The Fix for Short-Termism?

The article “Overcoming Short-termism: A Call for a More Responsible Approach to Investment and Business Management” from the Aspen Institute delves into one of the most contentious issues in modern finance: the idea of short-termism and its effects on the financial industry as a whole. When I first read the article I agreed with all of the points made within. This is because I am a value investor at heart. The implication of this is that I feel that a company should aim to achieve sustainable growth instead of looking to maximize short term value. Looking at the supporters of this article, I feel that they also lean in this direction. For example, Warren Buffet descends directly from the Ben Graham school of value investing, and would greatly benefit from an stock market that would operate under the rules outlined in the article.

What I am less sure about is what the implications of the regulatory changes outlined in the article are. For example, raising the capital gains tax wouldn’t necessarily decrease price volatility, it would only deteriorate earnings of short-term traders. Just because their earnings deteriorate would not mean that they would change their strategy, however. Removing the limitations for capital loss deductibility would decrease the tax burden of a person that takes a loss, but it would not make that investment any wiser and would not make the person any more likely to hold onto said investment.  In the end I do not thing regulatory changes are where we can make changes to stock market volatility, if we want to do that we should instead try to change firms on the micro level.

Short-termism is the result of the current system, and its structure. If companies on a micro level all strived to have sustainable long-term growth the market would be less volatile, as the underlying earnings would be more stable. What this functionally means is that companies should focus less on window dressing and cutting cost to improve short term earnings and more on developing a sound business model with the long term in mind. This would lead to a long term decrease in volatility, and would give an organic incentive for investors to have a longer-term window. This means that we would need to replace the current management fad for short-term modeling to maximize stock price with sustainable models, which would be incredibly difficult, and how to do that is out of the scope of this post. This also isn’t to say that this method would get rid of short-termism, but I feel that it would more effectively minimize it than regulation would.

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5 Responses to The Fix for Short-Termism?

  1. jte004 says:

    I can agree with the idea that companies should stop window-dressing and cutting cost to solve some of the short term problems, but I think that this problem stems more from the people running companies rather than those investing in the company. Are companies making really long term investments in producing long term services or products today? It seems that companies are trying to jump into as many markets as possible to make a quick buck here or there. This dilutes risk but at the same time does not allow the company to strive and expand in a single market for very long. If a company would focus more a investing in a long term idea, survice, or product and function within a few markets, would the people investing find more incentives to stick with the investment?

    • mcardinute says:

      To answer your last question, yes I do believe people will be more inclined to stick with the investment if a company has a long-term mentality. People like stability, especially with their investments. If a potential investor is looking to invest they will look for a company that looks for consistent, steady growth and certainly the fundamentals accordingly. Investors do not want the market to be choppy or volatile because that just makes it more risky and unpredictable. Traders on the other hand look for momentum or explosive movements in the market either up, down, or sideways.

      • jwhite17 says:

        I definitely think that there should be a distinction between investors and traders here, like you said. Theoretically it might be helpful to distinguish between the two classes on a wholesale level. By classifying a person as a long-term investor could give that person a tax advantage on all investments, not just long term ones. The benefit of this would be that it would give incentives for traders to become investors to get a tax break on every investment they make while increasing the attractiveness of becoming a long-term investor.

  2. cornerback5 says:

    I believe the CEOs are the root of the problem. If you are hired to make the company money and increase shareholder wealth, why choose to do it over the long haul if you can do it right away? I can agree that if companies on a micro level all strived to have sustainable long-term growth the market would be less volatile, as the underlying earnings would be more stable. But how would you convince companies to go for this idea that would seemingly make conditions better for their competitors as well? I believe that companies look to the short term because it is highly profitable and provides a way to quickly get ahead.

    • jwhite17 says:

      I do think that corporate governance, and by extension, CEOs are the root of the current problem. The only way that I can realistically see them changing their viewpoint about maximizing shareholder value in the short term would be to change their compensation packages to make them more vested in the long term health of the company, and showing them how companies with a long-term view achieve greater long-term growth. Until their incentives change and they change their viewpoints the problem of short-termism will be very salient.

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