Is a focus on short-term earnings irrational?

Swiss Railway Clock. Photo: Jürgen Götzke. Source: Wikipedia

People often buzz about the pernicious effects of a focus on short-term profits. A company’s market value can rise or fall by over 10% when they meet (or miss) their quarterly financial projections. Observers decry short-termism in corporate finance and investment management. Some politicians have called it “quarterly capitalism.”

In response, some companies have stopped giving quarterly guidance. They provide an annual projection of the next year or two, and leave it to the analyst community to interpret comments made throughout the year. One gets the impression that some companies would stop announcing quarterly earnings if they could.

But some shareholders need to focus on the short term. An estate or trust that is about to distribute assets to beneficiaries has to be aware of near-term risks. And the average mutual fund is only held for 3.3 years. Those fund managers could see significant redemptions at any time. They have to remain invested, but they also need to be ready to raise cash if need be.

And the short term is the long term, eventually. US companies have been paying dividends and buying back shares at an unprecedented rate. One asset manager notes that dividends and buybacks have exceeded earnings in the 100 largest US companies. This can’t last. But sometimes the companies are just distributing accumulated profits. US companies also have an unprecedented level of cash on their balance sheets. That can’t last, either. The cash belongs with the shareholders, if management can’t use it to grow the business.

Most investors don’t enjoy the luxury of investing “forever.” It may be annoying for managers to give shareholders regular updates, but we are the owners, after all.

Douglas R. Tengdin, CFA

Chief Investment Officer

[Global Market Update]

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