Part 7
“The lender of stock receives from the borrower the market value of it in money, but except when the stock is lending flat (without interest) or at a premium, the lender of the stock pays to the borrower of it interest on the money paid for the stock by the borrower. The rate of interest is determined by bid and offer.
“On the New York Stock Exchange, brokers who have stocks to borrow and brokers who have stocks to lend assemble immediately after the close of business on the exchange and those who need stocks borrow amounts necessary to make deliveries the next day. Those who neglect to borrow at this time must do so the next morning, or some time in the day before the delivery hour, 2.15 p. m. There is no loan crowd in the morning, but borrowers seek lenders at the posts on the floor of the exchange around which the particular stocks that they require are dealt in.
“The same rules govern the receipt and delivery of stocks borrowed and loaned as govern stocks bought and sold. In returning borrowed stock the borrower must notify the lender before 1 o’clock on the day of delivery; the lender in calling or demanding the return of stock must do likewise.
“When a stock is loaned flat, the owner is relieved from the cost of carrying the stock. If loaned at a premium he is still better off, for the premium is so much gain. When a stock is loaned at a premium, the premium applies in the absence of a renewal of the loan only to the day on which the stock is loaned.
“If a stock that has been borrowed advances in market price the lender may require the borrower to pay to him the difference between the price at which the stock was loaned and the new higher price. On the other hand, if the stock declines in price the borrower may require the lender of the stock to return to him the difference between the price at which the stock was borrowed and the new lower price. These differences are called market differences.
“When a corner is being worked up in a stock it is the practice of those engineering it freely to loan the stock in order to encourage the creation of a short interest in it. When this short interest has become large enough, or in other words, when the stock has become sufficiently oversold, a demand for the return of the stock brings the corner to a culmination.
“An apparent borrowing demand for stocks is sometimes created by the efforts of money lenders to obtain higher interest on their money than is obtainable in lending it in the money market. If the lending rate for a particular stock is, say, 6 per cent. when money is lending at 4½ per cent. in the money market the money lenders will borrow the stock in order to obtain the extra interest.
“When a seller of long stock (stock actually owned) desires to create the impression that he is selling short stock (stock not owned or possessed) he has his broker borrow stock for delivery to purchasers. Then when he has completed his sales he delivers his own stock to the ones from whom his broker borrowed.
“Also, when a seller of stock desires to conceal his identity, he has his stock transferred or made out in the name of his broker, or a clerk, or some other person previous to its delivery to purchasers.
“Arbitrage dealers often sell stock held abroad which will not be received for some time. They borrow for delivery to purchasers and when their own stock arrives they make returns to the ones from whom they borrowed.
“Corporations intending to issue new stock have been known to sell the stock in advance of its issuance and to borrow to make delivery to purchasers. Then when the new stock was issued it was used to make return to the ones from whom stock had been borrowed.”--From Smith’s Financial Dictionary, by Howard Irving Smith.
_Scalping._
“There are many different methods and degrees of scalping. The word is supposed to express all the forms of trading between the “Chaser of eighths” and the man who operates for a profit of several points.
“Scalping operations are more common than any other form of trading. There are several reasons for this. Many people consider the market a machine, and base operations on pictures of the past, i.e., charts. These misused and mischievous instruments show so many opportunities of profit in movements both ways, that the unsophisticated trader sees what was _possible_, while the _probable_ is overlooked.
“Again, the desire to scalp is helped by impatience and greed. The small trader will grow disgusted if there is the slightest delay. Dullness is unbearable to him. Also, he will frequently close good commitments merely for the sake of ‘seeing the money.’ I have seen many traders ‘clean up,’ receive a check which was of absolutely no present use to them, gloat over it for a while, and pay another commission to replace the trades. Ridiculous, but true.
“I may say, as a general principle, that I consider scalping the poorest form of trading. It involves the continued multiplication of commissions, and constant personal attention. I know of but two men who have made any considerable amount of money by scalping methods. They are exceptionally fitted for this form of trading, and have the ability to take a small loss quickly. This is a trait which is very rare among public traders. A man will usually accept a small profit for no other reason than that it _is_ a profit, and will sit stubbornly on a loss for no other reason than that it is a loss.
“The man who has reason to believe that a stock will advance or decline ten points, will, in nine cases out of ten, realize more profit by merely making his trade in the stock and going about his business until he considers it wise to terminate the contract. I will say decidedly that more traders will do better, make more money, and suffer less loss of time, and less annoyance by abandoning scalping tactics altogether.
“This view will no doubt cause my friends in the brokerage business much wrath and indignation. They naturally prefer to have ten commissions rather than one, and I fear that in many cases they recommend scalping tactics for no better reason than the one mentioned.
“That constant and repeated operations are disastrous, is pretty well shown by the remark of a successful ‘Bucket-Shop’ man: ‘I don’t care what they do, or what the market does, if I can only keep them coming up to the order windows every few hours,’ said this gentleman. And he was right; for the ordinary scalper is no more than a gambler, basing his operations on possible variations, and paying a great percentage.
“But if one will insist on scalping, it may be well to examine the subject from the other side and see how the least of the evils may be chosen. Without recommending the practice, or qualifying the views expressed above, I will therefore give my idea of the safest methods of scalping.
“The man who attempts to operate on both sides of the market during the same period, is the most deluded individual in the speculative world. I have already stated, that I have only seen two traders out of thousands I have observed, who could do this with any degree of success. These hybrid Bull-bears are certainly not working on any definitely formed opinion of the future. They are worse off than even the traders who are unchangeably and constitutionally wedded to one side of the market the year round. These latter prejudiced and inflexible individuals will occasionally have a turn in their direction, whatever their position may be, but the Bull-bear will go from one month to another, never seeing anything more than a temporary gain.
“It is important, therefore, that the active trader should form his ideas, base his views on something, and, if he wishes to entertain himself with repeated operations, map out a plan of campaign which shall be, at least, intelligent in its original conception.
“Just how successfully the plan suggested will result, depends largely upon the alertness and understanding of the individual who engineers it. If the active participant is easily moved from his position by changes of a point or two against him; if he is easily frightened by wild rumors and inspired talk; if he expects to gain thousands in a few days by venturing hundreds; or if he believes that he can operate in stocks so shrewdly as to guess high or low points within a dollar or two a share, he will meet with disappointment and loss. If he can overcome these drawbacks, he may do very well as an active trader, but I wish to reiterate my views that the man who takes a position on the market and retains it, will make more money than the scalper.
“As a test question, let me put this inquiry to the active traders who read this letter:
“When you have been correct on a certain movement of say ten points, and have made repeated operations, did you make any more money, or as much, as you would have realized on a single trade showing a ten point profit?”--From Thomas Gibson’s Market Letter, February 14th, 1907.
_Crop Damage._
As to the crops, we find many over-optimistic people trying to belittle positive crop damage. It cannot be belittled. It is dangerous and foolish to evade an issue instead of facing it. The argument that our surplus from last year will carry us through a shortage is puerile. That surplus has already been considered. Wheat in the bin is money; some of that money has already been spent and all of it has been given due consideration in the basing of our wealth. A number of writers attempt to make a probable crop of 2,500,000,000 bushels of corn a “bumper crop.” Their methods of arriving at this conclusion are not sound. It is certain that we should, in the natural course of events, raise more and more wheat and corn each year as the population of the world, and the uses of the cereals increase. To compare one year with another will not do. Particularly in Corn and Cotton must we steadily increase in acreage and production, for we supply the world with those commodities. To illustrate this point, let us go back a few years and see what has occurred.
COTTON AND CORN PRODUCTION OF THE UNITED STATES FOR TWENTY-FIVE YEARS.
Bushels Bales Year Corn Cotton 1880 1,717,434,543 5,789,329 1885 1,936,176,000 6,550,215 1890 1,568,874,000 8,655,000 1895 2,151,139,000 7,157,340 1900 2,105,102,516 10,383,422 1905 2,707,993,542 11,345,988 1906 2,927,416,091 13,000,000
The time is very near at hand, when anything less than 3,000,000,000 bushels of corn will be a crop failure; and high prices cannot be considered a great compensation in lean years. Short crops mean decreased demand for labor and loss of purchasing power by the common people, who are after all the best spenders.--From Thomas Gibson’s Market Letter, July 13th, 1907.
_The Selection of Securities._
When so many seductive baits are offered, so many nets and traps contrived and constructed by clever brains and cunning fingers are spread for the capture of those having money, is it surprising that the careless and credulous are victimized, and even that the sagacious and prudent should sometimes be taken in? Nevertheless, for the losses they have sustained, investors, as a rule, have themselves chiefly to blame. The mistakes made, in nine cases out of ten, have been the purchase of “cheap” securities. The hope of realizing a little more than ordinary interest, by buying paper at a discount, has proved to be the rock on which unnumbered capitalists have split. In addition to their money’s worth, they have endeavored to get something for nothing, with the result of most generally getting nothing for something. It is remarkable how blind are people, ordinarily sagacious enough to make money, to the fact that property cannot pay a revenue beyond its producing capacity. For instance, how can a trolley company, whose line is wholly or mainly built from the proceeds of mortgage bonds, sell them at a heavy discount, besides allowing large commissions for the selling, and then pay both this interest and dividends on a large issue of watered stocks? Or how can a poor agriculturist, occupying a half improved farm out on the frontier, with a family to support and grain selling barely above the cost of production, pay ten or twelve per cent. upon the capital with which he does business?--From “The Art of Wall Street Investing,” by John Moody.
_The Bank Statement._
“A statement or exhibit of the condition of banks.
“In New York the Bank Statement is issued from the clearing house on Saturday. The consolidated statement (or as it is officially designated, the “summary of the weekly statement of the associated banks”) is the collective showing by the banks belonging to the clearing house--the showing when the returns of the individual banks have been consolidated (put together).
“The consolidated bank statement shows the average deposits, loans, specie, legal tenders, circulation, reserve and surplus reserve of the banks for the week ending with and including Friday.
“The term deposits includes the net deposits (credit balances) of persons and concerns (designated as individual deposits), balances to the credit of other banks and all money and credits subject to withdrawal. Loans include money loaned and likewise paper (promissory notes, drafts, etc.) bought. Specie includes not only gold and silver coins, but also gold certificates, which are redeemable in gold or silver, as the case may be. Legal tenders as the term is used in the bank statement, means, United States notes (greenbacks) and Treasury notes (notes issued for silver bullion purchased under the so-called Sherman act).
“Note.--As defined by the statutes, legal tenders include United States notes, Treasury notes, gold and silver coins and minor coins, but not gold certificates, nor silver certificates.
“Circulation means the notes issued by national banks, to secure the redemption of which Government bonds have to be purchased by the banks and deposited with the Treasurer of the United States. A bank cannot count circulation in its reserve; whether it is its own circulation or the circulation of some other bank, makes no difference. Reserve means the total amount of specie and legal tenders held. Surplus reserve means the total amount held in excess of legal requirement. A national bank (in New York City) must, by law, maintain a reserve equal to 25 per cent. of its deposits; a state bank must, by law, maintain a reserve of 15 per cent. In compiling the bank statement a reserve of 25 per cent. is allowed or figured for state banks as well as for national banks.
“The consolidated statement formerly was issued from the clearing house in the following form, the changes (increases and decreases) resulting from comparison with the preceding statement (the statement issued the week before):
Loans $874,647,900 $2,344,000 Increase Specie 152,338,200 1,068,300 Increase Legal Tenders 67,274,300 1,319,000 Decrease Deposits 872,340,600 164,600 Increase Circulation 36,072,500 411,600 Increase Decrease of reserve, $291,850
“The (final) item reserve in the statement as issued from the clearing house, meant surplus reserve, although not specifically so stated.
“In the newspapers the statement appeared as follows; being elucidated so as to show the reserve held (that is, specie and legal tenders which are generally referred to as cash holdings), the reserve required and the surplus reserve with the changes in these items:
Current Preceding Week Week Changes
Loans $874,647,900 $872,303,700 In. $2,344,200 Deposits 872,340,600 872,176,000 In. 164,600 Circulation 36,072,500 35,660,900 In. 411,400 Legal Tends. 67,274,300 68,593,300 De. 1,319,000 Specie 152,338,200 151,269,900 In. 1,068,300 -------------------------------------------- Reserve held $219,612,500 $219,863,200 De. $250,700 Res. req’r’d 218,085,150 218,044,000 In. 41,150 -------------------------------------------- Surplus $1,527,350 $1,819,200 De. $291,850
“In 1902 the Secretary of the Treasury (Leslie M. Shaw) suspended the requirement to keep a reserve against government funds on deposit in national banks upon the ground that these funds were special deposits which were fully secured by pledge of bonds with the Treasurer of the United States. This action by the Secretary of the Treasury caused a change in the make-up of the bank statement by the addition to it of figures showing the average amount of government funds on deposit. The consolidated statement was thereafter issued from the clearing house in the following form:
Loans $874,647,900 $2,344,200 Increase Specie 152,338,200 1,068,300 Increase Legal Tenders 67,274,300 1,319,000 Decrease [3]Deposits 872,340,600 164,600 Increase Circulation 36,072,500 411,600 Increase Reserve on all deposits 291,850 Decrease Reserve on all deposits other than United States 325,825 Decrease
[3] United States deposits included, $40,633,400.
“In the newspapers the statement was made up in both the old and the new forms as follows:
Current Preceding Week Week Changes
Loans $874,674,900 $872,303,700 In. $2,344,200 Deposits 872,340,600 872,176,000 In. 164,600 Circulation 36,072,500 35,660,900 In. 411,400 Legal Tends. 67,274,300 68,593,300 De. 1,319,000 Specie 152,338,200 151,269,900 In. 1,068,300 ------------------------------------------- Reserve held $219,612,500 $219,863,200 De. $250,700 Res. req’r’d 218,085,150 218,044,000 In. 41,150 ------------------------------------------- Surplus $1,527,350 $1,819,200 De. $291,850
Deducting the United States deposits held by the banks from the aggregate deposits the bank statement compares as follows:
Current Preceding Week Week Changes
Tot. deposits $872,340,600 $872,176,000 In. $164,600 U.S. deposits 40,633,400 40,769,300 De. 135,900 ---------------------------------------- Dep’s 25% $831,707,200 $831,406,700 In. $300,500 Reserve held 219,612,500 219,863,200 De. 250,700 Res. req’r’d 207,926,800 207,851,675 In. 75,125 ---------------------------------------- Surplus $11,685,700 $12,011,525 De. $325,825
“The detailed bank statement, which is issued simultaneously with the consolidated statement, contains first the number of each bank (each bank has a number by which it is known at the clearing house) and then the name of the bank, after which follow the amounts of its capital, net profits (surplus and undivided profits), specie, legal tenders, deposits and circulation.
“The bank statement is said to have been made up on rising averages when the items in it have been increasing in amount during the week, or the statement is said to have been made up on falling averages when the items in it have been decreasing in amount during the week.
“Generally speaking, the bank statement is favorable or good when it shows that the position of the banks has been strengthened, as by an increase in the surplus reserve through, or by means of an increase in their cash holdings rather than by a decrease in their deposits, which often is effected by the calling of loans--by demanding and obtaining the payment of money loaned on call. As money loaned is credited to borrowers on their deposit accounts and increases the total deposits of the bank, so the payment of loans by borrowers takes from and decreases deposits. As will be seen, the calling and consequent payment of loans does not increase cash holdings but merely changes balances in individual accounts. A reduction in deposits reduces the amount of cash required to be held as a legal reserve and correspondingly expands (increases) the surplus reserve. Generally speaking, also, the bank statement is unfavorable or, if particularly unfavorable, is bad when the position of the banks has been weakened, as by a decrease in the surplus reserve through a decrease in their cash holdings rather than by an increase in their deposits, which often is effected by an expansion in (increase in amount of) their loans, which correspondingly expands (increases) their deposits and correspondingly increases the amount of cash required to be held as a legal reserve. This additional amount is deducted from and correspondingly reduces the surplus reserve.
“The bank statement may be said to be favorable or good, however, if an increase in loans is reported when the banks are surfeited with money: also the bank statement may be said to be unfavorable or rather not good (but hardly bad) when it shows that money is accumulating in idleness in the banks--when deposits are increasing, not as a result of increasing loans, but in the absence of a borrowing demand for money.
“There are other circumstances which make the bank statement favorable or unfavorable as disclosed in the circumstances themselves.
“There is also a non-member bank statement, which is a statement of the conditions of banks which are not members of the clearing house but clear through members. This statement is issued from the clearing house on Monday and shows the average condition of the banks for the week ending with and including the preceding Friday.
“The non-member bank statement contains the name of each bank, followed by its capital, net profits, average amount of loans and discounts and investments, average amount of specie, average amount of legal tender notes and (national) bank notes, average amount on deposit with its clearing house agent (the bank through which it clears at the clearing house), average amount on deposit with other New York City banks and trust companies, average amount of net deposits and average amount of circulation.”--From Smith’s Financial Dictionary.
_The Cycles of Stock Speculation._[4]
All speculators, and most investors, possess a general idea of the range and trend of prices for a considerable period. This knowledge is more frequently based upon impressions gained during their own years of activity in the speculative world than upon research. The knowledge gained by active participation is certainly the most forcible and lasting, but is frequently productive of erroneous ideas, as will be set forth hereafter.
[4] Reprinted from MOODY’S MAGAZINE of August 1906.
For the purpose of giving a clear idea of the movements in stocks during recent years, the accompanying chart has been arranged. The use of circles in lieu of the customary straight lines was hit upon as presenting more clearly to the eye the comparative extent of each year’s movement, and more plainly distinguishing one year from another. These advantages are gained without obscuring from view the general trend of prices for the period considered.
For the purpose of establishing a single hypothetical stock whose movements should be representative of the course of all other active securities, the fluctuations of twenty stocks were welded together. That is to say, the high points of these stocks for the year 1896 were added and divided by 20. The same course was followed with the low points, and each year considered was treated in like manner. By drawing a circle upon a numbered chart with the upper rim resting upon the figures representing the high point, and the lower rim upon those representing the low point, an average price for the year is necessarily established at the axis.
The size of the circles shows the actual and comparative extent of the movements, and the position of consecutive years on the diagram shows the general trend of prices.
In selecting the twenty stocks to be used in forming a composite security, care was taken to eliminate the shares of such corporations as have undergone radical changes during the period considered, 1896 to 1905, inclusive. The Rock Island Company, for example, is in itself an important system, but owing to the conversion of $75,000,000 Common stock into $200,000,000 of mixed securities in 1902, the tracing of its subsequent movements would involve unnecessary computations and explanations. It may be added that experimental tests show that the hypothetical stock, call it “Composite Common” for the sake of convenient reference, was faithfully representative of almost all movements from 1896 to 1906, and that the selection of other stocks would have made only insignificant variations in the general result. The original intention was to extend the investigation for a longer period than ten years, but so many readjustments, assessments, and other changes occurred in listed securities prior to 1896 as to make a clear showing difficult.