|
Comment on this article |
View comments |
Email this Article
|
|
News :: Miscellaneous |
|
Financial Companies May Be Liable For Stock Market Losses |
Current rating: 0 |
by Mark Weisbrot
(No verified email address) |
25 Mar 2001
|
For those who lost a significant sum of money in the
stock market's recent plunge, it appears that major
brokerages, banks, and other financial advisors may
be liable for some of these losses. |
The legal issues here are reasonably straightforward.
There was a bubble in the stock market that should
have been easily recognizable to any serious stock
analyst. This meant that those who bought stocks
during the bubble with the intention of holding them for
a long period of time were extremely likely to lose
money. However, instead of warning people about the
bubble, many of these experts actually urged people to
place their savings in the stock market. In fact, it was
common for advisors to tell individual investors that if
they were in the market \"for the long haul,\" they were
virtually guaranteed to get a higher return than they
would get from holding bonds. But for those who
bought into the bubble, the opposite was (and still is)
true.
In some cases they may have actually have had a
direct interest in getting people into stocks, since the
commissions charged on stock holdings are generally
far higher than the commissions on money market or
bond mutual funds. If investors relied on expert advice
that was clearly wrong, and could be seen as wrong at
the time, then they may be able to sue these experts
to recoup some of their losses.
To have a credible legal case three things must be
shown:
1) That the financial advice was wrong and could be
determined to be wrong at the time;
2) That a person relied on this advice in deciding to
place their money in the stock market; and
3) That there was an actual loss of money.
The first point relies on the fact that it was possible to
recognize that there was a bubble in the stock market
in the late nineties, and that a large decline was
virtually inevitable. The analysts at the brokerage
houses and banks are responsible for knowing their
field in the same way that a doctor is responsible for
knowing standard practices within the medical
profession. At the time, several experts within the
economics profession had published writings carefully
explaining how it could be determined that the stock
market was hugely over-valued, and that a crash was
inevitable. Stock analysts should have been passing
along this information and warning their clients, rather
than urging them to put more money in the stock
market.
Two prominent economists who made this argument
were Yale Professor Robert J. Shiller, in his book
Irrational Exuberance (2000: Princeton University
Press) and M.I.T. Professor Peter Diamond in \"What
Stock Returns to Expect for the Future?\" Center For
Retirement Research at Boston College (September
1999)
http://www.bc.edu/bc_org/avp/csom/executive/crr/issu
ebriefs/issuebrief2.pdf
In addition we have published numerous articles
making the same argument about stocks, beginning in
1997. Some of these include:
Saving Social Security With Stocks: The Promises
Don\'t Add Up (1997, The Century Foundation [formerly
the Twentieth Century Fund] )
http://www.tcf.org/Publications/Social_Security/Saving
_SS/Introduction.html
Letter to Martin Feldstein (May 15, 1999)
http://www.cepr.net/Social_Security/letter_to_feldstein
2.htm
Double Bubble: The Implications of the Over-Valuation
of the Stock Market and the Dollar
http://www.cepr.net/double_bubble.htm
The Costs of the Stock Market Bubble
http://www.cepr.net/stock_market_bubble.htm
Social Security: The Phony Crisis by Dean Baker and
Mark Weisbrot (2000, University of Chicago Press)
The basic argument is simple enough that it can be
explained in a few paragraphs; we attach those below,
from a recent op-ed in the Los Angeles Times.
To show reliance, it would be necessary to establish
that the brokerage house or financial advisor had
encouraged (either in writing or verbally) someone to
place money in the market, with the claim that they
were likely to get a higher long-run return in stocks
than from bonds or other assets. It is obviously helpful
to have a written record (something to keep in mind for
the future), but in principle verbal assurances can be
sufficient.
To show losses, it would be necessary to establish
that a loss had taken place as a result of investing in
the stock market. This may be difficult to show for
money that had been in the market for a long period of
time. For example, if someone placed money in the
market in 1992, they would probably still be ahead,
even after the recent plunge. On the other hand, many
people put money in the market for the first time in the
last two years, or added considerably to the money
they already had invested. These people suffered
large losses for which they may be able to get
compensation.
For those who relied on such advice and have
concrete evidence of losses, we suggest contacting an
attorney.
Please pass this note along to anyone to whom it may
be useful.
Sincerely,
Dean Baker Mark Weisbrot
Economist Economist
_______________________________________
The following excerpt from our op-ed in the Los
Angeles Times (January 5, 2001) outlines the problem
of the stock market bubble; full article is at
http://www.cepr.net/columns/weisbrot/long_haul.htm
\". . . many people assume that because stocks
have historically outperformed bonds over long
periods of time, this will continue in the future.
We often hear investors say that they are \"in it for
the long haul,\" as if it were guaranteed that stocks
will be a good investment if they are held for a
long enough period of time, something they are
often told by investment counselors. Ironically, it
is the long-term future of stocks that looks bad
now. And unlike stock prices in the short-term,
which can fluctuate wildly, one can actually say
something definitive about the long run.
The average price of stocks is still much too high,
even after the correction of 2000, to be justified
by earnings that the economy could generate in
the future. In other words, it is not possible to
come up with a scenario consistent with anyone\'s
projections about the economy that would make
investors want to hold stocks for a long time,
unless stock prices were to first drop very steeply.
Dean Baker of the Center for Economic and
Policy Research was the first economist to work
through the arithmetic of this \"bubble\" market,
and his findings have since been confirmed by
other prominent economists. It works like this: In
the long run, investors hold stocks only because of
the earnings of the underlying companies.
Stockholders get a return from two sources--the
shared earnings paid in the form of dividends and
an increase in the price of the stock (capital
gains).
The average dividend is only about 1.5%. Capital
gains, over the long run, cannot grow much faster
than the economy, unless you invest at a point
where stocks are undervalued relative to future
earnings. But the average stock price relative to
earnings--known as the price-to-earnings ratio--is
still near twice its historic level. So unless you are
willing to believe that stock prices are unrelated to
the profits of the companies they represent, you
can\'t expect capital gains much higher than the
long-run growth rate of the economy, at least from
here on out. That rate is currently estimated at
about 2.2% annually.
That adds up to 3.7%. Even if growth turned out
to be considerably higher than the 2.2% that
economists are projecting, it couldn\'t solve the
problem. It just doesn\'t make much sense to hold
stocks rather than a U.S. Treasury bond, which
has a similar real (inflation adjusted) return but
almost no risk. Unless, that is, you think that other
investors are going to keep bidding up the price of
stocks independent of earnings--in other words,
that the bubble will grow. But speculative bubbles
can\'t grow forever; eventually they must burst.
Of course this analysis applies only to the whole
market, or the average stock. If you can pick the
next Microsoft or Wal-Mart and get in early
enough, you can still do very well. But this is not
easy to do. So most individual and institutional
investors maintain some sort of diversified stock
portfolio that moves more with the broad market.
And at some point they are going to move out of
those stocks, in large numbers.\"
|
See also:
www.cepr.net
|
|
Thanks for the info |
by Nancy Dietrich-Rybicki
nancydietrich (nospam) juno.com (unverified) |
Current rating: 0
01 Apr 2001
|
This is the first time I have read anything about the stock market bubble. Please keep these articles coming; I also read the article about the rich paying taxes-excellent!
Thanks for the info!
Nancy |
