauseam since, with questions surrounding what Quantitative Easing (QE) means for the long haul.