Saturday, November 05, 2005

How much value do traders/investors add to society? 9 comments

(P.S: Sorry for any disturbances the advertisements above may have caused you)
This is a follow up from my previous post on Full-time Investing/Trading where I expressed the view that with regard to contribution to society for traders/investors, "there is none: all that talk about bringing liquidity to the market and helping to ensure efficient resource allocation and prices is just plain bollocks". A fellow investor Quest felt that this was too harsh; after all traders/investors were providers of risk capital and liquidity to the market, and ensured efficient allocation of resources collectively through the "invisible hand" of Adam Smith.

I am an investor cum position trader myself, so I have no intention to belittle this activity. I have thought often about this topic myself and have ultimately come to the conclusion that it is best not to have any illusions about the societal contributions of investors/traders if one were considering a decision to quit one's job to do full-time investing/trading; the important things to consider should instead be whether push factors (eg. work dissatisfaction) are distorting the choice, and whether one can make an adequate living from full-time investing/trading.

The crux of the issue is actually how one defines "value creation". There is clearly value in the production of tangible goods such as buildings, automobiles, electronics; and intangible services such as brand management, logistics, finance are becoming increasingly important functions in their contributions to the final price of a product. At every step in the value chain, individual manufacturing/service activities augment the value of the product, in various aspects: design features, quality, aesthetics, consumer trust, convenience of delivery, after-market support. Trading/investing in shares of companies hardly builds any intrinsic value to the business operations of the company, save for two aspects which I will highlight later. At best, it can be considered a form of trading in commodities, similar to steel traders like eg HG Metal, devoid of the sourcing, warehousing and distribution functions of the latter, only similar in the functions of assuming capital risk through holding stock (of shares, of steel respectively).

Traditional discussion of value creation has always focused on the supply side of the economy, never the demand side. Of course, one cannot survive without the other, given the circular flow of capital; the national GDP can be calculated using the sum of all products and services produced (supply side), or the sum of all expenditures (demand side). Consumers are not feted for contributing to the economy through their spending, although it is an important activity since they provide the capital (like share investors). Businesses are praised for innovating new products and services and improving existing ones to stimulate consumption --- that is value creation. Share investors/traders can argue that they are part-owners in the business; that is true, but they differ from the management-owners because they are "sleeping partners", while the latter are actively building the company operations. That is why I compare share investors/traders to consumers in their capital allocation patterns: both are passive suppliers of capital, both seek to derive utility from their purchases (one is monetary, the other is non-monetary) through passive means.

There are two aspects in which investors/traders do contribute, in my view. Firstly, active retail participation in the market provides an alternative source of capital in addition to institutional holders; highly diversified holdings among many shareholders is usually good because it increases trading liquidity and supports prices; the tangible value-add is that it allows the company to raise funds for expansion from the market easily and at better prices than if it were a lightly-traded entity. Yet share offerings on the primary market (IPOs, new placements) are mostly taken up by institutions, small investors usually trade on the secondary market, so ... limited value-add there. Secondly, investors/traders provide feedback to the company on how they view its current state of operations and future plans, whether through the subtle invisible hand of the share price mechanism or even better, writing directly to management to provide comments. Sometimes management do not see things that other parties, such as retail investors on Ground Zero, can.




Blogger Quest said...

this concludes our short discussion.
one should view the market as a food web of banks, companies, institutions, fund managers, traders, retail investors, analysts, brokers, dealers, stockist and other players(the list is not exhaustive).
everyone plays a part and contributes to its existence.

the market is always here and the music never stops.

11/06/2005 5:39 AM  
Blogger DanielXX said...

It was a good exchange of opinions. Cheers.

11/07/2005 7:55 AM  
Anonymous Anonymous said...

Hi, i've been following your blogs. Keep them coming! Like quest say, the market is made up of so many different variety of poeple, which makes it so dynamic. Let us all continue to learn from mr market. May you see good returns from it.


11/08/2005 7:25 PM  
Anonymous Anonymous said...

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11/10/2005 7:09 AM  
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11/10/2005 5:02 PM  
Anonymous Anonymous said...

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11/11/2005 1:54 PM  
Anonymous Anonymous said...

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11/11/2005 7:02 PM  
Blogger DanielXX said...

Hi jag82,
Thanks for the encouragement. Hope you see this.

11/12/2005 5:18 AM  

Let me make this perfectly clear ZERO PERIOD.

1/14/2014 10:54 AM  

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