Derek Pain: Yes, private equity and the stock market still need each other
Friday 14 March 2014
Is the cult of equity suffering a lingering decline? I don't think so, but there seems to be a growing conviction in some quarters that shares have had their day.
Such thoughts are not new. They can be traced back to the 1930s when two US academics set the ball rolling. They went out on a limb only for world stock markets to subsequently prosper. Yet their views have in the past few years acquired a following, with the changing face of stock markets giving a distinct edge to their argument.
As far as Britain is concerned the cult of equity evolved in the late 1940s, with Ross Goobey accredited with its creation. Soon after becoming manager of the pension fund of Imperial Tobacco, then enjoying the biggest capitalisation of any company on the stock market, he started investing in shares. Until his initiative pension funds confined their investments to gilts and fixed interest situations.
It did not take long for Imps' pension fund to have all its cash in shares, offering far better returns than staid old gilts and such. The Goobey timing was superb as stock markets took off. Soon others followed his example and the present system of powerful pension funds investing heavily in shares and often dominating trends was established.
The 1950s and 1960s are almost unrelated to today's stock markets, and the vast changes that have occurred seem to be responsible for the feeling that Goobey's creation could come to an end.
Back in post-war days private equity and hedge funds were not on the nation's radar. Today they are powerful contingents, gobbling up quoted companies and often ignoring the stock market to trade among themselves. They dominate many once well-known listed entities. Since the turn of the century private equity assets from a low base have already outstripped those of quoted businesses. And perhaps it should be mentioned that the number of London-listed companies has declined dramatically since 1970.
Another view is that shareholders have become of little consequence. Once directors were hired hands. Now many behave as if they own the business, not the shareholders they blissfully ignore. The way banks make bonus payments and the extraordinary reward packages spread around the quoted sector are examples.
The world economy is not actually helping our quoted brethren. Although Britain is doing relatively well, others are still suffering.
Despite the weight of evidence produced by the pessimists I believe the London stock market has an encouraging future. Many of the new issues come from private equity sources which have often taken advantage of shareholder stupidity – or greed – and are cashing in. On occasions they have resurrected companies once in intensive care.
Although some private equity and hedge funds seek investments, many shareholders are excluded – or are reluctant to adopt such cloaked operations. They want the transparency of quoted companies. And the decline in quoted companies is meaningless. Many of today's are far larger than anything from the past, having indulged like Diageo in countless takeovers.
I am confident the quoted model will continue to thrive. Private equity has made dramatic progress, but it cannot do without the stock market. They need each other.
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