I’ve been thinking about the economy a lot lately, as I’m sure many of you have. It amazes me how much opinion we’re told (new sources, friends, etc.) but very little fact behind all the arm waving. This isn’t meant to be comprehensive but I want to make a few misconceptions clear:
- The company doesn’t see the proceeds from purchases of their stock in the ‘market’: after a company has their initial public offering (IPO) any stock that changes hands is no longer money they see. There is not an infinite number of stocks to be bought floating around out there. Secondary offerings certainly happen but they give up equity (ownership) as opposed to create debt (through loans). There are financial reasons a company would want a particular balance of debt and equity.
- Stock price is directly important to the shareholders, indirectly to the company: a company wants to maximize share prices not for their own gain, but for the gain of the shareholders. These are the people who elect the board, make purchase and decisions about what to do with income (shareholder equity). But, in many cases, management holds a huge percentage of their company’s stocks (at a good price through options and other stock benefits). This is incentive for management to build shareholder value (often their own).
- The market isn’t dropping because everyone is selling: every sell has a buy. What is dropping is the perceived value of companies. One person is willing to part with their stock for a price and someone is willing to buy it. Thus, it’s impossible for everyone to be ‘pulling out of the market’.
Therefore, Detroit isn’t failing just because their stock is dropping: it’s because they don’t have the cash to keep business running. And since they don’t have the money they would want to go borrow some (debt). But, with their low stock price it’s obvious they are a risk (their ability to raise money is hindered) and they won’t get the money they need from the usual suspects: banks and other financial institutions.
So yes, our government is thinking it’ll be a good idea to go where no other lender will (the same lenders that are failing left and right). Our government thinks that giving them money to become competitive is the best course of action. In case you’ve missed it: the great and wonderful Obama is asking for “change” to come to Detroit… by providing the automakers a handout.
I especially like your third point. Here’s a quote from John Hussman that follows the same train of thought:
As a side note, do your best to filter out comments like “investors are moving out of stocks and into …” or “investors are selling into this decline” or “investors are buying into this rally.” On balance, investors do not sell shares, and they don’t buy shares. Every share purchased is a share sold. The only question is what price movement is required to prompt a buyer and a seller to trade with each other. No money will come off the sidelines into stocks. No money will come out of stocks and onto the sidelines. All such talk is non-equilibrium idiocy.
Yes! That’s the perfect explanation… and his last point speaks to the fact that the money is going to the stocks, not the company (or anywhere else for that matter).