Perhaps you’ve had this experience: You go over to your friends’ place for a fun evening, but every time their infant makes a small gurgle or a burp, the new parents rush to the crib to see what’s going on and then return with wild speculations as to the cause.
The stock market is that newborn, and many people act like new parents desperate to interpret it.
Every day a parade of pundits comes up with pet theories about what’s behind minute changes in stock prices. And many people avidly listen. Yet when there is a flash crash, it can take the SEC months to figure out what happened. Deep down, we all know the markets are opaque.
Making things worse, lurking superstitions that events at the start of the Gregorian calendar magically presage the future have amplified the recent punditry. Like forgetting to eat black-eyed peas on January 1, some people have wondered, “Will the market’s drop the first week of trading mean the year is a bust?”
Not only does the fascination with daily, dramatic movements raise doubts about human rationality, the dramatic movements themselves raise questions about the sanity of compensation programs that pay executives in stock. Certainly, no one CEO is responsible for the erratic markets. So why should a CEO suffer from the market’s jitters—or benefit from its irrational exuberance?
Before institutional money managers got hold of the idea that CEOs should share their pain (an idea that is no doubt of some psychological comfort to them), executives were paid bonuses based on operational metrics that they could control and that actually added long term value to the company.
But no more. And now with boards hoodwinked about the value of stock price-based incentives (and motivated by irrational tax breaks for using stock), it seems to be a difficult habit to break. We should try to, however. Just like the market plunge distracted our attention from the real economy at the start of the year, tying pay to stock prices creates a distraction that many CEOs would prefer to avoid. It also creates incentives for corrupt behavior: Research from Harvard and Columbia shows that executives regularly benefit by making trades in company stock ahead of important regulatory filings.
In the long term, the issue is not just the problems created by tying pay to stock prices. It is also how our obsession with minute events distracts us from more important concerns. The Chinese economy has been wobbling for some time; our political process is crackers; wages remain stagnant; and oil price volatility will continue to create disruption in its wake.
These are more important issues than whether a certain stock is up 25 cents on Thursday at 2 p.m. And those that concentrate on daily, weekly, monthly or even annual price changes unwittingly feed into the short-term mindsets that those same people often rail against because they hurt our economy.
If you look over the last 10 years, even after recent losses, the S&P 500 is up more than 50%. During that same time, an employee who managed to remain employed through the recession and earned nine 2.5% raises is earning just 25% more now. An analysis by the Economic Policy Institute shows that “workers’ share of corporate income hasn’t recovered” since the recession. And lagging wages impact demand. As economist Joseph Stiglitz wrote at the beginning of the year, “The world faces a deficiency of aggregate demand, brought on by a combination of growing inequality and a mindless wave of fiscal austerity.”
Isn’t that an important conversation to have?
We are seeing possible cracks in earnings. In December, the Wall Street Journal reported that the “financial obfuscation of the dot-com era is making a comeback: Hundreds of U.S. companies are trumpeting adjusted net income, adjusted sales and ‘adjusted Ebitda.’”
There’s an old story about where those behaviors end:
An analyst walks into a bar and sees a CEO slumped over his drink.
“What’s wrong?” asks the analyst.
“Our revenues are dropping and expenses are rising,” the CEO moans.
“Yes,” says the analyst. “That’s been the case for quite a while. But your earnings have still gone up. So what’s wrong now?”
“Well,” says the CEO, “this time, I can’t make the earnings look like they are going up.”
The analyst pauses. “OK. Now you have me worried,” he says.
This is only so funny. According to a recent Pew Research study, trust in large corporations is low among all age segments—and a lack of trust hurts the economy.
So how can we bridge the trust gap—and return our attention to real issues? We can start at home. Each day, we wrestle down the jumble in our email inboxes. Similarly, we need to scrap the noise about price movements and other distracting data that prevent our focus on more important questions.
By placing our attention on what matters, we can begin to move toward more rational behavior.
Eleanor Bloxham is CEO of The Value Alliance and Corporate Governance Alliance (http://www.thevaluealliance.com), an independent board education and advisory firm she founded in 1999. She has been a regular contributor to Fortune since April 2010 and is the author of two books on corporate governance and valuation.
