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Do the Math: It Adds Up to Investor Greed

Markets can be made crook-free but not fool-free.

July 09, 2002|JAMES P. PINKERTON

President Bush travels to Manhattan today to tell Wall Streeters to clean up their act. No doubt he will talk tough, and no doubt Democrats will talk even tougher.

Yet the problem faced by would-be Street cleaners is that there's no political cure for what's really gone wrong with the market, which is too many bubbleheads greedily blowing up a bubble--a bubble that's now burst.

And so while it may be desirable to tweak the regulatory system, the market itself provides the best remedy for stupidity. As the old saying goes, a fool and his money are soon parted.

Consider, as an example, Enron. According to a new report from the Senate, profits for the company in 2000 amounted to $975 million. Yet the board of directors approved $750 million in compensation for executives, including $140 million for Chief Executive Kenneth Lay.

Shareholders were no doubt delighted that Lay had pushed Enron's shares up to $80, but they would have been wise to look at those numbers more closely.

If they had, they might not have given Lay more than a seventh of the company's total profits that year, nor kept him on the payroll as the stock price plunged toward zero.

But that's the problem: When the market is going up, few people look their gift horse in the mouth. In the 1990s, the Dow Jones industrial average soared from 2,753 to 11,357. It was during that decade that the "cult of the heroic chief executive," as the Financial Times calls it, was born. Worshipful shareholders stopped caring whether CEOs were actually managing their companies or merely managing earnings reports; either way was fine, as long as the stock went up. And few complained as corporate compensation multiplied; according to Business Week, the average CEO of a major corporation made 85 times the average hourly worker's pay in 1990 and 531 times the worker's pay in 2000.

But maybe those stock-option-grabbing CEOs--even the ones who weren't crooks--weren't so worship-worthy after all. Maybe they were just dumb-lucky.

After all, if the market goes up fourfold, the most average executive will look pretty good indeed.

Put another way, oftentimes history sits in the driver's seat, and people--even "masters of the universe"--are just along for the ride. One might consider, as a comparison, the glorious fate of the West Point Class of 1915, known to history as "the class the stars fell on." Of the 164 men in that class, 59 became generals, including two five-stars, Dwight Eisenhower and Omar Bradley.

Without minimizing their courage, the '15ers were at the right place at the right time to enjoy glorious careers; they got into the fighting business at the beginning of a long bull market in war.

For a while, it seemed that CEOs of the '90s would be remembered as the captains of industry whom the dollars fell on. But no longer. Leaving aside the fraudsters, such as Enron and WorldCom--which lost $80 billion and $180 billion, respectively, for their shareholders--we can now see that even blue-chip companies lost still more shareholder wealth in the last three years. General Electric has lost $281 billion in market capitalization from its peak, Microsoft is down $348 billion and Cisco Systems is minus $486 billion. Indeed, all the companies listed on the Standard & Poor's 500 have shrunk by about $4.6 trillion since March 2000.

One can presume that well-run companies will make a comeback, along with stocks as a whole, but that's the point: When the market goes back up, the reputations of CEOs will get back on the escalator too. Until then, even the most ethical chief will be under a cloud--the dark cloud of unprofitability.

Meanwhile, Bush can propose whatever he wants. Yet the most important action he can take is, paradoxically, inaction. By not intervening to bail out failing companies, the government has forced a relearning of that most basic of market lessons--caveat emptor, let the buyer beware.

Yes, markets should be kept crook-free, but they can never be made fool-free. Yet after this burst bubble, investors, a little older and a lot wiser, are going to be less foolish.

At least for a while.


James P. Pinkerton writes a column for Newsday in New York.

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