A fund approaching its reporting date can improve appearances twice. First it sells disappointing holdings so clients will not see embarrassing names. Then it sells successful holdings to offset the realized losses. The report looks better. Whether those businesses deserve to be sold is another matter.
Philip Fisher describes this practice, called window dressing, in his account of the early nineteen seventies. His answer to the pressure is conditional patience: give a sound business time to develop, keep checking its prospects, and distinguish a reporting deadline from an actual need for cash or a threat to ownership. The reason for acting matters more than the feeling of urgency.
Products and processes can take years to become profitable. Even then, share prices may recognize progress in irregular jumps. A strong quarter cannot promise another one. Demands for smooth annual earnings can tempt managers to favor appearances over useful development. Fisher also suspects that some institutional employees prefer smooth results because they want to avoid explaining a down year to their superiors.
Selling a successful holding can be particularly costly. With shares owned outright, without borrowing, the loss is limited to the amount invested. A rare winner can rise severalfold and offset other mistakes. Research helps identify such opportunities, though it cannot eliminate error. Selling simply to improve this year's report can surrender the benefit of that work.
Fisher proposes making the missed gains visible. Managers would report previously sold shares that subsequently rose most. A future winner would then remain part of the manager's reputation after leaving the portfolio. This is a proposed accountability rule, not a requirement he reports as law.
What actually requires a sale
Other investors' urgency can spread. Institutions receiving similar advice and facing similar deadlines may trade together, creating large price swings and concentrating attention on a few favored companies. The size of a seller does not establish the quality of its judgment.
Its cash obligations may still be real. A fund expecting client withdrawals needs shares it can sell in sufficient quantity. A promising small company's thin resale market can legitimately rule it out. Wanting to sell quickly after a short-term gain is a different constraint, imposed by the trading strategy. A company's market may broaden as it grows, but that possibility cannot pay a client's withdrawal today.
These horizons also affect businesses seeking fresh capital. Fisher describes speculative new-share booms in which buyers expect quick resale gains. When the boom collapses, even strong smaller firms can lose access to affordable funding. Buying an existing share sends no new money to the company. His case for patient ownership runs through investor confidence and a more dependable market for new offerings that finance products, facilities and jobs.
Fisher argues the period's tax rules encourage short horizons. He proposes two changes. Owners of shares held for many years could sell and reinvest in shares of the same general class without a tax penalty. A separate additional tax on gains from short holdings would decline each month and disappear after two years. He wanted these incentives to favor business merit over quick turnover, especially in new issues. They are historical proposals, not instructions under current tax law.
When the rules change
Politics requires a harder distinction. Destructive taxation, regulation or confiscation can overwhelm an excellent business. Patience cannot preserve ownership that the state takes away. Fisher nevertheless judged extreme outcomes unlikely in the United States of his period. Checks and balances, centrist voters, broad asset ownership and gradual change gave him reasons to expect restraint and time for businesses to adapt. That was a historical judgment, not a guarantee for other countries or future governments.
An election can also express anger at inflation or depression rather than commitment to a permanent ideological direction. Disliking a government does not make the worst imaginable result probable. Fisher wants investors to examine likely consequences. Independent investigation can also uncover worthwhile businesses obscured by market distress.
The mechanism matters. Higher corporate taxes leave less money for research and expansion, though Fisher expects strong companies to absorb modest increases applied uniformly. A tax heavily penalizing profits above an old earnings base does something different. Efficient growth produces precisely the earnings most exposed to the charge. Wasteful spending can become attractive because the money would otherwise be taxed away, weakening the company's competitiveness.
Regulation can change which company has an advantage. Fisher argues that sensible consumer and environmental standards may help firms already maintaining high standards against less conscientious rivals. Price controls create a different chain of effects. Producers move away from goods made less profitable by ceilings, supplies shrink, and a missing inexpensive component can hold up an entire machine. Even an efficient company can suffer through its suppliers.
Fisher leaves room for useful reform too. Inflation can push a worker into higher effective taxes without increasing what the pay buys. Adjusting exemptions and tax brackets with prices could address that unfairness. Similar reasoning might relieve businesses taxed on money needed to replace increasingly expensive equipment and inventory. He suggests liberal politicians might enact such relief without appearing beholden to business. He offers a possibility, not a prediction that a leftward shift benefits shareholders.
Waiting therefore needs continuing justification. Business progress and a sound appraisal may support it. Cash needs or a policy that destroys earning power may defeat it. Neither the calendar nor political dislike can settle those questions on its own.
Three things to keep
Reporting deadlines can encourage selling the exceptional winners that patient ownership needs.
Real cash obligations and threats to ownership can justify action despite promising business prospects.
Judge political changes by their likely business effects, including the possibility of useful reform.