Shareholder activism can contribute towards political stability

In the blog-post titled The Hedge fund strategy of the future, I stated that the 'agency-gap' increases greatly in times of rapid technological (and political) transformation. Otherwise stated: In times of great technological (and political) progress, there is great divergence between the interests of shareholders and management of a corporation.

...Shareholder activism

Shareholders are increasingly engaging in public battles (agitating for change) with management of the corporations they own. When they engage in these 'battles', they chiefly aim to reduce the agency-gap (re-aligning the interests of management with theirs); this is known as shareholder activism.

Shareholder activism usually has a positive effect on the health corporations, through transforming a corporation's:

• Capital Structure (Debt to Equity mix)
• Board composition
• Dividend policy
• Strategic direction

...Shareholder activism; a catalyst for social change and political stability

Note to reader: refer to the last section of this post for a diagrammatic illustration of how shareholder activism can contribute towards greater political stability

My hypothesis: I believe that shareholder activism can have a transformative effect--when it reaches its point of critical mass--on a nation as a whole (especially in infant democracies and nations evolving into open societies), and, can contribute towards greater political stability through:

• Reducing corporate waste and inefficiency, thereby contributing towards a more efficient allocation of national resources. This reduces the likelihood of political conflicts developing.
  
• Stimulating debate (in general). This encourages freedom of thought and allows for diverse views to be aired; which contributes towards greater societal openness (& also increases a nation's social capital). An increase in social capital makes a nation more prosperous. How so?
  

Let me explain how: In his essay titled Creating Value, Michael Milken states that the level of prosperity in any society depends on the leveraging effect of financial technology on the sum of human capital, social capital and real assets.

Mathematically this can be expressed as;

Which reads 'Prosperity is equal to the aggregate total of all financial technologies multiplied by the total sum of; human capital, social capital, and real assets'

Where:

• 'P' stands for prosperity
  
• 'Ft' stands for financial technology
  
• 'HC' stands for human capital
  
• 'SC' stands for social capital
  
• 'RA' stands for real assets

From the equation, you can see that there is a direct positive relationship between a nation's social capital and a nation's level of prosperity. Therefore an increase in Social Capital, 'SC' in the equation (brought about by shareholder activism) would bring about an increase of a nation's level of prosperity.

...Moving on:

I believe that there is a symbiotic relationship between inefficiency in the private sector and public sector inefficiency.

Activist shareholders aim to increase private sector efficiency, and, their actions--when they reach their point of critical mass--may indirectly reduce public sector inefficiency.

When private sector inefficiencies are sufficiently eradicated, the public sector is forced to increase its efficiency.

This begs an interesting question: At what point does private-sector shareholder activism start to have an influence on public-sector efficiency? I'm not sure about the answer, but there is a little theory I have about its point of critical mass:

I believe that the point of critical mass--i.e when shareholder activism begins to have a transformative effect on a society--occurs when shareholder activism has a financial effect that sums to at least 5% of a nation's entire stock market capitalization (by 'financial effect' I mean the financial changes activism causes e.g; Stock value changes, Cost savings and Profitability changes caused by shareholder activism).

...Moving on

In this blog-post I'm going to use 'The J-Curve', an analytical tool developed by Ian Bremmer (of The Eurasia Group), to illustrate how shareholder activism can contribute towards greater political stability in infant democracies.

To explain what 'The J-Curve is:

Explanation taken from The J-Curve Book press release:

"If you take a cross section of nations and measure each one’s stability in relation to its political and economic openness to the outside world, and then plot the resulting data points on a graph, the result is a curve shaped like a J. Nations to the left of the dip in the J are less open; nations to the right are more open. Nations higher on the graph are more stable; those that are lower are less stable. Movement from left to right along the J curve demonstrates that a country that is stable because it is closed must go through a period of instability as it opens to the outside world."

...Explanation of the diagram above:

Please note: The diagram above generally assumes that shareholder activism increases political stability.

In the diagram above, the normal trajectory a nation would follow as its openness increases--i.e without shareholder activism--is represented by the navy blue J-curve. The yellow J-curve represents the trajectory a nation would follow in the presence of shareholder activism (which has a financial effect that sums to at least 5% of a nation's entire stock market capitalization). The section of the navy blue J-curve between point c and point a illustrates that the nation initially becomes unstable, as it 'opens-up'--economically) and socially--to the outside world. The nation reaches its lowest level of stability at point a on the navy blue J-curve.

At point a shareholder activism gains critical mass, when the nation's level of openness is O1. The nation then takes the yellow trajectory (on the yellow J-curve) between points a and b (instead of the navy blue trajectory--on the navy blue J-curve--between points a and b). The gradient of the yellow trajectory between point a and point b is steeper; illustrating that the nation gets more stability per input unit of openness (when there is critical mass shareholder activism). This illustrates the positive transformative effect shareholder activism can have on a nation's level political stability.

To measure the effect one would have to:

1. Measure the gradient between points a and b on the navy blue J-curve;
   
2. Measure the gradient between points a and b on the yellow J-curve;
3. Find the difference between the two gradients and express it as a percentage of the gradient of the navy-blue trajectory between points a and b.

The greater the percentage change, the greater the tansformative effect of shareholder activism!

The Hedge-fund strategy of the future

In the blog post titled: Get Ready for the most turbulent market period you'll ever see! , I used Ray Kurzweil's abstraction of Moore's Law to explain how exponential technological progress, would cause 'strange' behaviors in financial markets (How? Answer: by accelerating information flow and the informational efficiency of financial markets).

...Moving on

The key prediction made by Kurzweil in his abstraction of Moore's Law: there will be more technological breakthroughs in the next 20 years, than in the entire 20th century. This naturally implies that there is an accelerating pace of change in the global environment (spearheaded by exponential technological progress).

...The Agency Dilemma

In his paper series on Agency Costs, Michael Jensen stated that the 'agency-gap' increases greatly in times of rapid technological (and political) transformation. Otherwise stated: In times of great technological progress, there is great divergence between the interests of shareholders and management.

Given the observed exponentially increasing pace of technological change; it is safe to assume that there will be many listed firms with increasing divergence between shareholders' and management's interests.

It is this misalignment of interests that will make a certain hedge-fund strategy the most profitable (and relevant) strategy within the next two decades.

But before we explore the strategy; what are the interests of shareholders & what are the interests of managers?

• Shareholders: Generally want to see growth of their investment; growth of dividends, profits, cash-flows and share-price. In short, shareholders seek value, regardless of firm size.
  
• Management: Generally have incentives to cause their firms to grow beyond the optimal size. According to Michael Jensen: 'Growth increases managers’ power by increasing the resources under their control. It is also associated with increases in managers’ compensation, because changes in compensation are positively related to the growth in sales'. Managers generally use the firm as a tool for self-aggrandizement, and in most instances, this compromises the welfare of the firm (if left unchecked).
  

...Which hedge fund strategy? Answer: short-selling the stock of firms that have a great divergence between shareholders' and management's interests.

How do you identify these firms? Answer; stay tuned, I'll disclose the details in bits and pieces found in future posts. :-)

And you thought that fund managers were the bad guys....

If the SEC is serious about regulating financial markets to stamp out illegal activities, it must first start by exploring the influence of the following (on activities in financial markets):

• Elite financial media editorial policy.
  
• Elite financial media ownership structures .

Particular focus should be paid to how the elite financial media shapes investor appetite for stocks and financial instruments.

Most of the answers they are looking for will be revealed by that investigation.

Any regulatory thrust that ignores the elite financial media--and how it shapes activities in financial markets--will be futile; as it merely addresses the superficial (not the underlying driving factors) .

The financial media plays a great role in financial markets: it facilitates the flow of information (on which investment decisions are based)... But the prevailing security/investment legislation fails to FULLY encourage the media to use its position of power responsibly (i.e with total impartiality and total objectivity).

The great power (of the elite financial media) has to be balanced with great responsibility and accountability (through legislative machinery)!

Gold Supply may be boosted within the next 50 years; by an unlikely phenomenon

Which unlikely phenomenon? Answer: Global warming (seriously)!

The connection between Global warming and increased supply of gold (and falling gold prices; assuming constant gold demand) is not immediately obvious and takes a bit of explaining to illuminate:

Scientists have observed a steady increase in the average temperature of the Earth's near-surface air and oceans, since the mid-twentieth century.

They projected the continuation of this trend, and, have cited anthropogenic factors as the chief catalyst (of this trend).

According to IPCC estimates, average global surface temperatures have the likelihood of rising a further 1.1 to 6.4 °C (2.0 to 11.5 °F) during the twenty-first century.

The possible adverse effects of this increase in global surface temperatures include:

• Changes in agricultural yields (because of climate change; especially the changes of rainfall patterns).
• Changes (which may be sub-optimum) in transportation routes, in response to climatically influenced terrain changes.
  
• Extinction of flora and fauna species; as a direct result of climatic changes
  
• An increase in disease vectors.
• Glacier retreat which may boost gold supply (within the next 50 years):

Before exploring how glacier retreat would result in the increased supply of gold over the next 50 years, one would need to know what glaciers are:

Glaciers are huge masses of ice that float (at slow speeds) over landmasses. They are formed from compacted snow; in regions where snow accumulation exceeds melting and sublimation. Ice glaciers cover 11% of the world's landmass, with 99% of them being located in Antarctica and Greenland.

...So what do glaciers have to do with gold:

Glaciers usually have gold deposits that are trapped within (& underneath) them.

When glaciers melt, they gouge out and transport the mineral material within (& underneath) them. This process leaves behind gold deposits, which are then transported to low-lying areas by massive ice sheets.

...Moving on:

During the last 20 years of the 20th century, a significant increase in global warming led to glacier retreat becoming increasingly rapid and ubiquitous. This statement implies that the rate of glacier retreat is positively correlated to the rate of global surface temperature change.

Mathematically expressed:

Rgr = k.dt

Where:

• Rgr : is the rate of glacier retreat
• k : is a constant
• dt : is the rate of global surface temperature change
  

Glacier retreat will increase RAPIDLY during the 21st century; since global warming is set to increase at an even more (than its rate in the 20th century) rapid rate during the 21st century This means that a lot of gold that is trapped within (& underneath) glaciers will be released onto low lying areas and into river basins: which are relatively easily accessible.

This may cause an increase in the supply of gold over the next 50 years.

By what quantities? It is impossible to tell at this stage--but the rate of increase (of gold supply) will be high. Whether the supply alters prices or not: is largely dependent on how the demand for gold evolves during that period.

What does 'Chirinda' mean??

Below is a story that will give you a bit of background on the origins of my last name. It was told by my grandfather, who's known to exaggerate (he doesn't lie though)... So expect an exaggeration factor of between 30-50% i.e. half of this story is a product of the delusions of a 91 yr old man (i.e. BS).

I've heard this story since I was 5 and I now know which bits are true and the ones that have been 'added on'.

This story was written for my personal records (exactly as it was told), but I saw no harm in sharing it (You can read this while I finish crystallizing my thoughts on: The path we'll take towards a technological singularity and how venture capitalists can identify the great opportunities that will come with it) :

"Chi-rinda", is derived from the Shona language (Zimbabwe). It's a phrase that a certain man called Gwangwava used often, which meant: "watch over me". The name has been around since the early 19th century.

According to Shadrech Chirinda (my grandfather), Gwangwava used to live in the geographical region that was close to the Zambezi river; in the country that is now Zambia. He was the youngest son of a powerful chief that lived in the region during the late 18th century.

... A young ambitious man

Gwangwava had the gift of speech; he was sharp with his words and could persuade anyone to do anything! He was also very ambitious and wanted to take over from his father as chief. However as the youngest son of the chief, there were no cultural avenues available for the fulfillment of his ambitions (according to the traditions; only the oldest son of the chief could succeed his father, unless there were exceptional circumstances).

Using his gift of persuasion; he won allies in his father's court who promised to help him wrestle power from his older brothers upon his father's death. When the chief (his father) learned of Gwangwava's plans; he was infuriated and felt threatened by Gwangwava's ambitions. He believed that his son had the potential to overthrow him, and, ordered his army to kill Gwangwava.

... Running away

Word of the chief's order got to Gwangwava and he went on the run, heading southwards towards what is now known as Zimbabwe. He took off in the middle of the night and left with nothing. It is estimated that he was between 19-21 years of age when this happened.

Gwangwava ran through lion infested forests, avoiding human settlements at all times. He ran during the night and rested and ate whilst in hiding; during the day. It took him 3 nights to get to the banks of the Zambezi river. He walked along the river searching for a narrow part, found a narrow part and swam across to the other side of the river (to Zimbabwe).

Exhausted and hungry, he went to the first human settlement he found, narrated his story to the inhabitants of the settlement, and they took him in. He stayed with them for almost a year, until his father's officials tracked him and tried to kill him whilst he slept. He managed to flee and found another settlement further down- south.

..."Watch-over me"

He didn't get to live there very long, as he was again tracked by his father's officials, and was again on the run. He became paranoid and didn't live in a settlement for long. He was always on the run and asked people to watch over him whilst he slept. He would say to them "Chirinda' meaning "watch over me", until people started calling him "Chirinda". Those were the origins of the last name "Chirinda", from a man called Gwangwava. He is the ancestor of the Chirindas