The Benefits of Inside Ownership

“One of the many problems with today’s market,” Chris Mayer writes to his Capital & Crisis readers, “is the fact that the people running companies are not owners. A typical American CEO owns hardly any of the company he runs. Whatever shares he has, he gets through stock options, which he does not pay for. In addition, he gets paid an enormous sum of money in salary and bonus.

“Proxy statements reveal to you the compensation of the management team and directors. It also shows you how many shares each of them owns. I’m always amazed at what some of these guys make. And I always get a little cross when I see how little they have at risk in their own firms.

“In my experience, the most creative and value-creating moves are often made by management teams who own shares. Conversely, the stupid and value-destroying moves are often made by managers who don’t own shares.

“Well, now I have academic support for that general idea. A new paper by Ulf von Lilienfeld-Toal and Stefan Ruenzi states:

“‘We find that value-weighted portfolios consisting of S&P 500 stocks in which the CEO holds more than 5% or 10% of the firm’s outstanding shares generate statistically and economically significant abnormal returns of 9.2% p.a. and 13.0% p.a., respectively.’

“I often think of good investing as the accumulation of small advantages. You want as many of these advantages working for you as possible. So here is one that a lot of investors don’t pay any attention to — insider ownership — and it turns out that it has a big effect on returns over time.”

The Daily Reckoning