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an excerpt from:
The Great Crash
John Kenneth Galbraith©1954, 1955, 1961
ALL RIGHTS RESERVED
Houghton Mifflin Company
LCCB 55-7639
212 pps. – Tenth edition –
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CHAPTER IV
In Goldman, Sachs We Trust
THE RECONDITE PROBLEMS of Federal Reserve policy were not the only questions
that were agitating Wall Street intellectuals in the early months of 1929.
There was worry that the country might be running out of common stocks. One
reason prices of stocks were so high, it was explained, was that there
weren't enough to go around, and, accordingly, they had acquired a "scarcity
value." Some issues, it was said, were becoming so desirable that they would
soon be taken out of the market and would not reappear at any price.
If, indeed, common stocks were becoming scarce it was in spite of as
extraordinary a response of supply to demand as any m the history of that
well-worn relationship. Without doubt, the most striking feature of the
financial era which ended in the autumn of 1929 was the desire of people to
buy securities and the effect of this on values. But the increase in the
number of securities to buy was hardly less striking. And the ingenuity and
zeal with which companies were devised in which securities might be sold was
as remarkable as anything.
Not all of the increase in the volume of securities in 1928 and 1929 was for
the sole purpose of accommodating the speculator. It was a good time to raise
money for general corporate purposes. Investors would supply capital with
enthusiasm and without tedious questions. (Seaboard Air Line was a
speculative favorite of the period in part because many supposed it to be an
aviation stock with growth possibilities.) In these years of prosperity men
with a vision of still greater prosperity stretching on and on and forever,
naturally saw the importance of being well provided with plant and working
capital. This was no time to be niggardly.
Also, it was an age of consolidation, and each new merger required,
inevitably, some new capital and a new issue of securities to pay for it. A
word must be said about the merger movement of the twenties.
It was not the first such movement but, in many respects, it was the first of
its kind. just before and just after the turn of the century in industry
after industry, small companies were combined into large ones. The United
States Steel Corporation, International Harvester, International Nickel,
American Tobacco, and numerous other of the great corporations trace to this
period. In these cases the firms which were combined produced the same or
related products for the same national market. The primary motivation in all
but the rarest cases was to reduce, eliminate, or regularize competition.
Each of the new giants dominated an industry, and henceforth exercised
measurable control over prices and production, and perhaps also over
investment and the rate of technological innovation.
A few such mergers occurred in the twenties. Mostly, however, the mergers of
this period brought together not firms in competition with each other but
firms doing the same thing in different communities. Local electric, gas,
water, bus, and milk companies were united in great regional or national
systems. The purpose was not to eliminate competition, but rather the
incompetence, somnambulance, naivete', or even the unwarranted integrity of
local managements. In the twenties, a man in downtown New York or Chicago
could take unabashed pride in the fact that he was a financial genius. The
local owners and managers were not. There was no false modesty when it came
to citing the advantages of displacing yokels with a central management of
decent sophistication.
In the case of utilities the instrument for accomplishing this centralization
of management and control was the holding company. These bought control of
the operating companies. On occasion they bought control of other holding
companies which controlled yet other holding companies, which in turn,
directly or indirectly through yet other holding companies, controlled the
operating companies. Everywhere local power, gas, and water companies passed
into the possession of a holding-company system.
Food retailing, variety stores, department stores, and motion picture
theatres showed a similar, although not precisely identical, development.
Here, too, local ownership gave way to central direction and control. The
instrument of this centralization, however, was not the holding company but
the corporate chain. These, more often than not, instead of taking over
existing businesses, established new outlets.
The holding companies issued securities in order to buy operating properties,
and the chains issued securities in order to build new stores and theatres.
While in the years before 1929 the burgeoning utility systems — Associated
Gas and Electric, Commonwealth and Southern, and the Insull companies —
attracted great attention, the chains were at least as symbolic of the era.
Montgomery Ward was one of the prime speculative favorites of the period; it
owed its eminence to the fact that it was a chain and thus had a particularly
bright future. The same was true of Woolworth, American Stores, and others.
Interest in branch and chain banking was also strong, and it was widely felt
that state and federal laws were an archaic barrier to a consolidation which
would knit the small-town and small-city banks into a few regional and
national systems. Various arrangements for defeating the intent of the law,
most notably bank holding companies, were highly regarded.
Inevitably promoters organized some new companies merely to capitalize on
the public interest in industries with a new and wide horizon and provide
securities to sell. Radio and aviation stocks were believed to have a
particularly satis-factory prospect, and companies were formed which never
had more than a prospect. In September 1929, an advertise-ment in the Times
called attention to the impending arrival of television and said with
considerable prescience that the "commercial possibilities of this new art
defy imagination." The ad opined, somewhat less presciently, that sets would
be in use in homes that fall. However, in the main, the market boom of 1929
was rooted directly or indirectly on existing industries and enterprises. New
and fanciful issues for new and fanciful purposes, ordinarily so important in
times of speculation, played a relatively small part. No sig-nificant amount
of stock was sold in companies "To make Salt Water Fresh-For building of
Hospitals for Bastard Children — For building of Ships against Pirates — For
importing a Number of large jack Asses from Spain," or even "For a Wheel of
Perpetual Motion," to cite a representative list of promotions at the time of
the South Sea Bubble.'[1]
II
The most notable piece of speculative architecture of the late twenties, and
the one by which, more than any other device, the public demand for common
stocks was satisfied, was the investment trust or company. The investment
trust did not promote new enterprises or enlarge old ones. It merely arranged
that people could own stock in old companies through the medium of new ones.
Even in the United States, in the twenties, there were limits to the amount
of real capital which existing enterprises could use or new ones could be
created to employ. The virtue of the investment trust was that it brought
about an almost complete divorce of the volume of corporate securities
outstanding from the volume of corporate assets in existence. The former
could be twice, thrice, or any multiple of the latter. The volume of
underwriting business and of securities available for trading on the
exchanges all expanded accordingly. So did the securities to own, for the
investment trusts sold more securities than they bought. The difference went
into the call market, real estate, or the pockets of the promoters. It is
hard to imagine an invention better suited to the time or one better designed
to eliminate the anxiety about the possible shortage of common stocks.
The idea of the investment trust is an old one, although, oddly enough, it
came late to the United States. Since the eighties in England and Scotland,
investors, mostly smaller ones, had pooled their resources by buying stock in
an investment company. The latter, in turn, invested the funds so secured. A
typical trust held securities in from five hundred to a thousand operating
companies. As a result, the man with a few pounds, or even a few hundred, was
able to spread his risk far more widely than were he himself to invest. And
the management of the trusts could be expected to have a far better knowledge
of companies and prospects in Singapore, Madras, Capetown, and the Argentine,
places to which British funds regularly found their way, than the widow in
Bristol or the doctor in Glasgow. The smaller risk and better information
well justified the modest compensation of those who managed the enterprise.
Despite some early misadventures, the investment trusts soon became an
established part of the British scene.
Before 1921 in the United States only a few small companies existed for the
primary purpose of investing in the securities of other companies.[2] In that
year, interest in investment trusts began to develop, partly as the result of
a number of newspaper and magazine articles describing the English and
Scottish trusts. The United States, it was pointed out, had not been keeping
abreast of the times; other countries were excelling us in fiduciary
innovation. Soon, however, we began to catch up. More trusts were organized,
and by the beginning of 1927 an estimated 160 were in existence. Another 140
were formed during that year.[3]
The managers of the British trusts normally enjoy the greatest of discretion
in investing the funds placed at their disposal. At first the American
promoters were wary of asking for such a vote of confidence. Many of the
early trusts were trusts — the investor bought an interest in a specified
assortment of securities which were then deposited with a trust company. At
the least the promoters committed themselves to a rigorous set of rules on
the kinds of securities to be purchased and the way they were to be held and
managed. But as the twenties wore along, such niceties disappeared. The
investment trust became, in fact, an investment corporation.[4] It sold its
securities to the public — sometimes just common stock, more often common and
preferred stock, debenture and mortgage bonds -and the proceeds were then
invested as the management saw fit. Any possible tendency of the common
stockholder to interfere with the management was prevented by selling him
non-voting stock or having him assign his voting rights to a
management-controlled voting trust.
For a long time the New York Stock Exchange looked with suspicion on the
investment trusts; only in 1929 was listing permitted. Even then the
Committee on the Stock List required an investment trust to post with the
Exchange the book and market value of the securities held at the time of
listing and once a year thereafter to provide an inventory of its holdings.
This provision confined the listing of most of the investment trusts to the
Curb, Boston, Chicago, or other road company exchanges. Apart from its
convenience, this refusal to disclose holdings was thought to be a sensible
precaution. Confidence in the investment judgment of the managers of the
trusts was very high. To reveal the stocks they were selecting might, it was
said, set off a dangerous boom in the securities they favored. Historians
have told with wonder of one of the promotions at the time of the South Sea
Bubble. It was "For an Undertaking which shall in due time be revealed." The
stock is said to have sold exceedingly well. As promotions the investment
trusts were, on the record, more wonderful. They were undertakings the nature
of which was never to be revealed, and their stock also sold exceedingly well.
III
During 1928 an estimated 186 investment trusts were organized; by the early
months of 1929 they were being promoted at the rate of approximately one each
business day, and a total of 265 made their appearance during the course of
the year. In 1927 the trusts sold to the public about $400,000,000 worth of
securities; in 1929 they marketed an estimated three billions worth. This was
at least a third of all the new capital issues in that year; by the autumn of
1929 the total assets of the investment trusts were estimated to exceed eight
billions of dollars. They had increased approximately elevenfold since the
beginning of 1927.[5]
The parthenogenesis of an investment trust differed from that of an ordinary
corporation. In nearly all cases it was sponsored by another company, and by
1929 a surprising number of different kinds of concerns were bringing the
trusts into being. Investment banking houses, commercial banks, brokerage
firms, securities dealers, and, most important, other investment trusts were b
usy giving birth to new trusts. The sponsors ranged in dignity from the House
of Morgan, sponsor of the United and Alleghany Corporations, down to one
Chauncey D. Parker, the head of a fiscally perilous investment banking firm
in Boston, who organized three investment trusts in 1929 and sold $25,000,000
worth of securities to an eager public. Chauncey then lost most of the
proceeds and lapsed into bankruptcy.[6]
Sponsorship of a trust was not without its rewards. The sponsoring firm
normally executed a management contract with its offspring. Under the usual
terms, the sponsor ran the investment trust, invested its funds, and received
a fee based on a percentage of capital or earnings. Were the sponsor a stock
exchange firm, it also received commissions on the purchase and sale of
securities for its trust. Many of the sponsors were investment banking firms,
which meant, in effect, that the firm was manufacturing securities it could
then bring to market. This was an excellent way of insuring an adequate supply
of business.
The enthusiasm with which the public sought to buy investment trust
securities brought the greatest rewards of all. Almost invariably people were
willing to pay a sizable premium over the offering price. The sponsoring firm
(or its promoters) received allotments of stock or warrants which entitled
them to stock at the offering price. These they were then able to sell at
once at a profit. Thus one of the enterprises of the Mr. Chauncey D. Parker
just mentioned — a company with the resounding name of Seaboard Utilities
Shares Corporation — issued 1,600,000 shares of common stock on which the
company netted $10.32 a share. That, however, was not the price paid by the
public. It was the price at which the stock was issued to Parker and his
colleagues. They in turn sold their shares to the public at from $11 to
$18.25 and split the profit with the dealers who marketed the securities.[7]
Operations of this sort were not confined to the lowly or the vaguely
disreputable. J. P. Morgan and Company, which (with Bonbright and Company)
sponsored United Corporation in January 1929, offered a package of one share
of common stock and one of preferred to a list of friends, Morgan partners
included, at $75. This was a bargain. When trading in United Corporation
began a week later, the price was 92 bid, 94 asked on the over-the-counter
market, and after four days the stock reached 99. Stock that had been taken
up at 75 could be and was promptly resold at these prices.'[8]That such
agreeable incentives greatly stimulated the organization of new investment
trusts is hardly surprising.
IV
There were some, indeed, who only regretted that everyone could not
participate in the gains from these new engines of financial progress. One of
those who had benefited from the United Corporation promotion just mentioned
was John J. Raskoh. As Chairman of the Democratic National Committee, he was
also politically committed to a firm friendship for the people. He believed
that everyone should be in on the kind of opportunities he himself enjoyed.
One of the fruits of this generous impulse during the year was an article in
the Ladies Home Journal with the attractive title, "Everybody Ought to be
Rich." In it Mr. Raskob pointed out that anyone who saved fifteen dollars a
month, invested it in sound common stocks, and spent no dividends would be
worth — as it then appeared — some eighty thousand dollars after twenty
years. Obviously, at this rate, a great many people could be rich.
But there was the twenty-year delay. Twenty years seemed a long time to get
rich, especially in 1929, and for a Democrat and friend of the people to
commit himself to such gradualism was to risk being thought a reactionary.
Mr. Raskob, therefore, had a further suggestion. He proposed an investment
trust which would be specifically designed to allow the poor man to increase
his capital just as the rich man was doing.
The plan, which Mr. Raskob released to the public in the early summer of
1929, was worked out in some detail. (The author stated that he had discussed
it with "financiers, economists, theorists, professors, bankers, labor
leaders, industrial leaders, and many men of no prominence who have ideas.")
A company would be organized to buy stocks. The proletarian with, say, $200
would turn over his pittance to the company which would then buy stocks in
the rather less meager amount of $500. The additional $300 the company would
get from a financial subsidiary organized for the purpose, and with which it
would post all of the stock as collateral. The incipient capitalist would pay
off his debt at the rate of perhaps $25 a month. He would, of course, get the
full benefit of the increase in the value of the stock, and this was
something that Mr. Raskob regarded as inevitable. Hammering home the
inadequacy of existing arrangements, Mr. Raskob said: "Now all the man with
$200 to $500 to invest can do today is to buy Liberty bonds . . . " [9]
The reaction to the Raskob plan was comparable to the response to a new and
daring formulation of the relation of mass to energy. "A practical Utopia,"
one paper called it. Another described it as "The greatest vision of Wall
Streefs greatest mind." A tired and cynical commentator was moved to say that
it looks "More like financial statesmanship than anything that has come out
of Wall Street in many a weary moon."[10]
Had there been a little more time, it seems certain that something would have
been made of Mr. Raskob's plan. People were full of enthusiasm for the wisdom
and perspicacity of such men. This was admirably indicated by the willingness
of people to pay for the genius of the professional financier.
V
The measure of this respect for financial genius was the relation of the
market value of the outstanding securities of the investment trusts to the
value of the securities it owned. Normally the securities of the trust were
worth considerably more than the property it owned. Sometimes they were worth
twice as much. There should be no ambiguity on this point. The only property
of the investment trust was the common and preferred stocks and debentures,
mortgages, bonds, and cash that it owned. (Often it had neither office nor
office furniture; the sponsoring firm ran the investment trust out of its own
quarters.) Yet, had these securities all been sold on the market, the
proceeds would invariably have been less, and often much less, than the
current value of the outstanding securities of the investment company. The
latter, obviously, had some claim to value which went well beyond the assets
behind them.
That premium was, in effect, the value an admiring community placed on
professional financial knowledge, skill, and manipulative ability. To value a
portfolio of stocks "at the market" was to regard it only as inert property.
But as the property of an investment trust it was much more, for the
portfolio was then combined with the precious ingredient of financial genius.
Such special ability could invoke a whole strategy for increasing the value
of securities. It could join in pools and syndicates to put up values. It
knew when others were doing likewise and could go along. Above all, the
financial genius was in on things. It had access to what Mr. Lawrence of
Princeton described as "the stage whereon is focused the world's most
intelligent and best informed judgment of the values of the enterprises which
serve men's needs."[11] One might make money investing directly in Radio, J.
I. Case, or Montgomery Ward, but how much safer and wiser to let it be
accomplished by the men of peculiar knowledge, and wisdom.
By 1929 the investment trusts were aware of their reputation for omniscience,
as well as its importance, and they lost no opportunity to enlarge it. To
have a private economist was one possibility, and as the months passed a
considerable competition developed for those men of adequate reputation and
susceptibility. It was a golden age for professors. The American Founders
Group, an awe-inspiring family of investment trusts, had as a director
Professor Edwin W. Kemmerer, the famous Princeton money expert The staff
economist was Dr. Rufus Tucker, also a well-known figure. (That economists
were not yet functioning with perfect foresight is perhaps suggested by the
subsequent history of the enterprise. United Founders, the largest company in
the group, suffered a net contraction in its assets of $301,385,504 by the
end of 1935, and its stock dropped from a high of over $75 share in 1929 to a
little under 75 cents.)[12]
Still another great combine was advised by Dr. David Friday, who had come to
Wall Street from the University of Michigan. Friday's reputation for both
insight and foresight was breathtaking. A Michigan trust had three college
professors — Irving Fisher of Yale, Joseph S. Davis of Stanford, and Edmund
E. Day then of Michigan — to advise on its policies.[13] The company stressed
not only the diversity of its portfolio but also of its counsel. It was fully
protected from any parochial Yale, Stanford, or Michigan view of the market.
Other trusts urged the excellence of their genius in other terms. Thus one
observed that, since it owned stocks in 120 corporations, it benefited from
the "combined efficiency of their presidents, officers, and the boards of
directors." It noted further that "closely allied to these corporations are
the great banking institutions." Then, in something of a logical broad jump,
it concluded, "The trust, therefore, mobilizes to a large extent the
successful business intellect of the country." Another concern, less skilled
in logical method, contented itself with pointing out that -Investing is a
science instead of a 'one-man job.'"[14]
As 1929 wore along, it was plain that more and more of the new investors in
the market were relying on the intellect and the science of the trusts. This
meant, of course, that they still had the formidable problem of deciding
between the good and the bad trusts. That there were some bad ones was
(though barely) recognized. Writing in the March 1929 issue of The Atlantic
Monthly, Paul C. Cabot stated that dishonesty, inattention, inability, and
greed were among the common shortcomings of the new industry. These were
impressive disadvantages, and as an organizer and officer of a promising
investment trust, the State Street Investment Corporation, Mr. Cabot
presumably spoke with some authority.[15] However, audience response to such
warnings in 1929 was very poor. And the warnings were very infrequent.
VI
Knowledge, manipulative skill, or financial genius were not the only magic of
the investment trust. There was also leverage. By the summer of 1929, one no
longer spoke of investment trusts as such. One referred to high-leverage
trusts, low-leverage trusts, or trusts without any leverage at all.
The principle of leverage is the same for an investment trust as in the game
of crack-the-whip. By the application of well-known physical laws, a modest
movement near the point of origin is translated into a major jolt on the
extreme periphery. In an investment trust leverage was achieved by issuing
bonds, preferred stock, as well as common stock to purchase, more or less
exclusively, a portfolio of common stocks. When the common stock so purchased
rose in value, a tendency which was always assumed, the value of the bonds
and preferred stock of the trust was largely unaffected.[16] These securities
had a fixed value derived from a specified return. Most or all of the gain
from rising portfolio values was concentrated on the common stock of the
investment trust which, as a result, rose marvelously.
Consider, by way of illustration, the case of an investment trust organized
in early 1929 with a capital of $150 million — a plausible size by then. Let
it be assumed, further. that a third of the capital was realized from the
sale of bonds. a third from preferred stock, and the rest from the sale of
common stock. If this $150 million were invested, and if the securities so
purchased showed a normal appreciation, the portfolio value would have
increased by midsummer by about 50 per cent. The assets would be worth $225
million. The bonds and preferred stock would still be worth only $100
million; their earnings would not have increased, and they could claim no
greater share of the assets in the hypothetical event of a liquidation of the
company. The remaining $125 million, therefore, would underlie the value of
the common stock of the trust. The latter, in other words, would have
increased in asset value from $50 million to $125 million, or by 150 per
cent, and as the result of an increase of only 50 per cent in the value of
the assets of the trust as a whole.
This was the magic of leverage, but this was not all of it. Were the common
stock of the trust, which had so miraculously increased in value, held by
still another trust with similar leverage, the common stock of that trust
would get an increase of between 700 and 800 per cent from the original 50
per cent advance. And so forth. In 1929 the discovery of the wonders of the
geometric series struck Wall Street with a force comparable to the invention
of the wheel. There was a rush to sponsor investment trusts which would
sponsor investment trusts, which would, in turn, sponsor investment trusts.
The miracle of leverage, moreover, made this a relatively costless operation
to the ultimate man behind all of the trusts. Having launched one trust and
retained a share of the common stock, the capital gains from leverage made it
relatively easy to swing a second and larger one which enhanced the gains and
made possible a third and still bigger trust.
Thus, Harrison Williams, one of the more ardent exponents of leverage, was
thought by the Securities and Exchange Commission to have substantial
influence over a combined investment trust and holding company system with a
market value in 1929 at close to a billion dollars.[17] This had been built
on his original control of a smallish concern -the Central States Electric
Corporation — which was worth only some six million dollars in 1921.[18]
Leverage was also a prime factor in the remarkable growth of the American Foun
ders Group. The original member of this notable family of investment trusts
was launched in 1921. The original promoter was, unhappily, unable to get the
enterprise off the ground because he was in bankruptcy. However, the
following year a friend contributed $500, with which modest capital a second
trust was launched, and the two companies began business. The public
reception was highly favorable, and by 1927 the two original companies and a
third which had subsequently been added had sold between seventy and eighty
million dollars worth of securities to the public.[19] But this was only the
beginning; in 1928 and 1929 an explosion of activity struck the Founders
Group. Stock was sold to the public at a furious rate. New firms with new
names were organized to sell still more stock until, by the end of 1929,
there were thirteen companies in the group.
At that time the largest company, the United Founders Corporation, had total
resources of $686,165,000. The group as a whole had resources with a market
value of more than a billion dollars, which may well have been the largest
volume of assets ever controlled by an original outlay of $500. Of the
billion dollars, some $320,000,000 was represented by inter-company holdings
— the investment of one or another company of the group in the securities of
yet others. This fiscal incest was the instrument through which control was
maintained and leverage enjoyed. Thanks to this long chain of holdings by one
company in another, the increases in values in 1928 and 1929 were effectively
concentrated in the value of the common stock of the original companies.
Leverage, it was later to develop, works both ways. Not all of the securities
held by the Founders were of a kind calculated to rise indefinitely, much
less to resist depression. Some years later the portfolio was found to have
contained 5000 shares of Kreuger and Toll, 20,000 shares of Kolo Products
Corporation, an adventuresome new company which was to make soap out of
banana oil, and $295,000 in the bonds of the Kingdom of Yugoslavia.[20] As
Kreuger and Toll moved down to its ultimate value of nothing, leverage was
also at work — geometric series are equally dramatic in reverse. But this
aspect of the mathematics of leverage was still unrevealed in early 1929, and
notice must first be taken of the most dramatic of all the investment company
promotions of that remarkable year, those of Goldman, Sachs.
VII
Goldman, Sachs and Company, an investment banking and brokerage partnership,
came rather late to the investment trust business. Not until December 4,
1928, less than a year before the stock market crash, did it sponsor the
Coldman Sachs Trading Corporation, its initial venture in the field. However,
rarely, if ever, in history has an enterprise grown as the Coldman Sachs
Trading Corporation and its offspring grew in the months ahead.
The initial issue of stock in the Trading Corporation was a million shares,
all of which was bought by Coldman, Sachs and Company at $100 a share for a
total of $100,000,000. Ninety per cent was then sold to the public at $104.
There were no bonds and no preferred stocks; leverage had not yet been
discovered by Coldman, Sachs and Company. Control of the Goldman Sachs
Trading Corporation remained with Coldman, Sachs and Company by virtue of a
management contract and the presence of the partners of the company on the
board of the Trading Corporation.[21]
In the two months after its formation, the new company sold some more stock
to the public, and on February 21 it merged with another investment trust,
the Financial and Industrial Securities Corporation. The assets of the
resulting company were valued at $235 million, reflecting a gain of well over
100 per cent in under three months. By February 2, roughly three weeks before
the merger, the stock for which the original investors had paid $104 was
selling for $136.50. Five days later, on February 7, it reached $222.50. At
this latter figure it had a value approximately twice that of the current
total worth of the securities, cash, and other assets owned by the Trading
Corporation.
This remarkable premium was not the undiluted result of public enthusiasm for
the financial genius of Goldman, Sachs. Goldman, Sachs had considerable
enthusiasm for itself, and the Trading Corporation was buying heavily of its
own securities. By March 14 it had bought 560,724 shares of its own stock for
a total outlay of $57,021,936. 12 This, in turn, had boomed their value.
However, perhaps foreseeing the exiguous character of an investment company
which had its Investments all in its own common stock, the Trading
Corporation stopped buying itself in March. Then it resold part of the stock
to William, Crapo Durant, who re-resold it to the public as opportunity
allowed.
The spring and early summer were relatively quiet for Goldman, Sachs, but it
was a period of preparation. By July 26 it was ready. On that date the
Trading Corporation, jointly with Harrison Williams, launched the Shenandoah
Corporation, the first of two remarkable trusts. The initial securities issue
by Shenandoah was $102,500,000 (there was an additional issue a couple of
months later) and it was reported to have been oversubscribed some sevenfold.
There were both preferred and common stock, for by now Goldman, Sachs knew
the advantages of leverage. Of the five million shares of common stock in the
initial offering, two million were taken by the Trading Corporation, and two
million by Central States Electric Corporation on behalf of the cosponsor,
Harrison Williams. Williams was a member of the small board along with
partners in Goldman, Sachs. Another board member was a prominent New York
attorney whose lack of discrimination in this instance may perhaps be
attributed to youthful optimism. It was Mr. John Foster Dulles. The stock of
Shenandoah was issued at $17.50. There was brisk trading on a "when issue&'
basis. It opened at 30, reached a high of 36, and closed at 36, or 18.5 above
the issue price. (By the end of the year the price was 8 and a fraction. It
later touched fifty cents.)
Meanwhile Goldman, Sachs was already preparing its second tribute to the
countryside of Thomas Jefferson, the prophet of small and simple enterprises.
This was the even mightier Blue Ridge Corporation, which made its appearance
on August 20. Blue Ridge had a capital of $142,000,000, and nothing about it
was more remarkable than the fact that it was sponsored by Shenandoah, its
precursor by precisely twenty-five days. Blue Ridge had the same board of
directors as Shenandoah, including the still optimistic Mr. Dulles, and of
its 7,250,000 shares of common stock (there was also a substantial issue of
preferred) Shenandoah subscribed a total of 6,250,000. Goldman, Sachs by now
was applying leverage with a vengeance.
An interesting feature of Blue Ridge was the opportunity it offered the
investor to divest himself of routine securities in direct exchange for the
preferred and common stock of the new corporation. A holder of American
Telephone and Telegraph Company could receive 4-70/715 shares each of Blue
Ridge Preference and Common for each share of Telephone stock turned in. The
same privilege was extended to holders of Allied Chemical and Dye, Santa Fe,
Eastman Kodak, General Electric, Standard Oil of New Jersey, and some fifteen
other stocks. There was much interest in this offer.
August 20, the birthday of Blue Ridge, was a Tuesday, but there was more work
to be done by Goldman, Sachs that week. On Thursday, the Goldman Sachs
Trading Corporation announced the acquisition of the Pacific American
Associates, a West Coast investment trust which, in turn, had recently bought
a number of smaller investment trusts and which owned the American Trust
Company, a large commercial bank with numerous branches throughout
California. Pacific American had a capital of around a hundred million. In
preparation for the merger, the Trading Corporation had issued another
$71,400,000 in stock which it had exchanged for capital stock of the American
Company, the holding company which owned over 99 per cent of the common stock
of the American Trust Company.[23]
Having issued more than a quarter of a billion dollars worth of securities in
less than a month — an operation that would not then have been unimpressive
for the United States Treasury -activity at Goldman, Sachs subsided somewhat.
Its members had not been the only busy people during this time. It was a poor
day in August and September of that year when no new trust was announced or
no large new issue of securities was offered by an old one. Thus, on August
first, the papers announced the formation of Anglo-American Shares, Inc., a
company which, with a soigne touch not often seen in a Delaware corporation,
had among its directors the Marquess of Carisbrooke, GCB, GCVO, and Colonel,
the Master of Sempill, AFC, otherwise identified as the President of the
Royal Aeronautical Society, London. American Insuranstocks Corporation was
launched the same day, though boasting no more glamorous a director than
William Gibbs McAdoo. On succeeding days came Gude Winmill Trading
Corporation, National Republic Investment Trust, Insull Utility Investments,
Inc., International Carriers, Ltd., TriContinental Allied Corporation, and
Solvay American Investment Corporation. On August 13 the papers also
announced that an Assistant U.S. Attorney had visited the offices of the
Cosmopolitan Fiscal Corporation and also an investment service called the
Financial Counselor. In both cases the principals were absent. The offices of
the Financial Counselor were equipped with a peephole like a speakeasy.
More investment trust securities were offered in September Of 1929 even than
in August -the total was above $600 million.[24] However, the nearly
simultaneous promotion of Shenandoah and Blue Ridge was to stand as the
pinnacle of new era finance. It is difficult not to marvel at the imagination
which was implicit in this gargantuan insanity. If there must be madness
something may be said for having it on a heroic scale.
Years later, on a gray dawn in Washington, the following colloquy occurred
before a committee of the United States Senate.[25]
Senator Couzens. Did Goldman, Sachs and Company organize the Goldman Sachs
Trading Corporation?
Mr. Sachs. Yes, sir.
Senator Couzens. And it sold its stock to the public?
Mr. Sachs. A portion of it. The firms invested originally in 10 per cent of
the entire issue for the sum of $10,000,000.
Senator Couzens. And the other 90 per cent was sold to the public?
Mr. Sachs. Yes, sir.
Senator Couzens. At what price?
Mr. Sachs. At 104. That is the old stock ... the stock was split two for one.
Senator Couzens. And what is the price of the stock now?
Mr. Sachs. Approximately 1 3/4.
pps. 48-70
--[notes]—
1 Walter Bagehot Lombard Street, pp. 130, 131.
2. One estimate puts the number at about forty. Cf. Investment Trusts and
Investment Companies, Pt. I, Report of the Securities and Exchange Commission
(Washington, 1939), p. 36.
3. Ibid,. p. 36.
4. And would be more accurately described as an investment company or
investment corporation. However, I have kept here to the less precise but
more customary usage.
5 The estimates in this paragraph are all from Investment Trusts and
Investment Companies, Pt. III, Chap. 1, pp. 3, 4.
6 Ibid., Pt. III, Chap. 2, p. 37 ff.
7. Ibid., p. 39.
8 Stock Exchange Practice& Report (Washington, 1934), pp. 103-4.
9 The Literary Digest, June 1, 1929.
10 Ibid
11 Wall Street and Washington, p. 163.
12 Bernard J. Reis, False Security (New York: Equinox, 1937), pp. 117 ff. and
296.
13 Investment Trusts and Investment Companies, Pt. I, p. 111.
14 Ibid., Pt. I, pp. 61, 62.
15 Ibid., Pt. III Ch. I, p. 53.
16 Assuming they were reasonably orthodox. Bonds and preferred stock, in
these days, were issues with an almost infinite variety of conversion and
participation rights.
17 Part of it shared with Goldman, Sachs, as will be noted presently. The
line between a holding company, which has investment in and control of an
operating company (or another holding company), and an investment trust or
company, which has investment but which is presumed not to have control, is
often a shadowy one. The pyramiding of holding companies and concomitant
leverage effects was also a striking feature of the period.
18. Investment Trusts and Investment Companies, Pt. HI, Ch. 1, pp. 5, 6.
19 Ibid., Pt. I, pp. 98-100.
20 Reis, op. cit., p. 124.
21 Stock Exchange Practices, Hearings, April-June 1932, Pt. 2, pp. 566, 567.
22 Details here are from Investment Trusts and Investment Companies, Pt. III,
Ch. 1, pp. 6 ff. and 17 ff.
23 Details on Shenandoah, Blue Ridge, and the Pacific American merger not
from the New York Times of the period are from Investment Trus" and
Investment Companies, Pt. III, Ch. 1, pp. 5-7.
24 E. H. H. Simmons, The Principal Causes of the Stock Market Crisis of
Nineteen Twenty-Nine (address issued in pamphlet form by the New York Stock
Exchange, January 1930), p. 16.
25 Stock Exchange Practices, Hearings, April-June 1932, Pt. 2, pp. 566-67.
-----
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