Worse than that, without a Stock Exchange to create standards and define the difference between good and bad investments, very many simple people would be at the mercy of an army of dishonest promoters and bucket-shops, for the modern invention of securities has brought with it dangers and pitfalls. The United States once swarmed with these bandits—they are now rapidly being driven to cover—but they still ply their trade in other countries, where they flourish as “banks” or “investment” companies. These chaps, to quote the editor of the Economist (London), “have bought a lot of rubbish, usually called ‘bonds,’ from shaky industrial concerns or from half bankrupt states and municipalities of South America. They have bought, let us say, the 6 per cent. bonds of the Yoko Silk Company in Japan at 60, which they sell you at 90, the 5 per cent. bonds of the Brazilian Province of —— at 55, which they sell you at 75, and a few other similar bargains. They tell you that if you spread your risks scientifically over different countries you will be perfectly safe. You perhaps do not realize that none of these securities which you are advised to buy are quoted in the London Stock Exchange. If they were the game would be impossible.” Which is only another way of saying that if there were no Stock Exchanges to uphold worthy enterprises and discourage bad ones, there would be no limit to the frauds practised upon gullible investors. And if this is true of a tight little island like England, how doubly true it is in a great country like ours where investors are so widely scattered.
The foregoing pages will serve to show the inquirer that what is happening in commerce, is happening in the securities which represent that commerce. Because commerce goes on expanding, securities must necessarily keep pace and the Stock Exchange must perforce grow in importance. That much maligned individual, the speculator, now regards the whole world as his field and is eager to enter foreign markets wherever there are opportunities. In 1910 more than three billion dollars of British capital were invested in American railways alone, returning one hundred and twenty-five millions annually in interest and dividends, to say nothing of the English millions in our lands, mines, and industrial enterprises. We too are large holders of foreign securities, and the list of such holdings increases yearly. But it may be accepted as a fact that this enormous mass of corporate securities would not have found ownership had there been no Stock Exchange to market them, and standardize them, and establish daily prices for them, and give them the certificate of character that makes them ideal collateral for obtaining credit.
Dr. W. Lexis, of Gottingen, like all other economists, recognizes the fact that Stock Exchanges are economic necessities. Here are his opinions:
“The existence of a broad, continuous market is an economic necessity in the modern scheme of widespread investment of capital. Even though the market-place is largely filled with speculators, it is plain that the greater the number of traders in securities, the greater will be the facility for buying and selling any quantity of securities. The stock market is a powerful aid in floating new issues of public securities. The speculative market takes them at once and keeps them in the floating supply until they have shown their value. The stock market also renders a useful service in giving a continuous guide to the success or failure of industrial undertakings, and the worth of their securities. The more speculators there are trading in any particular security, the greater is the opportunity to learn the real conditions of the undertaking. Private investors, from a study of the speculative market in the securities they own, receive in this way a continuous market opinion on the condition of the corporations in which they are shareholders.”[11]
Another great service rendered by the Stock Exchange is the means it affords of readily transferring securities from hand to hand. To appreciate the importance of this fact you have but to think of the difficulties and delays that attend the transfer of other forms of property that do not enjoy Exchange facilities. Real estate, for example, is a most excellent form of investment. But suppose the owner of real estate wants to sell in a hurry, what then? There is no large organized market, there is no way by which through competitive bidding, he can place a correct estimate of the importance of current events upon the price of his land. In the urgency of his needs he may easily be misled by “smart” or unscrupulous advisers, and this risk increases in direct proportion to his remoteness from large market centres.
The holder of securities listed on the Stock Exchange is quite differently situated. He is altogether independent. He knows the price of his holdings every hour of the day. He is exposed to no fraud, and at the mercy of no rumor and no unscrupulous dealer. He has positive assurance that in case of necessity, at a moment’s notice, he can obtain at the prevailing price the value in cash of every Stock Exchange security in his box. The ticker gives him instantaneous quotations. All the newspapers publish authorized prices for his benefit, and, as we have just seen, these quotations are not a one-man affair, but the combined judgment of thousands of experts, bulls and bears, bankers and brokers, speculators and investors, all over the world, bidding and offering against each other by cable and telegraph and recording the epitomized result of their bidding in the prices current on the Stock Exchange. Such a man knows, moreover, that the price thus established is not merely the opinion of all these minds as to values to-day, but that it represents a critical look into the future. He knows, indeed, that financiers everywhere have in mind prospective values rather than present values, and so he acquires a double advantage in regulating his own action by the light of the superior knowledge thus freely given him. The importance of this “advance information” cannot be overestimated, and furnishes us with another reason why Stock Exchanges exist.
In 1906, for example, business conditions in this country were the best ever known. Good crops, big earnings, and general optimism prevailed. But Stock Exchange securities did not advance in the last half of the year, because trained financiers began to foresee the first signs of trouble ahead. In the early months of 1907 this knowledge became more general, and a severe decline took place, notwithstanding the fact that the business of the country at large continued to be excellent. “What is the matter with Wall Street?” was the question in the press and on the lips of the uninformed, but Wall Street, or rather the Stock Exchange, was merely fulfilling its function as a barometer and foretelling the coming storm.
At the height of the autumn panic, on the other hand, when the press was filled with dire forebodings and the ignorant layman was frightened out of his wits, securities stopped declining and began to rise because the Stock Exchange mind saw that the worst was over. The brightest financial students in the world then began another process of discounting the future; the barometer plainly foretold the end of the disturbance. And all this information—a fundamental law of price movements which indicated clearly when the trouble was coming and when it had ended—was given gratis to the world in the daily published quotations of Stock Exchange securities.
In another chapter I shall describe the method by which the Stock Exchange protects its patrons, the public. As this is of particular importance in connection with the matters just cited, I call the reader’s attention to the remarks of Prof. S. S. Huebner, Ph.D., of the University of Pennsylvania.
“Importance must be attached to the protection and safeguards which organized Stock Exchanges give the stock and bond holder, in regulating brokerage transactions and maintaining a standard of commercial honor among brokers.... In this connection it should be remembered that the constitution of nearly every Stock Exchange defines the object of the Exchange as follows: ‘Its object shall be to furnish Exchanges, rooms and other facilities for the convenient transaction of business by its members, as brokers; to maintain high standards of commercial honor and integrity among its members, and to promote and inculcate just and equitable principles of trade and business.’ No person can be elected to membership until he has signed the constitution of the Exchange, and by such signature he obligates himself to abide by the same, and by all subsequent amendments thereto. The value of this organization becomes apparent when we take account of the gigantic frauds perpetrated upon innocent investors through advertising campaigns by persons unaffiliated with any recognized Exchange, or by certain members of unorganized curb markets....
“All Stock Exchanges provide for the arbitration of disputes which may occur between members, and if both parties are willing, between members and their customers. They also prescribe rules governing the nature of contracts, the making of all offers and bids, the registry and transfer of securities on the transfer books of the corporations, and the conditions upon which securities may be listed upon the Exchange for trading purposes. Practically all stock Exchanges also require that all transactions must be real, and that no fictitious or unreal transactions shall be permitted; that discretionary orders cannot be accepted by brokers; and that every member of the Exchange must keep complete accounts, subject at all times to examination by the governing committee or any standing or special committee of the Exchange, and under penalty of suspension, no member may refuse or neglect to submit such accounts, or wilfully destroy the same. Nor may any member, under pain of suspension (a serious penalty, involving not merely the loss of the rights and privileges of membership, but also the stigma attaching to the member as a factor in the business community), be guilty of ‘any conduct or proceeding inconsistent with just and equitable principles of trade.’”[12]