FOUR
THE NEW PROPERTY

90

FROM DEPRESSION TO PROSPERITY

Eighteen ninety-three was the year of the great Columbian Exposition in Chicago, a corporeal celebration of more than sixty years of industrial success. It was also a year of financial panic, a year followed by a long and dismal depression that was then perhaps the worst in the nation’s history. Crop prices were low, hundreds of banks and thousands of businesses failed, railroads continued their slide into bankruptcy and almost four million Americans were out of work. Business retrenched and farmers had to pay off their mortgages or sell their farms. The American gold supply hovered frighteningly close to depletion and a currency crisis ensued, leading the federal government, with significant controversy, to rely upon J. P. Morgan to bail out the nation and restore its gold reserves.

Even if money had been available for investment, there were other reasons for investors to be cautious. The great monetary debate that followed the Civil War was reaching fever pitch with the 1896 presidential contest between William Jennings Bryan and William McKinley. Eastern “gold bugs” had reason to fear that the champions of free coinage and inflation would prevail as Bryan, the Boy Orator of the Platte, gained support across the nation. The market remained lackluster for much of the middle of the decade, except for recurrent destabilizations due to periodic bear raids and Wall Street’s fear of Bryan. Matters were not helped by the approaching war with Spain, and anxious investors remained on the sidelines.¹

But all was not bleak for finance. Eighteen ninety-six brought McKinley’s election and, with it, the likelihood of a continued gold standard. (Sound money was assured with McKinley’s reelection in 1900.) An immediate drop in interest rates followed, freeing up cash. Matters were stirring on the broader economic front as well. As Alexander D. Noyes, perhaps the most prolific financial observer of the time, wrote, the nation was poised “to enter upon a very remarkable chapter in American finance.” This chapter entailed “such reversal of its position by the United States that, instead of the crippled industrial and financial state of 1894, with the country’s principal industries declining, its great corporations drifting into bankruptcy, and its Government forced to borrow on usurious terms from Europe … there was presented, in the short space of half a dozen years, a community whose prosperity had become the wonder of the outside world.” Europeans had reason to fear a flood of American goods that would threaten their own industries and economic well-being. In short, the American economy exploded at the end of the nineteenth century, igniting the chain reaction of corporate combination.²91

The light on the horizon was reflected by gold and grain. World gold production registered modest increases during the 1890s with output 28 percent higher in 1896 than in 1893 and 51 percent higher in 1899 than three years earlier. One result of this dramatic rise was increasing bank gold reserves that expanded their loan capacities. This increased production of gold would not alone have helped the American economy. But America, more than any other nation, received the lion’s share of the new gold. The reason was that America increasingly supplied the world’s grain and other commodities.

World commodity prices generally hit their nadir by around 1896. The American wheat crop that year, while small, had begun to show increased prices, but not enough to affect the overall level of economic well-being. Then came the crops of 1897 and 1898, among the largest ever. Wheat crops in India failed, transforming that nation from a world exporter to a wheat importer. The Russian, French, Austrian and Balkan crops failed too in 1897, dropping European production by at least 30 percent. Europe’s demand for food led to large increases in American exports at very high prices, aided by “wild speculation on the Chicago Board of Trade.” Wheat prices rose about 40 percent between 1897 and 1900. Corn, oats and cotton also boomed, with 1900 cotton prices increasing 32 percent over 1897. Other commodities, like iron, also soared, as the demand for buildings, railroads and industrial equipment that had been suppressed during the depression was released with the new return to prosperity. Iron prices in 1900 were a full 65 percent higher than had prevailed only two and a half years before. The result was a dramatic increase in the nation’s gold reserves.³

The agricultural and commodity boom stimulated business. Newly prosperous farmers bought supplies they had held back on during the years of depression, and businesses began investing not only to build up the necessary inventory but to expand their productive capacities as well. Wages increased toward the end of the century and bank clearings more than doubled between 1894 and 1899, signaling the return to prosperity. War with Spain, when it came in April 1898, lifted employment as the unemployed went to work replacing those who had gone to fight in Cuba. American industrial exports to Europe doubled between 1893 and 1899. Money in circulation reached a peak by early 1900. Capital surplus was high.92

Money was looking for places to go. Ray Stannard Baker noted that, while a boom was brewing on Wall Street, “still there were not stocks enough to supply the demand, and idle capital still sought investment.” Prices of the so-called Granger railroads began to climb, with other railroad stocks increasing along with them, despite the fact that approximately 40 percent of American roads were in receivership. The increase in railroad stocks produced a good year for the market in 1897 and was followed by a boost in the new industrial stocks in 1898 as the economic recovery got seriously under way and the quick victory against Spain inspired American optimism.

Edward Meade, writing at the time, noted that “the people believed that good times and high prices had come to stay, and the national feeling found instant expression in the quotations of securities.” The boom in the market was sporadic at first, with a downturn as the war approached and a shortlived crash in 1899 when the Transvaal declared war on Great Britain. The speculative bubble that had built up, and continued to build as the century turned, burst with the Northern Pacific corner in 1901. But money was still sitting around, waiting to be invested.⁴

THE MODERN MARKET

The modern stock market developed in fits and starts. Most investors generally looked upon buying common stock simply as gambling until well into the second decade of the twentieth century. Andrew Carnegie was no exception. Almost all of the owners who sold their companies into the U.S. Steel trust in 1901 took the risk of being paid with a combination of preferred stock, based mostly on tangible asset value, and watered common stock, based solely on the combination’s anticipated earnings. Not Carnegie. He insisted on his payment of $217.8 million in the form of U.S. Steel first mortgage bonds.

The average investor at the turn of the century avoided common and even preferred stock except during periods of fevered speculation like the spring of 1901, which abruptly ended with the stock market-roiling battle between James Hill and E. H. Harriman for control of the Northern Pacific Railroad. Financial advice columns continually cautioned him (and often her) to stay away from stock. Although the get-rich-quick bug of the merger wave led many to ignore their advice, investment columns typically warned would-be stockholders that the lack of reliable corporate financial information was reason enough to stay away from stock, except for the stock of railroads, for which some form of information was regularly provided. And there was the intrinsically unstable nature of a market in which professionals regularly launched bear raids and other manipulative tactics to move prices to their profit. Finally, the investment columns warned the public of the dangers of watered stock and advised them to keep away from investments that seemed to promise unusually large returns.93

Women investors in particular were advised to look after the conservation of their principal as the best investment strategy and only to invest where they were likely to receive average returns. And if you must buy stock, the papers warned, invest only in stocks with good dividend records, focus on railroads and keep away from industrials. The Wall Street Journal warned investors in 1899 to worry about the safety of their principal rather than their rate of return. “We occasionally receive inquiries as to whether there is any way of telling whether a stock or bond can be regarded as a safe investment. … As a general rule stocks should not be regarded as an investment, because it is optional with the management of a company whether it pays a dividend or not…. Therefore the outside investor should always take bonds instead of stock.”⁵

Investment advice came from all corners of society. Preaching from the pulpit on the Sunday following the Northern Pacific corner, the Reverend Daniel H. Overton of Brooklyn’s Greene Avenue Presbyterian Church cautioned his flock: “The real value of stock in any concern is in its security and in its dividend paying power, the latter, perhaps, being the greater standard.” In any event, buying securities was an activity primarily engaged in by citizens of the Northeast because Southerners and Westerners tended to put their surplus capital into land. But this was changing by 1904.⁶

The wealthy were just like the rest of Americans. The Wall Street Journal reported that even the richest citizens, who had made their fortunes by taking great risks, protected those fortunes by investing in railroad bonds and banks. Those who could not afford to take risks should follow the example of the wealthy and invest safely. Conservative investors were sufficiently skeptical of corporate securities of all types that the New York State Savings Bank Association actively opposed proposed legislation to permit savings banks to invest in “first class” railroad bonds, the most conservative corporate investments the nation had to offer.⁷

Throughout this first stage of the market’s development, the bull market of the merger wave, it remained clear to most knowledgeable people that the stock market was not for everyone. The basic theme of investment advice to ordinary people continued to be to keep their money in savings banks or, if they had to invest, to invest in solid first mortgage bonds. In responding to a letter written in 1900 from “A Poor Man,” a young man who had inquired whether the Times would recommend that he invest his savings in the stock market, the Times’s unequivocal answer was “no.” Stock market speculation was no better than “the races or the faro table.” Concern for principal was the Times’s counsel, as it was the mantra of most investment advice columns. Preserving principal meant, as the Times told the “Poor Man,” putting his money in savings banks, at least until he had money enough that he could afford to lose.94

Caution was thrown to the wind in speculative periods, especially between 1900 and 1901 and again between 1905 and 1907. Among the big losers in the Northern Pacific corner were “people of limited means” who had been drawn into the market by the prospect of quick riches, but they soon returned. Investment advice also blew with the winds of Wall Street. On March 30, 1901, as the speculative bubble was just over a month away from bursting, even the conservative Wall Street Journal tentatively approved of speculation. For years before (and years after) the Joumal preached the sermon of caution quoted above. But now it encouraged speculation, albeit cautiously, at least for those who knew enough about an industry or a company. “Blind speculation is folly, but there is such a thing as intelligent speculation in industrial stocks.”

The advice did not hold. After the market collapsed in May, the Journal turned back to bond investments as the appropriate posture, and did its best to take advantage of its conservatism. In August 1901 its editors wrote rather smugly that “the people at large are giving more thought than ever before to the question of investing their money wisely This is shown in the swelling volume of subscriptions to the Wall Street Journal.” By December 1901 the Journal clearly was back to its old advice; protect principal and accept lower returns.

Very gradually, as one reads the investment advice columns, one sees a slow but increasing chorus touting industrial stocks as appropriate investments. The Journal anticipated this shift as early as 1901, when during the bull market it editorialized that “It is as certain as anything in the future that industrial securities will form the principal medium for speculation in this country.” With the convergence of investment and speculation in common stock ownership at the beginning of the second decade, the entire character of American corporate capitalism began to change.⁸

The end of the merger wave provided a rough lesson for both the new investors and the combinations in which they invested. The giant overcapitalized combinations had assumed that when they needed working capital they could always turn to the short-term credit markets. This proved not to be the case, at least not at reasonable interest rates. New England Cotton Yarn, which had paid a 7 percent dividend, suddenly in need of affordable cash, had to issue a capital call to its stockholders. U.S. Steel stopped dividend payments altogether. More of the new combinations faltered. The highly respected Pennsylvania Railroad had to raise cash in 1903 by publicly issuing stock for a bargain price that was $37 below the market price of its outstanding stock. U.S. Steel tried to float $50 million in bonds. There were no takers. The stock prices of the great combinations tanked.⁹95

John Moody reprinted a 1903 chart from The Wall Street Joumal showing that the hundred largest industrials lost a total market value of almost $1.8 billion from “the high prices of the boom” (which presumably meant 1901) with none of the hundred losing less than $1 million. U.S. Steel common dropped from an aggregate market value of $508.5 million to $216.1 million and its preferred fell from $430 million to $192 million. Stock prices depended on dividends. That was the return investors expected.¹⁰

The market made a quick recovery that would plateau at the beginning of 1906. Small investors may have been hurt, but they had also learned. As early as the months following the Panic of 1907, it appeared that the big bargain hunters on Wall Street were not the rich professionals but the small investors. The New York Times noted that many women were among the bargain hunters, since women “never enter the market until it is at its lowest ebb.” By 1908, turnover on the New York Stock Exchange had dropped to a still very high 100 percent from over 200 percent during several of the preceding years. This suggests, as I will explore in detail in Chapter Eight, that professional speculators were moving aside as smaller investors, who were beginning to buy speculative securities, were becoming more prominent actors in the market.¹¹

What had happened to turn the focus of American business from its production of goods and services to the stock market? Although it will take the rest of this book to answer the question, this chapter describes the foundation of the transformation.

SOCIALIZING THE MARKET

Preserving American Ideals

One of the most important consequences of the rise in American investing during the first decade of the twentieth century was the way that owning stock was treated as creating a new opportunity for the average person to express his or her individualism in American economic life. Sometimes this was expressed by Progressive thinkers trying to make sense of the new society in terms of older ideas. Sometimes it came in the exhortations of conservative businessmen and politicians who were fighting to stave off the challenges of the newly displaced, which showed most clearly in episodic and occasionally bloody labor unrest. Whatever its source or the motivations of the speakers, Americans of all political viewpoints worried that the giant trusts were squeezing out the individual entrepreneur, transforming worker-owners into wage laborers and destroying the very nature of private property upon which American individualism and, with it, American democracy were built. Many saw the threat of creeping socialism and its challenge to private property as quite real. But even as early as the end of the nineteenth century, those who were most concerned with the disappearance of individualism could foresee ways in which the growth of giant corporate combinations created a chance for every American to own a piece of the new America.96

Most Americans, and especially the members of the new middle class, simply were trying to figure out what was happening around them and how to find their places in the new society. Historian Robert Wiebe describes the Progressive Era as a time when “the ambition of the new middle class [was] to fulfill its destiny through bureaucratic means,” noting that the Progressive mind attributed “omnipotence to abstractions.” Richard Hofstadter describes “the central theme” of Progressivism as “the complaint of the unorganized against the consequences of organization.” Either way, the bureaucracy of the corporate world provided a path to professional success, increased wealth and middle-class comfort. And the abstractions of Wall Street, made tangible in the form of stock, provided the individual with a path not only to achieving wealth but also to finding a place in this new America.¹²

What was true of the middle class may have become increasingly true, if on a smaller scale, of wage earners. Despite their uncertain legal status, labor unions began to grow after the Civil War, accelerating through the 1880s before declining and then gaining real strength after the depression of the middle 1890s. The average American worker found his job as a part of the new industrial machinery, and much of his autonomy as a worker absorbed by a labor organization. Whatever individuality the worker previously had in his efforts to make a living was melded into collectivity at both ends.

The United States Industrial Commission expressed concern with the worker’s loss of control over his working life in 1902, observing that democracy and self-governance were only learned by practice, and the man who was accustomed to “absolute submission in industry” carried the consequences of that submissive posture into civic life. There was some reason to seek a solution in the stock market. “The philanthropic hope has not quite disappeared that workingmen will attain a share in their industrial government by becoming stockholders.” But the Industrial Commission had little faith in this possibility, suggesting that organized labor was the only real potential counterbalance for the working man against corporate power and concluding that, “in view of the enormous and increasing size of the units of industrial control, any expectation of an effective participation of wage-earners in the government of the great industries by any method based on their individual ownership of shares of the capital is chimerical.” The Commission undoubtedly was right in its gloomy forecast from a governance perspective. But there was no reason to think that even the wage earner was precluded from individual financial participation in the new collective economic life by means of share ownership.¹³97

Attentive Americans demonstrated a growing understanding that the stock market was the future of America, and with this perception came the belief that the stock market had to be made safe for democracy. Market reforms were needed that demanded the kind of honesty and disclosure necessary to bring small investors like “A Poor Man” into the market. One writer questioned: “Is there not something radically wrong with our system which allows the millionaire to increase his millions by hundreds per cent, while the small capitalist is confined to a trifle of interest from savings banks or investments which are of questionable value?” The writer expressed his hope that honest markets could open up investment in corporate stock to “the workingmen and the general public, furnishing the means for their development.” It was clear that the time had come for the stock market to fulfill the role in urban, corporate America that land had played in the early years of the republic.¹⁴

Many contemporary thinkers, and especially those supportive of the new corporate economy, encouraged stockholding as a reimagining of the Jeffer-sonian ideal. Writing in The American Law Review in 1905, conservative federal judge and trust activist Peter S. Grosscup said that the principal problem with trusts was that they had taken property away from working Americans. While Grosscup spoke and wrote mostly in favor of industrial consolidation, he noted that the American people, raised in a culture of proprietorship, had come to realize that they did not own their businesses any more. This was the real trust problem, he argued. The giant combinations, the new society of organizations, robbed Americans of the kind of entrepreneurial spirit and individualistic impulse they had enjoyed as farmers and small proprietors. The solution for Grosscup was clear. Ordinary Americans should buy stock in the great trusts, restoring ownership to the people. But this could only happen if corporations were honestly capitalized under a federal incorporation law.98

Grosscup extended his argument a year later, addressing not only the problem of the relationship between the individual and corporate property but also the link between stock ownership and civic responsibility. As individuals came to own corporate stock and slowly recaptured the traditional sense of relationship to their property, “corporate ownership more and more will become transactions with people, man with man; and into such relations is breathed always a sense of responsibility, the pride of doing the right thing, a respect for others, and a yearning for that respect that distance cannot command.”¹⁵

Some commentators put the issue in different, but equally traditional, terms. McClure’s Magazine, editorializing in 1908, reimagined Frederick Jackson Turner’s famous thesis of American history, arguing that the old closed physical frontier had been replaced with a new financial one. The McClure’s editors wrote that the new corporate culture presented “a frontier of civilization,” and that it was essential to make investing in securities as safe for the “man of moderate means … as producing farm-land.” Safe investment could only be assured by government regulation, in order “to establish an orderly and safe civilization, where property and enterprise of the individual will be properly protected by the state.” These observers linked the new financial economy to the old frontier, and stock to the land, and they also directly tied stock to the same kind of “property and enterprise” that had been valued and protected in the ideal of Jeffersonian America. Some people even took the connection literally. In 1907, a promoter in Nebraska came up with the idea of incorporating and consolidating farms, using exactly the same techniques used by Morgan in creating U.S. Steel.¹⁶

Replacing Jeffersonian agrarian individualism with stock market individualism came to be a leitmotif of business leaders and can even be seen to have begun to become internalized in the culture. Former comptroller of the currency and later Coolidge vice president, Charles G. Dawes, advising small investors, wrote: “Be self-reliant. Make your own investigation in investments.” While the latter phrase simply was good investment advice, the former echoes the great American philosopher of individualism, Ralph Waldo Emerson.

As early as 1899, The New York Times implied that investing in securities more or less fulfilled the demands of Locke’s labor theory of value. “As soon as a capitalist is willing to be troubled further, as soon as he begins to take a personal interest in his investment, and to give his personal attention to looking after it, he ceases to be a mere capitalist, and his return from his investment becomes, not merely the interest on his money, but also something in the nature of wages for his own services in the way of superintendence.”¹⁷99

The idea that American individualism and the virtue of private property were best served by turning Americans into stockholders had a number of goals behind it. There was the more or less abstract goal of maintaining traditional American values, a Jeffersonian ideal of individualism and self-reliance within the constraints of collective industrial society. Combined with this was the hope that if Americans owned corporate stock they would maintain the kind of stake in society that would help to cure the ills of industrialization, urbanization and labor unrest.

Investment as Civic Obligation

Broad-based stock ownership was seen as a way of building the strength of the American economy and preventing class warfare between labor and capital. Leading businessmen encouraged American investors to take greater financial risks in order to maintain national greatness. Ownership was not just a matter of individualism; it was an obligation of citizenship. Frank Vanderlip, vice president of the National City Bank, gave a speech in October 1904 describing France as “a nation grown rich by thrift, a nation whose economy has become a disease, and in the growth of it all initiative for new accomplishment has been lost.” Millions of Frenchmen held investments, but they invested almost wholly in railroads and state enterprises, the safest sort of investments and not the type to stimulate the growth of a great capitalist economy. The Wall Street Journal, while withholding judgment on France, agreed there was no doubt “that economy in a nation of individuals, as in a single individual, may be carried to such a point that it becomes a disease, turning the careful person by degrees into a miser, and the economical nation into a country incapable of great initiative.”

Although the Journal saw in Americans the “more attractive” trait of prodigality, a trait it nevertheless insisted had to be curbed, it agreed with Vanderlip that American money should be put to work by Americans taking ownership of our great public enterprises. Not only ought we to become a nation of small investors, advised the Journal, but also, as stockholders, we should take an active interest in the companies in which we invest and assert control over the corporation’s management and policies. “Let the people own the stocks and bonds of the corporations, and they become true owners of the country’s wealth.” At that point, traditional values would return and there would be no reason to fear socialism.¹⁸

Widespread stock ownership was the answer. As the Times observed in 1908, “it is clear that the theory and practice of Socialism, as it is ordinarily understood, are not likely to make much headway among the two millions of shareholders or among those indirectly interested who understand their own interests.”¹⁹100

U.S. Steel put a blend of these ideas into practice in 1903 when it approved a “profit-sharing plan” to permit its workers to buy Steel preferred at a price set slightly below the market. (Three years later, steelworkers were complaining that the stock price was too high and declined to invest.) Carnegie criticized the company for encouraging workers to take risks with their wages, but understood the purpose of the plan. Ownership would keep workers happy, productive and away from strikes.²⁰

The more telling social significance of the plan came from the workers themselves. Some union members were concerned that they were compromising their status by buying Steel stock. How could labor betray its class by becoming part of capital? The Amalgamated Association of Iron, Steel, and Tin Workers, perhaps more subtly understanding the opportunity offered by U.S. Steel in the manner characterized by Grosscup and the Times, gave them full permission to participate in the plan. Despite the strong ties of union membership and identification with workers, stock ownership was an individual decision to be made individually. By 1908, 35,000 of Steel’s 165,000 workers had purchased Steel preferred. By the 1920s, the corporate practice of offering employees stock ownership had become reasonably widespread.²¹

Industrialist and former New York mayor Abram Hewitt, in a farsighted speech in 1890 that The New York Times quoted in 1903, argued that “The harmony of capital and labor will be brought about by joint ownership in the instruments of production, and what are called ‘trusts’ merely afford the machinery by which such ownership can be distributed among the workmen.” The Times approved: “Self-reliance, the sturdy striving of every man to do what he could to make himself better off in the world, and a disposition to shun a weak reliance upon co-operative devices and nostrums—these were the qualities which MR. HEWITT admired in a man.” They were to be realized, among other ways, by increasing opportunities for workers directly to invest in American industry.²²

The new stock market could even be seen as a permanent solution to the labor problem by eliminating the troubling wage system. United States Labor Commissioner Carroll D. Wright said in 1903 that the essential problem of the wage system was that it treated labor as a commodity to be disposed of at market prices. But workers had begun to demand an opportunity to attain a “higher standard of life.” The answer, Wright predicted, was that the wage system would disappear. In its place would arise “profit sharing and cooperative plans. The work [sic] people will then acquire the interest of investors, the more capable will rise to their opportunities, and the less worthy will find their level.” The Times disapprovingly described Wright’s vision as “state socialism.”²³101

Stock Ownership—The Antidote to Socialism

Class warfare was one thing. The fear of socialism developing through the ownership of concentrated wealth was another, and the new financial economy was tainted with its touch. Although private rather than public, the increasing concentration of corporate control was worrisome. As the American Bar Association opined in 1903, “If the time ever comes when there is only one or a dozen or a hundred corporations controlling the industries of this great land, and having their directors and managers elected by the stockholders, it will be but a very easy step to legislate that those directors and managers shall be elected by the people.”²⁴

Substantial institutional ownership of securities created its own kind of socialist anxiety. National banks, disregarding the spirit and sometimes the letter of the law, were big investors, and so were insurance companies. But savings banks had also started to acquire large stakes in corporate America. In 1898, New York passed a law permitting savings banks to invest in first-class mortgage bonds issued by railroads that had paid dividends on their common stock consistently for at least ten years. By February 1904, the same class of securities could be used as collateral for government deposits in national banks. By the spring of that year, savings banks owned over $2 billion of securities as investments and held another $350 million as collateral for loans. Insurance companies owned around $2.25 billion in securities as the laws restricting their investments were liberalized in the early years of the new century to permit investment in corporate securities. And these figures do not account for increasing securities ownership by national banks and trust companies as well. Concentrated wealth was becoming a problem in the capital markets as it was in American industry. Business managers were hardly irrational in their concern over the kind of concentrated ownership that could lead to government privatization and socialism.²⁵

One report noted in 1905 that “It would be possible to show that practically the entire trust power of the United States, which has been estimated at $20,000,000,000, or one-fifth of the total wealth of the country, is under the direct control of about fifty or sixty men, controlling the policies of the railroads, the leading industries and the leading banks, with influential connections in the chief money markets in Europe.” This particular study argued that, despite this concentration of industrial control, these men could not control American capital markets because of the overwhelming power of international markets. But the concern with concentration to which it was responding is hard to miss. It would come to fruition in the Money Trust hearings of 1912 and 1g13.²⁶102

Business leaders, in turn, were worried about the more immediate possibility of direct state ownership of corporate America through the currency system. The fact that the federal government now allowed banks to use railroad bonds as collateral for government deposits created the specter that it would come to own industry. The way this could happen in the ordinary course of banking was simple. Government guaranteed the bank notes secured by these bonds. If the notes defaulted and the government foreclosed on the bonds, corporate, or at least railroad, ownership gradually would transfer to the federal government. The Treasury Department had opened the door to this possibility and the conservative voice of The Wall Street Journal called upon it to stop.²⁷

The shifting nature of institutional investing also posed the threat of intrusive federal business regulation. The types of securities banks and trust companies invested in changed, as it did for other Americans, through the first three decades of the century from bonds to preferred stock to common stock. The transition was incremental. The earlier forms of investment did not disappear. Instead, the new form of investments became increasingly popular, and this was especially the case with common stock. The move from bonds to stocks linked the performance of the banking sector, and thus the money supply and the nation’s entire economy, to the performance of the stock markets. National banks slipped around the restrictions imposed by the National Banking Act and set up their own investment affiliates, typically as separate corporations, which they then might spin off to their shareholders. The separation theoretically shielded bank deposits, but underwritings and margin loans funded by bank affiliates from their parents like National City Bank and First National Bank did not, exposing the banks’ cash reserves and depositors to the threat of loss.

Trust companies were not authorized to act as banks, but, taking advantage of a legal loophole, nonetheless found a way to become heavily involved in the banking business, accepting deposits and making loans without being subjected to the cash reserve requirements of national and state banks. They had much wider investment discretion than banks and used that discretion to trade heavily in securities.

The threat these investment practices posed to the integrity of the national banking system was first realized in the October Panic of 1907, with several major trust companies failing and the rest draining down reserves to keep themselves afloat. Many sound institutions found themselves faced with runs by anxious depositors. It took all of the power of Morgan and the cooperation of a compliant federal government to hold the system back from collapse. Among the results were a major investigation into speculation and the first significant public calls for securities regulation.²⁸103

The Ownership Society

Americans were investors, or at least were well along the way in the decades-long process of becoming so. Although I will refine the numbers in Chapter Eight, a preliminary perspective is helpful. Estimates of American shareholdings are wide-ranging. One study concluded that at least 10 percent of Americans in 1904 were investors, almost all through savings banks and insurance companies. Another estimated that only half a million Americans directly owned stock in 1900, approximately 0.625 percent of the population of 80 million. The New York Times estimated ownership by two million people in 1908, although by its own admission it almost certainly overstated the number because the Times included the shareholders of each corporation without factoring in the likelihood that most stockholders owned stock in multiple corporations. (The Times also failed to distinguish between individual owners and institutional owners.) One of the more widely accepted estimates was provided in 1924 by H. T. Warshow. Although also a flawed study, which he was quick to admit, he estimated 4.4 million shareholders in 1900 growing to 14.4 million in 1922. The 1922 number seems plausible, and in considering the 1900 number one must take into account that, despite a fall in the market, 1900 was in the middle of the merger wave bull market. Leaving absolute numbers aside, Warshow’s study is particularly noteworthy for his evidence demonstrating that the distribution of stock among the middle class dramatically increased between 1917 and 1920. More than 53 percent of all dividends paid in 1923 went to people with incomes below $20,000. The largest proportional increase came in the $1,000 to $5,000 annual income category ($11,800 to $59,000 in 2006 dollars).

While all of these estimates suggest that only a relatively small percentage of the population directly owned securities, the market was increasingly important in politics, economics and society. Widespread stock ownership could serve as an antidote both to class warfare and to the increasingly bureaucratic corporate economy’s effect on individual initiative, independence and enterprise—the traditional American values that would become the leitmotif of Woodrow Wilson’s first presidential campaign in 1912. Americans increasingly found that the most meaningful opportunities to exercise their economic individualism lay in the stock market. By the century’s second decade, stock manipulators, bear raiders and plungers had become the nation’s heroes.²⁹104

America had changed. People tried to hold on to the founding values in the face of the new economic realities, but the gradual acceptance of common stock as the new property slowly transformed the grounded ideology of the land into the more ephemeral promise of future profits. These new values found expression in the stock market. Conservative voices tried to root the new property in the old, but the stock market had a force of its own.

SPECULATION—A MATTER OF KNOWLEDGE

• Ballade of the Sure Thing
  Why should you capital invest
  And draw a paltry 5 per cent?
  We here and now invite a test—
  You try us and you won’t repent.
  Directors all are prominent,
  With probity they fairly ooze.
  It isn’t an experiment,
  We guarantee you cannot lose.
  
  Our methods are the very best—
  Conservative, intelligent—
  We’ll feather anybody’s nest,
  Tho some concerns are pestilent,
  More privateers with pirate crews.
  Our own is vastly different.
  We guarantee you cannot lose.
  
  Your capital—we do not jest—
  We’ll double. Nothing can prevent
  Its doubling. It is manifest,
  To this our energies are bent,
  Your money will be wisely spent,
  For to success we hold the clews.
  There cannot be an accident,
  We guarantee you cannot lose.³⁰

As Americans moved from bonds to common stock over the first decade of the twentieth century, the conservative investment advice of the early years gave way to an increasing popular interest in speculation. Speculation for the average investor did not mean investing for price appreciation as it would after the war. Before the war almost everyone but professional speculators invested for dividends. But securities considered to qualify as investments were those with reliable and regular returns and thus a steady value, like the stock of the Pennsylvania Railroad. Speculative securities were those in which the probability of constant dividends was more tentative and their value more volatile, with higher promised dividend rates to compensate for the increased risk. Even so, while dividends were the expected fruits of stock ownership, investors were also keenly aware of the possibility of price appreciation, as the often jagged ups and downs of the early market clearly showed.105

Edward Meade identified two different kinds of securities buyer and two kinds of securities. As to buyers Meade wrote, “the investor buys after making a judgment of value based on the demonstrated earning power of the property. The speculator buys a prospect; he seeks to control a property the value of which is destined to fluctuate wildly.” He distinguished the types of securities by contrasting the Pennsylvania Railroad with “the Lucky Chance Oil Company of West Virginia.” The former had existed for enough time to allow the investor to make a considered judgment of its earning power. The latter had not. Putting it differently, he classified as investment securities those “whose value is certain because based on known conditions, and those whose value is uncertain, and therefore speculative.”³¹

Meade was somewhat unusual for financial writers at the turn of the century, not only, as we have seen, for his embrace of capitalizing earnings, but also, and relatedly, because he was willing to classify at least some stocks as investment grade. (Meade used the term “stock” without qualification, but his valuation theory would suggest that he probably considered the common stock as well as the preferred stock of well-established companies to be investment grade as, for example, when he wrote about the Pennsylvania.) Nonetheless, even Meade keyed his understanding of investment to safety of principal. “The investor will not buy a security whose value is in any way doubtful. He demands in a stock or bond, before anything else, the virtue of stable value. He must be reasonably sure that his principal is safe.” The only way that an investor could have this assurance would be to put his money in reputable bonds or, if he were willing to tolerate some risk, high-grade preferred stock.³²

Meade maintained this somewhat schizophrenic advice as the second decade began. Writing a five-part series of articles in Lippincott’s Monthly Magazine in late 1911 and early 1912 at a time when the market had stagnated, he maintained that ordinary investors had no chance to win by speculating on Wall Street, especially on margin. He held to his argument that ordinary investors should buy bonds instead of stock.106

At the same time, Meade did repeat his earlier position that stock could be an acceptable investment, but he favored railroad stocks rather than industrials. Finally, he noted two instances where an ordinary investor could profit by speculating in stock on margin—either by purchasing convertible bonds or by buying stock on the increasingly popular installment plan. Neither of these devices were conventional margin buying, but they operated on a similar financial principle and the investor’s downside was more limited.³³

Investing itself was not especially easy. You had to know something about the company in which you were investing to be as certain about the security of your principal as Meade and the other investment columnists of the early years suggested you should be. And that was a significant challenge.

Our Business Is Our Business

Looking at financial statements might have been a good idea if you could have found them in the first place and if they would have told you something useful. The absence of disclosure was, to say the least, a problem, one recognized by the Industrial Commission, the Bureau of Corporations and almost every leading economist and policymaker. The absence of disclosure was the result of two problems: the unwillingness of corporate owners and managers to disclose financial information at all, and the primitive state of financial accounting.³⁴

The average American’s lack of access to corporate financial information was one of the biggest barriers to stock investments, although basic balance sheets and earnings reports of some corporations regularly appeared in the pages of the Commercial & Financial Chronicle.³⁵

Those who controlled public corporations saw little benefit in disclosure. Businessmen prized secrecy for a variety of reasons, not the least of which was to hide information from competitors and regulators. In his letter to the stockholders of Westinghouse Electric and Manufacturing Company, in its 1901 Report of the Board of Directors, George Westinghouse explained the absence of reports since 1897, noting that “if some should be surprised that more complete statements have not been previously submitted to them, it can only be said that the Directors, as well as the stockholders who own the largest amounts of stock, have believed that in view of the existing keen competition and the general attitude toward industrial enterprises, the interests of all would be served by avoiding, to as great an extent possible, giving undue publicity to the affairs of the Company.” Westinghouse’s next annual report was distributed in 1906.³⁶107

A deeply held belief in the sanctity of private property also led some businessmen to a fundamental conviction that nobody but management was entitled to information. One of the principal spokesmen for this view was John Dos Passos.

Testifying before the U.S. Industrial Commission in 1899, Dos Passos argued, with justification, that the purpose of the trust form of combination itself was to maintain secrecy. His client Henry O. Havemeyer was perhaps the leading proponent of the policy of corporate secrecy, as the Sugar King revealed in his famous 1899 testimony before the Industrial Commission: “Let the buyer beware; that covers the whole business [of selling stock]. You cannot wet-nurse people from the time they are born until the day they die. They have got to wade in and get stuck and that is the way men are educated and cultivated.” While Havemeyer was perhaps more frank than most, his attitude was commonly shared. Even some serious scholars agreed. In 1903, The Wall Street Joumal took issue with Yale professor J. Pease Norton, who argued that the “private information of the entrepreneur … [is] in the nature of patent rights and not so useful to the public that does not understand it.”³⁷

The need for disclosure in various forms seemed the only point of consensus among many of the experts testifying before the Commission. Although Dos Passos opposed mandatory disclosure as staunchly as he opposed all federal regulation, he gave testimony that squarely illustrated its necessity:

A trust was not a novel proposition when it was introduced into dealings in corporations shares. It was the application of an old principle of law to new conditions. The object of it was this: To keep people who had no business to know from knowing the secrets of that trust. That is the object of a trust (a perfectly innocent and a perfectly laudable object, in my estimation). If they had formed one corporation and put the six constituent companies into one corporate body, it would have been heralded to the world, and the world would have had the right to go into the county clerk’s office, or the office of some other officer entitled and authorized to receive those papers, and to look at them…. The object of the creation of the trust was to avoid that publicity.

In questioning later in his testimony, Dos Passos did concede that one circumstance justified publicity. He agreed that publicizing the cost of a corporation’s assets to its existing stockholders would let them assess the future value of the stock. But he stopped short of supporting disclosure to potential stockholders, or anyone else for that matter. Existing stockholders were already part of the corporation—they were entitled to financial information because the corporation was their business. But it was nobody else’s business, even if they wanted to buy stock in the company, for, “no man need buy a stock if he doesn’t want to.”³⁸108

The Commissioners saw publicity as an important key to dealing with the corporations problem. But publicity in this early stage was not principally about investor protection. While Dos Passos and Havemeyer spoke of publicity to stockholders the Commission was, as I will later explain, far more focused on publicity to regulators and the way that publicity would reveal monopoly power.

Disclosure was rarely required, even in the face of businessmen’s intransigence. Railroads were relatively early practitioners of regular financial disclosure, partly because of their traditional reliance on debt and foreign money and partly because they had to report to the Interstate Commerce Commission. Other regulated corporations like banks, insurance companies and public utilities tended to disclose as well. But, as Alfred Chandler noted, the railroads had largely developed their accounting for internal needs, not financing needs, so the information was of limited use to investors. And even these reports could be sporadic and incomprehensible.³⁹

State laws generally did not require significant corporate financial reporting, either to the state itself (which treated even the small amount of disclosed information as confidential between the state and the corporation) or to stockholders. Twenty-seven states required some kind of the former by 1900; almost half the states required some form of the latter. But the form and content of financial reporting were rarely specified. Some ambiguous form of balance sheet was the most common requirement. Profit and loss statements were not required and were rarely voluntarily disclosed. The primitive state of the accounting profession and the lack of agreement on standards and principles also meant that the form and content of reports that were made varied widely across corporations and even year to year within the same corporation. Corporation laws typically did not require management to mail reports to shareholders. The only way a shareholder could be sure of getting a copy was by attending the corporation’s annual meeting.⁴⁰

The New York Stock Exchange was the principal authority that actually demanded financial disclosure, at least in theory, during this period of stock market development that lasted until the New Deal. Its listing requirements had required companies to file an annual report of some kind in addition to financial disclosure as part of the listing application since 1866. But most companies ignored the annual reporting requirement and the Exchange rarely enforced it. It was only with the Kansas City Gas Company’s 1897 announcement that it intended to report profits at least semiannually that a listed company fully complied. The willful noncompliance of listed companies, together with the NYSE’s lack of enthusiasm in enforcing the rule, had led the Exchange to create an unlisted securities department in 1885. That is where Havemeyer’s company and many other industrials traded, marked only by an asterisk next to their quotations to indicate their unlisted status. (The unlisted department was eliminated in 1910 in the face of regulatory threats following the Panic of 1907.)⁴¹109

But a market for financial information was beginning to develop along with Americans’ broadening participation in the stock market. Alexander Noyes noted that, by 1899, newspapers had regularly begun to publish weekend financial articles reviewing the week’s activities and, indeed, a review of the evidence suggests that these columns were starting to appear as early as 1890. These reviews “concerned themselves all but exclusively with the Stock Exchange. They rarely discussed agricultural events or incidents of politics or problems of manufacture.” They rarely discussed business itself, although there were exceptions like Barron’s The Boston News Bureau, which proclaimed itself as published for the benefit of public shareholders. The perennial topic of discussion was not business but the performance of the markets. Gradually the markets became the centerpiece of American corporate capitalism.⁴²

Misleading Disclosure

Despite small advances in disclosure, the Kansas City Gas Company was unusual. Profit and loss disclosure was virtually absent, even for companies listed on the NYSE, and alternative sources of financial information—the Commercial & Financial Chronicle, investment columns and market reports in newspapers, The Wall Street Journal starting in 1889, John Moody’s manuals beginning in 1900, and the like—were hardly a substitute for corporate financial reporting. The creation of the first professional school for financial accountants at New York University in 1900 was a good sign, but its fruits were still in the future.⁴³

While there was a paucity of formal corporate disclosure, misleading disclosure was abundant. It was common for corporate promoters to manipulate financial reporters, and many reporters were only too happy to supplement their incomes by obliging. The appearance of “tipster reports” and corporate advertisements of their securities hardly constituted the kind of financial reporting that would help legislators, regulators, or investors. The Wall Street Journal itself, although a bit self-serving, blamed much of the misinformation on “the general newspaper” (in contrast to the financial newspaper), “and especially that deplorable kind which endeavors to give its readers an exaggerated idea of their own intelligence by offering them pseudo-scientifics in a popular form, which sins against the light.” Pseudo-scientifics were not even necessary. Some newspapers obliged by sprinkling brokers’ ads written to appear as articles throughout the news, with no differentiation in type. To a 1900 reader of The Portsmouth (N.H.) Herald, it would have seemed that the paper itself was reporting that “Seldom, if ever, in the history of our country was there ever seen such an opportunity for securing bargains and making money,” and noting that the “remarkably correct Reports” of Wm. Committ Cone & Co. of Broad Street had made that firm “most popular.”110

The real news could be enticing, too. Papers frequently described the successes of those who had gotten rich quick. Alexander Noyes reported that during the speculative bubble of 1901 and the brief bull market leading to the Rich Man’s Panic of 1903, newspapers were “full of stories of hotel waiters, clerks in business offices, even doorkeepers and dressmakers, who had won considerable fortunes in their speculations.” Advertisements for securities with outlandishly high returns were commonplace, as were ads for books like one that appeared in 1902 in the Des Moines Daily Reader, How to Speculate in Wall Street. Information, such as it was in the popular press, was highly questionable. Some of it was paid for by investment banks and brokerage houses to educate investors as to the different kinds of investment instruments, but the amount of paid advertising to hawk specific securities generally exploded from the beginning of the century on.⁴⁴

Meade, claiming to draw upon “a large number of prospectuses” but without disclosing names “out of respect for the feelings of those directly interested,” gave a wicked account of the typical stock promotion. This included a depiction by the promoter of “enormous wealth” when in reality all that existed was “a flat plain, a precipitous mountain, or a prospect of monopoly profits.” Then came “a mass of expert testimony of this or that ‘professor’ whose wealth of technical detail is most convincing” with respect to a new feature of the business—technology, resources, or organization. Maps and charts, “strongly worded testimonials” of well-known businessmen or politicians advising investors to “‘provide for the children’ by investing a few dollars” in the project, and the like, rounded out the promotional materials, along with the complete and certain assurance of large dividends. The widespread circulation and success of this kind of promotion led one writer to note that more information would not make a difference, at least to Chicago’s “incorrigible investors,” who were happy to be suckered into any scheme to “get rich quick,” regardless of the quality of information.⁴⁵111

The Morganization of Disclosure

There were significant exceptions to the policies of nondisclosure and false disclosure. General Electric’s annual reports from 1893 on are remarkable for their detail and thoroughness as well as their narrative reports and precise auditor’s opinions. Historians of accounting also mark U.S. Steel’s first annual report for 1902 as a watershed event, as much for the fact that it was voluntary as for its completeness, although it was not nearly as elaborate as General Electric’s. The American Telephone and Telegraph report, after Morgan became involved with the company in 1906, is also noteworthy. These reports do present carefully detailed and comprehensible information that would be useful to anybody interested in the companies’ financial positions. But it is significant to note that these were Morgan corporations, and the House of Morgan was well known for its integrity in protecting the investors to whom it sold mostly bonds by appointing directors and keeping a close watch over its companies. Morgan’s entire success was based on reputation, which was only enhanced by his companies’ financial reporting.

There were other exceptions. The United Fruit Company Reports of the early century are unaudited but a model of corporate reporting of the time, including financial statements and detailed narrative descriptions of the assets and conduct of the business. But statements of this depth, even with differences in reporting detail and styles, were rare. For example, International Paper’s annual reports consisted of a terse one-page balance sheet and one-page income statement, although the reports were audited. Not every corporation was even this committed to disclosure. And most companies that did seem more open to informing investors rarely disclosed anything meaningful.⁴⁶

The best any historian of accounting can say about corporate disclosure in general is that some corporations did disclose, although very few provided anything like the Morgan companies, and what they provided they provided sporadically. Ripley, looking back in 1932 at a time when, he vehemently argued, disclosure still remained inadequate, recounted a history of this early period in which disclosure was rare, a position consistent with that he had taken in 1905.⁴⁷

The Infancy of Accountancy

The state of American accounting was highly underdeveloped, especially when compared with that of Britain, where the institute of chartered accountants had been royally chartered in 1880 and the British Companies Act of 1900 demanded extensive and detailed disclosure. Internal accounting was important to the management of increasingly large and far-flung businesses as well as to investors and government. But this did not lead to the kind of accounting that the British profession had created.112

What is clear is that balance sheet disclosure long preceded income statement disclosure as a regular practice. It is also clear that even though a number of nineteenth-century accounting books were published, the accounting profession was beginning to organize and accounting education was developing, there was nothing resembling agreement on accounting techniques or generally accepted accounting principles. A comparison of the two Morgan-backed Steel and Harvester reports, both of which are accompanied by early forms of auditors’ certificates, shows very different accounting and presentation practices. Even as late as the passage of the New Deal securities acts, observers reported significant deficiencies in accounting practice. So while scholarly debate about the level and sophistication of disclosure during this period does exist, it seems beyond question that very little that would help the ordinary shareholder or regulator was readily available.⁴⁸

The absence of reliable information turned almost all investment into speculation as ordinary Americans were beginning to enter the market in significant numbers. Perhaps the best an investor could have done would have been to look at a corporation’s interest payment record and its dividend history as a proxy for investment safety. There was no guarantee, of course, that the past would predict the future, but at least in nonspeculative periods this information would give the investor something to work with. Business remained recalcitrant. Regulation was needed. But the federal government was, at the time, consumed by a different regulatory agenda.⁴⁹