By Chester Spatt
The architects of the proposed Long-Term Stock Exchange (LTSE) argue that the U.S. is sorely in need of an exchange that rewards businesses and investors focused on the long term. It is ironic, though, that the LTSE’s biggest backers hail from Silicon Valley, where tech startups have long benefitted from the market’s orientation toward long-term growth by raising investments based on long-term potential despite losing money year after year.
Interest in a long-term-oriented stock exchange has been rising for a number of years, especially in Silicon Valley, where tech companies often complain of Wall Street’s dominance over the process for listing shares. Now that the Securities and Exchange Commission has given a preliminary green light to the LTSE, it’s worth considering how our capital markets are already oriented to the long term rather than the short term.
Companies that have yet to turn a profit and have generated billions of dollars of losses, such as ridesharing services Uber Technologies /zigman2/quotes/211348248/composite UBER +2.35% and Lyft /zigman2/quotes/208999293/composite LYFT +2.86% , have achieved exceedingly extraordinary valuations, despite the absence of compelling entry barriers to protect these firms. And this isn’t a new trend: Amazon.com /zigman2/quotes/210331248/composite AMZN +0.57% was once a profitless retailer that seemed to hemorrhage money yet is now worth $920 billion by reinvesting in a compelling business vision over the last two decades with significant potential entry barriers. Clearly the market has the capacity for long-term thinking.
Along with the pressure to achieve quarterly results, West Coast tech companies also criticize East Coast-based exchanges, such as the New York Stock Exchange, Nasdaq and CBOE, of emboldening high-frequency trading and activist investors—practices they say focus on short-term profits of particular traders and investors and hinder long-term sustainable growth. Those trading profits simply reflect the competition to provide liquidity to long-term investors.
Following the SEC’s initial approval, the for-profit company behind the LTSE released a statement announcing that its goal is to “help companies build lasting businesses and empower long term-focused investors by creating an ecosystem in which businesses are built to last.”
This statement certainly implies that U.S. capital markets devalue long-term growth initiatives, though recent and overall trends suggest the opposite.
It’s true that valuations respond to short-term earnings and news, but that’s because these offer the main information about a company’s long-term prognosis, since valuation changes reflect the total present value of future cash flows, not just the immediate cash flow.
The LTSE has also proposed “long-term voting rights,” wherein a shareholder’s voting power is commensurate with how long they have held the particular stock. This would be a mistake as it creates a system in which the benefits of ownership are less than fully transferable and the movement of ownership to the investor who values the firm the most would be retarded. Exchanges should be set up to reflect the interests of investors and to protect investors. The SEC’s goal of “investor protection” emphasizes that it is the interests of investors (who provide the crucial financing), not the interests of managers or founders, which should be paramount.
The LTSE still must submit its listing standards to the SEC, but it could generate a sizable client list. However, it is a mistake to credit the LTSE with empowering long term-focused investors when the market more broadly already does just that and when the LTSE’s voting system will ultimately hurt its investors.
Chester Spatt is the Pamela R. and Kenneth B. Dunn Professor of Finance at Carnegie Mellon University’s Tepper School of Business and a former chief economist at the Securities and Exchange Commission.