The United States seethed with tension during the last three decades of the 19th century. Huge companies dominated key areas of the economy. Lacklustre presidents hosted their cronies in the White House. The rich lived spectacularly well, while the poor struggled to get by.
It was, in other words, a time that was a lot like today.
Investors may want to ponder that parallel. Historians call the late 19th century the Gilded Age, and it shares several features – notably, growing income inequality and rapid technological change – with our own slightly less-gilded era.
For stock pickers, the historical precedent is particularly intriguing. One lesson from that earlier period is that powerful corporations can defy competition and thrive for far longer than you might think, especially during times when regulators allow them to use their muscle with vigour to help set prices and determine market conditions.
Standard Oil, the creation of John Rockefeller, dominated petroleum production in the United States from 1870 until the country’s Supreme Court finally broke it up in 1911. Similarly, a handful of Gilded Age railways, steel makers, cigarette producers and sugar producers ruled their respective industries for decades, until legislators and courts forced changes.
It’s easy to imagine many current corporate giants also holding sway for years to come. For instance, the FAANG stocks – Facebook Inc., Amazon.com Inc., Apple Inc., Netflix Inc. and Google’s parent Alphabet Inc. – essentially govern key parts of the online world. Meanwhile, a cluster of giant airlines, telecoms and drug makers hold their own sectors in a vise grip.
Regulators, especially in North America, appear largely fine with this. However, the trend toward corporate concentration is beginning to attract other critics.
“The growing economic wealth and power of big companies – from airlines to pharmaceuticals to high-tech companies – has raised concerns about too much concentration and market power in the hands of too few,” Federico Diez and Daniel Leigh of the International Monetary Fund noted in a June report.
The IMF researchers pointed to a strong rise, across advanced economies, in corporate markups – that is, the gap between what companies charge for their products and what it costs to produce those products and services. The surge in markups began in the 1980s and has continued ever since.
It’s hard to explain this trend if vigorous competition is forcing everyone to keep their margins in check. The results are more in keeping with a world in which some producers have grown big enough, and muscular enough, to possess considerable discretion in setting their own prices.
To be sure, these domineering companies are rare. However, they exert unusual clout. “The increase in markups in advanced economies is mostly driven by ‘superstar’ firms that managed to increase their market power further, while markups in other firms have essentially been flat,” Mr. Diez and Mr. Leigh noted.
They’re not the only ones to note similar trends. Simcha Barkai at the London Business School has found that labour’s share of the U.S. economic pie has slid over the past 30 years. Even more striking, he has shown that companies are also devoting less to capital expenditures – factories, machines, that sort of thing. With reduced flows going to both labour and capital expenditures, it’s no wonder that profits as a percentage of economic output have soared over the past generation.
Similarly, Jan De Loecker of Princeton University and Jan Eeckhout of University College London have calculated that the average markup of companies listed on U.S. exchanges has jumped since 1980. This, too, can be read as evidence of decreasing competition and increasing corporate concentration.
You can deplore these trends, but from an investor’s perspective, the smarter move may be to bet on it. Growing dominance by superstar companies may reflect an inherent drift toward concentration in complex, highly technical systems.
So what stocks make the most sense in this new Gilded Age? Global firms with the size and scope to dominate a swath of their industries would seem to be the natural choices.
I recently looked for enterprises worth more than US$50-billion with strong returns on capital and equity, as well as obvious market power. Businesses that met my criteria included many of the usual suspects – Alphabet, Amazon, Apple and Netflix – as well as Chinese internet stars, such as Alibaba Inc. and Baidu Inc., and credit-card giants Mastercard Inc. and Visa Inc. There were also slightly less obvious names, such as money manager BlackRock Inc., courier FedEx Corp., drug maker Pfizer Inc. and consumer-electronics maker Sony Corp.
The drawback is that some of these stocks, such as Netflix, trade for scarily high multiples of earnings. Many others though, such as Apple, Baidu, BlackRock, FedEx, Pfizer and Sony, sell for more reasonable valuations. If you believe competition will inevitably reduce profit, these well-established names may not tantalize. But if you’re searching for a sane way to bet on a new Gilded Age, they stand out as solid choices.
Ian McGugan