The Investment U E-Letter: Issue # 496
Monday, December 19, 2005 Short Term Trading: Defending the Undefendable… Why I Like Plungers and Day Traders
By Dr. Mark Skousen, Chairman, Investment U
Since I took over as chairman of Investment U, I've created my share of controversy…
On November 17, I recommended the Vice Fund (VICEX) - which invests in tobacco, beer and gambling stocks - over the socially responsible investing Sierra Club Fund (I won't bother to give you its symbol). And on November 25, I defended the dirty, filthy, stinkin' rich for paying more than their fair share of taxes and being more frugal and disciplined than the rest of us ordinary folks. Now, in this issue, I defend the "plungers" and the "peacocks" - the short term trading opportunists (even naked short-sellers!)…as well as the computer whiz-kid gamblers, the techies who day trade without reference to stock fundamentals, etc… In short, the short-term speculators who provide the liquidity to keep the markets alive day in and day out. What prompted this outcry? Bogle's 50% Tax Hike Boggles the Mind! Last week, I was skiing in Utah at Snowbird, a guest of Dan Bass, son of Dick Bass, owner of this first-class resort. While there, I read The Battle for the Soul of Capitalism, by John C. Bogle, famed founder of the Vanguard mutual funds. In this book, he attacks the entire financial system in America - the stock brokers, the security analysts, the floor traders, the mutual fund industry, the government and, of course, those evil short term speculators who "rob investors of trillions." Now, don't get me wrong. Bogle has done yeoman service to investors with his Vanguard funds, which are known for offering the lowest-cost mutual funds in the nation. Ben Franklin would be proud of his frugality. I've been a big fan of his approach to index investing. The recent development of Exchange Traded Funds (ETFs) and iShares (country index funds) are undoubtedly an outgrowth of the Bogle Effect, a great new cheap way to invest in a variety of markets. However, businessmen are notoriously ignorant of what constitutes good public policy. To purge these alleged "speculative excesses" from the system, Bogle urges Congress to impose a 50% tax on short-term capital gains (presumably, he means any buy-and-sell within one year) on all individuals and institutions, such as pension funds, which are normally exempt from short-term taxation. He even cites a 1986 recommendation by Warren Buffett in favor of a 100% tax on short-term gains. Buffett says it was "only tongue in cheek." (I think he meant "foot in mouth.") John Bogle is worried about "excessive speculation" on Wall Street, noting that stock market turnover has risen from 25% in 1986 to 150% today. But short-term trading and turnover aren't necessarily a problem… Two Reasons Short Term Trading and High Turnover are Good for the Stock Market The reality is that higher turnover and higher volume are good for the marketplace. They benefit investors in two ways: - They reduce the bid-ask spread on trading stocks. Today the bid-ask spread is so small on most stocks that the financial papers don't even list them. It used to be a big problem on Nasdaq-listed stocks, but today it's only a problem with OTC and "pink sheet" stocks.
- They allow brokerage firms to decrease sharply the commissions they charge customers. Brokers make more money on higher volume, and can afford to charge lower fees and commissions.
In fact, I would go so far as to argue that short-term trading speculators provide the daily liquidity necessary for long-term investors to sell out and take profits without their shares plunging in price at steep bid/ask spreads and commissions. In sum, short term trading is largely responsible for the increased efficiency of the stock and bond markets since the financial revolution of the 1970s. Instead of complaining, we should be celebrating short term trading and the day traders' vital role on Wall Street. A very Merry Christmas and happy holidays to day traders! Good trading, AEIOU, Mark P.S. I'll have to save for another day my defense of naked short selling! Today's IU Cribsheet - Check out some of the controversy… Investment U # 484, Socially Responsible Investing: Vice Trumps Virtue On Wall Street, takes a look at the performance of sin stocks compared to the S&P 500. Guess who wins out?
- Today, I mentioned the Snowbird Ski Resort. If you are a skier or snowboarder, you might want to check out its slopes… visit http://www.snowbird.com.
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