STRATEGY

4 Reasons to Never Trust the Stock Market

Share prices on Wall Street have been strong, which is a good thing for any growing business. Still, you better watch out.
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Manti Te'o.  Beyonce.  Lance Armstrong.  My God, can you not trust anyone anymore?

Sadly, that's the state of things.  And it's the same on Wall Street.  The Dow recently hovers now around 14,000, which is amazing when you consider it was near 6,000 just a few years ago.  But don't get too excited.  Most business people don't.  That's because you can't necessarily trust the stock market--any more than you trust the pilot when he says, "It should be a smooth flight."  You have concerns.  Big ones.

A hundred years ago I was a controller for a now-defunct publicly-held company.  The firm was in the biotech industry, and like many companies in that industry during the 1990s, its executives were always out looking for money.  Although it had thousands of investors, most of the equity in the company was held by a half dozen Wall Street investment banks and a few high wealth individuals.

The firm was developing a very unique topical cream.  And it looked promising.  So promising that the stock price was increasing each week in anticipation of the results of an important clinical trial.  And then the news came: the trial was a bust.  I knew that the market would find this out at 7AM the next morning and the stock would drop by half, maybe more.  The biggest immediate concern?  To help large investors minimize their losses so they would hopefully come back in the future, of course!  So at 7:01 the next morning, senior managers--including me--got on the phone with big investors to alert them immediately to the press release we had just issued.  The big guys took their losses, but nowhere near the bath that those poor others who were not in the know absorbed when they finally got around to the news.  None of this was illegal.  But I learned two important lessons: a topical cream will not increase the size of a man's genitalia.  And don't trust the stock market.

The stock market is not a level playing field. 

No matter how much the government tries to make it fair, stocks are traded based on information.  And much of this information is not readily available to the common investor.  That's because the common investor is doing other things than spending the day watching stocks.  Smart business owners I know who get into the market usually leave it to the professionals.  But they're wary.  Because investing in the stock market means taking money from your business and giving it to some other guy to use to run his business.  Most of the time you don't even know that guy.  And yet, you're making a bet on him, usually based on incomplete information.  Isn't Vegas a better option?  That's concern No. 1.

Concern No. 2: On Wall Street, no real checks or balances are in place.

Much of the trading that's done on the stock market is based on the financial results audited by the big accounting firms.  Business executives don't really trust them either.  Ever read one of those audit opinions?  Go ahead--but brace yourself.  You'll find that reading one will give a guy about as much comfort as reading 50 Shades of Grey.  That's because no matter how big these firms are they don't have the resources to truly audit large public companies.  So instead they audit by sampling small sets of data.  And they rely heavily on the representations made by management.  That would be the same management that pays their fees and accompanies them to basketball games, golf outings, and strip joints in Nashville.  This is the same management whose annual bonus is heavily dependent on a clean audit opinion and a rising share price.  And who can fire one accounting firm and hire another competitive firm, causing financial hardship to those very auditors.  Sound objective to you?  Let's not even mention the credit rating firms like S&P.  They've got their own problems.

But you know this already.

The stock market is not a microcosm of the economy (though many think it is). 

For example, the Dow Jones Index is made up of just 30 companies of the thousands that are publicly-held and tens of millions of other businesses in the United States alone.  These companies are supposed to reflect industries from manufacturing (General Electric) to financial services (American Express), technology (Microsoft) to energy (Exxon), and entertainment (Disney).  These are huge, well-run companies that operate all over the world.  They have MBAs who manage every dollar, expensive accountants who help them reduce taxes, and zillion-dollar budgets to build brands.  One of them makes Big Macs.  Respect.  But is this an accurate representation of the stock market?  I don't trust that.

A stock market rise doesn't accurately reflect economic conditions.  

Thank God for that.  GDP contracted last quarter, unemployment remains stubbornly at 8%, and business confidence is at historically-low levels.  Things are so bad the Super Bowl didn't even have enough electricity.  Most economists believe that money is flowing into the stock market because there are not a lot of other places for it to go.  Today, moss grows faster on a dollar bill than any interest it can earn.  Property values, though rising, are still depressed.  Europe is a mess.  China's hacking our computers.  Everyone already has an iPhone.  So where else are investors going to spend all that free money the Fed is churning out in its latest quantitative easing scheme?  How about the U.S. stock market?

Even knowing all this, I'm sure you're not complaining.  You know how important a strong stock market is to the success of your company.  Money may not buy happiness but it can certainly help pay for that big order.  Rising portfolios contribute to a rise in confidence.  It makes people feel better.  Richer.  Happier.  Customers feel a little better about making investments and spending a few bucks.  Prospects who once cowered in the shadows a few years ago are now emerging and asking me how much it would cost to upgrade their software systems or buy new technology.  They're not afraid to look at their bank statements as much as they were before.

You also know that a strong stock market underpins your growth.  For those who have excess cash invested in the markets, you likely find yourselves with a growing balance sheet.  Some of my clients are reaching out to their bankers for working capital, now collateralized by these higher asset values.  Other, more courageous and entrepreneurial souls are becoming enticed with the prospects of themselves going public.  Companies that are already publicly-traded are looking at investment deals where they can put their higher stock values to better use and to help finance start-ups and other ventures.

The rising stock market is a good thing.  And the smart business people I know are taking advantage of it (or plan to).  But i'd bet your wary of its rise.  I don't trust the markets.  And neither should you.  The captain just put on the seat belt sign due to a "little unexpected turbulence."  See?

Last updated: Feb 6, 2013

GENE MARKS | Columnist | Owner, Marks Group

Gene Marks is a columnist, author, and small-business owner. He oversees the Marks Group, a 10-person technology consultancy to small and medium-size businesses. A certified public accountant, Marks has also worked in the entrepreneurial services arm of KPMG. He writes for The New York Times, Forbes, and The Huffington Post.

The opinions expressed here by Inc.com columnists are their own, not those of Inc.com.



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