Shift to seeing systems LO5758

John Conover (
Tue, 20 Feb 1996 23:29:39 -0800

Replying to LO5749 -- writes:
> Why would stock prices increase when layoffs are announced?

Again, I think the reason given depends on who is telling the story. But
you asked, so here is a common reason given-from classical/neo-classical
economic theory. It is assumed that folks (pension funds, corporations,
banks, private investors, etc.,) want something to invest their money in.
There is competition between the stock market, savings accounts, precious
metals, etc. It is assumed in classical economics that national fiscal
policy determines the rate of returns on savings accounts, (in the US's
case, the FED's prime rate-the savings rate is close to the prime, or so,
in general.) How much fiscal policy influences the capital markets, again,
depends on who is telling the story.

So, the story goes, in a very simple scenario, someone who had some money
to invest would have to make a choice between putting it in a savings
account, or putting it in the stock market. One could get, say, 3% per
year return on a savings account, and for a stock to be competitive, it
would, also, have to return 3%. So, if a stock returned, say, 1 dollar per
year in dividends, then the stocks value, (in this over simplified,
illustrative example,) would be $1 / 0.03 = $33.33. A more sophisticated
and realistic analysis would include inflation, risk, etc.

So, if you have a layoff, then that implies that dividends are going up,
(or not going down so far, as the case may be,) and that would make the
stocks value increase-which is kind of the idea of what the CEO does for a
living. (The CEO is the custodian of the share holder's investment-that is
the legal, fiduciary, responsibility of the CEO-as chartered by the BOD,
who are elected by the share holders-to oversee that the CEO does so. The
fiduciary responsibility is mandated by state law, which varies from state
to state, but in a nut shell, the state requires that the CEO operate in
the best interest of the share holders-or else; don't collect $200 for
passing go, and go straight to jail.) So, if the layoff would increase the
the annual dividends to, say 2 dollars, then the share holders equity
would double, since the stock value would be $2 / 0.03 = $66.66, and the
CEO would be a hero. Note that A. Greespan manipulating the the prime rate
has an effect on stock valuation, also, or so the story goes, so if the
FED drops the prime to 1.5%, the stocks value would double.

As it turns out, a stock's valuation in the long run, (say, over many
years,) pretty well follows the above scenario, but there is so much
speculation that the short term is regarded by many, (namely the
programmed traders,) to be strictly speculative, (and usually considered
to be fractal.) Again, whether this is true, or not, depends on who is
telling the story, but for more details see, "Fractals, Chaos, Power
Laws," Manfred Schroeder, W. H. Freeman and Company, New York, New York,
W. H. Freeman and Company, 1991, or "Chaos and Order in the Capital
Markets," Edgar E. Peters, John Wiley & Sons, New York, New York, 1991.

There are several obvious issues here, like layoffs may be short sighted,
since you make the share holders happy today, at the expense of tomorrow,
(because the layoffs occurred in R&D, etc.) And other issues are not so
obvious, like the pension funds, (who the programmed traders work for,)
owning 33% of US business, (I've seen numbers higher than 50%, but I don't
think anyone really knows for sure,) which really means that the CEO works
for insurance companies and banks, and is under a lot of pressure to
never, but never, let the share holder's equity depreciate, and always,
but always show a return that is significantly better than what the
investors could get at a bank, or in precious metals, or in bonds, etc.

But this may have advantages: the way you sell a CEO on a new concept,
(your management concept, development concept, etc.,) is to put it in
terms of increasing share holder's equity. Works every time ...

You asked,



John Conover, 631 Lamont Ct., Campbell, CA., 95008, USA. VOX 408.370.2688, FAX 408.379.9602

Learning-org -- An Internet Dialog on Learning Organizations For info: <> -or- <>