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Merryn's Blog

Why we should stop paying dividends to short-term investors

Short-termism is damaging growth and productivity. Good news, then, that Hillary Clinton wants to do something about it. But her plan doesn't go far enough, says Merryn Somerset Webb.

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Hillary Clinton's plan to combat short-termism doesn't go far enough

Does short termism matter in stockmarket investment? And if it does matter, what on earth do you do about it?

It's pretty easy to make a case that it does matter. As long as investors focus on short-term results and share price appreciation, remuneration committees will skew packages towards incentivising them, and management will focus on them. That's why share buybacks are at a record high in the US, and why the level of US investment is much the same as it was in the mid 1940s.

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"For every dollar the top US public companies spend on investment, they are returning eight or nine dollars to shareholders", says the FT. That's something that single handedly explains the productivity problem, and plays a part in America's low growth.

Get investors to think long-term and you might stand chance of reversing the cycle. Investors in for five to ten years don't care about short-term performance. If managers stopped caring about the short term, their bonuses could be constructed with long-term targets in mind. They might invest properly, productivity would rise, and the US would grow. That would solve pretty much every problem in the world or at least some of the big ones so it's definitely worth thinking about.

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We've thought about it here a lot. We've talked about firms putting stepped dividends in place (the longer you hold the more you get); we've talked about insisting on more transparency from fund managers on their turnover and costs (as well as their own pay packages); and we've raged endlessly against the ridiculous incentive packages that still encourage CEOs to bump up short-term profits to boost their bonuses.

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Good news, then, that a new big-hitter Hillary Clinton has stepped into the debate. She has a new plan to step capital gains on dividends so that the longer you have been a shareholder the less you pay on your income. This is a neat reflection of the system that we used to have in the UK (in 1998 Gordon Brown introduced time-related tapering) and it is interesting to see Clinton attempting to address the issue.

But as the FT points out, it isn't enough. The real culprits here are the fund managers that allow our big firms to put in place incentive packages for executives that end up encouraging short-term behaviour. But mostly those funds don't pay CGT (and nor do those who hold them) so changing the way this is charged is of no use whatsoever.

The stepped dividend idea is legally trickier, but rather better: if you didn't get dividends until you had held for two years, retail investors (who love dividends) would demand that fund managers held for two years. Fund managers might then hold for two years, and then, having focused on the business and its long-term dividend potential for that long, keep holding. Given the damage short termism does to economies (low growth, low productivity) it is surely worth a go. Somebody tell Hillary.

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