Here are swings—up and down, up and down, in Puck's words—whose amplitude is great enough to represent a seriously discouraging factor to the broadening of the clientele for Ordinary shares, which is eminently desirable in the interests of a free market and "fine" prices. It is generally agreed that for industry to Taise too high a proportion of its capital in the form of Debentures and Preference shares is inadvisable.
The more investors there are who are prepared to take a business -share with a business risk—that is, an Ordinary share—the better. From an investor's viewpoint, the strongest argument for an Ordinary share in established and well-managed undertaking is that so long as the long-term trend of national prosperity, despite incidental setbacks, is upward, and as long as standards of living taken by and large are being raised, the Ordinary share is the only medium of investment which automatically secures the financial fruits of economic progress. But so long as individual or institutional investors (like the great insurance companies, for example, who have been frequently urged to -take a larger proportion of equities into their security portfolios) have reason to fear that their capital is liable to gyrate extensively in value within short periods, in a manner which they can hardly foresee and certainly cannot control, the demand for Ordinary shares will be less than one could desire, This, however, is merely a single aspect of the effects of the trade cycle. Its effects extend far beyond the Stock Exchange, and there is searcely one branch of national economic activity which is immune from them. The constant ebb and flow of trade leads to a perpetual sequence of over-extension and under-émployment of economic resources. Psychologically, it imposes a tremendous strain on business managers. It necessitates the accumulation of both labour and plant for use in peak periods, which cannot possibly be employed during slack times. Thus, it means for many workers unemployment, and for industry as a whole a lower return on its capital. cles." But, in fact, the distinction is vital. If these changes are the result of incalculable, unpredictable, and entirely capricious forces, subject to no rule or law, then, indeed, our position is unenviable. But if there is any regularity, inevitability and orderliness in the appearance of these financial disturbances, the logical inference is that they are subject to some fundamental law and perhaps ultimately to human control.
Fortunately for investors, the weight of available evidence all goes to suggest that the second diagnosis is true, There are plenty of examples of non-cyclical fluctuation. For example, the British weather, which drives holiday-makers to madness, is determined by the frequency, intensity and direction of a sequence of low pressure areas from the North Atlantic. The appropriate data, plotted on a chart, give us a curve which is lacking in regularity, rhyme or reason. It is the sort of scrawl an ape might make with a giant pencil on a huge sheet of paper.
"Escarpment" and "Dip"
But if we chart the movements of any reliable index of share values on the Stock Exchange for a great many years, we obtain a curve which gives a wholly different impression. However irregular its changes from day to day may be, there is, we shall find, an unmistakable rhythm about the curve as a whole. The long-term movement of share values (or of any other economic phenomenon) is a wave motion. The period from the crest of one wave to the crest of the next is usually eight to ten years, but nearer eight than ten, with an average of, perhaps, eight and aquarter to eight and a-half years. The resemblance between the successive waves or "cycles," however, goes further. Almost invariably the downswing (the "'slump") is normally abrupt but short, while the upward curve (the "recovery") is much longer and more gradual. Broadly speaking, the average slump lasts two years or less, while the average recovery lasts six years or more. Its motion is hardly perceptible at the outset of revival but is extremely rapid at the end. The geographers have 2 word (or, rather, two words) for this type of contour, which is common enough in their own experience. They call the slump an "escarpment," and the more gradual incline a "dip" slope. The investor who climbs the South Downs from the seaward side will see in their gentle rise a replica of the curve of their own security values in the period of recovery; while the steep descent which follows represents, only too well, the course of share prices in a Stock Exchange slump.
We may, then, take the existence of trade cycles for granted, and in the next article, analyse some recent cycles to see what conclusions they suggest, which may serve as a guide for investment diagnosis, Long-Term Recovery Policy for Investors
Text read from the printed page and cleaned; old type leaves the occasional error.