Money Stuff

Airlines, Stock Splits and Voting

Also Venezuelan bonds, tradeable unicorns and small talk.

I blame the index funds.

Why is air travel so uncomfortable? Financial capitalism obviously:

"As in other industries, like manufacturing or consumer goods, the focus is on more traditional financial metrics like pretax income, margins, return on capital and total shareholder return," said Andrew Goldstein, head of the executive compensation practice in North America for Willis Towers Watson. "Airlines haven't abandoned operational and customer-service metrics, but they are putting less emphasis on those factors."

Customer service has been replaced by other goals:

“Fifteen years ago, airlines competed with each other over who could buy the most planes or have the most routes,” said Jamie Baker, a top airline industry analyst at JPMorgan Chase. “Executives are just as competitive today, but it's about who can achieve an investment-grade rating first, who can be a component in the S. & P. 500, and who has better returns for investors.”

That mention of the S&P 500 is all the excuse I need to bring up my favorite explanation for airline misery, which is the claim that cross-ownership of many U.S. airlines by the same diversified institutional investors -- index funds and "quasi-indexers" -- discourages the airlines from competing on price and quality, and encourages them to focus on margins. An airline that cuts fares or spends money on better service to win market share isn't necessarily doing its shareholders any favors: The increased market share comes at the expense of other airline companies that the shareholders also probably own.

There are objections to that explanation. For one thing, fare cuts are a bigger part of the story than it would suggest: "The pressure on United, American and other giants is only going to increase with the rise of so-called ultra-low-cost carriers like Spirit, Frontier and Allegiant." Airlines are competing, but competition on price is bad for service.

But I think the "index funds ruin capitalism" story is best read as just one strand of a larger "financial capitalism ruins capitalism" story, and while the index funds story is still pretty niche, the financial capitalism story has become very popular. In this story, managers and investors have stopped thinking of companies as companies, as human networks of employees and customers and investors, and now think of them instead as numbers, as sets of financial factors to be optimized. There are many explanations for this: Developments in graduate business education, or the rise of corporate activism, or the cultural role of Wall Street. But the basic story is that companies used to balance the interests of workers, customers and investors; now they have adopted a fully investor-centric model in which profits are the only goal and customer service and workers' rights are sacrificed. Sheelah Kolhatkar writes that "the investors-above-all doctrine seems to have triumphed over the more inclusive approach."

You can easily connect this story to indexing and quasi-indexing. Modern scientific financial capitalism is closely bound up with the idea of diversification. If you are an individual investor choosing a small number of stocks to invest your savings in, you might choose them based on how you feel about their businesses. If you are an institution choosing hundreds of stocks to make up a diversified portfolio at the efficient frontier, you are going to consider those stocks as a series of numbers, of exposures to risk factors that you want to optimize. You'll want to focus on the quantifiable, not on your feelings, or on vague stories about how short-term financial sacrifices can lead to long-term opportunities.

Also, diversified institutional investors create the investor class that managers are now supposedly serving. If one company has one set of owners, and a different company has a different set of owners, there is no a priori reason to think that those owners will want the same sorts of things. Some owners might want short-term profits, and others might want long-term growth, and a third set might want the warm fuzzy feeling of owning a popular business with good labor relations. Managers would have to, I don't know, go ask the owners what they want, and then do that. Or not do that: With no monolithic investor class, managers might instead go ask customers what they want, and do that instead. But if every company has the same basic set of owners, then managers can use a simpler generic model of what those owners want, light on idiosyncratic preferences and heavy on higher margins, and try to optimize for that.

Meanwhile, "British Airways’ epic meltdown over a busy holiday weekend further fanned public outrage of an industry infamous for its focus on cost cuts over customer service." And: "Passive investing is worse than… the misuse of antibiotics," argues an active manager.

Stock splits.

On the other hand, the rise of scientism and institutional investors and treating companies as numbers seems to have led to the death of the stock split:

So far this year, only two S&P 500 companies have split their stock. In all of last year, six companies in the large-company index did. That’s down sharply from 20 years ago, when 93 S&P 500 firms split their shares, a rate of close to two per week, according to Birinyi Associates.

After decades of mostly remaining in a range between $25 and $50, the average stock in the S&P 500 is now trading above $98, the highest ever, according to Birinyi Associates.

The basic rational discussion about stock splits goes like this:

Our stock is at $200. Is that a problem?

No that is a meaningless number.

Okay should we split it in two so that each share is worth a more manageable $100?

No come on that is dumb.

I mean, it's fine! It's fine. Do the split, or don't, whatever. The price of one share of stock doesn't matter, and it is silly to spend much time thinking about optimizing it. But there's a historical mysticism about having the correct stock price to appeal to retail investors and signal that you are a normal company instead of a weird one. That mysticism is fading. Now the way to signal normalcy is with financial rationality, and there's no rational reason to care about stock splits.

No-vote shares.

Here is a speech urging the Securities and Exchange Committee and the U.S. stock exchanges to prevent companies from going public with non-voting stock, arguing that "the core concern here is corporate governance 101: Separation of ownership and control over time can lead to a lack of accountability, and accountability to owners is necessary for course corrections that are critical in our capitalist system." This is a popular view and fair enough.

But the speech is by Ken Bertsch, the Executive Director of the Council of Institutional Investors, and he speaks on behalf of his members. Which is odd. Presumably institutional investors can read a prospectus and make an informed decision about whether or not to buy a company's stock. If they don't like non-voting stock -- if they think that "accountability to owners is necessary" -- then they can just not buy it.

But that's not exactly what they want: They don't want to choose not to buy non-voting stock; they want someone else to prevent them from buying non-voting stock. They know that, if left with the choice, they'll keep buying non-voting stock, even though they think it is bad. They want a ban to protect them from themselves.

You can guess one reason: As institutional investors, they benchmark themselves against indexes of public stocks, and if they refuse to buy some big stocks, they will have a harder time matching or outperforming the index. (This is even more true if some investors shun companies with no-vote stocks, giving those stocks a higher cost of capital and so higher expected returns -- as Cliff Asness argues about "sinful" stocks.) Bertsch's speech is directed at the SEC, but a lot of the action is at the index providers: "CII and a group of our members are approaching index providers to explore exclusion from core indexes, on a prospective basis, of share classes with no voting rights." If companies go public with non-voting shares, but those companies aren't included in the indexes, then for institutional investors' purposes it's almost like they aren't public at all.

Almost, but not quite. Even excluded from the indexes, those non-voting stocks will still be a dangerous temptation to the institutional investors. One way to think about it is that the institutional investors want to own stock in, say, Snap Inc. They think, for whatever reason, that Snap is a good investment. But they want to own the stock in their preferred form -- with the usual voting rights. Snap's founders want to sell stock, but they want to sell it in their preferred form -- with no voting rights. This is the sort of debate that gets intermediated by the market, and it was, and Snap won. The market is clearly willing to give Snap the terms that it wants. But the institutional investors want the regulators to reverse the verdict of the market and give them the opportunity to invest in Snap on their preferred terms, not its. Maybe that will work? But then of course the next Snap could just stay private longer. Snap went public because it could get the terms it wanted -- because investors were happy to give it those terms. Or sad to give it those terms, I guess, but gave them anyway.


A rough summary of this story is that Goldman Sachs Group Inc. bought Venezuelan government bonds from Venezuela's government for 31 cents on the dollar, and people are angry about it because Goldman seems to be propping up Nicolás Maduro's government:

Goldman's purchase of $2.8 billion in bonds, first reported by The Wall Street Journal on Sunday, comes as Mr. Maduro's detractors have recently pleaded with international financial institutions to avoid any transactions that might help a government accused of human-rights abuses.

On Monday, they upped the ante, threatening that a successor government could forgo paying the debt.

"It is apparent Goldman Sachs decided to make a quick buck off the suffering of the Venezuelan people," Julio Borges, head of Venezuela's opposition-controlled congress, said in a public letter to the New York bank's chief executive, Lloyd Blankfein. "I also intend to recommend to any future democratic government of Venezuela not to recognize or pay on these bonds."

Part of this is the perennial tension in distressed investing. On the one hand, if you are buying bonds at 31 cents on the dollar, you really are trying to make a quick buck off someone's suffering. (If they weren't suffering, the bonds wouldn't be trading at 31 cents on the dollar.) On the other hand, if you're buying the bonds, you're betting on -- hoping for, perhaps even working for -- an improvement. "We recognize that the situation is complex and evolving and that Venezuela is in crisis," said Goldman. "We agree that life there has to get better, and we made the investment in part because we believe it will." (Disclosure: I used to work at Goldman.) But of course if the government you are financing is what's standing in the way of making things better, then buying bonds from that government is especially problematic.

By the way, the story is not exactly about Goldman buying Venezuelan government bonds from the Venezuelan government. The buyer was Goldman Sachs Asset Management, so it's client money, not the bank's own money. The bonds were issued in 2014 by Petróleos de Venezuela SA, the state oil company, not the government itself. The seller was Venezuela's central bank, not the government. And the sale wasn't direct: Goldman bought the bonds from a broker, Dinosaur Group, "and did not interact with the Venezuelan government." So it would be a bit awkward for a future government to repudiate the bonds: Which bonds? All bonds issued by PdVSA? All bonds issued by PdVSA and later held by the central bank? All PdVSA bonds held by the central bank and then sold to third parties? All PdVSA bonds held by the central bank and then sold to Goldman Sachs this week? If there were a single brand-new financing transaction with new bonds meant to prop up the regime, then a future government could identify and repudiate it. But a sale of already-existing bonds at market prices in market channels muddies the waters.

One other oddity: What if Goldman had bought brand-new Venezuelan government bonds directly from the government at 31 cents on the dollar? Would those bonds have par claims in any future restructurings? Would they be treated as par bonds under credit-default swap contracts? Could a country in trouble dilute other creditors by issuing tons of new bonds at steep discounts to friendly creditors?

People are worried about unicorns.

Here is a proposed "Tradeable Automated Term Sheet" for private-company seed fundraising, which would "explicitly state that the investors' shares can't be subject to restrictions on transfer (with minor exceptions) after the earlier of five years or a $100 million valuation." Private markets are the new public markets, but in private markets even quite big companies with diversified institutional investors sometimes put transfer restrictions on their stocks. But people really want private markets to be the new public markets, complete with free transferability and exchange-like platforms to create liquidity, and so the norms are shifting.

Work Stuff.

Here is advice on how to make small talk from someone whose brain seems to work very differently from mine:

Ms. Van Edwards recently asked a stranger she met on a business trip what he was working on that was exciting. The man replied that he hated his job and was going through a divorce. She salvaged the exchange by thanking him for being honest, empathizing and drawing him into brainstorming about what’s it’s like being stuck in a rut and how to escape it.

Wow I feel like maybe he didn't want the exchange to be salvaged? I guess that is why I am not a widely cited small-talk guru. It just goes to show you that things could always be worse. Even if you hate your job and are going through a divorce, just think: At least I'm not stuck on a plane with a stranger who insists on brainstorming with me.

Elsewhere: "How Corporate Values Get Hijacked and Misused." 

Things happen.

Steven Cohen's Hedge-Fund Comeback Shoots for a Record Target: $20 Billion. China's shadow banking crackdown shakes markets. Credit Scores Hit Record High as Recession Wounds Heal. US banks pull back from $1.2tn car loans market. India's Bad Debt Is Looking Better to Investors. Dutch court rejects Elliott call to oust Akzo chairman. RBS Investors Accept £200 Million Settlement from Bank. Starting a Bank Is This British Town's Solution to Funding Cuts. China Huishan Faces Corporate-Governance Meltdown. 2 Expected to Be Named to S.E.C. Enforcement Role. Citi to Sell Fixed-Income Index Unit to LSE for $685 Million. Beta convexity. Bank Governance and Systemic Stability: The “Golden Share” Approach. Donald Trump took someone else's coat of arms, replacing the motto "Integritas" with "Trump." Why are donut boxes pink? "Not surprisingly, traveling to the robbery by foot and targeting a bank with a security guard are both consistent with lower ability offenders." Japan is suffering from a ninja shortage amid huge demand from foreign tourists. Why these couples are leaving NYC to live on cruise ships. "The latest Hamptons summer accessory? A vasectomy."

If you'd like to get Money Stuff in handy email form, right in your inbox, please subscribe at this link. Thanks! 

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

    To contact the author of this story:
    Matt Levine at

    To contact the editor responsible for this story:
    James Greiff at

    Before it's here, it's on the Bloomberg Terminal.