Stock and bond

“ The long-term bond protects the holder against the probable steady fall in the rate of interest on capital. It promises him advantage in the future in return for surrender in the present.
The reduction in charges by the substitution, for mortgage bonds with fixed interest, of securities upon which payment of interest is optional, has been as important as the reduction in the rates of interest just described. Such securities may be either income bonds or stock. ”

“ The value of the residuary share may be large or small, may increase or diminish, but in no case can the holder of such a share require any one, least of all the company itself, to take his share off his hands at the price he paid for it, or, indeed, at any price. If a man buys a $1,000 railroad bond, he knows that the railroad, if solvent, will pay him $1,000 in cash when the bond matures, but if he buys a share of railroad stock his only chance of getting his money back, if he should wish it, is that some one else will want to buy his share from him at the price he paid for it or more. ”

“ But if its bonds are to be marketed at heavy discounts and every bond sold is to be accompanied by a gift of stock, as has come to be expected by investors in such enterprises, the traffic will be seriously burdened to pay interest and dividends. ”

“ Bond houses having securities of their own for sale could place them with their clients at prices approved by the Committee of Seven. All purchasers and sellers of bonds, acting as brokers only, were required to file their orders with the Committee of Seven when dealing in unlisted [Pg 50] bonds, and with the Stock Exchange Clearing House when dealing in listed bonds, and these two agencies were empowered to determine minimum prices below which sales could not be made. ”

“ The European financial system is constructed upon discounts as its foundation; the American system is constructed upon bonds and stocks as its foundation. Bank notes in Europe are issued mainly against bullion and discounts; in the United States mainly against bullion and bonds.
The quick assets held by European banks against their deposits consist of discounts or call loans, largely secured by discounts. The quick assets of American banks ... are primarily call loans on stock and bond collateral. ”

“ As a consequence, when interest rates go up, bond prices go down. During this period, speculative stocks are selling at their highest prices; and under the influence of this movement, many stocks that have no actual value sell up at high prices. ”

“ So a case might arise where the stock of a going concern was much depreciated, and where its bonds were likewise below par, and there was lawful authority to issue additional stock and bonds. Now, in such case, the real market value of an equal amount of stock and bonds might not exceed or even equal, the par value of either. ”

“ The Special Committee further rules that sales of bonds on July 30th carry interest at the rate specified in the bond to July 31st, and that between July 31st and August 5th they are 'flat'; interest thereafter to be 6 per cent. ”

“ The four points above touched upon—safety, rate of income, convertibility, and likelihood of improvement in intrinsic value—are all inherent characteristics of every bond. The likelihood of favorable or unfavorable fluctation in market price is largely external in its nature and depends upon general financial and business conditions.
As a class, industrial bonds can not be said to possess much stability of market price. ”

“ As the country grew in size, the large corporations—the railroads, for example—required greater capital in order to provide facilities for the handling of their growing business. It was impossible to provide this capital wholly by means of bond issues without destroying the proportion between bonds and stocks, which alone could give to the bondholders the protection of a substantial equity. ”

“ Only so can the investor take advantage of its appreciation in value. In order for the improvement in security to be reflected in market price and thus add to the principal invested, it is necessary that a bond should possess a fairly active market. For this reason the industrial bonds which hold out the greatest promise of appreciation [73] in value are the larger, more speculative issues, which possess the greatest convertibility. The purchase of such bonds frequently results in substantial profits. ”

“ Except in special cases industrial bonds are not suitable for a business surplus. It is impossible to find an industrial bond which combines all the characteristics necessary for that purpose. The requirements are great safety of principal and interest, a relatively high return, ready convertibility, and stability of market price. Many industrial bonds can be found which combine two of these requirements, some even which combine three, but the full combination, if it exists at all, is unknown to the writer. ”

“ This purpose, this reason of action, has been the perpetuation of the national debt and the increase of its value by bulling the unit of money in which the debt is payable. Wall Street knows that the bonded debt of the United States is the basis, or central fact, in the whole system of bonds and stocks. Wall Street knows that the dollar is the central fact in the bond. ”

“ Let it be supposed that a firm or company has decided to invest $100,000 in the 5-per-cent equipment bonds of a good railroad maturing in three years, which can be obtained at par, merchant's paper then commanding about 51⁄2 per cent. After two years it becomes necessary for the firm to realize on its investment at a time when commercial paper is floated with difficulty on a 61⁄2-per-cent or 7-per-cent basis. Under such money conditions the equipment bonds could be sold on about a 6-per-cent basis, which would mean a price of 99 for a 5-per-cent bond with one year to run. ”

“ Instead of the borrowing power being restricted to a small percentage of the total capital, as in European countries, most of the railway mileage of America has been built with borrowed money, represented by bonds, while stock has been given freely as an inducement to subscribe to the bonds on the theory that the bonds represented the cost of the enterprise, and the stock the prospective profits. ”

“ Were a railroad to double in money value, the result would be, since the money value of the bonds could not increase appreciably, that the money value of the stock would more than double. Stocks are shares in physical wealth the value of which, in money, can fluctuate. Since the money price of bonds is relatively inflexible, that of stocks will fluctuate more than the price of the physical wealth as a whole. ”

“ But every one of us who holds a policy in a life insurance company, or whose house or furniture is insured against fire, or who has a deposit in a bank or savings institution, or who has a national-bank note in his pocket is as much interested in the value of our National bonds and in a certain sense as much a bond holder as the owner of a bond himself; for if the value of the bonds is attacked and impaired the security of your investment goes, to that extent, by the board. ”

“ The bond market furnishes opportunity for investment to quite a different class of people from those interested in stocks. Security, conservatism, and a definite income are the main elements desired. Thus conditions may oftentimes be such that one market or another may be more favorable for absorbing an issue of securities, dependent on conditions in that market as much as on the credit and standing of the issuing corporation. ”

“ But when railway shares and bonds, based upon lines of road which were constructed through the rich regions of the Union lying between the Atlantic and the Mississippi river, came upon the market in large amounts, affording ample security for investment and loans, the great banks of Wall Street were quick to appreciate the advantages of loans made upon such undoubted values, which were at all times convertible into cash on the stock exchange. In times of pressure, commercial paper is an inferior asset for a bank, all of whose obligations are payable on demand. ”

“ AS TO BONDS But after considering the points suggested, the man who has some money may not be able to find a secure and profitable place for it in or near his own home. One of the safest forms of investments is bonds, though, as with other forms of security, the rate of interest declines as the margin of safety increases.
If a well-established stock company should wish for any reason to increase its available cash, it may issue bonds, or certificate of indebtedness, bearing from four to five per cent interest, payable semi-annually. ”

“ When the present system of railway travelling was about to be introduced into Europe, it of course became necessary for Parliament and for His Majesty’s Government seriously to consider and eventually to determine whether these great national thoroughfares should be scientifically formed, regulated, and directed by the State, under a Board competently organized for the purpose, or whether the conveyance of the public should be committed to the inexperienced and self-interested management of an infinite number of Joint-stock Companies. ”

“ Because of the definiteness of the income on bonds and usually the greater security of the principal, bonds may often find a market where stocks would not. On the other hand, if the stock can be marketed as advantageously as the bonds, no definite dividend rate is necessarily attached to them. ”

“ If an increased capitalization has been obtained without an increase in charges, owing to the lowering of the rates of bond interest and to the liberal use of stocks or income bonds, what has been the effect on the market value of the securities concerned? Is the aggregate value of the new securities less or greater than the aggregate value of the securities which they have replaced? ”

“ A very large quantity of 41⁄2, 5 and 6 per cent. bonds are held by banks, by insurance companies, trust companies, savings institutions and in trust for widows and orphans. Thus they form an important part of the securities upon which these institutions are based. They are among their most reliable and most available assets. Probably most of us do not own a United States bond in the world. ”

“ Based upon the foregoing considerations it is of interest to inquire what degree of safety really attaches to the average industrial bond? How far does it meet the foregoing requirements? The question is difficult to answer. Industrial bonds vary greatly in point of safety, some issues possessing great strength and others being highly speculative. No general conclusions can be depended upon, and the investor is forced to consider each issue upon its own merits. ”

“ The persons who want to establish national banks must therefore buy their bonds. They must buy them where bonds are sold, that is in the Eastern markets; and they must buy their bonds with money. Where do they get that money? They take that money out of their home circulation, and the money so taken out of their home circulation they carry to New York. Now see how this operates. For a $1000 bond they have to buy they pay, as 5 per cent. bonds now stand, about $1120 in currency. That sum of $1120 is withdrawn from their home circulation and is added to that of New York. ”

“ Holders of preferred stock have some preferment such as drawing a definite fixed rate of interest while common stock receives no dividends until the interest on the preferred stock is paid.
Corporations may also raise money by selling bonds. These are certificates of indebtedness, bearing a fixed rate of interest, payable at definite fixed periods. Like other [347] bonds they may be either sinking-fund, serial or annuity. Bonds differ from stocks in that their owners have no voice in the affairs of the corporation. ”

“ The bondholder is interested in the absolute regularity of his interest, and in the security that lies behind the principal, and it is to-day the custom of banking houses to consider a bond well secured when, in a territory of reasonably rapid growth, the principal is earning say twice the interest on its bonds, and when the cost of reproduction is in excess of the amount of the bonds, provided that the property is in good physical condition. ”

“ Without referring to by-gone arguments in favour of each of these two systems, and, above all, without offering a word against the decision of Parliament on the subject, we have simply to state that the joint-stock system was adopted, and that accordingly capitalists and speculators of all descriptions—men of substance and men of straw—were authorized at their own cost to create and govern the iron thoroughfares of the greatest commercial country in the world. ”

“ You used the bonds as collateral to buy stock, not as a speculation, but as an investment that would conceal the bonds, and by chance chose Overland Pacific at a low figure and it rose. You thought best to take your profits, and only your greed prevented you from returning the bonds to Rhodes by mail. As we have seen, you had not thought long enough or deeply enough what you would do with your lifetime harvest after you got it in your hands, and suddenly you found yourself out of your depth. You hid the bonds in a jar, just like a foolish old woman. ”

“ But will it not be a Second Injustice to the Annuitants, after so great a Diminution of their Estates, to have Two Thirds of it ingrafted on a precarious Bottom? All Stocks having been suffer'd to divide above the Value of the Nett Produce of their Capital; a sure Way to distress Trade: Especially when Corporations are suffer'd to issue out Bonds, without Trading with the Money, but purely to advance their Stock. ”