Merryn's Blog

Was the Big Bang a huge mistake?

25 years ago this week, the way British investors traded shares was changed forever by the Big Bang. But, two and a half decades on, has it really been for the better? Or has it put capitalism on a path to destruction?

When did it all go wrong? The answer might just be this week, 25 years ago. Thursday, 25 October is the anniversary of the Big Bang, the day on which the way we trade shares in the UK changed completely.

Before that, the market was divided into brokers and jobbers. The brokers spoke to investors, took orders from them and charged them commission on deals. They then went to the jobbers who provided the liquidity in the market and took a spread between their buying and selling price (the bid offer spread).

Get your FREE guide to market crashes

What do past crashes teach us about this one? Subscribe to MoneyWeek now and get a free copy of the Little Book of Big Crashes, plus your first six magazine issues absolutely FREE

This didn't make things cheap for investors, particularly as commissions were fixed there was no such thing as shopping around. However, the system did have good points. As Fundsmith's Terry Smith points out, investors were protected by the fact that the "broker's relationship with the jobber was an adversarial one" he worked to get the best price when dealing.

The problem with it was that the fixed commissions prevented competition and that the UK was losing influence as a financial centre as a direct result. So on 25 October 1986, fixed commissions were abolished and at the same time to compensate the brokers who would inevitably end up with lower commissions on each trade brokers were allowed to combine with jobbers to form "dual capacity firms".

Advertisement
Advertisement - Article continues below

Smith was, he says, all for it at the time. Now however, he sees that it was a "colossal mistake." Why? Because it introduced "insuperable conflicts of interest."

Brokers were no longer the agents of the investors. "Instead, they were dealing with integrated firms which maximised profits by giving investors the worst deal they could as they were principals on the other side of every transaction.

"And these were not the only conflicts of interest which arose from theBig Bang. Integrated securities businesses also provided merger & acquisition advice to companies - formerly the domain of merchant banks - as well as providing research on those companies' shares for investors in those shares, trading in those shares as principals and raising equity or lending money to fund the deals. The potential for profit at the expense of investors as a result were manifold."

I agree with Smith on most of this. But I'd say the Big Bang did one more thing that hasn't really worked for us as well. It removed the expense and the friction of trading and in doing so helped (along with similar reforms in the US and elsewhere) to remove one of the cornerstones of successful capitalism from our markets the responsibility of ownership.

If you can trade things easily and cheaply, you do. If you can't, then you hold things for longer and work to make it worth your while to do so. That's why institutional shareholders used to be long-term investors and why now they are almost always short-term investors.

Forty years ago, if you owned shares in a bank and weren't too happy with the way the chief executive was leveraging up the balance sheet and paying himself £30m a year, you might have worried about the long-term viability of the business and gone in for a chat.

Advertisement
Advertisement - Article continues below

Five years ago, you would have just figured you'd have time to sell before the music stopped. That's a very different thing. And herein lies, I think, the core of our current problem.

Capitalism needs long termism and it needs its participants to have a sense of responsibility to it. Right now our endless reforms all designed to increase speed and liquidity mean that they just don't.

Advertisement

Most Popular

Visit/investments/property/601065/what-does-the-coronavirus-crisis-mean-for-uk-house-prices
Property

What does the coronavirus crisis mean for UK house prices?

With the whole country in lockdown, the UK property market is closed for business. John Stepek looks at what that means for UK house prices, housebuil…
27 Mar 2020
Visit/personal-finance/mortgages/601045/coronavirus-what-it-means-for-your-mortgage-or-your-rent
Mortgages

Coronavirus: what it means for your mortgage or your rent

Ruth Jackson-Kirby looks at all the key questions for owners, renters and landlords affected by the coronavirus crisis.
29 Mar 2020
Visit/economy/uk-economy/601063/the-uks-bailout-of-the-self-employed-comes-with-a-hidden-catch
UK Economy

The UK’s bailout of the self employed comes with a hidden catch

The chancellor’s £6.5bn bailout of the self employed is welcome. But it has hidden benefits for the taxman, says Merryn Somerset Webb.
27 Mar 2020
Visit/economy/small-business/601073/furlough-what-does-it-mean-and-how-does-it-affect-me
Small business

Furlough: what does it mean and how does it affect me?

Many companies have “furloughed” employees after they have shut down because of the coronavirus. But what does furlough mean and how does the scheme w…
30 Mar 2020