EFFICIENT MARKETS (Part 2)
July 15, 2002
Modern
markets are impressive. In late 1999-early 2000, the surge in demand for speculative stocks
was without precedent. Then, with a
fabulous thrust of investment banking, Wall Street rose to the occasion
and satisfied a demand that was thought to be insatiable.
Capitalism at its finest.Of course, every issue was accompanied by
an SEC-approved prospectus so there was no opportunity for deception – a
perfect combination of free enterprise and regulatory sanction.
These
skills were not isolated. In the
first quarter of this year, the demand for high-yielding corporate bonds
narrowed spreads so much that a shortage of junk-bonds seemed possible. Then, faster than investment bankers could possibly create new
issues, there was a typical post-bubble rush to downrate investment grade
bonds to junk – supply met demand without underwriting fees.
Even
the process of downgrading is becoming more efficient. As with previous manias to float essentially uneconomic debt
issues, the discovery of the inabilities to service them is rapid.
Rating agencies have, themselves, found this so fast that they have
been able to compress three stages of announcements into a single but
dreadful "triple-notch" downgrade.
Although
it seems like dereliction of oversight, many countries' bond issues are
done without regulatory approval, in which case, in the inevitable
post-boom cluster of defaults sovereign issues can go from investment
grade to junk without the burden of costly prospectuses.
A
portion of modern portfolio theory is concerned about transaction costs.
Although most, if not all, retail investors are innocent of such
knowledge, some have found a way of minimizing expenses through
complacency. There are reports of
unsophisticates downweighting positions by some 80% without suffering
commission costs. This, of course,
will be finessed when even the number of shares is reduced by rollbacks.
Little corporate financing fees on this one.
Efficient
markets rule!
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