As I watched the President's State of the Union address, it was clear that the main priority of his domestic agenda for this second term would be Social Security. Today, rather than concentrating on the merits of the President's plan, I would like to discuss the effect the plan would have on the stock markets, as well as how the markets would in turn affect Social Security.
First, a little background. At the turn of the last century, fewer than 10% of Americans owned stocks. At the end of the century, more than 52% owned stocks. What caused this massive shift in the way people invest?
Most of my readers know that I have actively invested in the markets for over thirty years, and that I have worked as an Investment Banker and a Branch Manager for a national stock brokerage. During that time I wrote an investment newsletter for my firm and studied the markets assiduously.
During my research into market and investor behavior, I found that the first official mutual fund, the Massachusetts Investor's Trust, was created in 1924 (see LINK below). Three investment professionals pooled their funds to start this revolutionary concept in investing. It started with $50,000 and a handful of investors, and grew to $392,000 under management and 200 shareholders within a year. Currently the fund has over $6 Billion in assets.
According to the Investment Company Institute (see LINK below), mutual funds boast over 83 million individual investors, with assets topping $8 Trillion dollars. There are over 10,000 mutual funds in the US alone. That is more than the number of actively traded stocks in this country! And it doesn't count hedge funds, private mutual funds, or the offshore mutual funds that many Americans use.
What does this have to do with Social Security? I believe that mutual funds are the main reason the number of Americans investing in the stock market increased tenfold in less than 100 years. And I believe that the President's proposal that workers under the age of 55 be allowed to invest a small portion of their retirement funds in private investment accounts will have a similar (and perhaps greater) impact on the stocks markets.
Let me explain. Not unlike retail, manufacturing and other segments of our economy, the stock markets are driven by supply and demand. Mutual funds provided an easy way for people to invest in the market. They didn't have to do research on stocks; they trusted the mutual fund managers to do that for them. So money poured into mutual funds.
As the fund managers received millions, then billions to invest, they had to find good stocks to put the money in. There is always a finite number of quality companies, so as the fund managers bid for stocks in those companies, share prices rose. This had the effect of driving the entire market up. If you doubt this, just look at a chart of any major index. Despite the ups and downs that are normal to any market, it will be clear to you that the stock markets have done nothing but rise over the last century. Even the crash of 1929 and less serious crash in 1987 look like blips on the radar when viewed in the context of the overall rise of the markets.
Of course, the markets both reflect the health of our economy and contribute to it. As more and more people entered the markets by investing in mutual funds, more dollars were available to industry and service businesses to expand and innovate. This has increased of Gross Domestic Product (GDP) and allowed millions of Americans to earn more. Savings have increased, and today home ownership is the highest it has ever been in the history of America.
With this in mind, imagine the billions of dollars that will find their way into the stock markets should the Congress allow younger Americans to invest a small portion of their retirement money in the stock market. This could easily have the same revolutionary effect on the markets and our economy that mutual funds have had.
Remember that the return on Social Security dollars has always been around 2%. By contrast, the return on the stock market (using the S & P 500 as a benchmark) is around 11%. Rather than taking away from Social Security, this initiative could actually increase money available to the Fund (more on that in a later article).
What is the likelihood the President's initiative will pass?
A few years ago I would have said it was unlikely. Today, with changing demographics, I think it is likely that it will pass. For one thing, Americans are investing at younger ages. The number of Americans under 35 who own stock rose 64% from between 1989 and 1995, the latest figures I could find. These people understand the stock market (unlike many of the dinosaurs in the Congress) and trust it. They will like the idea of putting part of their retirement money in the markets, and will like the fact that those investments will help the overall markets (which will tend to push their current investments higher).
Also, the Wall Street Journal has become the second highest daily circulation newspaper in the nation, with over two million subscribers. Investors Business Daily has hit 234,000 circulation. Forbes and Fortune are the 9th and 12th highest magazines in advertising revenue. The fact that Americans are studying the markets means that they are less likely to buy the Chicken Little ("The Sky is Falling!") arguments against investing in the stock markets.
I said in my opening that this would not be an article about the merits of Private Investment Accounts, but rather a discussion of the effects such accounts would have on the markets. I hope I have accomplished that goal adequately.
I also hope you will allow me one small observation regarding the concept of Private Investment Accounts. The people who are loudly condemning the concept for political reasons actually benefit from such plans themselves. Like all federal employees, members of Congress have private retirement accounts. They are too good to participate in Social Security along with regular people. They think of themselves as our nation's royalty.
The irony is that they do not pay one cent for their lavish retirement accounts. That's right, you and I foot the entire bill for their retirement! Yet many in Congress want to make this a political issue and deny us the opportunity to use some of our OWN money in a way that would give us a better retirement. I hope you will join me in writing to your senators and representatives and tell them that for once we would like them to do what is best for US, rather than what is best for their reelection aspirations.
The History of Mutual Funds:
Investment Company Institute:
Social Security Reform: