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Bill Ackman on how super can fix capitalism's inequities

Introduction: Bill Ackman is an American investor and Founder of Pershing Square Capital Management, a hedge fund company. He hit the headlines in March 2020 when he created "one of the best trades of all time" turning a US$27 million index and Credit Default Swap (CDS) portfolio protection play into US$2.6 billion as COVID-19 hit the markets. He explains the strong results for 2019/2020 in the following way:

"Our strong absolute and relative performance was driven by our late February and early March hedging program in the index CDS markets, the subsequent unwinding of that hedge beginning on March 12th, and the contemporaneous reinvestment of nearly all of the gains from hedging by March 18th, which allowed us to take advantage of the large decline in the share prices of our portfolio companies, and of certain new investments during that period."

Of more interest for Australian investors are his recent comments on why the stock market is rising when the economy is in trouble, and the need for the US to adopt a superannuation system similar to Australia's.

This text has been extracted from his Letter to Shareholders in the 2020 Pershing Square Holdings Ltd Financial Statement.

The current environment for listed companies

I write this letter at an extraordinary time in the history of the world. Approaching one million people have died from the effects of the virus, the global economy is suffering to a degree that was unheard of since the Great Depression, and we are faced with a greater degree of political uncertainty in the United States and globally as far back as we can remember.

The economic and health effects of the virus have and will continue to have a disproportionately negative effect on the poor and disadvantaged in the U.S. and globally. Yet, we find ourselves optimistic about the companies in our portfolio, which include quick service restaurant and coffee companies, a hotel management company/franchisor, a home improvement retailer, two residential mortgage guarantors, a scientific equipment manufacturer, and a real estate development company.

What explains this dramatic seeming disconnect?

In sum, we are entering an era in which we expect the dominant, well-capitalized, great companies that comprise our portfolio to accelerate their growth in market share and profitability over the long term as they effectively adapt to the changes wrought by the virus. While many have been puzzled by the stock market’s resurgence, in our view, it can be best explained by this phenomenon writ large. Said differently, we have a corporate inequality phenomenon in addition to an income inequality problem.

The stock market is comprised of the biggest and strongest companies, and reflects the present value of what is to come for these businesses. It is not representative of the entire economy. If there were a stock market index of private, small businesses, it would likely be down 50% or more. Small business failures will make the income inequality problem even worse.

Need to address social imbalance

If we are to avoid continued political risk and disharmony which create serious risks to the sustainability of the capitalist system, we need to find a way for those left behind to participate to a greater extent in capitalism, broadly defined. This is an important problem that must be addressed, and it is incumbent upon all of us, particularly those of us who are the greatest beneficiaries of the system, to find a potential solution.

Despite its faults, we are strongly of the view that, while far from perfect, capitalism is by far the best system for maximizing the size of the economic pie. One of the principal problems with capitalism, particularly as it has functioned over the last several decades, however, is that wage growth has not kept pace with long-term wealth creation, which has disproportionately favoured the wealthy and the upper middle class. This likely can be attributed to the higher after-tax returns generated by investment assets compared with wage growth over the same period.

Without funds to invest for retirement – particularly after the housing crash destroyed many Americans’ only other source of long-term wealth creation – one has almost no hope to build wealth for retirement, or to give the next generation a head’s start.

In sum, the American Dream has become a disappointment or worse for too many.

If capitalism continues to leave behind most Americans as the growth in wages has not come close to the more tax-efficient compound growth that has been achieved by investing in the stock market, more and more Americans will seek changes, potentially radical ones, to the current system, or seek an alternative system. Like those who rent rather than own their homes and thereby have no love lost for their landlords, Americans that have no ownership in the success of capitalism, and who are suffering economically, are more motivated to turn toward Socialism or other alternatives.

Every American child should have an investment account

One potential solution to the wealth inequality problem is to create a way for those with no investment assets to participate in the success of capitalism. We need a program that makes every American an owner of the compounding growth in value of corporate America. Compounded returns over time are indeed one of the great wonders of the world, and every day we wait to address this issue, the problem looms larger.

There are a number of potential solutions to this problem. Among them, the government could establish and fund investment accounts for every child born in America. The funds could be invested in zero-cost equity index funds, be prohibited from withdrawal until retirement, and could compound tax free for 65 years. At historical rates of equity returns of 8% per annum, a $6,750 at birth retirement account - which would cost $26 billion annually based on the average number of children born in the U.S. each year - would provide retirement assets of more than $1 million at age 65.

Praise for the Australian system

Alternatively, or hopefully in addition, corporations could be required to set aside a fixed percent of salary or wages in a tax-free investment account for all workers that would also be restricted from withdrawal until retirement, similar to the approach used by the highly successful and popular Australian superannuation system, which has created savings of scale for growing generations of its citizens. Since the superannuation system’s launch in 1991, Australia now has $2.7 trillion of superannuation assets – nearly twice the country’s GDP.

Remarkably, Australia has created the fourth largest pension system in the world, in the 53rd most populous nation.

In addition to helping all Americans build wealth for retirement, mandatory equity savings accounts for all would encourage greater financial literacy, and, as importantly, give all Americans the opportunity to participate in the success of capitalism.

We are not going to solve our country’s problems in a few short paragraphs, but we highlight the above problems as they are critically important for the country to address, and, like Covid-19, they present black-swan-type risks for investors.

These and other issues of global concern, like climate change, create substantial unresolved risks and uncertainties, and we therefore continue to remain extremely vigilant, cautious, and selective about our approach to investing your capital.

 

Bill Ackman is Chief Executive Officer of Pershing Square Capital Management, a hedge fund with assets under management of $US12 billion. This article is an extract from the 2020 Letter to Shareholders.

 

9 Comments
Peter
September 13, 2020

Great extract and good follow on debate. Bill A does highlight the end in the US of the housing driven wealth factor and the need for a replacement.

Australia‘s relative stability, economic and political, has leveraged off the aspirational capitalism of home ownership and alignment with the capitalist/wealth model and dampened the hurt of boom and bust that the USA is more prone too ( and that Covid will cause here next year hopefully less so with a vaccine ).

Super is now balancing that much better. Let’s hope it provides stability if the population growth fuelled land appreciation slows. Then this mass of funds and voting power, plus the benefits of diversity, portfolio and people, will keep Australia going in the right direction.

Gary M
September 13, 2020

Here is a benefit of super that nobody talks about. It brings people into the investing world which gradually teaches them skills in later life, as well as having money to live on.

Rod
September 10, 2020

Yes we have to thank Paul Keating. Our system can be improved as Bill W said near top re tax.
Nice to hear praise for our system from a very successful American capitalist.

Jack
September 10, 2020

Yet we spend so much effort criticising our super system and even momentum to dismantle it.

Bill W
September 10, 2020

The proposal that the fund should accumulate tax free highlights a shortcoming of the Australian system whereby gains in the fund are taxed thereby reducing the amount that compounds. If the tax was deferred to the fund was activated on retirement then the fund holder would benefit from a compounding investment.

John
September 10, 2020

In the US, traditional 401(k) retirement accounts are taxed in pension phase, unlike here, but untaxed on contributions. Others (e.g. Roth IRAs) function a bit closer to our system. It's just a question of when the funds are taxed and by how much. Labor would like to move from our current TTN model to a TTT model so that super is taxed at every phase (contribution, accumulation and pension), removing the current untaxed pension phase. For high income earners (>$200k p.a.) that might mean 30% contribution tax (after Div 293), 15% earnings tax, 10% CGT and another 15%+ pension phase tax. It then makes no sense to make voluntary contributions, as wealth could be built more effectively and flexibly outside super.

Peter
September 10, 2020

"We need a program that makes every [American] an owner of the compounding growth in value of corporate [America]."

Well said, Bill Ackman.

Well done, Paul Keating, for taking that hugely important step towards implementing that philosophy in Australia.

Dr Doug Hill
September 10, 2020

A powerful argument in favour of the Australian superannuation scheme as a means of addressing inequities. A reason to pause before changing the system!

Mary
September 13, 2020

Bill W is spot on.
Nil tax on entry would encourage salary sacrifice and more investment. Estate tax not felt by contributor!!

 

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