IN our previous chapters we endeavoured to get some rough general idea of what may be called the natural ranking of the various classes of stocks in point at once of security, stability, and freedom from fluctuation. But before this knowledge can be of much value for purposes of investment, it is necessary not only to know the natural value and rank of these different classes of securities, but also to ascertain in any given case whether it is possible for outside causes to have intervened to throw one or more of them out of their natural order; and if so, where we are to look for the causes which give rise to such displacements; just as in prospecting for coal it is necessary not only to know the natural lie of the coal seams in the series of geological strata, but to ascertain whether from upheaval or subsidence this natural order of superposition has been artificially inverted, and lower rocks have been thrown on the top of those naturally higher in the scale - to the confusion of the unwary prospector.

Securities Continually Changing Their Rank

Now, it is well known on every Stock Exchange that whole classes of securities are continually changing their natural ranking in one or other part of the world, owing to the intrusion of outside influences of one kind or another. Our problem, then, in this chapter is to try and ascertain what these perverting and thwarting influences are, and how they operate in changing and inverting the relative values of different securities, often over considerable periods of time.

Influence Of Government Stocks Over Other Securities

In a general way I may say, to begin with, that the key to the whole situation lies in the influence exercised over the values of all other stocks in any given country by the rate of interest of the Government Stocks of that country; and, secondly, in the relative state of the Money Markets of the different countries. For the general effect of these Money Market influences is this, that Government Stocks, which naturally lie at the very top of the pyramid of securities, decline to a point lower in the scale than stocks naturally much inferior to them in status; and so give the prudent investor an opportunity to select for investment stocks which will give him not only a greater yield of interest, but an equal, if not higher, level of stability than the

An Opportunity For The Vigilant Investor

Government Stocks themselves. For it must be remembered that one of the peculiarities of Government Stocks, which separates them off from all other stocks, is that, being secured on all the industries of a nation alike, and having a first mortgage on them all, as it were, they cannot rise in value from any cause without pulling all other stocks up in market value with them, or fall in value without dragging all the rest down; and this, too, without the real industrial value of these other stocks having been in any way altered. And the consequence of this again is, that if the investor can only ascertain which of the Government Stocks of the world happen to be behaving in this abnormal way, he can, with the exercise of a little vigilance, be almost sure of getting a larger yield of income, and with less fluctuation in the yield, than if he invested entirely in the most gilt-edged of Government securities. But this involves that the investor should have at his disposal the stocks of the world from which to make a selection, and not those of any single nation alone. If, for example, he were investing his money in English Government or Trustee Stocks exclusively, he would be liable to find that during the ordinary term which a stock held for investment purposes (and not for speculation) has to run, its value might decline very appreciably from the price at which it was bought, as has been seen in the case of Consols during the last twenty years. It is true that it might rise as well as fall; but that would be as much a case of speculation among stocks of high lineage as ordinary Stock Exchange speculation is among the Ordinary shares of stocks of lower rank.

A Fallacy Of The Simple Investor. Government Stocks A Magnet To Other Loan Stocks

In such a case, indeed, the simple and unsuspecting investor who went on the idea that Government Stocks were not only the safest but the most stable of securities, because they had at their back the entire resources of the State, and so could borrow at the lowest rate of interest, would find himself very much disappointed. But our problem here is how to eliminate speculation and risk, and to give to our investment list something of the stability and security of the stocks which rest on Money and the application of the Law of Probabilities. I do not mean to say that there are not other causes besides the price of Government Stocks which give rise to a variation in the market value of other Loan Stocks, when no change has occurred in the real intrinsic value of the stocks themselves. Far from it, as we shall presently see; but the tidal influence of Government Stocks in drawing all other Loan Stocks after them is, like that of the moon, a real and absolute one, although counteracted or helped by other influences as well. I have mentioned it here, in passing, in order that the reader may see that, if this be true, the investor who wishes to get the greatest yield for his money with a minimum of instability, and with the greatest practical security for the return of his capital unimpaired, must stretch his view beyond the limits of his own country and be prepared to embrace some scheme of Geographical Distribution among the different nations of the world - if it can be found. But what difference would a geographical distribution make if all Loan Stocks follow the Government Stocks of their respective countries? the reader may ask. What better security would there be in them all than in any one in particular?