FOOL ON THE HILL
Investors are angry about their recent losses and whatever roles sell-side analysts played in them. If history repeats itself, Congress or the SEC may act to curb analysts and their firms, though it may take time. After all, five years passed after 1929 before Washington acted and created the SEC. The longer it takes, the better the odds that Wall Street will add fuel to the fire. In the meantime, investor, protect yourself.
 |
|
|||||||
|
||||||||
|
||||||||
By
Does this sound familiar? A period of unrestrained stock market gains leads to a crash and widespread financial loss. Lurid revelations of manipulation are exposed, implicating the most respected institutions of American finance. The public demands satisfaction. Wall Street attempts its own tepid self-regulation to head off federal action, but in the end, the government responds with new laws and regulations. Except for the last clause, that may sound like today, with sell-side analysts and their employers facing a groundswell of anger -- and lawsuits -- for their alleged roles in inflating the recent Nasdaq bubble. Witness last week's Congressional hearings, analyzed by Brian Lund, on the conflicts of interests analysts commonly face when they issue buy/sell recommendations and price targets. But those final words mark the passage as a description of the Crash of 1929, events leading to the Securities and Exchange Act of 1934 ('34 Act) and the formation of the SEC. Those years suggest that when financial shenanigans attract Washington's attention and are seen to cause widespread losses, the federal government may not act quickly but will take measures eventually, not least because Wall Street will continue to slip up. It's likely to happen today. The pools It came down to one pit bull, Senate Banking Committee counsel Ferdinand Pecora, to set the stage for the '34 Act. The zealous Pecora subpoenaed and cut giants of Wall Street off at the knees, reaching the tipping point when he embarrassed J.P. Morgan Jr., son of the bank's great founder and now a leading financial figure himself. He fed the public's need to see that these symbols -- still living the high life -- pay a little for the nation's economic pain. (You can find this all in John Brooks' riveting account of the Crash and its aftermath, Once in Golconda, which captures Pecora going overboard to achieve his goal during the summer of 1933.) Yet while Pecora toiled, certain lower-level players had the hubris to continue plying their stock manipulation trade right under his nose. Just as Pecora tore into key witnesses to expose one of the worst practices, a group of brazen ne'er-do-wells pulled off one last scheme: a pool, a concerted effort to profit handsomely by pumping up a stock and then getting out. The ACA pool They gained control of a large block of shares -- 25,000 at $20 (this was 1933, folks, and $500,000 was a lot of money) -- and organized a group that included the New York Stock Exchange specialist for ACA. The group hired Ben Smith, who had already testified in 1932 about his pool activities, though apparently hadn't learned his lesson. He ran the pool during the Pecora hearings in the summer of 1933. Smiths' job was to attract investor interest to the stock by buying and selling attention-getting blocks. Just as today, increased volume would attract not only those who followed the ticker or the stock pages, but those unfortunates whose brokers did. Smith began buying and selling in May, attracting enough interest over the month to drive the price from $20 to $30. Then the other pool members began trading too, pushing the price up through $40 in June. Brooks writes: Joined by... others in the pool, through June Smith kept the stock churning around and As in, they sold their shares. Without the pool's activity to lead the momentum, it broke, and ACA stock fell to under $30 in three days. The poolers made millions through shares and options. By the time Pecora found out about it and subpoenaed the bad guys, Smith was watching kangaroos in Australia. Another big wig was sipping Mai Tais in Hawaii. The ACA pool helped eliminate any doubt about the need for strong action, and the '34 Act followed. Investors today Today's investors are not happy with their huge losses in those 401(k) plan accounts, especially if they are close to retirement. Though they are the beneficiaries of decades of SEC regulation and enforcement, they see only that they have lost money now, and their brokers may have relied on star analysts with serious conflicts of interest. They want action -- some are pursuing legal action, with high-profile cases against analysts such as Merrill Lynch's (NYSE: MER) Henry Blodget and Morgan Stanley Dean Witter's (NYSE: MWD) Mary Meeker. As it did in the 1930s, the angry public has secured a sympathetic ear from Congress, whose first hearings on analysts' conflicts included acting SEC chairperson Laura Unger. Nothing may happen right away, but time may produce another Pecora -- perhaps someone eager to achieve his own political ends. But let's say Congress, the President and the executive branch do not act. Wall Street may well give them more cause. Its attempts at self-regulation may fail and more abuses will lead to investor losses. This happened after the bubbles of the late 1920s, and also the late 1960s/early 1970s, as Brooks shows in his next book, The Go-Go Years. I see no reason why human nature has changed so much that our third major bubble, just passed, should be any different. The government has helped to create fair and open markets for investors, and it may act again in response to sell-side analysts' conflicts of interest. Lucky for us, we don't have to care if or when, because we need only continue as always, and protect ourselves first. Tom Jacobs (TMF Tom9) heard so much about the Depression growing up he thought he lived through it. To see his stock holdings, view his profile, and check out The Motley Fool's disclosure policy.
Here's where the lesson starts: Despite the devastation brought on by the Crash of 1929, exposure of Wall Street's worst misdeeds, and several Congressional investigations, the Street managed to keep the federal government from stock market regulation until 1934.
With the repeal of Prohibition on the way, executives of the American Commercial Alcohol Company (ACA) believed their future bright: They could add alcohol sales to their current antifreeze line. Why not attract some attention to their stock, pump up the price, and make some money?
gradually rising to just above $40; then in the first half of July, like a violin virtuoso building
a passage to a crescendo, he brought the public to the classic frenzy of buying that climaxes
a well-run pool operation, and on July 18 [1933] ACA went completely wild and hit $89 7/8.
That was the day Smith chose to pull the plug.
Investors are not likely to take their losses lying down, and their numbers today are huge. Sure, in 1929, individuals ran to the market in search of easy money, buying shares on as high as 90% margin -- the brokerage would lend them money for up to 90% of the cost of the shares -- but they did not have 401(k) plans and Internet brokerage accounts.
RSS Headlines
Fool UK
