Shareholder capitalism under threat?

Stock markets, one of the bedrocks of modern capitalism, are supposed to ensure efficient allocation of financial resources by both providing a platform for businesses to raise investible funds and an outlet for investors, big and small, to invest their savings. However, there is an increasingly evident trend that questions whether either objective is being met.

On the one hand, businesses, atleast the best-performing ones, are raising an increasing share of their financial needs privately. On the other hand, the sharp market volatility of recent years, coupled with pervasive regulatory failures, mean that equity markets are no longer as safe and attractive an investment option for the small retail investor as earlier.

In an excellent NYT op-ed, Felix Salmon brilliantly captures the "noisy sideshow" that stocks markets have become in the US. He writes about the equity market trends in the US,

"The stock market is becoming increasingly irrelevant — a trend that threatens the core principles of American capitalism. These days a healthy stock market doesn’t mean a healthy economy, as a glance at the high unemployment rate or the low labor-market participation rate will show... What’s good for Wall Street isn’t necessarily good for Main Street... the glory days of publicly traded companies dominating the American business landscape may be over. The number of companies listed on the major domestic exchanges peaked in 1997 at more than 7,000, and it has been falling ever since. It’s now down to about 4,000 companies, and given its steep downward trend will surely continue to shrink... Put another way, as the number of initial public offerings steadily declines, the stock market is becoming little more than a place for speculators and algorithms to compete over who can trade his way to the most money."

He writes that the shares of innovative listed companies like Google and Apple "are essentially speculative investments for people making a bet on how we’re going to live in the future". Further, attractive technology firms like Facebook and Twitter raise resources privately and are therefore out of bounds common investor public. The insulation from regulatory oversight, investor accountability, and the pressures to match market expectations, mean that companies prefer it that way. His conclusion raises serious concerns,

"Only the biggest and oldest companies are happy being listed on public markets today. As a result, the stock market as a whole increasingly fails to reflect the vibrancy and heterogeneity of the broader economy. To invest in younger, smaller companies, you increasingly need to be a member of the ultra-rich elite."

Stock markets continue to be important sources of raising business capital in countries like India. However, like in the US and other developed markets, derivative operations have assumed an increasing share of equity markets in India.

An examination of the records on capital raised by private firms through private placement and public market offerings throws up interesting results. As can be seen, private placement remains the overwhelmingly major route for private firms to raise fresh capital and the preference is increasing.




Even after deducting the share of private financial institutions share in the private placement market, the figures remain heavily skewed in favor of the private placement route.

Given all this, primary market remains a small investment channel for retail investors. Most retail investor activity is confined to the secondary markets, and as mentioned above, increasingly to the derivative markets.