CFA Institute

Questions Whether Socialism Is Really More Stable than CapitalismAuthor(s): Alan ReynoldsSource: Financial Analysts Journal, Vol. 35, No. 5 (Sep. - Oct., 1979), p. 80Published by: CFA InstituteStable URL: http://www.jstor.org/stable/4478277 .

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ments in the area, see Roach, supra note 2, at 1185-1196; Comment, Fed- eral Jurisdiction Over Private Suits Alleging Violations of Stock Exchange Rules, 17 B.C. Ind. & Com. L.R. 443 (1976); Comment, Securities Law- Suitability Violation by Independent Investment Adviser Actionable under Rule 10b-5; Broker-Dealer Collater- ally Liable for Aiding and Abetting, Rolf v. Blyth, Eastman Dillon & Co., 570 F.2d 38 (2d Cir. 1978); Note, Se- curities Regulation-Lange v. Hentz & Co.-The Implication of a Private Remedy for Violation of the NASD Rules of Fair Practice, 3 J. Corp. L. 386 (1978); Note, Implied Liability for Violation of Exchange and NASD

Rules-After Rolf and Faturik, 9 Loy. Chi. L.J. 685 (1978); Gillis, Legal Consequences of Unethical Conduct Financial Analysts Journal, Novem- ber/December 1973.

17. ALI Fed. Sec. Code (Proposed Offi- cial Draft, 1978) ?1721 at 602.

18. ALI Fed. Sec. Code, supra, Comment to ?915 at 309.

19. Under the proposed code, the SEC is not empowered to provide for civil lia- bility for violations of its ?915 suitabil- ity rules. The matter is left to the courts to decide under stated criteria. ALI Fed. Sec. Code, (Proposed Official Draft, 1978) ?1722(a). See Roach, supra note 2, at 1206-1209.

Letters Questions Whether Socialism is Really More Stable Than Capitalism Peter Bernstein's answer to the wedge theory ("The Wedge Theory: Pie in the Sky?" FAJ, March/April 1979) rests on the hypothesis that the observed de- clines in profitability, particularly after 1965 and 1972, were due to high in- vestment. Yet the profit figures he pre- sents are after taxes and could therefore be equally consistent with the wedge theory if the profit decline was due to a tax increase.

When corporate taxes are expressed as a percentage of profits with inven- tory valuation and capital consumption allowances, the average tax rate rose steadily from 40.1 per cent in 1965 to 50.8 per cent in 1970. The tax rate declined to 45.1 per cent in 1972, then rose to 49.8 per cent in 1973 and 62.7 per cent in 1974, before declining through 1977. In short, much or most of the decline in net profitability that Mr. Bernstein freely attributes to excessive investment is instead due to an increas- ing tax wedge.

The tax on suppliers of corporate capital increased even more when we consider the tax on inflated capital gains, interest earnings and dividends. But Mr. Bernstein's own measure of earnings at the level of the firm is suffi- cient to show the "cyclical" squeeze of the tax wedge.

Nobody doubts that we have seen "a long history of economic instability

under capitalism" (and under socialism too). The question is whether that in- stability is due to government policy or to some sort of " inherent and inevitable cyclical characteristic of the private sector." Observations don't explain themselves.

Mr. Bernstein hypothesizes that businessmen are foolish (they "charac- teristically overshoot the mark") and that recessions have been due to supply that "outpaced demand" (scarcely the current threat). No logic or evidence was presented in defense of these asser- tions, and the evidence that was pre- sented appears to support the wedge theory. -Alan Reynolds, Vice Pres.

Business and Economic Research The First National Bank of Chicago

A Crude Test of the Usefulness of Technical Analysis On behalf of the Market Technicians Association, an affiliate of the New York Society of Securities Analysts consisting of over 100 professional market analysts, I would like to com- ment on "Can Analysts Distinguish Be- tween Real and Randomly Generated Stock Prices?" by Fred P. Arditti and W. Andrew McCollough in the November/December 1978 issue of Fi- nancial Analysts Journal.

The authors attempted to judge the usefulness of technical analysis on a level so extraordinarily crude (the price of a stock graphed over time and noth- ing else) that market technicians would have found the article amusing and nos- talgic were it not for the fact that it was

included in (and thus, by inference, en- dorsed by) such a prestigious publica- tion. Virtually all market analysts have long ago turned to much more sophisti- cated forms of analysis. (One might ask if fundamental forms of security analysis would pass academic scrutiny if they were so unrealistically isolated; do any fundamental analysts, for example, scrutinize balance sheets and income statements without knowing whether the company being studied is a retail chain, an aluminum company or whatever?)

We further dispute the notion that stock prices are "random" (at least as characterized in the article), since it does not take into account the fact that "investors will respond/react in some moderately predictable manner to the price movement, whether or not ran- dom" (in the words of John Schulz). "Their responses tend to diminish-or even remove altogether-the random factor in the price movement, insofar as any given price incidence (deal struck) reflects a response prompted by the preceding price instance(s). Naked-eye recognition of 'subtle' implications has nothing to do with the case." As a mat- ter of fact, the authors' chart depicting the random data drew this comment from one of Wall Street's most widely- respected chart readers: "If asked, I'd have to give a 'no opinion' on it.... There's nothing there of any meaning- ful significance."

The Market Technicians Association was formed in 1972 to "educate the public and the investment community to the uses and limitations of technically-oriented research." We would be happy to work with the academic community and other in- terested parties who wish to study the usefulness, or lack thereof, of technical analysis, and to provide whatever gui- dance we can as to how they could best spend their research efforts in studying an area of financial analysis where seri- ous work has been virtually nil to date. However, studying randomly gener- ated data (whether stock prices or in- come statements) in a vacuum to de- termine the usefulness, or lack thereof, of financial analysis would not be one of our suggestions.

-Walter R. Deemer, President Market Technicians Association

New York, New York

80 0 FINANCIAL ANALYSTS JOURNAL / SEPTEMBER-OCTOBER 1979

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