London’s stock exchange: sick, nigh unto death, or a wonderful buying opportunity?

London’s stock exchange is sick. Years of outperformance by those across the Atlantic have left its leading shares on ratings far below those of comparative businesses elsewhere. Volumes traded are a fraction of what they once were, while not enough companies are coming to the market to balance the losses by takeovers or failures. So: sick, nigh unto death, or a wonderful buying opportunity?

Capital markets thrive on liquidity, the ability to buy or sell substantial amounts of stock at short notice at competitive prices. Since the traders will go where there is the deepest liquidity, the process is self-reinforcing. In the UK in the last century, all the provincial stock exchanges disappeared, as London was the place with liquidity.

The same thing is happening internationally, as liquidity migrates to New York. Investors there are bigger, and prepared to take more risks. The rules for new listings are, well, flexible. The flotation of Arm, the UK-based chipmaker demonstrated this. Turning down entreaties from the prime minster to list in London, Arm floated in New York. It took 28 banks, over $84m in fees, and an offer restricted to only 10 per cent of the outstanding shares, to get Arm away at $54bn, or $51 a share.

Exclude the tracker funds which are obliged to buy such a big stock, and the offer hardly looks a success. After a first-day pop, the shares have settled around $54. Had Arm instead come to London, it would surely not have met with the same response. UK investors are more cautious, and might have noted that a quarter of Arm’s profits come from a 47 per cent-owned Chinese associate, where ultimate control would rest with the People’s Republic.

Other Initial Public Offerings in the US have fared worse. This week, Birkenstock’s “revered universal consumer zeitgeist brand” discovered the limits to sandal popularity. Valued at nearly $9bn at the issue price, the shares tripped nastily on the first day. They joined a long list of offerings which were successful only for those selling the shares. Here are a few you are lucky you’ve never heard of: Blue Apron, Instacart, Cava, better….

The statisticians at Morningstar compile their own IPO index. Since October 2020, it has almost halved. The S&P 500 index is up by 40 per cent. The proportion of shares being offered for sale has also halved, to an average of 15 per cent. The other big change is the identity of the seller. Increasingly, it is not the founder looking for capital to grow his business, but the private equity funds which had stepped in earlier. Their primary interest is escape at maximum value.

This disease is widespread across all equity markets. Two big issues, in France (Planisware) and Germany (Renk) have also been pulled. Both are backed by private equity.

The ailment is easy to describe, but hard to treat. Possible palliatives in the UK include scrapping of the 1 per cent stamp duty on share purchases, easing the capital requirements for insurance companies, restoring the (newly-cut) tax-free allowance for capital gains, promoting the charms of Individual Share Accounts (ISAs) for retail investors, removing the tax penalty on dividends for pension fund investors.

Unfortunately, none of these moves would be transformational. As long as so many of the market newcomers are effectively private equity selling out, prudent investors everywhere should remember the first rule: do not buy a share until it has been publicly traded for at least a year.

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