Odd Lots - How Wall Street Started Selling You Financial Products

Episode Date: August 13, 2018

Open any financial publication and you'll see ads for investment products: exchange-traded funds, mutual funds, and the like. Those ads can tell you a lot about what investors are currently thinking and feeling about the market. But did you ever wonder how Wall Street came to be advertising these prepackaged products? On this edition of the Odd Lots podcast, we speak with Eric Weiner, who leads ETF coverage at Bloomberg and also wrote a book on the history of Wall Street. We talk about the first ever modern advertisement for market investing, a 1948 ad in the New York Times, and how Charles Merrill applied grocery store economics to financial brokerages.See omnystudio.com/listener for privacy information.

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My co-host, Joe Wisenthal, is away this week. But for those of you who follow Joe on Twitter, you probably know that one of his favorite activities is to read the print edition of Barrens, the Financial Magazine. And the reason he likes to read the print edition specifically is because he likes to look at all. all the ads, and most of those ads are for various financial products. So today, in honor of Joe, since he can't be here with us,

I thought we might take a moment to revisit the first ever financial advertisement. And it actually came later than a lot of people might think. It was written by a guy called Lou Engel, who was working at Merrill, and it was published in 1948 in the New York Times. It was really the first such financial advertisement that we'd seen in the sense that it was aimed at everyday investors. And I encourage everyone after they listen to this podcast, please, to go and Google the ad. It's called what everybody ought to know about the stock and bond business. And it's basically 7,000 words of pure text explaining what stocks and bonds are to everyday investors.

but this was the thing that kicked off all the ads that we see nowadays in places like Barron's. And again, the reason why people like Joe find the ads really interesting is that they tell you something about where Wall Street is heading. They tell you about where Wall Street is trying to make money from everyday investors like you and me. So we're going to dive into not just that ad, but also the trajectory of Wall Street. How we got to the place today where a lot of the businesses,

is aimed at marketing products like ETFs, like mutual funds, to everyday investors. And we really have the perfect person who's going to be our guest for this episode. His name is Eric Wiener. He's on my team at Bloomberg. He heads up our very, very excellent ETF coverage. And he is also the author of an entire book on the history of Wall Street. It's sort of an oral history. it's called What Goes Up, the uncensored history of modern Wall Street,

as told by the bankers, brokers, CEOs, and scoundrels who made it happen. Eric, thanks so much for joining us. Thanks for having me, Tracy. Or me. So some of my favorite episodes that we do on Oddlots are where we find people at Bloomberg who have interesting backgrounds, interesting backstories, and interesting accomplishment. So I was actually very pleasantly surprised to see that you had not just written one book,

which we're going to talk about today, but actually two books. How did that come about? And maybe you can give us a little bit of background on your role as a financial journalist. Well, this book was sort of a labor of love and a product of all of the work that I had done in the 1990s as a journalist when I was at Dow Jones. the idea came from really bizarrely reading a book called Please Kill Me, which is about punk rock, which is another one of my interests. But it was done in this exact style. And what I noticed was that it took something that wasn't necessarily a singular thing, a singular place, a singular time, and put it in a narrative structure that made it all make sense as if it had happened. in a preordained way.

At the same time, I was watching those Ken Burns documentaries that were all coming out. And he was doing very interesting things by using primary sourced information as well as interviews in order to tell a story. And working with a friend of mine in publishing, I came up with the idea to do this for the history of Wall Street, which I had sort of been chronicling by talking to all of these people at various different investment banks as I was. reporting and I just naturally had an interest in history so I'd ask them how things came about and different firms had really lengthy histories. Lehman Brothers had basically every document it had going back

to the 1800s. Merrill Lynch had a library, a literal, I mean a literal museum of all stuff, including the famous Lou Engelad. So I found sort of mutual kinship and people were remarkably open to talking to me. It took me a while to nail down. I did about 300 interviews. with some of the richest people in the world. So nailing them all down wasn't easy. But a lot of them were very willing to talk and very candid about what happened. 300 interviews is a pretty lofty sum.

So you mentioned the Lou Engel ad. And again, for people who've never seen it before, it's definitely worth taking a look at. But your book, it's an oral history, as we've discussed. And you have a couple of people who describe the first time that they read that. ad in 1948, walk us through why it was so important and what that moment of time was like for Wall Street, where it was exactly. Well, so what it happened was Charlie Merrill, Merrill Lynch was

one of the bigger, what they called wirehouses at the time. It was one of the bigger brokerage firms at the time. Charlie Merrill had built it up through the 1920s and then 1929 comes along. He actually advises all of his investors to get out of the market. He gets out of the market. and walks away from Merrill Lynch. Merrill Lynch stays as a firm, but Charlie Merrill goes off to California to his other venture Safeway, which is the grocery store chain.

After 10 years, his partners are, the firm is falling apart. The stock market has gone through the Great Depression. You have the new deal coming in, and the partners approach Charlie Merrill, one partner in particular, Wyn Smith, who ended up running the firm himself, approaches Charlie Maryland, says, we need you to come back. And he says, in order to come back, we have to change our ways. We have to change the way Wall Street does things. And we need to adopt many of the ideas that are common to retailing, particularly retailing groceries. So he talked about the need that people don't want to buy loose coffee. They want to buy packages of coffee. And either they want it in eight ounces or 12 ounces or 16 ounces. And we want to be there to sell them those different packages of coffee. They want to buy packages of coffee. And

coffee. But what they don't want to do is just buy stuff. They want it to sort of be set up for them. And so they started thinking about Wall Street in those terms. They started piecing together, putting their financial advisors on salary instead of commissions so that they would do more work in terms of putting together a portfolio for people. They incentivized their staff to work directly with individuals to start marketing their services in their local towns to hold educational meetings with groups and different things. And advertising was a natural outgrowth of this. Now, the thing was that at that time, Wall Street was a really closed society. And advertising, quite frankly, was considered gauche. It just wasn't something

that was done that was, you know, for grocery stores, not for, you know, finance firms. So Charlie Merrill said, no, we actually need to do this. And what he proposed was, what he proposed was, what you described, which is 7,000 words, explaining how stock trading stocks and bonds works. And it's essentially, you would never run it today. You would run it as a pamphlet or something. It's just a block of words. And the people at Merrill were dumbfounded by it. They didn't think it would work.

They were willing to do it because Charlie at that point had developed sort of the cult of personality where he just did what he wanted. So everybody said, brilliant, Mr. Merrill. and then behind their backs were saying, I don't know about this. But it worked dramatically because nobody had ever spoken to people about how this stuff worked. And suddenly you had people reading this and then saying, hey, did you see this on the, you know, I was reading this on the subway. Did you see this? They started calling up Merrill Lynch asking for copies. Merrill Lynch started giving away copies, printing it up as sort of a flyer.

And it really became kind of a touchstone for what can be done with. reaching out to the general public, which is something that Wall Street was really reluctant to do, largely because after 29, it got blamed for everything. So it just didn't really, the organization, the institution as a whole, decided we're safer if we just don't deal with those people. And Merrill Lynch said, actually, in order for us to survive, we need to deal with those people. We need to deal with them fairly. And we need for them to understand what it is that we do. And that was, it's seemingly logical today beyond any sort of comprehension. But at that time, it was this radical idea that made Charlie Merrill seem like a complete outsider to his Wall Street Brethren.

Right. So I mentioned the date on that ad, which is 1948. And I don't know about anyone else, but I was kind of surprised that it was that late because as you mentioned, you think about the Great Depression and you think about the number of people who supposedly got burned by the stock market crash and it feels like a retail investor event. So are you saying that retail investors were burned like on mass during that period? Or was it? They were burned, although the degree to which is debated because the records are kind of sketchy, what really happened, what really got blamed was mutual funds, which were sold through Goldman Sachs, obviously enough. So Goldman really took it on the chin coming out of the depression. But a lot of this you have to realize is an effect of the way the media understood things at the time and what they were being told. So it's really easy to run, you know, dust bowl stories. And then what happens is, you know, you go from the crash to the Great Depression, which isn't necessarily linear, but one gets blamed for the other. And people begin to say that Wall Street is evil, these greedy bankers, that whole thing sort of starts cropping up as a narrative. And for Wall Street, the idea was let's just retrench.

We have a great business because all commissions were fixed. They basically had a license to print money if they just were left alone. So they really wanted to be left alone. It was Charlie Merrill who saw that reaching back out to the wider world, which was what happened in the 20s where you had a lot of ordinary people investing, that reaching back out to the wider world was really the only way that they were going to grow and thrive. You can get the news whenever you want it with Bloomberg News Now. I'm Amy Morris.

And I'm Karen Moss. here to tell you about our new on-demand news report delivered right to your podcast feed. Bloomberg News Now is a short five-minute audio report on the day's top stories. Episodes are published throughout the day with the latest information and data to keep you informed. Yes, there are other products like this from a variety of news organizations, but they usually rerun their radio newscasts throughout the day. That's not what we do. We create customized episodes that can only be heard on Bloomberg.

News Now. And we don't wait an hour to publish breaking news. When news breaks, we'll have an episode up in your podcast feed within minutes. So you're always getting the latest stories and developments. Get the reporting and the context from Bloomberg's 3,000 journalists and analysts we're all over the world. Listen to the latest from Bloomberg News Now on Apple, Spotify, or anywhere you listen. So it's now the late 1940s and Mr. Merrill is exporting his brand of, let's say standardized grocery store like financial products, although, as you mentioned, mutual funds had existed for some time at that point. How quickly did this take off amongst retail investors? How quickly did Wall Street regain trust after the Great Depression and what sort

of products were being sold? Well, it's the 1950s you kind of start having a bull market. And so it was just kind of great timing on his part that people wanted to hear of. about this as stocks were starting to kick back up. I mean, if you figure it, there was a very long depression and recession in stocks. So suddenly you had all of these value stocks, all these stocks that were value that you could just simply flat out make money on because they were trading for below their book value. So they had to come back up. Basically, individuals were buying stocks. The big miss on Charlie Merrill's part was that he believed that mutual funds had caused the 29 crash and put an edict in at Merrill Lynch that they would never do mutual funds. So that

basically creates the business for Fidelity because up in Boston they had a whole different way of managing money. They've been managing money for a lot of old wealthy families for a long time. And they put their money in portfolios that they called funds and they eventually sold them as mutual funds. Fidelity was one of these firms. So, If Charlie Merrill had the idea of a mutual fund of putting together a portfolio of stocks that would do, would behave a certain way, would have made a lot of sense to people at that time. They just weren't really readily available until the 1960s when Fidelity grew. But if Merrill had decided to sell them, they probably would have taken off. But the other thing that takes off is Buffett's style of investing.

Buffett goes back to, he'd been in New York, he goes back to Nebraska and starts his first. firm. And it's like the greatest rocket ride in the history of Wall Street where there were just so many stocks that were beaten down, he called them scar butts, that he could just make money by picking off stocks that were going to have to revert to the mean. And you have this style of investing called value investing that comes along. And Fidelity then in turn creates momentum investing through its mutual funds and through a guy named Jerry Ts who basically started following all the hot stocks of the day, which from the 50s to the 60s are, oddly enough, the technology stocks of the day, which are usually the hot things that are growing, and we see it today,

even. This is what people focus on is the future, this technology. So at that time, it was Xerox. He rode Xerox to the moon, and everybody was, he's showing up on Time magazine, and all of a sudden people are following momentum. And the idea of factors that we think of today, the idea of investing styles that we think of today really originates from this late 1940s to 1960s period where investors themselves, professional investors themselves, are figuring it out.

So you're talking about the beginnings of passive investing, essentially, you know, the idea that you can have active managers sort of taken out of the equation and people can just ride whatever is moving up, hence the name momentum. How much tension was there on Wall Street at the time that this was invented? Because nowadays you see a lot of hand-wringing about it. We've had Alliance Bernstein talking about how ETFs and passive investing are destroying capitalism. People worry that passive investing is, of course, eating into active managers' fees. Was that kind of conflict evident when these things were first on the rise?

not not really because costs were kind of assumed on wall street it was assumed to be an expensive business and the other thing was the way that people kind of understood the business was through people and the individual money managers whether it was jerry sye to peter lynch uh they captured much more of the attention than the products did so you wanted to invest with It was kind of the idea of that best in the brightest, which, although it's an ironic statement, applies here, where you really wanted to invest with who the market considered to be the best and the brightest guy. Along the way, Jack Bogle figures out, you know, we don't really need to do all of that stuff. And we can just put together indexes of this. And there had been indexes for a very long time.

The Dow Jones Industrial Index had been there for a while. but there weren't a lot of them. And they were followed kind of just as benchmarks that you would beat as a mutual fund manager, or as a asset manager or any kind of financial advisor. But as the research started to show that most of these guys don't really beat the market, the idea of tracking an index became more important. In 1975, there was a thing called Mayday where New York Stock Exchange, or actually all stock exchange commissions were fixed.

And it was a very complicated formula, but the point was that if you sold 10 shares, 100 shares, 1,000 shares, you paid a percentage, a flat percentage of that amount, of that fee, of that amount as a fee. Wall Street was basically raking your money hand over fist, and it was kind of behaving as a cartel. And they were forced to unfix commissions. Now, within this, there was a big push on Wall Street.

to do this because some firms, Merrill Lynch among them, could sort of see that this would increase volume and they could pick up in volume what they would lose in commissions. But it's this moment in 1975 where you lose commissions, you lose fixed commissions on Wall Street. Suddenly you can have block trading. A lot of different discounting goes on. And these index funds become really cheap to operate because suddenly moving a whole bunch of stock doesn't cost nearly as much as it used to. Moving a whole bunch of bonds doesn't cost as much as it used to. At the same time, you're having technology catch up, so there's more automation coming on. These were kind of products that were waiting for a moment.

So at the time when they first came out, people looked at it and were like, this is great, fine, but this isn't really solving my problem. Ten years later, 15 years later, it suddenly starts solving a problem. a problem. And when we look at it today, and, you know, ETFs is what I'm, the team that I'm leading, and we look at what ETFs are doing, it is exactly what the conversation is. This is an entire evolution that basically starts in the early 1970s and brings us to today where the only thing people are talking about is cost. So it's really interesting to think that, you know, it took a while for the market infrastructure

basically to catch up to the concept of these low-cost funds. They used to take days off, a day off of the trading day just to catch up on paperwork. They had a whole paper crunch thing because people, I'm not joking, Tracy. They would be carrying cards, those computer cards, you've ever seen those, the IBM. Yeah, so they'd be carrying stacks of those around on the exchange. In order to trade shares, you literally had runners running around with certificates, Stock certificates saying, you know, I bought 50 AT&T, and they would give you a certificate for 50 AT&T.

And you had to wait for the little guy to show up with that pile to know that your deal had gone through. And it was a completely different world from, let alone, you know, e-trade to today where it's just, you know, boom, you know, on our terminal, you can do every single thing, chat, trade it no matter what. it can all be done in one little electronic ecosystem in seconds. That took hours, days. You didn't know what was exactly going on.

You didn't know the final price. You know, automation has changed everything in a very, very short period of time for Wall Street. Right. So you point out that at one point, it was sort of about the people managing funds and investments. But now it's most definitely about the product. And if you open a publication like Barron's and look at the ads like, Joe likes to do so very often, you'll just see pages and pages of ads for things like, you know, mutual funds, ETFs, certain portfolios, and they tend to change along with the time. So when people

are searching for yield, you'll see yield enhanced investment offerings. When people are worried about rising rates, you'll see bond ETFs that are protected from duration risk, all that sort of stuff. what's next in the evolution of that market? What's next in terms of the provision of, let's say, standardized grocery-like financial products? Yes, well, we're still packaging coffee. You know, this whole thing is about the sophistication of the investor. So if Joe were here, I would challenge him to go look back at old Barron's and try to find

the moment when Peter Lynch stopped appearing in. Fidelity ads. It used to be that every mutual fund ad had a person. And it would have like their star manager, John Neff, whoever, you know, says, you know, this brilliant quote. And then here are the mutual funds that you want to invest in. Now we're talking about products. We're talking about strategies. The individuals behind it don't matter. You're talking about the firms. People trust certain firms. Vanguard was Bogle. Now Vanguard is Vanguard. Bogel. Bogel. you know, clearly is a face, but people trust Vanguard as the firm. So when you look at what's coming next, it is increasingly treating individuals like institutions and assuming that individuals

have that knowledge and that sophistication to understand beyond simply what momentum and what value is to various different strategies. And here's a way to hedge, you know, the risk that the Fed is going to raise interest rates. I mean, people just didn't pay attention to things like the Federal Reserve much before Allen Greenspan came along. So the idea that, like, people are watching interest rates, are watching what the Fed says, are looking at financial news, the idea that there are all these financial news channels and all these different ways to get financial news, there was none of that before.

So you can kind of assume that it's basically the increasing sophistication of the investor will, or the perceived increasing sophistication of the investor will be reflected in these ads as they get more and more complex. Perceived, of course, being the key word there. Perceived, yes. We have had controversies crop up, even this year when we had a bunch of volatility-related exchange-traded notes and products blow up. There was a huge question mark over whether the investors that had bought them actually understood the risks. Eric, I'm so sorry, we're going to have to leave it there. But my entire aim at having you on this week was really to make Joe jealous by just talking about

origins of financial product advertising. So I think we've succeeded in that for sure. No, this was a lot of fun, Tracy. Thanks for having me. All right. So Eric Wiener, once again, the book is What Goes Up, the Uncensored History of Modern Wall Street, as told by the bankers, CEOs, and the bankers. scoundrels who made it happen. You can also follow Eric on Twitter. He is at Eric J. Weiner 1.

And if you're interested in learning more about passive investing or exchange traded funds, we have an entire podcast dedicated to that at Bloomberg, and it's called Trillions. And it is hosted by the very talented Joel Weber and Eric Balkunis. This has been another edition of the podcast, I'm Tracy Alloway, and you can follow me on Twitter at Tracy Allaway. Thanks for listening. I'm Francine Lacqua, an award-winning journalist, and I've got a new podcast, leaders with Francine Lacqua from Bloomberg Podcasts. I've interviewed everyone from Heads of State to fashion icons about the news of the moment. But I've always been curious, who are these people as leaders? I don't think there's one right way to be a leader. Make decisions. A poor decision is always better than

no decision. Listen to new episodes every other Monday. Follow leaders with Francine Lacroix wherever you get your podcasts.