US History of investment company

"US History Encyclopedia: Investment Companies

As defined by the 1940 Investment Company Act, investment companies are publicly held corporations or trusts 'in the business of investing, reinvesting, owning, holding, or trading in securities.' In the form of mutual (or open-end) funds, they constituted the most spectacular growth industry on Wall Street in the late twentieth century, which is all the more remarkable in light of the role that (closed-end) investment companies played in the speculative mania leading up to the October 1929 stock market crash.


Early Developments and Abuses

The first investment companies in the United States developed out of public utility holding companies and were organized to gain control of corporations. Public utility holding companies issued bonds and used the proceeds to purchase controlling shares of utility companies. In 1905, the Electric Bond and Share Company (EB&S) became the most prominent investment company of the pre– World War I period by taking the next step and issuing preferred stock in order to use the proceeds to purchase controlling shares of utilities. EB&S was organized by General Electric (GE). It purchased controlling shares of utilities because they were, or would become, major purchasers of GE equipment.

Although public utility holding companies remained a major factor in the investment company movement of the 1920s, a structural change in the source of new savings available for investment purposes ensured an increasingly prominent role for the investment companies organized by investment banks. Prior to World War I, firms like J. P. Morgan and Company and Kuhn, Loeb and Company dominated investment banking because of their access to British and German savings, respectively.

But after the war, which destroyed Britain and Germany as sources of new savings, dominance shifted to investment banks like Dillon, Read and Company and Goldman, Sachs and Company because of their success in organizing investment companies that served as magnets for the savings of salaried workers and small business owners in the United States. The keys to their success were large sales forces dependent on commissions for their incomes, installment payment plans for customers, and mass advertising campaigns designed to persuade millions of Americans that, by purchasing shares of investment companies, they could gain the same diversification, liquidity, and continuous supervision of their investments enjoyed by the wealthy. ..."

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