Research | Kai Wu | Monopolies Are Distorting the Stock Market

Executive Summary

WhileBigTechisdrawingfireformonopolisticpractices,industryconcentrationhasactuallybeenincreasingmorebroadlysincethe1980s.Mostindustriesarenowdominatedbyafewsuperstarfirms.Thesefirmsenjoyhigherprofitsandpaylesstolabor.Theriseofmonopoliesexplainscurrentlyelevatedcorporateprofitsandstockmarketprices.However,italsocontributestorisinginequalityandpoliticalunrest.

Digital Monopolies

Big Tech Ballin’

Inourlast paper,weusedmachinelearningtoisolatetheexcellentperformanceofdisruptivetechnologycompanies.However,nofancytoolswouldhavebeennecessaryifinvestorshadsimplyboughttheBigTechhouseholdnames(Facebook,Amazon,Apple,Google,Microsoft).

Overthepastdecade,BigTechcompoundedat+28%peryear.Whilethesereturnswouldnotbesoshockingforamicrocapstock,BigTechperformedthisfeatonanunprecedentedscale.Applealonewentfroma$250billiontoa$2.2trillioncompany.Thesefivefirmsnowhaveacombinedmarketcapitalizationof $7.3trillion!

Sincestockmarketindicesgenerallyweighconstituentsinproportiontotheirmarketcap,BigTechisahugepartofourportfolios.ItsshareoftheS&P500hasclimbedtoaround22%.Thisexceedsthecombinedweightofallcompaniesinthematerials,energy,realestate,utilities,andconsumerstaplessectors.InvestmentbankscouldreplacetheirenergyanalystswithGoogleanalystsandretainthesamecoverage!

Intermsofnames,thesefivecompanieshaveasmuchweightasthebottom359companiesintheS&P500andthebottom2476companiesintheRussell3000.

Ingeneral,extremeconcentrationreducesthediversificationbenefitofinvestinginanindex.However,sofarthisyear,BigTechhasbailedinvestorsoutinanotherwisechallengingmarket.TheS&P500isup7%butwouldactuallybedownwithoutBigTech.TheBigFivecarriedthemarketwiththeother495companieswatchingfromthebench.

Source: S&P, Sparkline (as of 9/9/2020)

Occupy Silicon Valley

However,manypeoplehavebeguntoaskanimportantquestion:istheextraordinarysuccessofBigTechinspiteoftheirsizeorbecauseoftheirsize?

OnJuly29,2020,CongressheldanantitrusthearingwiththeCEOsofFacebook,Apple,Amazon,andGoogle.LawmakersfrombothsidesoftheaisleaccusedBigTechofabusingitsmarketpower.The5.5-hourhearingisbestsummarizedbythesubcommitteechair’sclosingstatement:

“Thesecompanies,asexisttoday,havemonopolypower.Someneedtobebrokenup.Allneedtobeproperlyregulatedandheldaccountable.Weneedtoensuretheantitrustlaws,firstwrittenmorethanacenturyago,workinthedigitalage.Whentheselawswerewritten,monopolistsweremennamedRockefellerandCarnegie.Theircontrolofthemarketplaceallowedthemtodowhateverittooktocrushindependentbusinessesandexpandtheirownpower.Well,thenameshavechanged,butthestoryisthesame.”

Regardlessofwhetheryoubelievetheyabuseit,wecanallagreethatBigTechhasaccumulatedextremepower.Asconsumers,theycontroltheappsonoursmartphones,theresultsofourwebsearches,andthecontentofournewsfeeds.Asbusinesses,theyrunourcloudserversandcontrolouraccesstocustomersviatheirdominanceofdigitaladvertising ande-commercemarketplaces.

EachofthesecriticalmarketsiscontrolledbyasubsetofoneortwooftheBigTechfirms.Thesemarketsarebasicallymonopolies(okay,Iknowthetermistechnicallyoligopoly).

Shotshavebeenfired.WeareinthemidstofabattlefortheBigTechnarrative.Willhistoryviewthemasthebenevolentgeniusesthatimprovedourlivesthroughinnovationorastheeviltechoverlordsthatbrokecapitalism?

The Illusion of Choice

WhileBigTechismakingheadlines,itturnsoutthatalmostallindustriesarenowdominatedbymonopolies.CapitalismhasblesseduswithBigOil,BigTobacco,BigPharma,BigAg,andevenBigBeer.Almosteveryindustryisnowdominatedbyafewbigfirms.

Interestingly,youdonotseethiseffectifyousimplycomputeconcentrationratios(e.g.,Herfindahl-Hirschman Index)atthemarketorsectorlevel.However,asyouzoomintomoregranularproductmarkets,theeffectcomesintosharpfocus.

Thesedays,consumersgenerallyhaveaplethoraofchoices.However,inmanycases,everyproductinacategoryismadebythesamefewcompanies.Forexample,whiletherearethousandsofbeerbrands,threecompaniesareresponsiblefor75%ofbeersales.ABInbevaloneowns500 brands,includingBudweiser,Stella,andCorona.Cheers!🍺

Onceweadjustforcommonbrandownership,wefindthatconsumersgenerallyfaceonlyahandfulofcompaniesineachproductcategory.Thetablebelowshowsexamplesofhighlyconcentratedproductmarkets.Welistthetopfirmsineachproductcategoryalongwiththeircombinedmarketshareand,ifpossible,thesizeofthetotalmarket.

Thedataareextremelystriking.Manymonopolyindustriesarefamiliarfromoureverydaylives:airlines,cigarettes,catfood,andcellphoneproviders.However,othersflyundertheradar:PETscanners,coffins,cornseed,andpacemakers.Mostpeopleprobablydon’tknowthatthreecompaniescontrol75%ofthe$450billionpharmacybenefitmanagement(PBM)industry(letalonewhataPBMevenis).

Theissuebecomesevenmoreacuteifwedrilldownyetonelayerfurtherintoproduct-geographicmarkets.Whilethereareseveralcableinternetcompanies,mosthouseholdscanonlychoosefromoneortwo.ThefourmajorairlineshavesimilarlycarveduptheUnitedStatesintofiefdoms,witheachairlinemonopolizingflightsoutofagivenairporthub.A2014studyfoundthatthethreelargesthealthinsurancecompaniescontrolatleast80% of the market in 37 states.Thelistgoeson,buttheendeffectisthatcompetitivemarketsaremostlyanillusion.

The Rise of Monopolies

Wheredidallthesemonopoliescomefrom?Itturnsoutthatindustrialconcentrationhasbeenascendentsincethe1980s.ThegrowthofmonopolycompaniesstartedlongbeforethefoundingofFacebook,GoogleorAmazon.

TheexhibitbelowisadaptedfromAutor et al (2019),whichanalyzesdatafromtheUSEconomicCensus.Theycalculatethemarketshareofthetopfourfirmsineachof676industries(e.g.,grainandoilseedmilling,furniturestores,soundrecordingindustries).Theyfindthattheaverageincreasedbyaround50%from1980to2012.

Forthemostpart,BigTechbuilttheirempiresorganically.However,thatisnottosaytheyhaven’talsodippedintotheirmassivewarcheststoacquirecompetitors(Instagram)andexpandintoadjacentmarkets(WholeFoods).Overthepastthreedecades,BigTechmade770 acquisitions,ofwhich29wereworthover$1billion.

However,manyothermonopolieswereassembledprimarilythroughacquisition.Thepastfourdecadeshavewitnessedsignificantconsolidationinindustriesrangingfromrailroadstocabletobanking.Thismayverywellberationalcompetitivebehavior.Ifyourmajorsuppliers,competitors,andcustomersareconsolidating,ithelpstobebigyourself.Mostindustrieshavegonefromdozensofsmallcompetitorstoafewgiants.

Source: Commission on the Future of the US Aerospace Industry

ThecurrentwaveofM&Aactivitythatbeganinthe1980shasbeenakeydriverofrisingindustrialconcentration.

Whilethewhalesarebusygobblinguptheirsmallerrivals,nobodyhasbeenrestockingthepond(okay,Iknowthatwhalesdon’teatfish).Newbusinessformationhasbeenfallingsince1977.Similarly,thenumberofpubliclylistedcompanieshasbeendecliningsincethemid-1990s.Theriseofmonopolieshascoincidedwithafallinentrepreneurship.

Insummary,thepastfourdecadeshavebeenmarkedbytheriseofmonopolies.Inalmosteveryindustry,marketshareisbeingconcentratedinasmallhandfulofcompanies.

Recenteconomicsresearchhaslinkedindustryconcentration,corporateprofitabilityandincomeinequality.Thefollowingpapers(one,two,three,four)explainthismorerigorously.However,weputtogetherourownsummarysoyoudon’thavetowadethrough300+pagesofacademicjournals.

Superstar Firms

Autor et al (2019)aptlycallsthesewinners“superstarfirms.”Ifweexaminethecharacteristicsofsuperstarfirms,wefindsomethinginterestingandintuitive.

First,wefindthatdominantfirmsaremoreprofitablethantheirsmallercompetitors.Thisisperhapsalmosttruebydefinition,astheirprofitabilitylikelycontributestotheirdominance.

Thedistributionofprofitabilityhasaccordinglybecomeextremelyrightskewed.Thereareafew“superstarfirms”thatarebothhugeandhugelyprofitable.Andthenthereistherestoftheindustry,whoaresmallandbarelyprofitable.

Second,wefindthatdominantfirmsarelessreliantonlabor.Theyneedfeweremployeestogenerateagivenamountofrevenue.

Giventheirheavyuseofautomation,thelaborefficiencyofBigTechisevenmoreextreme.Appleonlyhas0.37employeesper$1millionrevenue.Usingthislogic,Scott GallowayestimatesthatGoogleandFacebook’sdisruptionoftheadvertisingindustryledtoaround199,000joblosses.

Inaddition,Autor et al (2019)andDe Loecker et al (2020)bothfindthatsuperstarfirmspayasmallershareoftheirrevenueoutaswages(note:bigfirmsactuallypayhighersalariesinabsolute,butjustlessasapercentageoftheirmuchgreatersales).

1. Largefirmsaremoreprofitableandpayasmallershareoftheirrevenuetotheirworkers

Theupshotofthesetwoeffectsisthatprofitmarginsriseandthelaborsharedeclinesattheaggregateeconomylevel.Thisisanimportantfindingbecauseitsimultaneouslyexplainstwocurrentmacroeconomicpuzzles.

The Profit Puzzle

TheUSstockmarkethasdoneverywelloverthepastfewdecadesandnowlooksquiteexpensive.Whiletherearemanyfactorsthatpotentiallyjustifyitsloftyvaluation,perhapsthemostpowerfulargumentisthestrengthofUScorporateprofits.

Historically,profitswerereliablymean-revertingaround6%ofGDP(blue).However,startinginthelate-1990s,theyseeminglyunderwentaparadigmshift(red).Whiletheystillgyratewiththebusinesscycle,itappearstobearoundasignificantlyhighermean.

“Inmyopinion,youhavetobewildlyoptimistictobelievethatcorporateprofitsasapercentofGDPcan,foranysustainedperiod,holdmuchabove6%.Onethingkeepingthepercentagedownwillbecompetition,whichisaliveandwell.Inaddition,there'sapublic-policypoint:Ifcorporateinvestors,inaggregate,aregoingtoeatanever-growingportionoftheAmericaneconomicpie,someothergroupwillhavetosettleforasmallerportion.Thatwouldjustifiablyraisepoliticalproblems--andinmyviewamajorreslicingofthepiejustisn'tgoingtohappen.”

Givenprofitsarestillelevatedin2020,itwouldseemthatBuffettunderestimatedtheproverbialappetiteofcorporateinvestorsforAmericanpie.Buthemaystillbeprovencorrectintimeaspoliticalbacklashseemstobegainingsteam.

Andthisbacklashcouldhaveconsiderabledownsideforinvestors.Ifprofitmarginsweretorevertto6%,itwouldresultina25%declineinearnings.Inthisstateoftheworld,dimmingcorporateprospectswouldlikelyalsocausevaluationstocompress,furthercompoundinglosses.Thus,thecentralquestioninassetallocationcomesdowntothesustainabilityofprofitmargins.

Wehavejustdemonstratedthat,overthepastfewdecades,superstarfirmshavecapturedagreatershareoftheirrespectivemarkets.Furthermore,thesewinnersaremoreprofitablethanthemedianfirmintheirindustry.Mathematically,ifhigher-profitfirmsnowhaveagreaterweightintheaggregate,profitmarginswillrise.

Moreover,De Loecker et al (2020)showthattheriseinprofitmarginsisdrivenbythesuperstarfirmeffect,notchangesinindustrialcomposition.Theywrite:

“Theincreaseinmarkups[i.e.,profitmargins]occurswithinallsectors,notbetweensectors.Thisisanimportantandunexpecteddiscovery.Intuitively,wewouldexpectthatcertainsectors,suchastechnology,wouldseeamuchbiggerincreaseinthemarkup.But...therearenosectorsthatsystematicallyhavehighermarketpower... theincreaseinmarketpoweroccursinallsectorsandindustries.”

MyformerbosshasthoughtaboutthisissuemorethananyoneIknow.Hehasalsoconcludedthatmonopolypowerisplayingakeyroleinproppingupprofitmargins.

“Iusedtocallprofitmarginsthemostdependablymean-revertingseriesinfinance.Andtheywerethrough1997.…Inaworldofreasonablecompetitiveness,highermarginsfromlong-termlowerratesshouldhavebeencompetedaway.…Buttheywerenot,andIbelieveitwaspreciselytheseotherfactors–increasedmonopoly,political,andbrandpower–thathadcreatedthisnewstickinessinprofitsthatallowedthesenewhighermarginlevelstobesustainedforsolong.”

Wecannowfinallyresolvetheprofitmarginpuzzle.Elevatedprofitsarethedistributionalconsequenceofeconomicactivitybeingallocatedtosuperstarfirms.

The Labor Puzzle

Overthesametimeperiod,theUShaswitnesseda declineintheshareofGDPthatispaidtoworkers.Thisdeclineisthemirrorimageoftheriseofcorporateprofitmargins.

Wecanexplainthisphenomenonusinganidenticallineofreasoning.Economicactivityhasbeenreallocatedfromafragmentedsetoffirmstoafewbehemoths.Thesegiantspayasmallershareofthespoilstotheiremployees,causingtheaggregatelaborshareofGDPtodecline.

Itiswellestablishedthatcorporateequityisoverwhelminglyownedbythewealthy.Incontrast,otherpeopleprimarilydependontheirwagesforincome.Thus,itfollowsthatthereallocationofeconomicgainsfromlabortocapitalexacerbatesinequality.

Buffett’s Moats

Inourlast paper,wementionedthatWarrenBuffett,whohashistoricallyeschewedtechnologystocks,recentlyput20%ofhisportfoliointoApple.Inhis2018shareholderletter,hewrote:“Ididn'tgointoApplebecauseitwasatechstock...[but]becauseofthevalueoftheirecosystemandhowpermanentthatecosystemcouldbe.”

ThevalueofApple’s“ecosystem”isevidentinitsabilitytotakeabig30%biteofAppStoresales.ThispricingpowerstemsfromthefactthatAppleandGoogletogethercontrol99%ofthesmartphoneoperatingsystemmarket,leavingdeveloperssuchasEpic Gamesnoviablealternatives.

Themorewehavethoughtaboutit,thelesswefeelBuffett’sAppleinvestmentisanoutlier.Infact,itseemstobethecontinuationofadeliberatestrategy.WarrenBuffettlovescompanieswithwidemoats.Andmonopolypowerconfersaverywidemoatindeed!

“Thesinglemostimportantdecisioninevaluatingabusinessispricingpower.Ifyou’vegotthepowertoraisepricingwithoutlosingbusinesstoacompetitor,you’vegotaverygoodbusiness.... Ifyou’vegotagoodenoughbusiness-ifyouhaveamonopolynewspaper,ifyouhaveanetworktelevisionstation... youridiotnephewcouldrunit.”

Moody’sisoneofthreecreditratingagenciesthattogethercontrol95%ofthemarket.TheBigThreeevenenjoyaregulatoryadvantageduetotheirstatusontheSEC’sapprovedlist.Buffettunderstoodthiswell,callingMoody’s“anaturalduopoly”with“incrediblepricingpower”(FCIR).

InadditiontoMoody’s,Buffetthaspositionsinavarietyofotherextremelyconcentratedindustries.Forexample,heownsoneoftwocompaniesthattogethercontrol92%ofthekidneydialysismarket.HealsoownsVerisign,whichhandlesdomainregistrationsfor80% of all websites(excludingcountrydomainslike.us).HisinvestmentsinBenjaminMoore,Coca-Cola,Duracell,andClaytonHomesreflectasimilarlogic.

Thebestexampleofthisstrategywashis2016investmentintheUSairlines.Historically,theairlineshadbeennotoriousvaluedestroyers.In2008,Buffetthimselfjokedthatinvestorswouldbebetteroffifa“farsightedcapitalisthadbeenpresentatKittyHawk[andshot]Orvilledown.”

However,overthenextseveralyears,theairlinesunderwentaseriesofmergers.By2016,thebigfourairlineshad80%ofthedomesticmarket.Inresponse,Buffetttooka10%stakeinallfourcompanies.Thebetwasnotonanyindividualairlinebutontheindustrygainingpricingpowerafterconsolidation.Andhewasright!

ItturnsoutthatBuffett’sairlinetradewouldhaveworkedoutquitewellifappliedsystematicallyoverthepastcoupledecades.Wecreatedasimplerulethatbuyscompaniesinindustrieswithincreasingconcentration.Thisstrategywouldhaveoutperformedthemarketby2.2%peryear(note:thisisabacktestanddoesnotincludetradingcosts).

Thekeytothisstrategyisthatitfocusesonchangeandnotlevel.Stocksinconcentratedindustriestradeathighermultiplesasthemarketissmartenoughtorecognizetheirmonopolypower.Therefore,aninvestmentstrategythatsimplybuyscompaniesinconcentratedindustriesdoesnotoutperform.However,themarketdoesseemtobeslowtorecognizethepricingpowerconferredbyrisingindustryconcentration.

Other Investment Implications

Theoverallstoryofaworldgraduallyconvergingintoafewmega-corporationshasmanyotherpotentialinvestmentimplications.AtSparkline,weareactivelyexploringsomeofthesethemes.Hereareacoupletochewon:

1.Small-vs.Large-CapStocks:Thesmall-cappremiumisapopularquantitativestylefactor.However,smallcapshaven’tdeliveredconsistentreturnssincetheearly1980s.Wenotethatmonopolypowerandsizearenotperfectlycorrelated.Forexample,AlaskaAirlinesisa$5billioncompanybutonlyhasa6.3%marketshare.Thatbeingsaid,itseemspossiblethattheriseofmonopoliesoverthesameperiodasthesizefactor’sdemiseismorethanacoincidence.

2.Valuevs.GrowthStocks:Aswediscussedlast month,thevaluefactorisinthemidstofa13-yeardrawdown.Wefoundthatthemarketassignsahighervaluationtocompaniesinconcentratedindustries.Inotherwords,themarketexpectsthatmonopolyindustrieswillmanagetosustaintheirhigherprofitmargins.Thus,itisplausiblethatvalue’sdrawdowncanbereframedasduetoanimplicit(andincorrect)betagainstthepersistenceofmonopolies.

Whiletheriseofmonopoliesisanempiricalfact,theexplanationforthisphenomenonisnotwellestablished.Manyinsightfuleconomics,legal,andpoliticalpunditshaveweighedin.Theirargumentscanbroadlybecategorizedintotwocompetingnarratives:

1.NaturalMonopoly:Bigcompaniesarethenaturaloutgrowthofeconomiesofscale,globalizationandtechnology.Thesecompanieshavefairlyearnedtheirmonopolystatusesandtheirscaleisefficient.

2.CoerciveMonopoly:Monopolistshaveusedregulatorycaptureandanti-competitivepracticestocorruptthecapitalistsystem.Theyextractrents,fuelinequality,andstifleinnovation.

Natural Monopoly

Thisnarrativerestsontheideathatweareincreasinglylivinginaworldofscale.Inboththephysicalanddigitalrealms,biggerisbetter.GiantfactoryfarmsandGigafactoriescanproducecornandbatteriesatlowerperunitcosts.MerchantsreachmorepotentialcustomersbylistingtheirproductonAmazonthanitssmallercompetitors.

Sincethe1980s,themegatrendsofglobalizationandtechnologyhavefueledtheriseofscale.

Globalizationhasledtotheopeningupoflocalmarkets.Thishasgreatlyincreasedthe“winner-take-all”natureoftheeconomy.Consideraworldofhundredsofindependenttowns.Eachtownhasitsowngrocer,musician,andfactorywithacaptivemarket.Nowimagineweconnectalltheselittletowns.Theplayerswillnowcompeteovermuchhigherstakes.ManywillgooutofbusinessbutthefewthatremainwillbethenextWalmart,TaylorSwiftandFoxconn.

Thecurrentwaveofglobalizationbeganinthe1970sandacceleratedwiththeopeningofChina.Asmarketsopenedup,companiesconsolidatedinordertoachievetheefficienciesrequiredtocompeteonaglobalscale.Conversely,firmgrowthmayjustbethehappyresultofsuccessfullyleveragingone’sexpertise(e.g.,design,manufacturing,branding)acrossmuchbiggerglobalmarkets.

Economiesofscalehavebecomeevenmoreprevalentintheinformationage.Technologicaleconomicsareoftencharacterizedbyhighupfrontcostsandanearlyzeromarginalcostofproduction.ItcostsMicrosoftnothingtoproduceanadditionalunitofExcelasalltheR&Dwaspaidupfront.AsBrad DeLong and Larry Summers (2001)explain:

“Anindustrywithhighfixedcostsandnear-zerovariablecostshasanotherimportantcharacteristic:ittendstomonopoly.Theruleofthumbinhightechnologyhasbeenthatthemarketleadermakesafortune,thefirstrunner-upbreakseven,andeveryoneelsegoesbankruptrapidly.…[C]ompetitioninalreadyestablishedmarketswithhighfixedandlowvariablecostsisnearlyimpossibletosustain.”

Technologyandglobalizationhavealsoenhancedthepowerofnetwork effects.Ifthevalueofacompany’sproductdependsonobtainingacriticalmassofusers,onceithaspaidtherequisitecustomeracquisitioncosts,ithasanearlyinsurmountablemoat.Whilesocialnetworksandtechmarketplacesarethecanonicalexamples,networkeffectsexistinallindustries.Forexample,tradersgototheNewYorkStockExchangeduetotheliquidityithasfromthemillionsofothertradersusingit.

Duetonetworkeffectsandhighfixedtovariablecosts,theargumentisthatitmakesmoresensetohavejustafewgiantsocialnetworks,e-commercesites,andfinancialexchanges.Thisallowssocietytomaximizethevalueofeconomiesofscale,whichideallycanthenbespreadacrossthevariousstakeholders.Fragmentation,incontrast,wouldbeinefficient.

Thisnarrativeviewsconcentrationastheinevitablebyproductofeconomiesofscale,globalization,technologyandnetworkeffects.Importantly,itdoesnotviewthesuccessofBigTechandothermonopoliesasresultingfromunfaircompetitivepractices.Furthermore,itviewstheircontinueddominanceasthedesiredsocialandeconomicoutcome.Inotherwords,MarkZuckerbergmaybeadictator-butheisabenevolentone.

Coercive Monopoly

Thecompetingnarrativepaintsmonopolistsascorruptrobberbaronsemblematicoflate-stagecapitalistdecay.Inthisview,thesefirmsengageinanti-competitivebehavior,exacerbateinequality,andabusetheirpoliticalinfluencetoextractmonopolyrents.

First,theyarguethatmonopolistsusetheirpowertostiflecompetition.Forexample,intheBigTechhearing,Amazonwasaccusedofusingpredatory pricingtocrushitssmallerrival,diapers.com.Amazonallegedlypricedtheirdiapersatalosstoforcediapers.comtosellthemselvestoAmazononthecheap.AnearlierexampleisMicrosoftusingitsoperatingsystemmonopolytocoerceuserstouseitsownbrowseroverthatofitsrivalNetscape(bundling).

Second,industryconcentrationresultsinlowerwagesandhigherinequality.Wealreadyshowedthatsuperstarfirmshavefewerworkersandalowerlaborshareofrevenue.Thecynicalviewisthatthisisduenottoefficienciesbuttotheunfairnegotiatingpowerfirmspossesswhentheyareoneoftheonlyemployersinone’sprofession(andcommutingradius).Especiallygiventhedeclineofunions,whenbigcompaniesfacefragmentedlabormarkets,theytendtoemergevictorious.Azar et al (2019)estimatesthatincreasedlabormarketconcentrationresultsina17%fallinwages.

Third,largeincumbentsmayusetheirinfluencewithregulatorstoerectbarriersinordertopreventnewfirmsfromenteringtheirindustry.Increasingtheburdenofregulatorycompliancemakesitmoredifficultforsmallerfirmswithoutarmiesoflawyers.Thisso-called“regulatorycapture”canbeaccomplishedthroughacombinationoflobbyingandtherevolving door.

GeorgeMasonUniversity’sRegDatadatabaseusessimplenaturallanguageprocessingtechniquestoquantifythegrowthinregulatoryrestrictions.Inparticular,theylookformentionsofthewords“shall”,“must”,“maynot”,“prohibited”,and“required”intheCodeofFederalRegulations.TheRegDataindexhasincreased2.6timesfrom1970to2019.That’salotofredtape!

Insummary,thisnarrativeattributesmonopolists'moatstounfairplay:crushingcompetitors,squeezingworkers,andcorruptingregulators(h/t Jonathan Tepper).

(Anti-)Trust Falls

TheFederalTradeCommissionandDepartmentofJusticeareresponsibleforenforcingUSantitrustlaw.TheFTCwasestablishedin1914inresponsetothetrustsoftheGildedAge.Itisresponsiblefor“promotingamarketplacefreefromanticompetitivemergers,businesspractices,orpublicpolicyoutcomes.”

However,theseagencieshavebecomemuchmorelaissezfairesincethe1980s.ThiswaslargelyduetoaphilosophicalshiftchampionedbyRobertBork,whichnarrowedthedefinitionofantitrustto“consumerwelfare”.Onthismetric,forinstance,aslongasAmazonorAppleareabletoimprovethecustomerexperience(i.e.,lowerprices,higherquality,morechoices),theygetafreepass.

Theneteffectisthatmergersarealmostneverblockedandcompaniesarerarelyfinedforantitrustviolations.ThedeclineofantitrustenforcementhasproceededthroughbothDemocraticandRepublicanadministrations.

Theantitrustenforcementagenciesareanimportantpotentialweaponforthosewhoseektoreversetheriseofmonopolies.Thus,itisunsurprisingthatBigTech’scriticshavearguedthattheagenciesneedtoupdatetheirframeworkfortheuniquefeaturesofdigital monopolies.

The Rise of Populism

Theriseofglobalization,technologyandmonopolyhasbeenaccompaniedbyafourthtrend:theriseofpopulism.

Inthepoliticaldiscourse,theriseofcorporatemonopoliesisassociatedwithmanyoftoday’sperceivedills.Populistmovementsonboththerightandthelefthavecroppeduptorailagainstregulatorycorruption,inequality,BigTech,andglobalization.

AsBuffettsaidearlier,theinequalitycausedbycorporationsgrabbingabiggershareofthepiefromlaboris“justifiablyrais[ing]politicalproblems.”Similarly,RayDaliohaswrittenthattherisingtideofpopulismwillplayapowerfulroleinshapingeconomicpolicy.

Ofcourse,politicianstendtooverpromiseandunderdeliver.In2016,DonaldTrumpwaselectedonthebackofapopulist,anti-establishmentcampaign.HeevenexplicitlycalledouttheproposedAT&T-TimeWarnerandcompletedComcast-NBCmergersas“too much concentration of power in the hands of too few.”However,sincebeingelected,hehasnotfollowedthroughonhisthreats.Caseinpoint-theAT&T-TimeWarnermergerwasapprovedin2018.

Elevatedcorporateprofitshavebeengreatforinvestors,butthereisconsiderabledownsideriskiftheymeanrevert.Therefore,investorsmustpaycloseattentiontotheshiftingpoliticalwinds,especiallygiventheupcomingelection.

Sincethe1980s,industrialconcentrationhasexperiencedadramaticrise.WhileBigTechisthemostextremeexample,thiseffecthasoccurredacrossallindustries.Mostindustriesarenowdominatedbyafewsuperstarfirms.Thesefirmscapturealargershareofeconomicactivityandpayasmallerportiontoworkers.Thisreallocationhascontributedtoelevatedprofitmarginsanddepressedlaborshare.

Explainingtheriseofmonopoliesiscontentious.Onesideviewstheirriseasthenaturaloutgrowthofeconomiesofscale,globalizationandtechnology,whiletheotherfocusesonunfaircompetition,laborpracticesandregulatorycapture.Theimportanceofmonopoliesinsustaininghighcorporateprofitsandhencestockmarketpricesmeansinvestorsshouldpaycarefulattentiontoemergingpopulistpoliticalmovements.

Thispaperissolelyforinformationalpurposesandisnotanofferorsolicitationforthepurchaseorsaleofanysecurity,norisittobeconstruedaslegalortaxadvice.Referencestosecuritiesandstrategiesareforillustrativepurposesonlyanddonotconstitutebuyorsellrecommendations.Theinformationinthisreportshouldnotbeusedasthebasisforanyinvestmentdecisions.

Wemakenorepresentationorwarrantyastotheaccuracyorcompletenessoftheinformationcontainedinthisreport,includingthird-partydatasources.Theviewsexpressedareasofthepublicationdateandsubjecttochangeatanytime.

Hypotheticalperformancehasmanysignificantlimitationsandnorepresentationisbeingmadethatsuchperformanceisachievableinthefuture.Pastperformanceisnoguaranteeoffutureperformance.