Does the S&P 500 Index Represent the Market?

Assumed to be a proxy for the large-cap market and tracked by over $13 trillion in investment assets, the S&P 500 Index enjoys a quasi-official status with the Securities and Exchange Commission. The Commission permits public companies and mutual funds to use the Index to benchmark their financial performance in regulatory filings.  Companies that are part of the Index must do so. 

That is what makes a 2017 decision by the administrators of the Index problematical.  In the wake of the controversial IPO of Snap, which included the issuance of 200 million shares with no voting rights, S&P administrators decided to exclude all new dual-class companies from candidacy for inclusion in the S&P 500 Index. Oddly, the decision did not apply to existing S&P 500 member companies with dual-share structures, such as Meta, Alphabet, Visa, Berkshire Hathaway, and twenty-eight others. 

As a result of the S&P’s decision, as of December 2021, fifty-five dual-class stocks have been disqualified from joining the S&P 500 Index.   In a recent paper, Vincent Deluard of the Stone X Group, found that between July 2017 and 2021, a cap-weighted composite of the fifty-five exiled companies outperformed the S&P 500 by 15%.  Including them in the Index would have added 70 basis points to the returns of the 500 Index.  Deluard estimates that the loss to investors since the 2017 “exclusion decision” to the end of last year was approximately $93 billon. 

The recent Nasdaq sell off has for now narrowed this divergence. Nevertheless, the trends are obvious.  Deluard found that in 2021 and 2022, sixty-two percent of US IPOs opted for a multiple share structure. If that continues, it will steadily reduce the relevance of the Index as a measure of the large-cap market, while granting a wholly unmerited opportunity for companies and funds to claim they are “beating the market” in comparison to an increasingly obsolete index. 

Made in the heat of the Snap controversy, the 2017 “exclusion decision” was an unfortunate foray by the S&P 500 Index into corporate governance matters.  If the decision is not reversed, it may be time for investors, governance professionals, and, particularly, the Commission, to reconsider their assumptions about the role that the S&P 500 Index plays in benchmarking corporate and fund performance.



The Marginalization of Fiscal Policy

In our view, the sharpest commentary about the debates among Democratic Presidential candidates came in two short tweets from Bill Hoagland, longtime Senate staffer and current Senior Vice President of the Bipartisan Policy Center.

After the first of the two debates, Hoagland tweeted: “The words debt or deficits never occurred once….” After the second, he wrote: “…debate and debt mentioned only in context of student loans. 4 hours of discussion and words ‘federal debt or deficits’ never uttered.”

Given that the Congressional Budget Office projects that the federal debt will be larger than the size of our economy within a decade, and that the U.S. budget deficit in the first eight months of this fiscal year was 39 percent higher than the same period the previous fiscal year, Hoagland’s observations led us to wonder about the absence of the issue from the debates.

One reason, perhaps, is that the people on stage all have the aim of defeating Donald Trump in 2020. Naturally, then, they pushed back against Mr. Trump’s priorities, such as curtailing illegal immigration. Thus, while the President wants to build a wall, the Democratic candidates want to open the borders ever wider. The point is contrast, of course, the starker the better.

There is no dialectic about fiscal policy. Mr. Trump has had little to say about the debt. He has been a zealous supporter of tax cuts, he has called for increases in defense spending, and he has argued against moderating the growth of entitlement programs despite the $125 trillion of unfunded obligations already on the books.

Many find merit in these policies and that’s fine. We try not to be hypocritical ourselves: ABC welcomed cuts in business taxation (although we wanted them paid for). The point is, taken together, Mr. Trump’s ideas are not exactly those of a deficit hawk.

The Democratic candidates therefore have no reason to counter his views. In fact, they are following suit with calls for costly programs to eliminate student debt or providing Medicare for all. They have shown little concern about how these and other initiatives would be financed other than by piling on new debt. Is President Trump in a position to complain?

The marginalization of fiscal policy did not start with Donald Trump or his Democratic counterparts. Ever since Gramm-Rudman-Hollings (remember that?) budget hawks have endeavored to find workable political solutions to the growing deficit and debt problems. Nothing stuck (remember Simpson-Bowles?). Today the Congressional budget process itself is in shambles. It is a shameful situation.

Against this indifference about fiscal policy, deficit hawks warn about the catastrophic economic effects of continued neglect. What happens if interest rates spike? What happens to the dollar? What happens if countries, notably China, that have enabled our profligacy decide to stop? What happens when our children and grandchildren are handed the bill for the debt we have so relentlessly incurred?

All good questions. The problem is that these warnings, sounded repeatedly for years, never seem to happen or else seem so far away as to be irrelevant. Currently, our growth is strong, unemployment is down, and interest rates are competitive. So what’s the problem?

In a justly famous 1989 essay entitled Of Wolves, Termites, and Pussycats, Or, Why We Should Worry About the Budget Deficit, the late Charles Schultze, an economist at Brookings, took a stab at explaining the lack of “political consensus needed to deal decisively with the immense federal budget deficit.” He concluded that deficits, assuming “competent management” by a Federal Reserve with “the will and the political freedom to do the unpleasant things,” could prevent an “explosive” crisis – what he called “the wolf at the door.”

But that did not mean deficits were harmless pussycats. Unaddressed, deficits, like termites silently chewing away on a home’s foundation, “will slowly and almost imperceptibly but inexorably depress the potential growth of American living standards.”

Imperceptible but inexorable processes do not make headlines. Hence the tendency of deficit hawks, including, on occasion, ABC, to embrace the “wolf at the door” scenario. It hasn’t worked. The termites just keep getting fatter.

What to do? At a minimum we must insist on the continuing independence of the Federal Reserve and demand that new members of the Fed board possess credentials and experience commensurate with that body’s importance for our economic health. Politicians may not understand that an independent, competent Fed is in their interest, but it is. Someone has to be the designated driver.

More important, it is time for all concerned about the deficit and debt to recognize that they are an interest group, not the conscience of America. Their views are not self-evident to most Americans and are barely given more than lip service in Washington.

If we want to build a consensus to “deal decisively” with our fiscal problems, we need to think about doing what others do: find the candidates who agree with us and support them, generously. Some will be uncomfortable with this idea but as long as our representative democracy works the way it does, this is probably the only way forward. Unless we decide to wait for the wolf.

SEC Staff Roundtable on the Proxy Process

Later this summer, the SEC will be holding  a Staff Roundtable on the proxy process.  This is a topic on which ABC has submitted many comment letters over the years.  

The announcement of the Staff Roundtable carried with it the opportunity to submit some preliminary ideas in regard to aspects of the Roundtable agenda.  Attached is ABC’s submission.  We refer to two past comment letters and add some additional words about technology and the rise of passive voting.

Regarding the latter, it is not too much to say that the growth of index funds – which is hardly news – has made the votes of index fund managers or their governance staff very significant indeed.  By extension, it has also added to the influence of proxy advisers on whom some of the index fund managers rely.

A Tale of Two Committees

The Bipartisan Budget Act of 2018 created two Joint Select Committees of 16 members each. One is the Joint Select Committee on Budget and Appropriations Process Reform and the other is the Joint Select Committee on Solvency of Multiemployer Pension Plans.

The goal of the Select Committee on Budget and Appropriations Process Reform is, in the words of the Budget Act, “to reform the budget and appropriations process” in a significant way.


To that end, the Select Committee is to hold at least five public hearings that are to result in “recommendations and legislative language.”  Assuming that ten members — five Republicans and five Democrats — are in agreement, the Select Committee will issue a report and proposed legislative language no later than November 30, 2018. The legislation would be transmitted to Congress and cannot be amended. In the Senate, a motion to proceed to consideration of the bill would require sixty votes, would not be subject to points of order, and the vote would have to be taken no later than the last day of the current Congress. In other words, a bill, if there is one, would be acted upon in the lame duck session of 2018.

The procedures and schedule are the same for the Joint Select Committee on Solvency of Multiemployer Pension Plans, which has as its goal “to improve the solvency of multiemployer pension plans and the Pension Benefit Guaranty Corporation.”
There is a clear need for reforming the budget process and improving the solvency of multiemployer pension plans, which are backstopped by the Pension Benefit Guaranty Corporation (PBGC), an independent government agency.

Regarding the current budget and appropriations process, the most honest thing to say is that the United States, the largest economy in the world, does not have one. On April 15, Congress missed the statutory deadline for passing a budget for the next fiscal year. This was not a surprise: Congress has only met this requirement five times since 1985. Additionally, Congress is supposed to pass twelve appropriations bills a year, but over the last 44 years, it has averaged 2.5. This kind of ineptitude and indifference should have set off alarm bells long, long ago.

The multi-employer pension issue is a smaller matter than the US budget and appropriations process but it is serious nonetheless.  Multiemployer pension plans are retirement plans negotiated by a union with a group of employers in the same industry. The US now has about 10 million people in about 1,400 PBGC-insured multiemployer pension plans. According to actuary Ted Goldman, about 100 of the plans, with one million participants and beneficiaries, appear likely to fail within the next twenty years. Even if these plans miraculously slip the noose, by 2025 the PBGC pension insurance fund could run out of cash needed to support pension plans it has already taken over or is on the verge of taking over.

No one knows whether either committee will come to agreement and deliver legislation that Congress will pass and the President will sign. But this is Washington and speculation is always the order of the day.


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Advanced Voting Instructions


ABC recently filed this letter with the Securities and Exchange Commission (SEC) on Advanced Voting Instructions (AVI).  AVI, sometimes known as Client Directed Voting, is a device to facilitate voting by retail shareholders, that is, individuals who own stock through brokerage accounts.  These retail shareholders are often underrepresented in shareholder votes.

As larger and larger social and economic issues find their way on to corporate ballots (in part because of the incapacity of our political institutions), all shareholders should have an equal opportunity to voice their views.  In this limited sense, there are similarities between corporate democracy and political democracy.  AVI, if put into place, could expand significantly the number of shareholders voting in corporate elections, thereby making the results more representative of overall shareholder sentiment.

Paul Ryan’s Tax Reform Proposal

Late last month, Speaker of the House Paul Ryan released the tax reform component of his “A Better Way” task force project undertaken in collaboration with GOP House members.   It deserves serious attention.

The real importance of this proposal is the structural change it contemplates:  specifically, moving the tax system more toward a consumption base and changing the reach of the corporate tax.

Here are the key points: 

  • Moving toward a business cash flow tax  The proposal calls for an immediate write-off (expensing) of business investment combined with an elimination of deductions for net interest (special rules on interest deduction for financial services). 


  • Territorial and Border Adjustability  The task force calls for a “destination-basis” corporate tax system, meaning the reach of the corporate tax would be territorial and exports would not be taxed while imports would be subject to taxation.  Current World Trade Organization rules allow border adjustability for Value Added Taxes but not for corporate income taxes.  Speaker Ryan and his colleagues believe that moving toward a cash-flow method for taxing business income would make border adjustability possible under WTO rules.


  • Repatriation Holiday  Existing  earnings accumulated overseas would be repatriated subject to a low tax rate payable over eight years.


  • Treatment of Pass-Throughs  For C corporations the top rate under the reform regime would be 20%.  To solve the inevitable problem of the tax treatment of S corporations, partnerships, etc., the task force would distinguish between “reasonable compensation to owner-operators” which would be deductible by the business and payable by the recipient and active business income which would be taxed at 25 percent at the individual level. level.  Obviously this would require careful rulemaking.


There is much more to the task force proposal including suggested reform of the IRS, the development of a simplified “postcard” tax form for individuals with a large standard deduction (or, alternatively use of the mortgage interest and charitable deductions), elimination of the individual AMT, and repeal of the estate and generation-skipping transfer taxes.

Just as Kemp-Roth and similar tax proposals provided the intellectual framework for the tax reform of 1986 without fully anticipating the details, Ryan’s recommendations should set the boundaries for future tax reform, perhaps as early as next year.   Compared to what we have heard from the two Presidential candidates, the task force’s ideas have the added advantage of being serious.  It would be great if House Democrats would attempt a similar contribution to the policy mix on many of the same topics.


Shortening the Ten-Day Filing Window

In 2011, ABC submitted this comment letter to the Securities and Exchange Commission (SEC) in support of a petition for rulemaking by the law firm Wachtel, Lipton, Rosen & Katz.  Wachtel’s petition called for shortening the ten-day filing window under SEC rules between the time a shareholder or group of shareholders amasses a five percent position in a publicly-traded company and when it must report that fact to the Commission.

The ten-day period, as noted in our letter, is an anachronism that has been exploited by hedge funds and other large activist investors to trade on material, inside information.  ABC argued for immediate disclosure of a five percent position.

The SEC never took action on this matter and the Wachtel petition languished.

Now, interestingly enough, a group of liberal Democratic Senators, including Bernie Sanders, has introduced legislation that would, among other things, shorten the ten day period to two.  The bill is called the Brokaw Act (S. 2720).  It is named for a town in Wisconsin that saw its paper mill closed due to hedge fund maneuvering, according to the bill’s chief sponsor, Senator Tammy Baldwin of Wisconsin.  Other sponsors of the Baldwin Act are Jeff Merkley (D, OR) and Elizabeth Warren (D, MA).

Hedge funds are important players in the capital markets and corporate takeovers can lead to great economic efficiencies.  But the ten-day window between the time a five percent position in a publicly traded company is acquired and the disclosure of that fact cannot be justified in a period  of rapid information dispersal.  The window should be narrowed, if not closed, ideally by the Commission or, if not, via the Brokaw Act.


Hope for Tax Reform?

The Presidential campaign season thus far has not been remarkable for sparking intelligent public policy discussions.  And that does not bode well for how our nation’s economic problems will be addressed after the election.  Trade policy seems to be in the deep freeze.  Immigration reform has been infantilized.  And the most dangerous issue of all:  our large and rising national indebtedness, has been all but ignored or, worse, wished away with bizarre proposals about expanding entitlement programs whose effect, if adopted, would make the situation worse.

Is tax reform any different?  Perhaps not.  But there may be reason for very qualified optimism that something might be done next year.

For one thing, all of the Presidential candidates have reasonably detailed tax reform proposals that, if nothing else, would seem to signify a desire for reform.  Simultaneously, the two tax writing committees of Congress, the House Ways and Means Committee and the Senate Finance Committee are working on ideas that the next President could adopt, partially or in full, in an effort to achieve a bipartisan reform bill.

As for the American Business Conference, we continue to press for comprehensive tax reform.  Comprehensive instead of business because companies are organized for tax purposes in different ways.  That means changing the corporate tax alone will not help all firms.  To do the job right, we must change for the better the individual as well as the corporate tax.  It’s a tougher lift, to be sure, but it is the way to go.

Recently, ABC has associated itself with a coalition calling itself Parity for Main Street Employers.  This letter, sent to senior members of Ways and Means and Senate Finance, outlines the tax ideas of the group.  As ABC has done for some time now, the letter calls for integrating the corporate tax so as to eliminate the double taxation of corporate profits.  Second, it calls for a restoration of rate parity between pass through businesses and C corporations.  The end result would be an equitable, pro-growth taxation of all businesses instead of the uncompetitive mess we now endure.

The only thing that is missing from the letter, in our view, is that it does not mention reform of the way the nation taxes foreign profits.  On that point, ABC continues to press, in other fora, for adoption of a territorial system.

Fast Track and the Declining Consensus About Growth

After much effort, Congress has passed and President Obama has signed Trade Promotion Authority legislation, better, if inaccurately, known as “fast-track.”  In a nutshell, fast-track is a legislative device to allow Congress to consider and vote on trade agreements without amending the deal after the fact.  Over the last few months, American Business Conference executives have been arguing in favor of this legislation and are of course pleased that it ultimately was adopted.  Since at least the days of the Canadian-US Free Trade Agreement during the Reagan years, ABC has strongly advocated fast-track as the means to capture the growth and job-creating possibilities inherent in international trade and investment agreements.

What made this battle different from previous ones is the nature of the opposition.  Of course the usual suspects, organized labor, religious groups, environmentalists, public interest coalitions, and one-world, anti-growth hipsters led the charge against fast-track.

What was new was the presence of conservative Republicans in opposition.

That many of the Republican members of Congress could be against fast-track illustrates, at least in part, the low level of confidence even some Republicans now have in American business.  Put simply, they, along with their unlikely union allies, do not believe that more open international trade and investment will yield growth benefits that will ultimately accrue to the American people.  The notion that the economy and government are scams that reward only C-Suite types is an intellectual drag on the economy that affects all business and workers.

The possibility and even the desirability of economic growth are no longer taken for granted.  For this reason, fast-track just barely squeaked through Congress.    In short, the crisis in trade policy is really the crisis in growth policy.

We are in the midst of history’s slowest recovery from recession, with first-quarter gross domestic product limping along at an annualized rate of 0.2 percent.  To the extent that Washington can do anything about this, it hasn’t.  Tax reform is dead in the water, the entitlement-driven debt overhang, as the CBO recently pointed out, is worsening, infrastructure improvements are languishing, and the regulatory burden of such things as Dodd-Frank continues.  Without the unifying concept of growth and what it can do for society these problems will persist.



Governor Christie and Entitlements

When a political leader takes a tough position on a politically difficult issue affecting our future standard of living, he deserves credit.  Case in point:  Governor Chris Christie’s speech last Tuesday at the New Hampshire Institute of Politics.  His subject was entitlement reform.

The Governor argues what is demonstrably clear:  the Social Security System and Medicare are not affordable over the long term as they are currently constituted.  He is calling for change, although that change would not affect “seniors currently in these programs or seniors approaching retirement.”  In essence, then, he would take the Boomers out of the discussion.

For Social Security, Christie proposes the following:

  • he would gradually raise the retirement age, beginning in 2022 to 69;
  • he would at the same time eliminate the payroll tax for “working seniors”; and,
  • he would introduce “means-testing” affecting those with non-Social Security income of over $80,000 per years and phase out Social Security payments entirely for those that have $200,000 a year in other income.

Christie would introduce similar changes in Medicare as well as reforms to the much abused disability insurance system.

Liberal Democrats, such as the late Senator Edward Kennedy, opposed even modest mean-testing (as did FDR) because their view was that the system could not be sustained unless all Americans received Social Security benefits.  This is why nowadays they would increase Social Security payments for everyone while raising the lid on the amount of taxable income subject to FICA.

Christie implicitly counters this strategy when he appeals to the charitable instincts of the wealthy:  “if you are fortunate enough not to need [benefits], you will have paid into a system that will continue to help Americans who need it most.  That is what we have always done for each other through private charity and good government.”

People are referring to Christie’s speech with the usual nonsense about it being the spark for a “national conversation” about entitlements.  Given the reluctance of politicians to talk about the issue, Christie’s spark will likely fall on wet kindling unless voters insist otherwise.