The Death of Equities

(page 6 of 6)

Almost as fast growing as financial futures are the money market funds. In fact, the only reason the mutual fund industry has been able to survive the death of equities is the dramatic success of such funds, which invest in T-bills, bank CDs, and other short-term paper. Mutual fund assets now total some $65 billion, and of this amount, some $22 billion represents assets of money-market funds. And whereas stocks once made up 80% of mutual fund assets, today that figure has slumped to less than 50%.

Clearly, money market funds—most of which allow investors to write checks on their accounts—will prosper until interest rates begin to ease. But even when rates do fall, the money will not flow back into the stock market from which it came. Indeed, putting life back into the U.S. equity market will be a long and difficult process. Says David Silver, president of the Investment Company Institute: "It would take a sustained bull market for a couple of years to attract broadbased investor interest and restore confidence."

In addition, the government must also allow more realistic accounting practices and treatment of inventory profits. "The tax system unduly penalizes corporate earnings because it uses original cost depreciation instead of replacement cost," points out Beryl W. Sprinkel, executive vice-president and economist with Chicago's Harris Trust & Savings Bank. "And corporations report temporary inventory profits and pay tax on them, even though they're not real profits." The tax system is equally burdensome on investors. For one thing, dividends are taxed twice—once as corporate profits and again as shareholder income. Moreover, "inflation has pushed middle America into the 40% and 50% tax bracket," says one Wall Street economist. "If you are in a decent tax bracket, there is not much incentive to invest in equities now."

The impact of taxes

For this reason, money has been pouring into the municipal bond market, even though the ratio of municipal to corporate yields is at an all-time low. "Individuals are investing in municipals to avoid taxation," adds the economist. Undoubtedly, some individuals are also investing in hard assets because profits are relatively easy to hide from the tax collector.

The impact of a tax cut can be seen in France, which passed a law, effective Jan. 1, 1978, that allows at least a $1,190 deduction from gross income for new purchases of French stock. Says Marc Auboyneau, a partner in

Auboyneau-Labouret-Ollivier: "The law brought a large amount of capital into the market, and that influx is still continuing." During the past 19 months the Paris Bourse has soared by nearly 60%.

Other foreign stock markets such as those in Toronto, Hong Kong, and London have been doing as well or better. One reason is the influx of U.S. money that a decade ago would have flowed into Wall Street. Atlantic Richfield Co., for one, will invest in foreign stocks for the first time this year. The company will take 3% of its U.S. equity allocation and put it into shares of companies based in Japan, Germany, Britain, and France. "The attraction is that these economies are growing at a rate equal to or better than our own and have

business cycles different from ours," says Howard H. Ockelmann, the big oil company's investment officer.

Undoubtedly, another reason for the surge of investment in foreign stocks is the negative attitude toward business in the U.S. "The Japanese do everything they can to make their strongest and most competitive companies do well. Americans attack their largest and most successful companies," says Andrew J.

Hutchings, an equity manager for Royal Trust Co. in Toronto.

Institutionalized inflation

Leading the attack are government agencies such as the Environmental Protection Agency and the Occupational Safety & Health Administration, whose sometimes arbitrary regulations can cost companies unexpected—and enermous—amounts of money. "Twenty years ago you didn't have the government agencies that could change a company's rate of return tomorrow," points out Gershon N. Mandelker, associate professor of business administration at the University of Pittsburgh.

Mandelker further contends that the current Administration is capitalizing on this antibusiness sentiment. "People like to have villains, and Carter is blaming the oil companies for our economic problems," he says. "Inflation is caused by government printing money, not by sheiks raising oil prices."

Whatever caused it, the institutionalization of inflation—along with structural changes in communications and psychology—have killed the U.S. equity market for millions of investors. "We are all thinking shorter term than our fathers and our grandfathers," says Manuel Alvarez de Toledo, of Shearson Loeb Rhoades Inc.'s Hong Kong office.

Today, the old attitude of buying solid stocks as a cornerstone for one's life savings and retirement has simply disappeared. Says a young U.S. executive: "Have you been to an American stockholders' meeting lately? They're all old fogies. The stock market is just not where the action's at."