,,how ,,to ,,invest     ,,money         
,,by      ,,george ,,garr ,,henry       
,vice-,president ,guaranty ,trust       
,company1 of ,new ,york                 
,illustration      ,,funk  ,,wagnalls   
,,company     ,,new ,,york ,,and        
,,london     #aijh         ,,copyright1 
#aijh1 ,,by     ,,funk  ,,wagnalls      
,,company     ,printed in the ,united   
,states of ,america     ,published      
,april1 #aijh                           
,,contents                              
,,page      ,,preface                   
#e      ,i4 ,,general ,,principles ,,of 
,,investment       #g      ,,ii4        
,,railroad ,,mortgage ,,bonds           
#bc      ,,iii4 ,,railroad ,,equipment  
,,bonds            #dj      ,,iv4       
,,real-,,estate ,,mortgages             
#ea      ,v4 ,,industrial ,,bonds       
#fc      ,,vi4 ,,public-,,utility       
,,bonds                 #gf      ,,vii4 
,,municipal ,,bonds                     
#ia      ,,viii4 ,,stocks               
#ajj      ,,ix4 ,,market ,,movements    

,,of ,,securities      #ajh             
,,preface   ,the aim of this book is to 
present in clear form the simple        
principles of investment1 and to afford 
the reader a working knowledge of the   
various classes of securities which are 
available as investments and their      
relative adaptability to different      
needs4 ,the book is an outgrowth of the 
writer's personal experience as an      
investment banker4 ,most of the matter  
which is presented has appeared in the  
pages of ,system ,magazine1 through the 
courtesy of whose editors it is now     
rearranged and consolidated for         
publication in book form4               
,g4 ,g4 ,h4     ,,how ,,to ,,invest     
,,money     ,i  ,,general ,,principles  
,,of ,,investment   ,with the immense   
increase in wealth in the ,united       
,states during the last decade and its  
more general distribution1 the problem  
of investment has assumed               
correspondingly greater importance4 ,as 
long as the average business man was an 

habitual borrower of money and possest  
no private fortune outside of his       
interest in his business1 he was not    
greatly concerned with investment       
problems4 ,the surplus wealth of the    
country for a long time was in the hands
 of financial institutions and a few    
wealthy capitalists4 ,these men1 the    
officers and directors of banks1        
savings-banks1 and insurance companies1 
and the possessors of hereditary wealth1
 were thoroughly equipped by training   
and experience for the solving of       
investment problems and needed no help  
in the disposition of the funds under   
their control4 ,during the last ten     
years1 however1 these conditions have   
been greatly altered4 ,the number of    
business men to-day in possession of    
funds in excess of their private wants  
and business requirements is far greater
 than it was ten years ago1 and is      
constantly increasing4 ,these men are   
confronted with a real investment       
problem4  ,while they have not always   

recognized it1 the problem which they   
are called upon to solve is really      
twofold--it concerns the safeguarding of
 their private fortune and the wise     
disposition of their business surplus4  
,they have usually seen the first part  
of this problem1 but not all have       
succeeded in clearly understanding the  
second4 ,when the treatment of a man's  
business surplus is spoken of as an     
investment problem1 it is meant1 of     
course1 not his working capital1 which  
should be kept in liquid form for       
immediate needs1 but that portion of his
 surplus which is set aside for         
emergencies4 ,it is coming to be a      
recognized principle that every business
 enterprise of whatever kind or size    
should establish a reserve fund4 ,it is 
felt that the possession of a reserve   
fund puts the business upon a secure    
foundation1 adds to its financial       
strength and reputation1 and greatly    
increases its credit and borrowing      
capacity4 ,the recognition of this fact1

 combined with the ability to set aside 
a reserve fund1 has brought many men to 
a consideration of the best way in which
 to dispose of it4 ,it is obviously a   
waste of income to have the surplus in  
bank-accounts2 more than that1 there    
would be a constant temptation to use it
 and to confuse it with working capital4
 ,its best disposition is plainly in    
some safe interest-bearing security1    
which can be readily sold1 so that it   
will be available for use if necessity  
demands4  ,confronted with the double   
problem thus outlined1 what measure of  
success has attended the average        
business man in its solution8  ,it is   
safe to say that the average man has    
found it easier to make money than to   
take care of it4 ,money-making1 for him1
 is the result of successful activity in
 his own line of business1 with which he
 is thoroughly familiar2 while the      
investment of money is a thing apart    
from his business1 with which he is not 
familiar1 and of which he may have had  

little practical experience4 ,his       
failure to invest money wisely is not   
due to any want of intelligence or of   
proper care and foresight on his part1  
as he sometimes seems to believe1 but   
simply because he is ignorant of the    
principles of a business which differs  
radically from his own4  ,the investment
 of money is a banker's business4 ,when 
the average man has funds to invest1    
whether he be a business man or a pure  
investor1 he should consult some        
experienced and reliable investment     
banker just as he would consult a doctor
 or a lawyer if he were in need of      
medical or legal advice4 ,this book is  
not intended to take the place of       
consultation with a banker1 but to      
supplement it4  ,the advantage of such  
consultation is shown by the fact that  
if a man attempts to rely on his own    
judgment1 he is almost certain not to do
 the best thing1 even if his business   
instinct leads him to avoid those       
enterprises which are more plainly      

unpromising or fraudulent4 ,it should be
 remembered1 however1 that widows and   
orphans are not the only ones ensnared  
by attractive advertisements and the    
promise of brilliant returns4 ,in most  
cases1 widows' and orphans' funds are   
protected by conscientious and          
conservative trustees1 and it is the    
average business man who furnishes the  
money which is ultimately lost in all   
propositions which violate the          
fundamental laws of investment4  ,the   
average man is led into these unwise    
investments through a very natural error
 of judgment4 ,accustomed to take       
reasonable chances and to make large    
returns in his own business1 he fails to
 detect anything fundamentally wrong in 
a proposition simply because it promises
 to pay well4 ,he forgets that the rate 
of interest on invested money1 or pure  
interest1 is very small1 and that       
anything above that can only come as    
payment for management1 as he makes in  
his own business1 or at the sacrifice of

 some essential factor of safety which  
will usually lead to disaster4  ,for the
 successful investment of money1        
however1 a good deal more is required   
than the mere ability to select a safe  
security4 ,that is only one phase of the
 problem4 ,scientific investment demands
 a clear understanding of the           
fundamental distinctions between        
different classes of securities and     
strict adherence to the two cardinal    
principles1 distribution of risk and    
selection of securities in accordance   
with real requirements4  ,one of the    
most important distinctions is that     
between promises to pay and equities4   
,bonds1 real-estate mortgages1 and loans
 on collateral represent somebody's     
promise to pay a certain sum of money at
 a future date2 and if the promise be   
good and the security ample1 the holder 
of the promise will be paid the money at
 the time due4 ,on the other hand1      
equities1 such as the capital stocks of 
banking1 railway1 and industrial        

corporations1 represent only a certain  
residuary share in the assets and       
profits of a working concern1 after     
payment of its obligations and fixt     
charges4 ,the value of this residuary   
share may be large or small1 may        
increase or diminish1 but in no case can
 the holder of such a share require any 
one1 least of all the company itself1 to
 redeem the certificate representing his
 interest at the price he paid for it1  
nor indeed at any price4 ,if a man buys 
a #a1jjj railroad bond1 he knows that   
the railroad1 if solvent1 will pay him  
#a1jjj in cash when the bond is due4    
,but if he buys a share of railroad     
stock1 his only chance of getting his   
money back1 if he should wish it1 is    
that some one else will want to buy his 
share for what he paid for it1 or more4 
,in one case he has bought a promise to 
pay1 and in the other an equity4  ,it is
 not the intention1 from the foregoing1 
to draw the conclusion that equities    
under no circumstances are to be        

regarded as investments1 because many of
 our bank and railroad stocks1 and even 
some of our public-utility and          
industrial stocks1 have attained a      
stability and permanence of value and   
possess sufficiently long dividend      
records to justify their consideration  
when investments are contemplated2 but  
it is essential that the investor should
 have a thorough understanding of the   
distinction involved4  ,the principle of
 distribution of risk is a simple one4  
,it involves no more than obedience to  
the old rule which forbids putting all  
one's eggs in the same basket4 ,the     
number of men who carry out this        
principle with any thoroughness1        
however1 is very small4 ,proper         
distribution means not only the division
 of property among the various forms of 
investment1 as railroad bonds1          
municipals1 mortgages1 public-utility   
bonds1 etc41 but also the preservation  
of proper geographical proportions      
within each form4 ,adherence to this    

principle is perhaps not so important   
for private investors as for            
institutions4 ,a striking instance of   
the need for insistence upon its        
observance in the institutional field   
was furnished by one of the             
fire-insurance companies of ,san        
,francisco after the earthquake4 ,it    
appeared that the company's assets were 
largely invested in ,san ,francisco real
 estate and in local enterprises        
generally1 where the bulk of its fire   
risks were concentrated4 ,as a result1  
the very catastrophe which converted its
 risks into actual liabilities deprived 
its assets of all immediate value4 ,this
 instance serves to show the importance 
of the principle and the necessity for  
its observance4  ,the principle of      
selection in accordance with real       
requirements is more complex4 ,it       
involves a thorough understanding of the
 chief points which must be considered  
in the selection of all investments4    
,these are five in number3 7#a7 ,safety 

of principal and interest1 or the       
assurance of receiving the principal and
 interest on the dates due2 7#b7 rate of
 income1 or the net return which is     
realized on the actual amount of money  
invested2 7#c7 convertibility into cash1
 or the readiness with which it is      
possible to realize on the investment2  
7#d7 prospect of appreciation in value1 
or that growth in intrinsic value which 
tends to advance market price2 and 7#e7 
stability of market price1 or the       
likelihood of maintaining the integrity 
of the principal invested4  ,the five   
qualities above enumerated are present  
in different degrees in every           
investment1 and the scientific investor 
naturally selects those securities which
 possess in a high degree the qualities 
upon which he wishes to place emphasis4 
,a large part of the problem of         
investment lies in the careful selection
 of securities to meet one's actual     
requirements4 ,the average investor does
 not thoroughly understand this point4  

,he does not realize that a high degree 
of one quality involves a lower degree  
of other qualities4 ,he may have a      
general impression that a high rate of  
income is apt to indicate less assurance
 of safety1 but he rarely applies the   
same reasoning to other qualities4 ,when
 he buys securities1 he is quite likely 
to pay for qualities which he does not  
need4 ,it is very common1 for example1  
when he wishes to make a permanent      
investment and has no thought of        
reselling1 to find him purchasing       
securities which possess in a high      
degree the quality of convertibility4   
,from his point of view1 this is pure   
waste4 ,a high degree of convertibility 
is only obtained at the sacrifice of    
some other quality--usually rate of     
income4 ,if he were to use more care in 
his selections1 he could probably find  
some other security possessing equal    
safety1 equal stability1 and equal      
promise of appreciation in value1 which 
would yield considerably greater        

revenue1 lacking only ready             
convertibility4 ,thus he would satisfy  
his real requirements and obtain a      
greater income1 at the expense only of a
 quality which he does not need4  ,the  
quality of convertibility divides       
investors into classes more sharply than
 any other quality4 ,for some investors 
convertibility is a matter of small     
importance2 for others it is the        
paramount consideration4 ,generally     
speaking1 the private investor does not 
need to place much emphasis upon the    
quality of convertibility1 at least for 
the larger part of his estate4 ,on the  
other hand1 for a business surplus1     
ready convertibility is an absolute     
necessity1 and in order to secure it1   
something in the way of income must     
usually be sacrificed4  ,again1 some    
investors are so situated that they can 
insist strongly upon promise of         
appreciation in value1 while others can 
not afford to do so4 ,rich men whose    
income is in excess of their wants1 can 

afford to forego something in the way of
 yearly return for the sake of a strong 
prospect of appreciation in value4 ,such
 men naturally buy bank and             
trust-company stocks1 whose general     
characteristic is a small return upon   
the money invested1 but a strong        
likelihood of appreciation in value4    
,this is owing to the general practise  
of well-regulated banks to distribute   
only about half their earnings in       
dividends and to credit the rest to     
surplus1 thus insuring a steady rise in 
the book value of the stock4 ,rich men1 
again1 can afford to take chances with  
the quality of safety1 for the sake of  
greater income1 in a way which poor men 
should never do4 ,in practise1 however1 
if the writer's observation can be      
depended upon1 it is usually the poor   
men who take the chances--and lose their
 money4  ,in the quality of safety1     
there is a marked difference between    
safety of principal and safety of       
interest4 ,with some investments the    

principal is much safer than the        
interest1 and vice versa4 ,this can best
 be illustrated by examples4 ,the bonds 
of terminal companies1 which are        
guaranteed as to interest1 under the    
terms of a lease1 by the railroads which
 use the terminal1 are usually far safer
 as to interest than as to principal4   
,while the lease lasts1 the interest is 
probably perfectly secure1 but when the 
lease expires and the bonds mature1 the 
railroads may see fit to abandon the    
terminal and build one elsewhere1 if the
 city has grown in another direction1   
and the terminal may cease to have any  
value except as real estate4 ,on the    
other hand1 a new railroad1 built in a  
thinly settled but rapidly growing part 
of the country1 may have difficulty in  
bad years in meeting its interest       
charges1 and may even go into temporary 
default1 but if the bonds are issued at 
a low rate per mile and the management  
of the road is honest and capable1 the  
safety of the principal can scarcely be 

questioned4  ,stability of market price 
is frequently a consideration of great  
importance4 ,this quality should never  
be confused with the quality of safety4 
,safety means the assurance that the    
maker of the obligation will pay        
principal and interest when due2        
stability of market price means that the
 investment shall not shrink in quoted  
value4 ,these are very different things1
 tho frequently identified in people's  
minds4 ,an investment may possess       
assured safety of principal and interest
 and yet suffer a violent decline in    
quoted price1 owing to a change in      
general business and financial          
conditions4 ,in times of continued      
business prosperity very high rates are 
demanded for the use of money1 because  
the liquid capital of the country1 to a 
large extent1 has been converted into   
fixt forms1 in the development of new   
mines1 the building of new factories and
 railroads1 and in the improvement and  
extension of existing properties4 ,these

 high rates have the effect of reducing 
the price level of investment securities
 because people having such securities  
are apt to sell them in order to lend   
the money so released1 thus maintaining 
the parity between the yields upon free 
and invested capital4  ,as an           
illustration of this tendency1 within   
the last few years ,new ,york ,city     
#c-a_/b-per-cent bonds have declined    
from #aaj to #ij1 without the slightest 
suspicion of their safety4 ,their       
inherent qualities have changed in no   
respect except that their prospect of   
appreciation in quoted price has become 
decidedly brighter4 ,their fall in price
 has been due to two factors1 one       
general and the other special--first1   
the absorption of liquid capital and    
consequent rise in interest rates1      
occasioned by the unprecedented business
 activity of the country1 and1 second1  
to the unfavorable technical position of
 the bonds1 due to an increased supply  
in the face of a decreased demand4  ,it 

will be seen that the question of       
maintaining the integrity of the money  
invested is a matter of great importance
 and deserves to rank as a fifth factor 
in determining the selection of         
investments1 altho it is not an inherent
 quality of each investment1 but is     
dependent for its effect upon general   
conditions4 ,if it is essential to the  
investor that his security should not   
shrink in quoted price1 his best        
investment is a real-estate mortgage1   
which is not quoted and consequently    
does not fluctate4 ,for the investment  
of a business surplus1 however1 where a 
high degree of convertibility is        
required1 real-estate mortgages will not
 answer1 and the best way to guard      
against shrinkage is to purchase a      
short-term security1 whose approach to  
maturity will maintain the price close  
to par4  ,the foregoing comments1 in a  
brief and imperfect way1 serve to       
indicate the main points which should be
 considered in the selection of         

securities for investment4 ,the         
considerations advanced will be         
amplified as occasion demands in the    
following pages4 ,for the present1 the  
main lesson which it is sought to draw  
is the necessity that a man should have 
a thorough understanding of his real    
requirements before he attempts to make 
investments4 ,for a private investor to 
go to a banker and ask him to suggest a 
security to him without telling him the 
exact nature of his wants is about as   
foolish as it would be for a patient to 
go to a physician and ask him to give   
him some medicine without telling him   
the symptoms of the trouble which he    
wished cured4 ,in neither case can the  
adviser act intelligently unless he     
knows what end he is seeking to         
accomplish4  ,it is plainly impossible  
within the limits of a small volume to  
consider the needs of all classes of    
investors4 ,special attention will be   
paid to the requirements of a business  
surplus and of the private investor4 ,in

 the field of private investment two    
distinct classes can be                 
recognized--those who are dependent upon
 income from investments and those who  
are not4 ,both classes will be          
considered4 ,for the investment of a    
business surplus1 safety1               
convertibility1 and stability of price  
are the qualities to be emphasized2 for 
investors dependent upon income1 safety 
and a high return2 and for those not    
dependent upon income1 a high return and
 prospect of appreciation in value4 ,in 
the following chapters railroad bonds1  
real-estate mortgages1 industrial1      
public-utility1 and municipal bonds and 
stocks will be considered in turn2 their
 advantages and disadvantages will be   
analyzed in accordance with the         
determining qualities above enumerated1 
and their adaptability to the           
requirements of a business surplus and  
of private investment will be discust4  
,,ii  ,,railroad ,,mortgage ,,bonds   ,a
 railroad bond is an obligation of a    

railroad company 7usually secured by    
mortgage upon railroad property7 which  
runs for a certain length of time at a  
certain rate of interest4 ,it is        
apparent1 from this definition1 that the
 price of a railroad bond1 as distinct  
from its value1 is affected by two      
accidental conditions quite apart from  
the five determining qualities described
 in the preceding chapter4  ,these      
accidental conditions are the length of 
time that the bond has to run and the   
rate of interest that it bears4 ,to     
understand clearly the influence of     
these accidental conditions is a matter 
of the utmost importance4 ,it is        
evident1 for instance1 that a           
#e-per-cent fifty-year bond1 based on a 
given security1 will sell at a widely   
different price from a #c-a_/b-per-cent 
twenty-year bond1 based on the same     
security2 yet the only difference is in 
the accidental conditions which are     
under the control of the board of       
directors4  ,in order to eliminate these

 accidental features from the situation1
 it is customary for bond-dealers to    
classify bonds purely on the basis of   
their yield1 or net income return4 ,as a
 thorough understanding of this point is
 essential to an accurate judgment of   
bond values1 whether railroad bonds or  
otherwise1 it must be developed in      
detail1 even at the risk of carrying the
 reader over familiar ground4  ,if a    
bond sells above par1 it does not yield 
its purchaser a net return as great as  
the rate of interest which the bond     
bears1 for two reasons3 first1 because  
the loss in principal1 represented by   
the premium which the purchaser pays1   
must be distributed over the number of  
years which the bond has to run1 and    
operates to reduce the rate of interest 
which the holder receives2 and1         
secondly1 because the rate is paid only 
on the par value of the bond instead of 
on the actual money invested4 ,thus1 if 
a #f-percent bond with eight years to   
run sells at #aaj-c_/d1 it will yield   

only #d4dj per cent1 which means that if
 the holder spends more than #dh4gc     
7#d4dj per cent of #a1ajg4ej7 out of the
 #fj which he receives annually1 he is  
spending the excess out of principal1   
and not out of income4 ,conversely1 if a
 bond sells below par1 it yields more   
than the rate of interest which the bond
 bears4  ,these yields have been        
calculated with the utmost exactness for
 all bonds paying from #b per cent to #g
 per cent and running from six months to
 one hundred years1 so that it is only  
necessary to turn to the tables to      
discover what will be the net return    
upon a given bond at a given price4     
,this net return is generally known as  
the basis1 and bonds are spoken of as   
selling upon a #c4hj per cent basis or a
 #d4fe per cent basis or whatever the   
figure may be1 with no reference        
whatever to the price or to the rate of 
interest which the bond bears4 ,indeed1 
so exclusively is the basis considered  
by bond-dealers that very often bonds   

are bought and sold upon a basis price1 
and the actual figures at which the     
bonds change hands are not determined   
until after the transaction is          
concluded4  ,it is not expected1 of     
course1 that the average business man   
will purchase bonds in quite as         
scientific a way as this1 but it is     
essential that he should understand that
 while the intrinsic value of a bond is 
determined only by the five general     
factors described1 its money value1 or  
price1 is affected also by these two    
accidental conditions4 ,exprest in other
 words1 he must realize that the general
 factor described as rate of income does
 not mean the coupon rate of interest   
which the bond bears1 but the scientific
 basis1 derived by elimination of the   
accidental features4  ,within the past  
year there has been a good deal of      
uninformed comment about the safety of  
railroad bonds4 ,before the era of      
popular agitation and governmental      
antagonism1 railroad bonds enjoyed a    

large measure of public confidence2 but 
it can not be denied that some part of  
this confidence has been shaken as a    
result of the recent exposures4 ,even   
clearheaded men have exaggerated the    
importance of the developments2 and too 
often railroad officials1 who should    
have insisted upon the soundness and    
stability of their properties1 when they
 elected to talk for publication1 have  
given way instead to dismal and         
unwarranted forebodings4  ,there is no  
mystery involved in determining the     
safety of railroad bonds4 ,any man of   
business experience1 keeping in mind the
 general principle which measures the   
value of all obligations1 can easily    
determine1 with the aid of two          
documents1 the degree of safety which   
attaches to any particular railroad     
bond4 ,the general principle to be      
observed is that the safety of any      
obligation depends upon the margin of   
security in excess of the amount of the 
loan2 and the two documents to be       

consulted are the mortgage or trust     
indenture securing the bonds1 which     
describes the property mortgaged1 and   
the last annual report of the railroad1 
which shows its financial condition4    
,confining the analysis1 for the        
present1 to mortgage bonds upon the     
general mileage of a railroad1 the      
following points should be considered3  
7#a7 ,rate per mile at which the bond is
 issued4 ,applying the general principle
 indicated above1 it must be learned    
what proportion the bonded debt of a    
railroad bears to the total market value
 of the property4 ,it is much easier to 
make this comparison on a per-mile      
basis4 ,in determining whether the rate 
per mile is excessive1 reference must be
 made not so much to the particular bond
 in question as to the total bonded debt
 per mile of the railroad1 and to the   
relation which that figure bears to the 
total market value of the property per  
mile4 ,the total market value per mile  
is obtained by adding the market value  

of the stock per mile to the par value  
of the bonded debt per mile4 ,a single  
issue of bonds varies all the way from  
#e1jjj to #ajj1jjj per mile1 according  
to the location of the railroad4 ,total 
capitalization per mile--stocks and     
bonds at par--varies in about the same  
proportion1 from #ce1jjj to #cjj1jjj4   
,the average for all the railroads of   
the ,united ,states is #fg1icf per mile4
 ,the actual cost of the railroad1 as   
shown by the balance-sheet1 must be     
taken into consideration1 and also the  
estimated cost of duplicating the       
property4 ,physical difficulties of     
construction must be weighed1 for a     
railroad through a flat1 sandy country  
should not be bonded for as much1 other 
things being equal1 as a railroad       
through a mountainous country1 where    
much cutting1 filling1 and bridging are 
required4 ,the section of country in    
which the railroad is located must be   
considered1 for #ce1jjj per mile on a   
single-track line in a poor country may 

be higher than #cjj1jjj per mile on a   
four-track trunk line which owns        
valuable terminals and rights of way    
through several large cities4  7#b7     
,amount of prior lien bonds outstanding 
per mile4 ,the amount of bonds which    
come ahead of the bond in question on   
the same mileage is a matter of great   
importance and works directly against   
the security of the bond4 ,purchasing a 
bond which is preceded by a prior line  
bond is like taking a real-estate       
mortgage on property already encumbered4
 ,if the bond is not followed by other  
bonds1 then the margin of security in   
the property is represented wholly by   
the market value of the stock per mile1 
and the investor must figure carefully  
the value of this equity4  7#c7 ,amount 
of junior lien bonds outstanding per    
mile4 ,the amount of bonds which come   
after the bond in question1 on the other
 hand1 works directly in favor of the   
bond1 for it increases the margin of    
security4 ,it shows also that other     

people have had sufficient confidence in
 the property to invest their money in  
obligations subject to the one in       
question4 ,in the event of a            
receivership this is often a matter of  
great importance2 for if a foreclosure  
sale is ordered the junior bondholders1 
in order to protect their own interest1 
must buy in the property for an amount  
at least equal to the par value of the  
prior lien bonds4  ,the foregoing       
considerations apply particularly to the
 safety of the principal invested in    
railroad bonds2 the following points    
affect the safety of interest3  7#d7    
,gross earnings per mile4 ,the gross    
earnings of a railroad must be compared 
with those of other roads occupying the 
same field1 and the returns for a number
 of years must be examined to determine 
whether such earnings have increased or 
decreased4 ,the position in which the   
railroad stands for obtaining new       
traffic must be noted4 ,this is         
dependent somewhat upon the railroad's  

ability to take traffic from other      
railroads1 but more upon the probable   
growth and development of the territory 
which the railroad serves1 and the      
increased traffic which will probably be
 offered4 ,in this connection the rate  
of increase in population in the road's 
territory is important4 ,the proportion 
between passenger and freight earnings1 
the diversity and density of freight    
traffic1 and passenger and freight rates
 should be examined4 ,the reputation of 
the management for ability and integrity
 should be considered4 ,gross earnings  
run from about #c1jjj to #dj1jjj per    
mile with the average #aj1dfj4  7#e7    
,net income per mile4 ,net income is    
obtained by subtracting from gross      
earnings operating expenses 7and        
sometimes taxes7 and adding to the net  
earnings so obtained whatever income    
from other sources the railroad may     
derive4 ,this is a very important       
figure4 ,as with gross earnings1 the    
reports should be examined to determine 

whether net income is on the increase or
 the decrease1 and it should be compared
 with the net income of other railroads 
occupying the same field4 ,it involves a
 criticism of operating expenses4 ,the  
payments of the railroad must be        
analyzed to determine whether the proper
 sums have been expended for maintenance
 of way1 replenishment of rolling stock1
 and other improvements sufficient to   
keep the road in good physical          
condition4 ,normally speaking1 operating
 expenses should absorb about #fe per   
cent of gross earnings4 ,if it is found 
that a railroad operates for #fj per    
cent1 however1 it does not always follow
 that its operating officials are       
exceptionally efficient1 so that the    
cost of conducting transportation is    
relatively small2 it may mean that the  
physical condition of the property is   
being neglected1 or that ordinary       
improvements1 which should be charged to
 maintenance1 are being paid for by     
increase in capitalization4 ,it is very 

important for the investor to find out  
which is the case4 ,if analysis leads to
 the suspicion that the earnings result 
from neglecting the property or         
capitalizing every trivial improvement1 
the railroad's bonds should be rejected4
 ,net income varies from #a1ejj to      
#ab1jjj per mile1 with an average of    
#d1gjb4  7#f7 ,fixt charges per mile4   
,the fixt charges of a railroad include 
interest on its bonds1 rentals1 and     
taxes 7when the last-named are not      
reported with operating expenses74 ,the 
importance of this figure lies in its   
relation to net income4 ,if a railroad  
does not earn well over double its fixt 
charges1 its obligations can not be     
regarded as in the first investment     
rank4 ,of course1 when a railroad earns 
more than twice the interest requirement
 upon its entire bonded debt1 it is     
probable that some of the underlying    
bonds are protected by three1 four1 or  
five times the interest requirement upon
 them1 and their position is            

correspondingly strengthened4  ,the     
foregoing analysis applies particularly 
to mortgage bonds upon the general      
mileage of a railroad and not to such   
special issues as collateral trust1     
terminal1 bridge1 or guaranteed bonds4  
,it will not be necessary1 however1 to  
lay down any rules as to these classes  
of bonds1 for the general principles    
outlined above1 with slight             
modifications of detail1 will be found  
equally applicable to a judgment of     
their value4 ,equipment bonds1 on the   
other hand1 owing to their want of      
similarity to any other railroad issues1
 will receive separate treatment later4 
,it is of interest1 in view of the      
present diminished confidence in        
railroad securities1 to advance certain 
considerations touching upon the safety 
of railroad bonds in general4  ,the last
 published report of the ,inter-,state  
,commerce ,commission1 year #aijf1      
furnishes interesting testimony on this 
subject4 ,a table on page #fj shows that

 the total railroad capital of the      
,united ,states for that year was       
#ad1egj1dba1dgh1 of which               
#g1gff1ffa1che1 or #ec4ca per cent1 was 
in the form of bonded debt1 and the rest
 in capital stock4  ,these figures      
indicate a substantial equity1 but are  
somewhat misleading because they refer  
to par value4 ,a fair estimate of the   
market value of this stock equity1 which
 is the margin of security in the       
properties from the bondholder's point  
of view1 can be obtained from a table on
 page #hb1 which shows a balance        
available for dividends1 after paying   
all operating expenses and fixt charges1
 of all the railroads of the ,united    
,states for the year ended ,june #cj1   
#aijf1 of #deg1jfj1cbf4 ,this amount is 
equivalent to nearly #g per cent upon   
the total par value of the stocks4      
,estimating that a railroad stock should
 earn #aj per cent upon its market      
price--and even the most prejudiced will
 admit that a stock earning #aj per cent

 is worth par--the total market value of
 ,american railroad stocks would be     
#d1egj1fjc1bfj1 or more than half the   
par value of the bonds4 ,in other words1
 the bonded debt would represent        
something less than #fc per cent of the 
total market value of the property4     
,this compares favorably with the       
security of first mortgages upon real   
estate4  ,when the safety of interest is
 considered1 the showing made is equally
 strong4 ,page #hb of the report above  
quoted shows that the net income of the 
railroads of the ,united ,states for the
 year ended ,june #cj1 #aijf1 after     
payment of all operating expenses1 was  
#hdh1hcf1gga1 and the total fixt        
charges1 including interest on bonds1   
interest on current liabilities1 and    
taxes1 amounted to #cia1ggf1dde1 leaving
 a balance available for dividends of   
#deg1jfj1cbf4 ,it is apparent1          
therefore1 that the net earnings of the 
railroads of the ,united ,states1       
considered as one system1 could be cut  

in half without affecting the payment of
 interest upon the railroad's           
obligations4 ,this affords a large      
measure of protection4  ,the following  
analysis shows that the actual market   
value of the railroads is probably      
greater than the estimate made above4   
,the table shows the percentage of      
bonded debt to total market      value  
of some of the more important railroad  
systems4 ,two trunk      lines in the   
,east1 a north and south line in the    
middle ,west1      and two              
transcontinental have been chosen4 ,no  
attempt has been      made to select    
railroads which would make a favorable  
showing4      ,indeed ,pennsylvania1 and
 ,union ,pacific1 by reason of their    
recent heavy bond issues1 probably      
compare unfavorably with      others    
which might have been chosen4 ,the      
figures showing the      par value of   
bonds outstanding have been taken from  
last annual      reports1 with additions
 made for recent issues4 ,the figures   

showing the market value of stocks are  
based on the amounts      outstanding   
,april #ast1 #aijh1 at the market price4
                          ,par value of 
,approx4 market   ,per cent             
bonds outstanding value of stock   of   
bonds                                   
outstanding    to total                 
value      ,pennsylvania                
#bgj1igd1fde     #cfa1jjj1jjj      #db4h
     ,new ,york ,central                
#bee1dad1hde      #agd1jjj1jjj          
#ei4d     ,illinois ,central            
#aef1jec1bge      #abj1jjj1jjj          
#ef4f     ,great ,northern              
#bjg1eag1ici      #bfj1jjj1jjj          
#dd4c     ,union ,pacific               
#bgd1hbg1jjj      #cbd1jjj1jjj          
#de4i  ,in view of the enormous decline 
which has occurred in railroad stocks   
during the past eighteen months1 the    
showing above is truly remarkable4 ,it  
is plain that the entire bonded debt of 
any of these standard railroads is less 
than #fj per cent of the total market   

value of the property1 while in the     
cases of the ,pennsylvania1 ,great      
,northern1 and ,union ,pacific1 more    
than half of the present market value of
 the property could be erased before the
 lien of the bonds least well secured   
would be impaired4  ,of course1 where   
the entire bonded debt is protected by  
such a margin1 it is evident that the   
underlying bonds 7the prior liens and   
first mortgages7 are protected by       
several times as great a margin and     
their position is correspondingly       
strengthened4  ,the foregoing analysis1 
in the judgment of the writer1 affords  
convincing proof not only that the      
prevailing want of confidence in        
railroad obligations is without         
foundation1 but that railroad bonds     
compare favorably in point of safety    
with any other form of investment4  ,it 
remains to point out the amount of      
income and degree of convertibility     
which they afford and the extent of     
appreciation in value which they        

promise4 ,it is impossible to do more   
than indicate the general               
characteristics of railroad bonds in    
these particulars4  ,railroad bonds     
cover a wide range of income return4    
,they yield all the way from #c-c_/d per
 cent to #i per cent1 the general       
average being from #d per cent to #f per
 cent4 ,as a class they yield more than 
government or municipal bonds1 and less 
than public-utility or industrial bonds4
 ,with equal security they probably     
yield less than real-estate mortgages4  
,compared with stocks they return more  
than bank stocks1 average about the same
 as railroad stocks1 and yield less than
 public-utility1 industrial1 or mining  
stocks4 ,these comparisons are intended 
to apply to the classes as a whole1 and 
remain generally true in spite of       
specific cases to the contrary4         
,convertibility is the distinguishing   
mark of railroad bonds4 ,generally      
speaking they may be more easily        
marketed than any other class of bonds4 

,compared with stocks they exceed       
public-utility1 mining1 and bank stocks 
in point of convertibility1 and yield   
only to railroad stocks4 ,it is hard to 
say whether or not they possess greater 
convertibility than industrial stocks1  
but it is probable that they do1        
allowing for the fact that an undue     
impression is created by the activity of
 certain prominent shares4  ,railroad   
bonds as a class possess great promise  
of appreciation in value4 ,american     
railroads1 generally speaking1 have     
adopted the conservative policy of      
putting a considerable part of their    
annual earnings back into the property  
in the form of improvements4 ,to the    
extent to which this policy is followed1
 an equity is created back of the bonds 
which raises their intrinsic value4     
,this policy contrasts favorably with   
the general practise of ,english roads  
to pay out all their earnings in        
dividends1 and to capitalize their      
improvements4 ,in addition1 new capital 

for ,american railroads is largely      
raised by stock issues1 which further   
increases the margin of security for the
 bondholders4 ,taken together these     
facts insure a steady enhancement in the
 intrinsic value of railroad bonds1     
which is bound to be reflected1 other   
things being equal1 in higher prices4   
,we shall not attempt to discuss at this
 time the degree of stability of market 
price which railroad bonds enjoy4 ,as   
explained in the first chapter1         
stability of market price is dependent  
upon general financial and business     
conditions4 ,it is sufficient to point  
out here that the maintenance intact of 
the principal sum invested can only be  
rendered certain by the purchase of     
short-time securities whose near        
approach to maturity will keep their    
price close to par4 ,in a later chapter 
the general principles which determine  
this question will be elucidated4  ,the 
ideal investment may be defined as one  
combining ample security of principal   

and interest1 a good rate of income1    
ready convertibility into cash1 and     
reasonable promise of appreciation in   
value4 ,measured by the requirements of 
this definition1 the conclusion seems   
justified that well-selected railroad   
bonds1 if purchased under favorable     
money-market conditions1 afford a highly
 desirable form of investment4     ,,iii
  ,,railroad ,,equipment ,,bonds   ,as  
its name implies1 an equipment bond is  
one issued by a railroad to provide     
funds with which to pay for new rolling 
stock--cars and locomotives4 ,the issues
 are variously described as car trust   
certificates1 equipment bonds1 or       
equipment notes4 ,they conform in       
general to one of two standard forms3   
7#a7 ,the conditional sale plan3 ,in    
accordance with specifications furnished
 by the railroad1 the trustee selected  
7usually a trust company7 contracts with
 the builders for the purchase of the   
equipment4 ,from #aj to #bj per cent of 
the cost of the equipment is paid in    

cash by the railroad and the rest is    
represented by the equipment bonds4 ,the
 bonds are the direct obligation of the 
railroad company4 ,they are secured by a
 first lien upon the entire equipment   
purchased4 ,the title to the equipment  
remains in the trustee for the benefit  
of the bondholders until the last bond  
has been paid1 so that under no         
circumstances can the general mortgages 
of the railroad attach as a first lien  
on the equipment ahead of the car trust 
obligations4 ,after the final payment1  
the trustee assigns title to the        
railroad company1 which thereupon       
becomes the owner in fee of the         
equipment4 ,under the terms of the deed 
of trust the railroad is always obliged 
to keep the equipment fully insured1 in 
good order and complete repair1 and to  
replace any equipment which may become  
worn out1 lost1 or destroyed4 ,the bonds
 are usually issued in coupon form1     
#a1jjj each1 bearing semiannual         
interest1 with provision for            

registration4 ,they are generally paid  
off in semiannual or annual instalments 
of substantially equal amounts1 the last
 instalment usually falling due in ten  
years1 a period well within the life of 
the equipment as estimated under the    
master car builder's rules4             
,occasionally this method of payment is 
altered by the substitution of a sinking
 fund1 the bonds having a uniform fixt  
maturity1 but subject to the operation  
of a sinking fund which is sufficient to
 retire the entire issue well within the
 life of the equipment4 ,in either case 
the security1 ample at the outset1      
increases proportionally with the       
reduction in obligations outstanding    
against it4  7#b7 ,the so-called        
,philadelphia plan4 ,under this plan the
 equipment is purchased by an           
individual1 association1 or corporation 
which leases the equipment to the       
railroad for a term of years at a rental
 equivalent to the interest and maturing
 instalments of the bonds4 ,the contract

 of lease is then assigned to a trust   
company as trustee1 which thereupon     
issues its certificates in substantially
 the form described in the plan above1  
these representing a beneficial interest
 in the equipment1 which are usually    
guaranteed both principal and interest  
by the railroad4 ,the lease runs until  
the last bond has been paid1 after which
 the trustee assigns title to the       
railroad as above4 ,the chief advantage 
of this plan over the other is that in  
some ,states1 notably ,pennsylvania1    
certificates issued in accordance with  
its terms are exempt from taxation1     
whereas under the conditional sale plan1
 as the direct obligation of the        
railroad1 the bonds would be taxable4   
,it is evident from the foregoing       
description that equipment bonds differ 
in two important respects from all other
 classes of railroad issues4 ,first1 the
 title to the property which secures the
 bonds does not vest in the railroad2   
and1 secondly1 the property is movable  

and not fixt in any one locality4  ,by  
virtue of these two points1 the holders 
of equipment bonds possess a great      
advantage over the holders of mortgage  
bonds in the event of a railroad's      
becoming bankrupt4  ,if a railroad is   
unable to meet its interest charges1 the
 mortgage bondholders can rarely do     
better than have a receiver appointed   
who will operate the railroad in their  
interest2 but if1 with honest and       
efficient management1 the railroad can  
not be made to earn its interest        
charges1 the mortgage bondholders       
usually have to consent to the scaling  
of their bonds to a point where the     
railroad can operate upon a paying      
basis4  ,with the holders of equipment  
bonds the case is quite different4 ,if  
the receiver defaults upon their bonds  
they have only to direct the trustee to 
enter upon possession of the equipment  
and sell it or lease it to some other   
railroad4 ,the knowledge that they      
possess this power renders its exercise 

generally unnecessary4 ,the equipment of
 a railroad is essential to its         
operation4 ,it is the tool with which   
the railroad handles its business4 ,if  
the receiver were deprived of the       
equipment it would be impossible for him
 to operate the road1 and so he could   
never satisfy its creditors4            
,consequently the courts1 both ,state   
and ,federal1 have ruled that the       
necessary equipment of a bankrupt       
railroad must be preserved1 and have    
placed the charges for principal and    
interest of equipment obligations upon  
an equality with charges for wages1     
materials1 and other operating expenses1
 and in priority to interest of even    
first-mortgage bonds4  ,these points    
sufficiently explain the remarkable     
record which equipment bonds have made  
during reorganizations4 ,careful        
investigation has been made of the      
various railroads which were            
reorganized1 either with or without     
foreclosure1 between the years #ahhh and

 #aije4 ,this covers the chief period of
 railroad receivership4 ,it was         
discovered that sixteen different       
railroads1 aggregating nearly one       
hundred thousand miles and located in   
widely different parts of the country1  
had outstanding equipment bonds at the  
time of default4 ,in every case the     
principal and interest of equipment     
bonds were paid in full1 while all other
 securities1 with a few exceptions1 were
 reduced in rate or amount or both4 ,two
 of these railroads offered to the      
holders of equipment bonds the option of
 an advantageous exchange of securities1
 which amounted to more than payment in 
full4  ,the foregoing facts justify the 
conclusion that equipment bonds possess 
security equal or superior to that of   
any other form of railroad bonds4  ,let 
us now consider their remaining         
characteristics--their rate of income1  
convertibility1 prospect of appreciation
 in value1 and stability of market      
price4  ,one of the strongest features  

of equipment bonds is the relatively    
high rate of income which they yield4   
,the amount realized varies in          
accordance with the financial strength  
and credit of the issuing railroad1 and 
the margin of security in the equipment 
itself4 ,as a general rule1 the net     
return on the equipment bonds of a given
 railroad is usually from #a_/b per cent
 to #c_/d per cent greater than on the  
first-mortgage bonds of the same        
railroad4 ,this is owing to the fact    
that while banks and scientific         
investors have bought equipment bonds   
for many years1 the general public is   
not sufficiently familiar with the      
inherent strength of these issues to    
create much of a demand for them4 ,this 
insures a good return4  ,equipment bonds
 vary in point of convertibility4 ,the  
reader will remember from the           
description above that equipment bonds  
are usually issued in serial form1 with 
instalments maturing semiannually from  
six months to ten years4 ,by confining  

purchases to the shorter maturities1 say
 within two or three years1 a high      
degree of convertibility may usually be 
obtained because the short maturities   
are greatly sought by banks and other   
financial institutions which regard     
equipment bonds in much the same light  
as merchant's paper or time loans       
secured by collateral4 ,at a price      
equivalent to the rate which the best   
commercial paper commands1 there is     
always a good demand from the banks4    
,many banks prefer equipment bonds to   
loans or paper on account of their      
greater convertibility4 ,as the length  
of maturity increases1 the degree of    
convertibility generally decreases1     
because the chief demand for the longer 
dates comes from insurance companies1   
which do not1 in the aggregate1         
constitute as great a demand as the     
banks4 ,when the demand from private    
investors increases1 as it undoubtedly  
will when they become more familiar with
 the desirable points of these issues1  

all maturities will probably possess    
ready convertibility4  ,in the same way1
 equipment bonds vary as to stability of
 market price4 ,compared with other     
classes of railroad issues1 equipment   
bonds are all relatively stable1 but the
 stability is especially marked in the  
shorter maturities4  ,equipment bonds   
possess little prospect of appreciation 
in value4  ,the attentive reader who has
 carefully followed the foregoing       
description of equipment bonds1 may have
 noticed a special adaptability on their
 part to the requirements of a business 
surplus4 ,broadly speaking1 for such    
investment1 a security is required which
 will combine perfect safety of         
principal and interest1 a good rate of  
income1 ready convertibility into cash1 
and unyielding stability of market      
price4 ,the necessity for insistence    
upon these requirements in the          
investment of a business surplus will   
appear upon a moment's reflection4      
,safety is required in all forms of     

investment1 but is particularly         
important in the handling of business   
funds2 a good rate of income is always  
desirable2 convertibility is necessary  
for a business surplus so that the      
reserve funds may be converted into cash
 at any time2 and it is of the utmost   
importance that the security should not 
shrink materially in quoted price1 no   
matter what changes may take place in   
financial and business conditions1 so   
that if the need should arise for       
realizing on the reserve fund1 it would 
be found unimpaired in amount4 ,as      
explained in a former chapter1 this     
point can not be covered by the         
selection of securities perfectly safe  
as to principal and interest1 but only  
by the purchase of short-term           
obligations4  ,the point may be         
illustrated as follows3 ,let it be      
supposed that a firm or company has     
decided to invest #ajj1jjj in the       
#e-per-cent equipment bonds of a good   
railroad maturing in three years1 which 

can be obtained at par1 merchant's paper
 then commanding about #e-a_/b per cent4
 ,after two years it becomes necessary  
for the firm to realize on its          
investment at a time when commercial    
paper is floated with difficulty on a   
#f-a_/b-per-cent or #g-per-cent basis4  
,under such money conditions the        
equipment bonds could be sold on about a
 #f-per-cent basis1 which would mean a  
price of #ii for a #e-per-cent bond with
 one year to run4 ,the firm1 in         
liquidating its investment1 would       
therefore lose #a per cent in principal1
 but would have received #e per cent    
interest for two years1 making the net  
return #d-a_/b per cent4 ,compare this  
showing with the result if the bonds    
when originally bought had had ten years
 to run instead of three4  ,after two   
years1 when the firm wished to dispose  
of its bonds it might experience some   
difficulty in doing so in the stringent 
money market which has been supposed1   
but even if it succeeded in selling them

 upon a #f-per-cent basis1 that would   
mean a price of only #ic-c_/d and would 
represent #f-a_/d-per-cent loss in      
principal4 ,if it were necessary to sell
 the bonds upon a higher basis or if the
 firm had purchased a bond with more    
than ten years to run1 the relative     
disadvantage of the longer bond would be
 still more apparent4 ,these points     
sufficiently demonstrate the importance 
of buying only short-term securities for
 the investment of a business surplus4  
,of course1 if money conditions improve 
instead of becoming worse between the   
dates of purchase and sale1 then a      
greater profit would be made with the   
longer-term bond4 ,this1 however1 should
 not be allowed to influence the choice1
 first because it is not the object of a
 reserve fund to make a speculative     
profit1 and secondly because a firm or  
corporation is only likely to want to   
realize upon its reserve fund when money
 is hard to obtain otherwise1 and that  
is precisely the time when any long-term

 bond would be apt to show considerable 
depreciation4  ,the foregoing           
considerations indicate a special       
adaptability on the part of equipment   
bonds to the usual requirements of a    
business surplus4 ,the points have been 
brought out at some length because of   
the importance of the subject to the    
average business man4 ,the purpose in   
concentrating attention upon a single   
instance has been to illustrate more    
clearly the principles involved and at  
the same time to acquaint the business  
man with details of a highly desirable  
and somewhat unfamiliar form of         
security4     ,,iv  ,,real-,,estate     
,,mortgages   ,in the preceding chapter 
the discussion of railroad bonds was    
brought to a close4 ,before passing to  
the consideration of real-estate        
mortgages1 which is the next form of    
investment to be taken up1 it may be    
well to review briefly the general      
principles advanced in the first chapter
 of this book1 in order that the reader 

may have clearly in mind the main points
 upon which judgment of the value of    
investments should be based4  ,there are
 five chief points to be considered in  
the selection of all forms of           
investment4 ,these are3 7#a7 safety of  
principal and interest2 7#b7 rate of    
income2 7#c7 convertibility into cash2  
7#d7 prospect of appreciation in        
intrinsic value2 7#e7 stability of      
market price4  ,keeping these five      
general factors in mind1 the present    
chapter will discuss real-estate        
mortgages as a form of investment1 both 
as adapted to the requirements of       
private funds and of a business surplus4
  ,the average ,american business man is
 so familiar with real-estate mortgages 
that the details may be passed over     
briefly4 ,a real-estate mortgage1 or a  
bond and mortgage1 as it is sometimes   
called1 consists essentially of two     
parts1 a bond or promise to pay a       
certain sum of money at a future date   
with interest at a certain rate per     

annum1 and a mortgage or trust deed     
transferring title and ownership in a   
piece of real estate1 with the provision
 that the transfer shall be void if the 
interest is regularly paid and the bond 
redeemed at maturity4 ,before advancing 
money on the security of a mortgage it  
is necessary to determine whether the   
title to the property legally vests in  
the maker of the mortgage2 and during   
the continuance of the mortgage it is   
necessary to have proof that the taxes  
and assessments are being regularly     
paid1 and1 in the case of improved      
property1 the fire-insurance as well4   
,the safety of real-estate mortgages1 in
 common with the safety of all          
obligations1 depends upon the margin of 
security in excess of the amount of the 
loan4 ,in the case of real-estate       
mortgages the amount of this margin may 
be determined without great difficulty4 
,it is only necessary to have the       
property carefully appraised by an      
expert in real-estate values4 ,it does  

not follow1 however1 because a mortgage 
has been shown to possess substantial   
equity1 that it is perfectly safe as an 
investment1 unless it satisfies also    
another condition of great importance4  
,a mortgage may not exceed #ej per cent 
of the selling value of the real estate 
pledged1 and yet be a poor investment4  
,this point involves a serious objection
 to real-estate mortgages which         
sometimes escapes notice4  ,the holder  
of a mortgage is at a great disadvantage
 in regard to the changing value of real
 estate4 ,if the value of the property  
upon which he holds a mortgage          
increases1 the additional value enhances
 the security of the loan1 but does not 
add to the principal which he has       
invested1 while if the value of the     
property diminishes1 not only is the    
security proportionately lessened1 but  
if the impairment be great1 the holder  
is frequently compelled to take over the
 property and may suffer loss of        
principal4 ,in other words1 he receives 

no direct benefit from an increase in   
the value of the property1 but has to   
stand the larger part of the risk of a  
decline in its value4  ,this is not the 
case with investments represented by    
negotiable securities subject to        
changing market quotations4 ,all such   
securities1 railroad bonds for example1 
are acted on equally by changes in the  
value of the property which secures     
them4 ,except for the influences of     
money-market conditions1 railroad bonds 
advance with an increase in the value of
 the property and decline with a        
decrease in its value4 ,well-selected   
bonds usually increase in value with    
time1 and all such increase goes        
directly to the benefit of the holder4  
,the failure of real-estate mortgages to
 respond similarly to changes in the    
value of property places the holder of a
 mortgage at a great disadvantage4      
,owing to this characteristic1          
real-estate mortgages should be         
purchased only when general conditions  

in the real-estate market are distinctly
 favorable4 ,not only should the        
purchaser of a mortgage have sufficient 
margin of security in the particular    
piece of property upon which he is      
loaning money1 but he should also be    
satisfied that general real-estate      
values are relatively low1 that there   
has been no undue speculation1 and that 
conditions favor an advance rather than 
a decline in real-estate prices4  ,no   
class of property is subject to more    
rapid changes in value than real estate4
 ,after an extensive advance the holder 
of a mortgage may be insufficiently     
protected by the equity in the property1
 even if his mortgage represents only   
#fj per cent of the current appraised   
value of the real estate pledged4 ,it   
may be that the #fj per cent which he   
has loaned represents the total value or
 more than the total value a few years  
before4 ,when a rapid advance in values 
occurs1 tho it may be largely justified 
by the growth and development of the    

territory1 there is sure to be present  
an element of speculation which is      
likely to carry prices beyond the point 
of reason4 ,when the turn comes and a   
severe collapse takes place1 its effects
 are extremely disastrous1 because1     
unlike speculation in stocks or         
commodities1 no short selling exists in 
real estate to temper the fall1 and the 
immobile form of capital makes          
liquidation impossible4 ,these          
considerations serve to show the need   
for great prudence in the purchase of   
real-estate mortgages4 ,if the investor 
exercises due care in these particulars1
 he is reasonably sure of obtaining a   
very high-grade security2 if he neglects
 these precautions1 he may suffer severe
 loss of principal4  ,no general figures
 are available which would indicate the 
degree of certainty attaching to the    
payment of interest upon real-estate    
mortgages4 ,certain classes of          
mortgages1 such as those secured by     
unimproved real estate or dwellings1    

afford no direct security of interest   
payment other than the threat of        
foreclosure4 ,other classes1 such as    
mortgages upon stores1 hotels1 or       
office-buildings1 are often protected by
 a large income from the direct         
operation of the mortgaged premises1    
thus furnishing a security for the      
annual interest payment4 ,the margin of 
protection in these cases varies        
greatly1 so that no general conclusion  
can be drawn4  ,the other               
characteristics of real-estate mortgages
 may be passed over more briefly4 ,it is
 generally conceded that mortgages      
return a higher rate of income than can 
be obtained upon any other form of      
investment which affords equal security4
 ,this constitutes their chief          
advantage4  ,their chief disadvantage1  
on the other hand1 lies in their entire 
want of convertibility4 ,there is no    
market for real-estate mortgages1 and   
except in special instances they can not
 be readily sold4 ,the fact that they   

are not subject to quotation prevents   
them also from holding out any prospect 
of appreciation in value4 ,their very   
deficiency in this respect1 however1    
constitutes an important advantage from 
another point of view4 ,since they are  
not quoted they can not shrink in market
 price in obedience to changes in       
financial and business conditions4 ,the 
buyer of a mortgage is assured that he  
can carry his mortgage at par through   
periods when it may be necessary to mark
 down all negotiable securities subject 
to changing market quotations4 ,this is 
frequently a matter of great importance4
  ,the general characteristics of       
real-estate mortgages may be summarized 
as follows3 7#a7 ,when carefully        
selected and purchased under favorable  
conditions1 great safety of principal   
and interest2 7#b7 a relatively high    
return2 7#c7 a low degree of            
convertibility2 7#d7 no prospect of     
appreciation in value2 and 7#e7 the     
practical certainty of maintaining the  

integrity of the principal invested4    
,is a security possessing these         
characteristics a suitable investment   
for a business surplus8 ,only to a      
limited extent4 ,the safety1 high       
return1 and assurance against loss in   
quoted value of principal are all highly
 desirable qualities for this purpose1  
but the lack of convertibility is a     
fatal defect4 ,no consideration is of   
greater importance in the investment of 
a business surplus than a high degree of
 convertibility1 so that if the need    
should arise the investment may be      
instantly liquidated4 ,the fact that    
real-estate mortgages can not be readily
 disposed of makes it practically       
impossible to employ them for the       
investment of a business surplus4       
,where convertibility is not an         
essential requirement1 and where the    
want of promise of appreciation in value
 is not a serious matter1 mortgages     
afford a very desirable form of         
investment4 ,the characteristics which  

they possess in an eminent              
degree--safety1 high return1 and        
assurance against loss in quoted value  
of principal--are exactly suited to the 
ordinary requirements of savings-banks4 
,generally speaking1 only a small       
proportion of a savings-bank's assets   
need be kept in liquid form or readily  
convertible1 and accordingly they find  
mortgages highly desirable4  ,for the   
purpose of private investment the       
attractiveness of mortgages is not so   
easy to determine4 ,ordinarily1         
fluctations in quoted values are of no  
great importance to the private         
investor1 so that the absence of        
quotation which mortgages enjoy is not  
especially valuable4 ,their safety and  
high return are attractive qualities1   
but their want of convertibility and of 
prospect of appreciation in value are   
drawbacks4 ,on the whole1 the private   
investor may probably employ with       
advantage a certain part1 but not too   
much of his estate in mortgage          

investments4  ,as part of a scientific  
and comprehensive scheme of investment1 
the special advantages of real-estate   
mortgages appear most prominently in the
 years following a business depression4 
,during such a period real-estate values
 are usually relatively low1 but        
beginning to advance1 so that mortgages 
present their maximum margin of         
security4 ,at such a time they compare  
most favorably with bonds and other     
investment securities which are subject 
to changing quotations1 because such    
securities are then apt to be at their  
highest point under the combined        
influence of restored confidence and the
 low money rates which usually prevail4 
,after several years of continued and   
increasing business prosperity the      
positions are just reversed4  ,no       
discussion of real-estate mortgages     
would be complete without allusion to   
the guaranteed mortgages which have been
 placed upon the market in great        
quantities within the past few years4   

,guaranteed mortgages are real-estate   
mortgages guaranteed as to principal and
 interest by substantial companies      
having large capital and surplus4 ,in   
addition to the guaranty1 the companies 
usually search and guarantee the title1 
see to it that the taxes1 assessments1  
and insurance are paid1 and perform the 
other services of a real-estate broker4 
,their compensation varies somewhat1 but
 probably averages #a_/b per cent--that 
is1 for example1 they loan at #e per    
cent and sell guaranteed mortgages to   
the investor at #d-a_/b4  ,the value of 
the guaranty may be considered from two 
points of view--first1 in the event of a
 general decline in real-estate values1 
and1 secondly1 when a fall occurs in a  
particular piece of property or in a    
particular locality4  ,if a severe      
decline in real-estate values takes     
place1 affecting all localities1 it     
might become necessary for the holders  
of guaranteed mortgages to test the     
value of their guaranties4 ,in such a   

case the question would arise how far   
the capital and surplus of the          
guaranteeing companies would extend in  
liquidating the mortgages which they had
 guaranteed4 ,this would depend entirely
 upon the proportion between the capital
 and surplus of the companies and the   
total amount of outstanding mortgages   
guaranteed4 ,ordinarily the capital and 
surplus do not exceed #e per cent of the
 mortgages1 so that the average guaranty
 is good for about #e per cent          
additional equity4 ,on a piece of       
property worth #ajj1jjj1 upon which a   
guaranteed mortgage of #fj1jjj exists1  
the guaranty would be worth #c1jjj1 and 
would margin the property down to       
#eg1jjj4 ,this additional equity is of  
little value4 ,it is probably unlikely  
that a #dj-per-cent depreciation in     
value will take place1 but the guaranty 
is not needed unless it does1 and if it 
should occur1 the depreciation is quite 
as likely to go to #ej per cent or more 
as to stop at #dc4  ,from the second    

point of view the value of the guaranty 
is much greater4 ,the distribution of   
risk1 as in the case of fire-insurance1 
protects the holder against loss in the 
event of a fall in the particular piece 
of property upon which he holds a       
mortgage1 or even in a particular       
locality4 ,it can not be said1 however1 
that the records are yet sufficiently   
complete to form a conclusion as to what
 is a safe proportion between capital   
and surplus and outstanding mortgages4  
,further than that the guaranteeing     
companies1 generally speaking1 have been
 operating since their inception upon a 
rising market1 so that their success    
hitherto has not been remarkable4       
,allowing for these drawbacks1 however1 
the private investor1 unless so situated
 as to give personal attention to the   
details of his investments1 will        
probably do well to purchase his        
mortgages in guaranteed form4     ,v    
,,industrial ,,bonds   ,industrial bonds
 include the obligations of all         

manufacturing and mercantile companies1 
and miscellaneous companies of a private
 character4 ,they form a class quite    
distinct from railroad bonds or         
public-utility bonds4  ,i4 ,safety of   
,principal and ,interest4 ,the safety of
 industrial bonds1 in common with the   
safety of all forms of investment1      
depends upon the margin of security in  
excess of the amount of the obligation4 
,in the case of industrial bonds the    
amount of this margin is not always easy
 to determine4 ,even when determined1   
the rule is difficult of application    
because a margin which may seem         
insufficient from the point of view of  
physical valuation may be satisfactory  
when considered as the equity of a      
working concern4 ,the indications most  
to be relied upon in estimating the     
safety of industrial bonds are as       
follows3  7a7 ,value of real estate4    
,the first point to be determined in    
considering the purchase of an          
industrial bond is the value of the real

 estate upon which it is a first        
mortgage4 ,if the appraised value of the
 ground1 irrespective of the buildings  
and machinery upon it1 is greater by a  
substantial sum than the amount of the  
bond issue1 the obligation is           
practically a real-estate mortgage4 ,in 
such a case1 while possibly slow1 i4e41 
secured by an assets difficult to       
realize upon--the safety of the bond can
 hardly be questioned4 ,in judging a    
bond upon its real-estate value1 it is  
not always safe to take the cost price  
of the land as shown by the company's   
books1 because frequently the cost upon 
the books is artificially raised by     
payment having been made in securities  
whose market value is less than par1 or 
in other ways4 ,as stated above1        
judgment should be based upon the       
appraised value of the land4  ,if the   
bond meets this test satisfactorily1 the
 prospective investor may feel          
reasonably sure that the safety of his  
principal is not in question1 and may   

buy the bond without anxiety if it      
satisfies his other requirements4 ,on   
the other hand1 if the bond only        
partially meets this test1 and it       
appears that some part of its value     
comes from plant and equipment and from 
the strength of the company as a working
 concern1 then it is necessary for the  
investor to consider carefully several  
other factors4  7b7 ,net quick assets4  
,the balance-sheet of every industrial  
company can be divided horizontally into
 two parts4 ,its assets are of two      
kinds--property assets1 which are fixt1 
and current assets1 which are fluid4    
,similarly1 its liabilities are of two  
kinds--capital liabilities and current  
liabilities4 ,it requires no very       
extended business experience to pick out
 the items which make up these totals4  
,plant and property assets are usually  
lumped together under the head1 ,cost of
 ,property4 ,current assets include     
inventories1 bills and accounts         
receivable1 agents' balances1 marketable

 securities1 and cash on hand and in    
banks--everything1 in short1 which can  
be quickly converted into cash4 ,on the 
other side of the balance-sheet1 capital
 liabilities are easily determined4     
,they consist of the par amounts of     
bonds and stocks outstanding4 ,current  
liabilities comprise bills and accounts 
payable1 including borrowed money1      
pay-rolls1 and interest and taxes       
accrued but not due4  ,the real strength
 of every industrial concern is to be   
learned from the figures relating to its
 current accounts4 ,property assets and 
capital liabilities are not of the same 
significance4 ,if the cost of plant and 
equipment as shown by the books exceeds 
its real value1 the market usually makes
 the necessary adjustment by putting a  
price less than par upon the bonds and  
stocks4  ,no such process is possible in
 the case of the current accounts4 ,if  
the current liabilities exceed the      
current assets the company shows a      
deficit1 whatever its surplus may show  

on the books4 ,on the other hand1 if the
 current assets are greater than the    
current liabilities1 the company        
possesses a working capital1 represented
 by the difference between the two1 and 
known as net quick assets4  ,there are  
three things to consider in connection  
with net quick assets3 ,first1 the      
proportion between current assets and   
current liabilities4 ,to put a company  
in good shape its current assets should 
be at least twice as great as its       
current liabilities4 ,two for one is a  
fair proportion1 tho some companies show
 as much as six to one4 ,the stronger a 
company is in this proportion the       
better4  ,secondly1 the proportion      
between net quick assets and bonded     
debt4 ,the bonded debt should never     
exceed net quick assets1 except when the
 company possesses real estate1 in which
 case two-thirds of the real-estate     
value plus the net quick assets should  
cover the bonds4 ,some companies do much
 better than that4 ,one prominent       

company in this country1 altho it       
possesses real estate of considerable   
value1 has agreed in the indenture      
securing its bonds to keep net quick    
assets at all times greater by a        
substantial margin than the amount of   
bonds outstanding4  ,thirdly1 the       
proportion between net quick assets and 
the surplus as shown in the             
balance-sheet4 ,if the capital          
liabilities exactly balance the property
 assets1 it is plain that the surplus   
will exactly balance the net quick      
assets4 ,if the surplus is smaller than 
net quick assets1 it is usually a sign  
that capital liabilities have been      
created to provide working capital4     
,opinions differ as to the wisdom of    
this course4 ,generally speaking1 it is 
better to provide working capital by    
means of a stock issue than to depend   
upon the banks for accommodation4 ,the  
exception to this rule occurs in the    
case of companies that require a great  
deal of working capital for part of the 

year and only a little at other times4  
,if they have the best banking          
connections1 such companies may be safe 
in depending upon their banks to carry  
them1 but if they do so1 they should    
have no bonded or other fixt            
indebtedness which would prevent their  
paper from being a first lien upon their
 entire assets4  ,if working capital is 
to be created by the issue of capital   
liabilities1 it is much better that it  
should be done by stocks than by bonds4 
,the ideal method1 however1 is to       
provide only such an amount of working  
capital at the organization of a company
 as is necessary for the conduct of its 
business1 and then1 as the volume of its
 business grows1 to accumulate the      
additional amount necessary out of      
earnings1 refraining from the payment of
 dividends until the fund is complete4  
,before leaving the subject of net quick
 assets1 it is well to note the         
importance of the figure showing the    
actual amount of current liabilities4   

,if a company has outstanding large     
amounts of bills and notes payable1 it  
occupies a vulnerable position4         
,inability to renew maturing notes was  
the cause of most of the industrial     
failures of last year4  7c7 ,net        
,earnings4 ,the amount of net earnings  
is of great importance in estimating the
 strength of an industrial company4 ,the
 figures for a number of years should be
 examined to determine whether the      
earnings are increasing or decreasing1  
and to discover whether or not the      
earning power of the company is stable4 
,this will depend largely upon the      
nature of the article which the company 
produces or trades in4 ,if its product  
enjoys a steady demand at a fairly      
uniform price1 it is justifiable that   
some of its capital should be in the    
form of bonds2 but if its earnings are  
subject to violent fluctations due to   
rapid changes in the price of its       
product1 there is little justification  
for conducting the business on borrowed 

money4  ,in this connection it should   
always be considered how greatly a      
falling off in gross earnings will      
affect net earnings2 and the proportion 
between net earnings and fixt charges   
should be carefully noted4  ,in order   
for an industrial bond to receive       
favorable consideration1 the average    
yearly net earnings of the company      
should amount to about three times the  
annual bond interest1 taxes1 and sinking
 funds4 ,the greater the protection is  
in this respect the better4  7d7 ,form  
of ,issue4 ,the form in which an        
industrial bond is issued is a matter of
 some importance4 ,if the principal of  
the bond does not become due for a      
number of years1 there is danger that   
the property will depreciate so far in  
value as to leave the bond without      
sufficient margin of protection4 ,there 
are two ways to overcome this           
difficulty4 ,one way is to establish a  
sinking-fund which will retire a certain
 proportion of the bonds by lot each    

year4 ,another way is to issue the bonds
 in serial form1 with a definite        
instalment maturing every year4 ,in     
either case the annual sinking-fund or  
annual instalment should be greater than
 the probable depreciation so that the  
margin of security will be constantly   
increasing4  7e7 ,management and        
,control4 ,no question is of greater    
importance in estimating the strength of
 an industrial company than the         
reputation of the men in charge4 ,the   
ability and integrity of the men who    
control the policy of the company and   
the efficiency of the operating         
officials are the principal factors in  
the success of an industrial            
undertaking4 ,vacillating policies1     
weakly executed1 will ruin the most     
promising enterprise4 ,this is          
particularly true in the case of small  
companies4 ,every man of business       
experience will understand the          
importance of this factor and be guided 
by it in the selection of industrial    

securities4  ,based upon the foregoing  
considerations it is of interest to     
inquire what degree of safety really    
attaches to the average industrial bond8
 ,how far does it meet the foregoing    
requirements8 ,the question is difficult
 to answer4 ,industrial bonds vary      
greatly in point of safety1 some issues 
possessing great strength and others    
being highly speculative4 ,no general   
conclusions can be depended upon1 and   
the investor is forced to consider each 
issue upon its own merits4  ,,ii4 ,rate 
of ,income4 ,the average net return upon
 industrial bonds is probably higher    
than upon any other form of funded      
corporate obligation4 ,this constitutes 
one of the chief advantages of          
industrial bonds4  ,,iii4               
,convertibility4 ,it is impossible to   
make any general statement in regard to 
the convertibility of industrial bonds4 
,some industrial bonds1 notably the     
larger issues of well-known trusts1     
command a broad and active market4 ,such

 bonds can be sold in large amounts at  
almost any time without seriously       
affecting the price4 ,on the other hand1
 small underlying issues of such        
companies1 usually high-grade in point  
of security1 or the obligations of      
smaller companies1 are almost as        
unmarketable as real-estate mortgages4  
,between these two extremes all         
varieties of industrial bonds are to be 
found4 ,the degree of convertibility    
which a security possesses is usually a 
matter of some importance1 and the      
investor should make a careful          
examination of each bond in this        
respect4  ,,iv4 ,prospect of            
,appreciation in ,value4 ,to what extent
 a bond may improve in security during  
the time that an investor holds it is of
 little importance unless the           
improvement be reflected in the market  
price of the bond4 ,only so can the     
investor take advantage of its          
appreciation in value4 ,in order for the
 improvement in security to be reflected

 in market price and thus add to the    
principal invested1 it is necessary that
 a bond should possess a fairly active  
market4 ,for this reason the industrial 
bonds which hold out the greatest       
promise of appreciation in value are the
 larger1 more speculative issues1 which 
possess the greatest convertibility4    
,the purchase of such bonds frequently  
results in substantial profits4  ,v4    
,stability of ,market ,price4 ,the four 
points above touched upon--safety1 rate 
of income1 convertibility1 and          
likelihood of improvement in intrinsic  
value--are all inherent characteristics 
of every bond4 ,the likelihood of       
favorable or unfavorable fluctation in  
market price is largely external in its 
nature and depends upon general         
financial and business conditions4  ,as 
a class1 industrial bonds can not be    
said to possess much stability of market
 price4 ,some of the smaller issues     
enjoy a fictitious stability because of 
their inactivity1 but generally speaking

 industrial bonds are subject to wide   
fluctations in accordance with changes  
in the business outlook4  ,the foregoing
 is a summary1 necessarily brief and    
imperfect1 of the main points to be     
considered in judging the value of      
industrial bonds4 ,the question remains 
whether such securities are desirable   
for the investment of a business surplus
 and of private funds4  ,except in      
special cases industrial bonds are not  
suitable for a business surplus4 ,it is 
impossible to find an industrial bond   
which combines all the characteristics  
necessary for that purpose4 ,the        
requirements are great safety of        
principal and interest1 a relatively    
high return1 ready convertibility1 and  
stability of market price4 ,many        
industrial bonds can be found which     
combine two of these requirements1 some 
even which combine three1 but the full  
combination1 if it exists at all1 is    
unknown to the writer4  ,in addition1   
the principle of distribution of risk   

should prevent one industrial company   
from investing its reserve funds in the 
securities of another industrial        
company4  ,for private investment the   
case is somewhat different4 ,a man of   
good business judgment1 who desires to  
obtain a high yield for which he is     
prepared to sacrifice something in the  
way of convertibility and prospect of   
appreciation in value1 may buy the      
underlying issues of strong companies   
with every confidence in the safety of  
his principal4 ,again1 the investor who 
wants a high yield and quick            
convertibility1 who is prepared to take 
a business man's risk and to sacrifice  
stability of market price1 may make a   
large profit by buying second-grade     
industrial bonds4 ,no investor1 however1
 should deceive himself with the idea   
that any industrial bond will satisfy   
all the requirements of the ideal       
investment4     ,,vi  ,,public-,,utility
 ,,bonds   ,it was a common saying among
 bond-dealers a few years ago that the  

day of the municipal bond had passed1   
the day of the railroad bond was        
passing1 and the day of the             
public-utility bond was to be4          
,municipal bonds were selling at fancy  
prices in consequence of the low rates  
for money which then prevailed1 and     
railroad bonds appeared to be following 
in their wake4 ,public-utility bonds    
alone afforded a satisfactory yield1 and
 it was felt that the investing public  
would be forced to turn to them4  ,this 
prediction1 like many others which were 
based upon the assumption of continued  
ease in money1 was destined to be       
unfulfilled4 ,almost immediately there  
appeared an added demand for capital1   
and in the face of this demand1 supplies
 of capital which had before seemed     
ample became suddenly scarce4 ,money    
rates rose rapidly and as a necessary   
consequence municipal and railroad bonds
 fell in price to a point where their   
net return was commensurate with that   
obtained from the loaning of free       

capital4 ,the investment situation was  
thus completely reversed4 ,it was no    
longer a question as to what form of    
security investors must seek in order to
 obtain a satisfactory yield1 but rather
 could the highest grade of municipal   
and railroad bonds be floated at any    
price4 ,under these circumstances the   
contemplated necessity of turning to    
public-utility bonds never arose1 and   
the general investing public remains for
 the most part unfamiliar with their    
elements of strength and of weakness4   
,the term public-utility company denotes
 a private corporation supplying public 
needs under authority of a public       
franchise4 ,the franchise may be of     
definite date or perpetual1 and may be  
partial or exclusive4  ,public-utility  
companies include street-railway1 gas1  
electric-light and power1 and water     
companies4 ,properly speaking1 telephone
 companies should also be included1 but 
they are not usually regarded as        
belonging to the class of public-service

 corporations4  ,it is impossible1      
within the limits of a single chapter1  
to discuss each kind of company         
separately4 ,the investment value of    
street-railway bonds will be here       
considered1 and it is felt that the     
general principles advanced1 with slight
 modifications of detail1 will be found 
equally applicable to a judgment of     
other forms of public-service           
securities4  ,i4 ,safety of ,principal  
and ,interest4 ,in order to determine   
the safety of a street-railway company's
 bonds1 the company must be subjected to
 a threefold examination1 physical1     
financial1 and political4  ,an          
examination must be made into the extent
 and condition of the physical property 
in order to ascertain whether the bonded
 debt is secured by property having a   
real market value in excess of the face 
amount of bonds issued4 ,the first point
 to be determined is the extent and     
valuation of the company's real estate4 
,if the appraised value of the land upon

 which power-houses and car-barns have  
been erected is alone greater than the  
amount of bonds outstanding1 the        
investigation need go no further1 for   
the bonds1 in such a case1 would be     
practically a real-estate mortgage4 ,in 
most instances1 however1 this is very   
far from being the case2 and after      
careful appraisal of the real estate it 
is then necessary to make a careful     
valuation of the other physical         
property2 namely1 power-plants1 depots1 
car-sheds1 roadway1 and equipment4  ,it 
is usually impossible for the average   
investor to make such an examination    
himself1 nor is it likely that he would 
possess sufficient technical knowledge  
to render his investigation of much     
value4 ,for an accurate estimate of the 
value of a street-railway's physical    
property1 it is usually necessary to    
depend upon the expert opinion of a     
trained engineer4 ,it is a matter of    
regret that the average street-railway  
report can not be relied upon to furnish

 an accurate valuation of the physical  
property2 and it is accordingly         
customary for careful bond-dealers1 when
 they contemplate taking an issue of    
street-railway bonds for distribution   
among their clients1 to have the        
property examined by a competent        
engineer1 whose report then determines  
for them the question of taking the     
issue4  ,disregarding the figures which 
show the cost of property and equipment 
upon the company's books1 the engineer  
proceeds to make a careful estimate of  
the replacement value of the property1  
including real estate4 ,if the result of
 the examination shows that the property
 could not be duplicated for the amount 
of the bond issue1 the company occupies 
an unusually strong position--altho even
 in such a case some part of the value  
of the bonds comes from the strength of 
the company as a going concern4  ,in    
most cases1 however1 it is probably     
found that the bond issue is in excess  
of the value of real estate and the     

replacement value of the physical       
property1 the balance representing a    
capitalization of the franchise4  ,to   
determine the real value of the         
franchise or franchises is a difficult  
matter and involves the whole question  
of the company's relations with the     
community which it serves and with the  
local lawmaking bodies4  ,the first     
question which arises is whether the    
franchise is perpetual or for a definite
 time1 and the second whether it is     
partial or exclusive4 ,franchises vary  
greatly in these respects4 ,sometimes a 
franchise1 apparently partial1 is       
practically exclusive1 owing to the fact
 that all the available space in the    
streets is already occupied by the      
company's own tracks4 ,if the franchises
 of a company are limited as to time1 it
 is expedient1 if not imperative1 that  
the bonds should mature before the      
expiration of the franchises4  ,if the  
company whose bonds are under           
examination satisfactorily passes this  

physical test--if it possesses real     
estate of considerable value1 if the    
replacement value of the property is as 
great or nearly as great as the amount  
of the bonds1 and if the franchises1    
while perhaps not perpetual or          
exclusive1 are yet of longer duration   
than the bonds and render successful    
competition unlikely--the next step may 
then be taken2 that is to say1 an       
examination of the company's financial  
condition and earning capacity may be   
made4  ,the amount of its gross earnings
 should be examined and the figures     
scrutinized for a number of years back  
to discover whether its earnings are    
increasing or decreasing4 ,the position 
in which the company stands for         
obtaining new traffic must be noted1 and
 some estimate must be made of the      
stability of its earning power4 ,in this
 connection the relations of the company
 to the public are of great importance4 
,it must be learned whether the company 
follows the policy of conciliating or   

ignoring public sentiment4  ,the net    
earnings of the company must then be    
examined4 ,this involves a criticism of 
operating expenses4 ,the payments of the
 road must be analyzed to determine     
whether the proper amounts have been    
expended for renewal of track1          
replenishment of rolling stock1 and     
other improvement sufficient to keep the
 property in good physical condition4   
,this is the most intricate subject in  
the investigation of a street-railway   
property4 ,unless proper allowance be   
made for depreciation1 in addition to   
the expenses of direct operation1 it is 
only a question of time before the      
strongest company will become bankrupt4 
,deterioration of plant and equipment1  
which goes on constantly1 can only be   
offset in two ways3 one is out of       
earnings and the other is out of the    
security-holders--that is1 by decreases 
in the market value of the securities4  
,the first takes prosperity or courage2 
the second leads to bankruptcy4 ,it is  

difficult to measure depreciation       
accurately1 but a safe rule is to write 
off ten per cent of gross earnings each 
month for depreciation4 ,in this way the
 charge for depreciation will be        
proportionate to the traffic1 which     
provides automatic adjustment4  ,if the 
net earnings1 after making this         
allowance for depreciation1 and after   
providing all expenses of operation     
including ordinary repairs1 amount to as
 much as twice the interest charges upon
 the bonds outstanding1 it is probable  
that the bonds may be taken with safety4
  ,before finally determining the       
question1 however1 certain political    
factors must be taken into              
consideration4 ,the relations of the    
company to the leaders of the dominant  
political party must be investigated4   
,the likelihood of agitation looking    
toward a reduction of fares must be     
considered and the possibility of       
increase in taxes 7if below the legal   
limit7 must be weighed4 ,the probable   

attitude of the legislature on the      
question of renewing the franchises when
 they expire must be considered4 ,in    
general1 it must be learned whether any 
real ground of contention exists between
 the company on the one hand and the    
public and its representatives on the   
other1 because it is inevitable that the
 company will weaken its independence of
 position by too close a connection with
 politics1 and that the physical        
property will suffer if there is any    
lack of uninterrupted attention to it4  
,finally one other thing should be      
investigated--the amount of the accident
 account and its proportion to the net  
earnings of the company4 ,on small lines
 a single case of heavy damages will    
sometimes make serious inroads upon the 
earnings4  ,the foregoing is a summary1 
necessarily brief and imperfect1 but    
true in its essential outlines1 of the  
main points which should be considered  
in judging the safety of street-railway 
bonds4 ,the question remains1 how far   

does the average street-railway company 
satisfy these requirements8 ,broadly    
speaking1 street-railway bonds are not  
yet to be classed in the first rank of  
investment securities4 ,the troubles    
which have come to a head in the        
financial operations of the traction    
systems in ,new ,york and ,chicago are  
typical of troubles which are likely to 
occur elsewhere from the same general   
causes--overcapitalization in the first 
place and insufficient allowance for    
depreciation in the second place4 ,in   
both ,new ,york and ,chicago the crisis 
was hastened by open and obvious        
overcapitalization1 which is almost     
inevitable when many independent lines  
are merged into one system4 ,the same   
trouble1 however1 is apt to occur in    
other traction systems where this evil  
appeared less flagrant at the outset4   
,the advantages of electricity over     
horsepower naturally led to the         
multiplication of electric street lines1
 as the system ten or fifteen years ago 

passed beyond the experimental stage4   
,as in all new enterprises1 speculation 
ran ahead of the reality and financing  
built upon oversanguine calculations has
 too often had difficulty in squaring   
accounts when brought face to face with 
facts4 ,in most of the calculations     
insufficient allowance was made for the 
wear and tear of service2 in other      
words1 for renewal of road and          
equipment4 ,after a few years' test of  
earnings against expenses1 it became    
evident that a proper allowance for     
depreciation of plant would show a heavy
 deficit in the income account4 ,in most
 cases therefore no allowance or only a 
meager one was made4 ,for a time this   
method of bookkeeping proved less       
disastrous than might have been expected
 owing to the rapid growth of population
 and business in ,american cities4 ,it  
was possible in many cases to consider  
the enhanced value given to the         
franchise by growth of business as an   
offset to the depreciation of tracks and

 equipment4 ,in so far also as the plant
 was kept up to a high degree of        
efficiency by charging the expense of   
repairs to operating expenses1 the      
absence of a depreciation account was   
partially offset4  ,with the progress of
 recent years1 however1 a new factor has
 been entering into the problem which   
promises to make the situation still    
more serious for the traction systems4  
,this new factor is the rise in prices  
and wages4 ,temporarily the influence of
 this factor may be checked by          
diminished business activity1 but when  
normal conditions are restored1 it will 
commence to act again upon the railways 
with accumulated effect4  ,in most cases
 a proposition to increase the standard 
street-railway fare above five cents as 
an offset to the increased operating    
expenses would be so revolutionary a    
proposal that it could hardly be carried
 through4 ,with the line of cost        
converging upon the line of receipts and
 with no proper allowance made for      

depreciation1 the traction systems of   
the country seem to be facing a         
difficult problem4 ,in the long run it  
can not be doubted that the problem will
 be met and solved in a way to afford   
justice alike to the public who use the 
cars and to the capitalists who have    
made street traction on a large scale   
possible1 but in the meantime the       
investor who desires perfect safety     
should exercise great care and          
discrimination in his purchases of      
street-railway obligations4  ,,ii4 ,rate
 of ,income4 ,as a general rule1        
street-railway bonds in common with the 
obligations of all public-service       
corporations sell upon about the same   
income basis as high-grade industrial   
bonds--that is to say1 under normal     
conditions they return considerably more
 than railroad or municipal bonds4      
,,iii4 ,convertibility4 ,it is difficult
 to speak of the convertibility of      
public-utility bonds as a class for the 
reason that they differ widely from one 

another in this respect4 ,in general1 it
 is certainly more difficult to dispose 
of public-utility bonds than railroad   
bonds4 ,they do not possess sufficient  
convertibility to justify their purchase
 by any one who may need to realize     
quickly on his holdings4  ,,iv4         
,prospect of ,appreciation in ,value4   
,public-utility bonds1 except such      
issues as are convertible into stock1   
possess little prospect of appreciation 
in value4 ,it was pointed out above that
 depreciation is not properly allowed   
for1 and it is very difficult for the   
securities to advance in the face of    
this obstacle4  ,v4 ,stability of       
,market ,price4 ,the bonds of           
public-service corporations are         
relatively more stable than railroad    
bonds because their earnings are not    
subject to the fluctations which occur  
in railroad properties between years of 
prosperity and years of depression4 ,at 
the same time1 it should be pointed out 
that their stability of price is largely

 fictitious1 owing to the comparative   
inactivity of the issues4 ,in other     
words1 while the quotation may be       
maintained1 it is usually difficult to  
sell any large quantity of a            
public-service corporation's bonds in a 
period of financial disturbance1 while  
railroad bonds are more easily          
liquidated even if at a sacrifice4  ,the
 question remains1 do public-utility    
bonds afford a desirable security for   
the investment of a business surplus and
 of private funds8 ,in regard to the    
former1 it may be said at once that     
public-utility bonds do not meet the    
necessary conditions4 ,the security is  
too doubtful1 the convertibility is too 
small1 and the stability of price too   
uncertain4  ,for private investment the 
case is somewhat different4 ,keeping in 
mind the desirability of diversifying   
investments and admitting the           
attractiveness of investing in a class  
of property whose earnings are          
comparatively stable1 it seems clear    

that public-utility bonds can not be    
dismissed without consideration4 ,when a
 company is found whose property is     
substantially equal in real value to its
 bonded debt1 whose allowance for       
depreciation is ample1 whose franchises 
are satisfactory1 whose earning capacity
 is large1 and whose management is      
capable and upright1 the investor is    
justified in giving careful             
consideration to its issues4 ,unless all
 these points are found to be           
satisfactory1 however1 the investor     
should content himself with some other  
form of security4 ,for some years to    
come it is to be feared that many of our
 public-service corporations will suffer
 from the war of discordant             
elements--disregard of the rights of the
 public on the part of the management   
and socialistic agitation for control on
 the part of the community4 ,until these
 warring factions are reconciled and the
 questions at issue adjusted with       
fairness to the security-holders and the

 public1 the investor should be most    
prudent in his purchases of             
public-utility obligations4     ,,vii   
,,municipal ,,bonds   ,the previous     
chapters have considered1 in turn1 the  
investment value of railroad bonds1     
real-estate mortgages1 industrial bonds1
 and public-utility bonds4 ,the         
desirability of each of these different 
classes of security has been judged in  
accordance with the general principles  
laid down in the introductory chapter2  
that is to say1 each class has been     
analyzed in relation to safety1 rate of 
income1 convertibility1 prospect of     
appreciation in value and stability of  
market price4 ,the same determining     
factors must now be applied to a        
judgment of government1 ,state1 and     
municipal bonds4  ,bonds issued by a    
national government1 by a ,state1 or by 
a municipality are based primarily on   
some form of the power of taxation1 tho 
the bonds are usually tax exempt within 
the political unit which creates them4  

,when the power of taxation is          
unlimited1 as in the case of the        
national government and the sovereign   
,states1 there can be no question as to 
the ability of the political unit to    
meet its obligation1 and the question   
becomes entirely one of good faith4 ,it 
is probable that the obligations of the 
,united ,states ,government1 by reason  
of the fact that the per-capita debt of 
the country is so small1 the wealth of  
the country so great1 and the good faith
 of the ,american people so clearly     
established1 represent the highest type 
of security to be found in the world4   
,it is quite possible1 therefore1 that  
the #b-per-cent ,united ,states ,consols
 would sell in any case at a relatively 
higher price than the obligations of any
 other country1 but it can not be denied
 that the chief reason which causes them
 to sell at the remarkably high price   
which they have attained is the fact    
that they are required by national banks
 as security for circulation4 ,this fact

 is doubtless the controlling element in
 their market position1 and at once     
accounts for their special strength and 
removes them from the field of private  
investment4  ,only less secure than     
,united ,states bonds are the           
obligations of the sovereign ,states of 
the ,union4 ,state bonds usually sell   
upon a basis which may be taken as the  
equivalent of pure interest1 with no    
element of risk or speculation involved4
 ,the obligations of different ,states  
sell at different prices1 in accordance 
with market conditions and the relations
 of supply and demand1 but there can be 
no question of the equal ability of all 
,states to pay their obligations4       
,repudiation of ,state debts has        
occurred in our history1 but only in    
cases where an overwhelming majority of 
the citizens were opposed to the        
creation of the debt at the time of its 
issue1 but lacked the means to control  
the situation4 ,such instances are      
chiefly to be found in the case of the  

so-called carpet-bag governments of the 
,southern ,states after the ,civil ,war4
  ,municipal bonds--i4e41 the bonds of  
cities1 counties1 and townships--are    
indirectly a first lien upon all taxable
 property in the municipality1 and take 
precedence of every form of mortgage or 
judgment lien4 ,this lien is enforced   
through a tax levy to meet interest and 
principal1 and this tax levy the courts 
will compel in the rare cases in which a
 municipality attempts to repudiate a   
valid bond4 ,this priority of the tax   
lien is the foundation of the prime     
position of municipal bonds4 ,the case  
rarely occurs where a bond held valid by
 the courts proves uncollectable if     
sufficient taxing power existed when the
 bond was issued to provide for its     
redemption4 ,it is only when the        
municipality itself diminishes in       
population and taxable property to the  
vanishing-point that such a default can 
occur4 ,an investor can judge for       
himself as to the likelihood of such a  

catastrophe in any particular community1
 and can feel sure that his bond1 if    
valid and protected by a sufficient     
taxing power1 is as secure in its       
principal and interest as the           
municipality which issues it is secure  
in its continued existence4 ,the        
following are the chief points which    
should be considered in the             
investigation of a municipal bond3 7#a7 
,the proportion which the total debt of 
the municipality bears to the assessed  
valuation of the property subject to    
taxation4 ,usually a maximum rate is    
fixt by constitutional provision which  
rarely exceeds #aj per cent4 7#b7 ,the  
purpose of issue4 ,this must be a proper
 and suitable one4 7#c7 ,the proceedings
 under which the bonds were issued4     
,these proceedings1 the form of bonds1  
their execution1 and their legal details
 must be in full compliance with the    
law4  ,if these points are found to be  
satisfactory1 the investor may rest     
content that no other form of security  

is so greatly safeguarded and that his  
bond ranks upon a substantial equality  
with government and ,state obligations4 
,the rate of income to be derived from  
investment in municipal bonds varies in 
accordance with the obligations         
selected4 ,like other forms of security1
 municipal bonds are controlled by      
market conditions1 and their price is   
determined by the relations of supply   
and demand1 and by adjustment to        
prevailing money rates4 ,while differing
 only moderately from one another in    
point of safety and income return1      
municipal bonds may be divided into two 
distinct classes in accordance with the 
degree of convertibility which they     
possess4 ,some municipal bonds possess  
great convertibility2 others almost     
none4 ,the feature which chiefly        
determines the activity or inactivity of
 a municipal issue is the size and      
importance of the municipality1 together
 with the amount of bonds which it has  
outstanding4 ,the bonds of large and    

important cities1 whose outstanding debt
 reaches considerable proportions1      
usually possess great activity4 ,they   
are constantly traded in and command a  
broad market because dealers are willing
 to buy or sell them in blocks at prices
 within a fraction of #a per cent apart4
  ,on the other hand1 the bonds of      
counties1 townships1 and small cities   
are usually quite inactive4             
,transactions rarely occur in them1     
dealers do not make a market in them1   
and they can be sold only to genuine    
investors4 ,it is often impossible to   
have them even quoted4  ,at first sight1
 it would appear that active municipal  
bonds would be much more desirable1 but 
inactive municipals possess a special   
advantage which the active ones do not  
enjoy4 ,they possess more stability of  
market price4 ,it is true that their    
stability of value is due to the fact   
that they are not traded in or quoted   
and is1 therefore1 largely fictitious1  
but nevertheless it accomplished a      

useful purpose4 ,it enables the investor
 to carry inactive municipals at cost   
price upon his books through periods in 
which active market bonds would require 
to be marked down in conformity with    
prevailing market prices4 ,no other     
class of investment except real-estate  
mortgages possesses to the same degree  
this quality of price stability4 ,for   
many classes of buyers--savings-banks1  
for example--stability of price is a    
consideration of prime importance4 ,the 
preservation of the savings-bank's      
surplus and1 indeed1 the continued      
solvency of the institution depend upon 
maintaining the integrity of the        
principal which it has invested4 ,a     
savings-bank requires1 also1 great      
safety of principal and interest2 i4e41 
the certainty that principal and        
interest instalments will be paid at    
maturity4 ,it needs only a fair but not 
high yield1 and it does not need to     
place emphasis upon convertibility or   
prospect of appreciation in value4      

,comparison of these requirements with  
the characteristics of inactive         
municipal bonds discloses a striking    
adaptability on their part to the real  
needs of the case4 ,as a consequence1 it
 is not surprizing to discover that     
inactive municipals are greatly sought  
by savings-banks4  ,the desirability of 
inactive municipals for savings-bank    
investment was never more forcibly      
illustrated than on the first of last   
,january1 when the savings-banks came to
 make up their annual statements4       
,broadly speaking1 there can be no doubt
 that they were saved by the large      
quantity of inactive municipals and     
real-estate mortgages which they        
carried4 ,had any considerable portion  
of their assets consisted of railroad   
bonds and active municipals1 upon which 
they should have had to write off a loss
 of ten to fifteen points1 their        
solvency would almost certainly have    
been impaired4  ,but we are chiefly     
concerned in these pages with the       

advantages and disadvantages of         
different forms of investment from the  
point of view of a business man1 both   
for the investment of his business      
surplus and of his private funds4 ,do   
municipal bonds1 either active or       
inactive1 conform to the requirements of
 the business surplus8 ,it can not be   
said that they do4 ,municipal bonds     
possess either convertibility without   
stability of price or stability of price
 without convertibility4 ,both qualities
 are necessary for a business surplus4  
,the only form of municipal security    
which is at all adapted for the         
investment of a business surplus is a   
short-term issue of an active municipal 
bond4 ,if it has only a very few years  
to run1 its constant approach to        
maturity will invest it with the        
necessary stability of price4 ,but even 
in this case equal safety and equal     
stability of price combined with a      
higher yield can probably be found in   
some high-grade railroad issue--either a

 short-term mortgage or equipment bond4 
,for private investment the case is     
somewhat different4 ,enough has been    
said in the preceding chapters to       
impress upon the reader the importance  
of buying securities only in accordance 
with his real requirements4 ,if any     
investor1 after careful comparison of   
the characteristics of municipal bonds1 
either active or inactive1 with his     
necessities1 decides that he can more   
closely satisfy his requirements with   
municipals than with any other form of  
security1 he should not hesitate to     
purchase them4 ,it is the opinion of the
 writer1 however1 that a thorough survey
 of the field of investment will        
generally disclose to the investor some 
security in either the railroad or      
corporation field which will suit his   
requirements as well as the municipal   
bond and at the same time provide him   
with a greater income4     ,,viii       
,,stocks   ,passing to the consideration
 of stocks as investments1 it is        

necessary at the outset that the reader 
should have clearly in mind the         
fundamental difference between stocks   
and bonds4 ,this distinction was drawn  
in the introductory chapter1 but it will
 be well to amplify it here1 even at the
 risk of carrying the reader over       
familiar ground4  ,the distinction      
between bonds and stocks is that between
 promises to pay and equities4 ,bonds1  
loans on collateral1 and real-estate    
mortgages represent some one's promise  
to pay a sum of money at a future date2 
and if the promise be valid and the     
security ample1 the holder of the       
promise will be paid the money on the   
date due4 ,stocks1 on the other hand1   
represent only a beneficial interest or 
residuary share in the assets and       
profits of a working concern after      
payment of its obligations and fixt     
charges4 ,the value of the residuary    
share may be large or small1 may        
increase or diminish1 but in no case can
 the holder of such a share require any 

one1 least of all the company itself1 to
 take his share off his hands at the    
price he paid for it1 or1 indeed1 at any
 price4 ,if a man buys a #a1jjj railroad
 bond1 he knows that the railroad1 if   
solvent1 will pay him #a1jjj in cash    
when the bond matures1 but if he buys a 
share of railroad stock his only chance 
of getting his money back1 if he should 
wish it1 is that some one else will want
 to buy his share from him at the price 
he paid for it or more4 ,if he buys a   
bond he becomes a creditor of the       
company1 without voice in its           
management1 but entitled to receive his 
principal and interest when due under   
pain of forfeiture of the security which
 the company made over to the trustee to
 insure payment4 ,if he buys stock1 he  
becomes a partner in a business         
enterprise1 exercising his proportionate
 share in the direction of the company's
 affairs1 and sharing ratably in its    
profits and losses4 ,in the one case he 
buys a promise to pay and in the other  

an equity4  ,this distinction1 which    
appears plainly marked in theory1 has   
been much obscured in recent years by   
the influence of two factors4 ,as the   
country grew in size1 the large         
corporations--the railroads1 for        
example--required greater capital in    
order to provide facilities for the     
handling of their growing business4 ,it 
was impossible to provide this capital  
wholly by means of bond issues without  
destroying the proportion between bonds 
and stocks1 which alone could give to   
the bondholders the protection of a     
substantial equity4 ,it was therefore   
necessary to obtain a large part of the 
capital required in the form of stock4  
,the railway-managers were thus         
confronted with a difficult problem4 ,it
 was imperative that they should obtain 
more capital1 and it was impossible to  
dispose of sufficient stock on the basis
 of a speculative risk in a business    
venture4 ,it was therefore necessary for
 the railway-managers to emphasize1 as  

far as possible1 the investment         
character of their stock1 and various   
expedients were adopted to accomplish   
this purpose4 ,in some cases preferred  
stocks were created or resulted from    
reorganizations1 which possest a first  
lien upon the assets after payment of   
the obligations1 and which were entitled
 to a certain stipulated dividend before
 the common stock obtained any          
distribution from the earnings4 ,in this
 way the railway-managers created a     
compromise security which could be      
regarded as a stock1 and would thus     
provide equity from the bondholders'    
point of view1 and1 at the same time1   
one which could be disposed of to       
investors4 ,in other cases1 which were  
probably more numerous1 railway-managers
 attempted to give their stock an       
investment value through stability of   
income return4 ,in good years when the  
company earned #aj or #ae per cent on   
its stock1 their policy was to pay only 
#e or #f per cent in dividends1 and hold

 the rest in their surplus fund in order
 to have the means of paying the same   
dividends the next year if only #b or #c
 per cent should be earned4 ,by giving  
their stock stability of income return  
they hoped and expected to give it some 
stability of market price1 and thus make
 it attractive to genuine investors4    
,the effect of this policy was          
unquestionably successful1 and one after
 another the stocks of our more         
important transportation systems and    
other large undertakings passed into the
 hands of investors4  ,the successful   
adoption of this policy on the part of  
the railway-managers and other captains 
of industry has had one curious effect  
which was not contemplated by the       
originators of the movement1 and which  
brings us to the second influence       
mentioned above as having tended to     
obscure the distinction between bonds   
and stocks4 ,when a case has been       
brought before the courts in which the  
contention was advanced that the charges

 of the railway or public-service       
corporation were too high1 the courts   
appear to have taken the ground that    
stocks and bonds should be classed      
together in order to determine the      
aggregate capitalization of the company1
 and that the justice or injustice of   
the contention that the charges are too 
high should be determined by            
ascertaining whether if the charges were
 made lower the net earnings would still
 be sufficient to pay a fair return on  
the total capital invested4 ,this is the
 general line of reasoning pursued by   
the courts1 both in the case of the     
,consolidated ,gas ,company in ,new     
,york and the ,pennsylvania ,railroad in
 ,pennsylvania4 ,the effect of this     
attitude on the part of the courts has  
been to obscure still more greatly the  
real distinction between bonds and      
stocks4 ,it is too early as yet to judge
 what will be the final outcome of the  
changed attitude toward stocks1 but it  
can not be doubted that the present     

tendency of opinion on the subject1 so  
far as large corporations are concerned1
 is to limit the return on stocks to a  
strictly investment basis1 instead of   
leaving the stockholders free to reap   
all possible profit from their business 
venture subject to the restraints of    
competition4  ,the adoption of this     
attitude by the courts should be a      
matter for serious consideration on the 
part of present and prospective         
stockholders4 ,if the maximum return on 
stock is to be limited to #f per cent1  
or any fair investment basis1 and       
charges reduced to consumers so that    
they obtain the benefit of any greater  
earning power1 it would appear that the 
stockholders occupy an undesirable      
position4 ,with their possible profits  
limited1 but with no fixt return insured
 to them and no guaranty against        
possible loss1 it can not be held that  
the purchase of stock seems attractive4 
,these questions1 however1 will         
doubtless be settled in the long run in 

justice both to the public and to the   
stockholders1 and in the meantime the   
stocks of our large and successful      
railway and industrial corporations1    
which have attained a certain stability 
and permanence of value1 are entitled to
 consideration when investments are     
contemplated4 ,it is not worth while to 
lay down rules for judging the          
investment value of such stocks1 because
 the general principles advanced in the 
preceding chapters will be found        
sufficient for a judgment of their      
values4  ,one class of stocks1 however1 
deserves special mention4 ,bank and     
trust-company stocks possess one        
characteristic in higher degree than    
other classes of stock4 ,owing to the   
general practise of self-regulated      
banking institutions to distribute only 
about one-half their earnings in        
dividends and to credit the rest to     
surplus account1 a steady rise is       
assured in the book value of the stock4 
,no other class of stock possesses quite

 the same promise of appreciation in    
value4 ,bank and trust-company stocks   
are especially sought by wealthy men1   
who can forego something in the way of  
income return for the sake of increasing
 the amount of their principal4 ,the    
general characteristics of bank stocks  
are great safety1 a low rate of income1 
limited convertibility1 and practical   
certainty of appreciation in value4     
,with the present chapter the discussion
 of specific forms of investments has   
come to an end4 ,the next and concluding
 chapter will explain the general       
principles which control the market     
movements of all negotiable securities1 
and will endeavor to point out the      
indications which may be relied upon in 
determining whether or not given        
conditions are favorable for the        
purchase of securities4     ,,ix        
,,market ,,movements ,,of ,,securities  
,there is no question connected with the
 investment of money more important than
 the ability to judge whether general   

market conditions are favorable for the 
purchase of securities4  ,after learning
 how to judge the value of every form of
 investment1 a man may still be         
unsuccessful in the investment of money 
unless he acquires also a firm grasp    
upon the general principles which       
control the price movements of          
securities4 ,by this it is not meant    
that a man needs to have an intimate    
knowledge of technical market conditions
 whereby to estimate temporary          
fluctations of minor importance1 but    
rather that he should have clearly in   
mind the causes which operate to produce
 the larger swings of prices4 ,if an    
investor acquires such a knowledge1 he  
is enabled to take advantage of large   
price movements in such a way as        
materially to increase his income1 and1 
at the same time1 avoid carrying upon   
his books securities which may have cost
 much more than their current market    
quotations4 ,if he can recognize the    
indications which point to the beginning

 of a pronounced upward swing in        
securities1 and if he can equally       
recognize the signs which indicate that 
the movement has culminated1 he can     
liquidate the securities which he bought
 at the inception of the rise or        
transfer them to some short-term issues 
whose near approach to maturity will    
render them stable in price1 allowing   
the downward swing to proceed without   
disturbing him4 ,it is not expected1 of 
course1 that the average business man   
will be able to realize completely this 
ideal of investment1 but it is hoped    
that the following analysis will give   
him a clearer conception of the         
principles involved4  ,broadly speaking1
 the market movements of all negotiable 
securities are controlled by two        
influences1 sometimes acting in         
opposition to each other and sometimes  
in concert4 ,one of these influences is 
the loaning rate of free capital2 the   
other is the general condition of       
business4 ,a low rate of interest or the

 likelihood of low rates has the effect 
of stimulating security prices1 because 
banks and other money-lending           
institutions are forced into the        
investment market when they can not loan
 money to advantage4 ,conversely1 a high
 rate of interest or the prospect of    
high rates has the effect of depressing 
prices1 because banking institutions    
sell their securities in order to lend  
the money so released4 ,the automatic   
working of this process tends to produce
 a constant adjustment between the      
yields upon free and invested capital4  
,when money rates are low1 securities   
tend to advance to the point where the  
return upon them is no greater than that
 derived from the loaning of free       
capital4 ,when rates are high1          
securities tend to decline to a point   
where the return is as great4 ,this     
explains the influence of the first     
factor4  ,the other factor is the       
general condition of business4 ,good    
business conditions1 or the promise of  

good conditions1 tend to advance        
security prices1 because they indicate  
larger earnings and a stronger financial
 condition4 ,poor business conditions1  
or an unpromising outlook1 have the     
reverse effect4  ,the larger movements  
of security prices are always the       
resultant of the interaction of these   
two forces4 ,when they work together the
 effect is irresistible1 as when low    
interest rates and the prospect of good 
business conditions occur together1 or  
when high money rates occur in the face 
of an indicated falling off in business 
activity4 ,at such times all classes of 
securities swing together4 ,for the most
 part1 however1 money rates and business
 conditions are opposed in their        
influence1 rates being low when business
 is bad and high when business is good4 
,usually the worse business conditions  
become1 the easier money grows2 while   
the more active business becomes1 the   
higher money rates rise4 ,the effect of 
this antagonism between the controlling 

causes is to produce movements of       
different proportions and sometimes in  
different directions in different       
classes of securities4 ,high-grade bonds
 may be declining1 middle-grade bonds   
remaining stationary1 and poor bonds    
advancing1 all at the same time4 ,this  
serves to give a very irregular         
appearance to the security markets1 and 
appears to justify the widely held      
opinion that security prices are a pure 
matter of guesswork1 and that they are  
controlled only by manipulation and     
special influences4 ,a clear conception 
of the nature of the influences which   
are always silently at work reconciles  
these apparent inconsistencies and makes
 it plain that general price movements  
are determined by laws as certain in    
their operation as the laws of nature4  
,this may be illustrated by a single    
example4 ,let us assume that interest   
rates are low and business conditions   
bad with prospect of still lower        
interest rates and still more           

unpromising business conditions4 ,what  
will be the effect upon different       
classes of securities8 ,high-grade      
bonds1 such as choice municipals1 whose 
safety can not be impaired by any extent
 of depression in business1 will advance
 because their market price is          
influenced almost wholly by money rates4
 ,if their interest is certain to be    
paid1 no matter what business conditions
 may become1 they can not be greatly    
affected by a reduction of earnings1 and
 consequently the influence of low money
 rates is left to act practically alone4
 ,middle-grade bonds1 such as           
second-class railroad issues1 will      
remain almost stationary1 low money     
rates tending to advance their price and
 the fear of decreased earnings tending 
to depress them4 ,the lowest grade of   
bonds and stocks1 whose margin of       
security even in good times is not very 
great1 will probably suffer in price    
because the fear of default in interest 
and of reduction in dividends will      

operate much more strongly than the mere
 stimulus of low interest rates4 ,of    
course1 securities can not be clearly   
separated into these three classes1 but 
shade imperceptibly into one another4   
,the classification is adopted only for 
purposes of illustration4  ,up to this  
point we have been concerned merely in  
showing that the market movements of    
negotiable securities are controlled by 
the influence of certain factors4 ,a    
more important question now remains to  
be considered1 viz43 whether the effect 
of these two influences is to produce   
general swings in prices which may be   
depended upon with comparative          
certainty1 and1 if so1 what indications 
are afforded to the investor of the     
commencement or culmination of such a   
movement4 ,the answer must be that the  
combined effect of the two influences   
described is to produce definite and    
regular swings in prices1 and that the  
indications which define the movements  
are not difficult to follow4  ,a general

 survey of the history of every         
industrial nation reveals the fact that 
business conditions undergo alternate   
periods of prosperity and depression    
extending in clearly defined cycles of  
substantially uniform length4 ,by       
tracing the usual course of interest    
rates and of business conditions        
throughout one of these cycles1 a       
general idea can be formed of the way in
 which the joint influences operate to  
produce price movements4 ,to what extent
 the course of interest rates is a cause
 as well as a result of changing        
business conditions1 we shall not       
attempt here to estimate1 but will be   
content to note carefully the general   
course which rates for money pursue     
throughout the cycles4 ,immediately     
after a financial crisis1 which usually 
closes an era of great business         
prosperity1 money rates become          
abnormally easy4 ,within a few months   
from the climax of the crisis1 money    
accumulates in enormous volume in       

financial centers4 ,this is caused by   
the great diminution of business        
activity which renders unnecessary a    
large part of the circulating medium    
that was formerly required to transact  
the greater volume of business4 ,to the 
extent to which this accumulation of    
money merely reflects a redundancy of   
currency as distinguished from real     
liquid capital1 it can have little      
effect in encouraging the resumption of 
business activity4 ,as time passes1     
however1 and economies in operation     
commence to make themselves manifest1   
and especially as waste and extravagance
 are curtailed1 the country as a whole  
commences to accumulate real liquid     
capital2 that is to say1 its total      
production leaves a surplus over the    
amount of consumption4 ,in the state of 
business feeling which has been         
pictured1 the undertaking of new        
business ventures or additions to       
existing properties would not be        
approved1 so that the surplus wealth    

created finds its way into bank deposits
 as liquid capital4 ,the competitive    
attempt to loan this capital at a time  
when borrowers are few produces merely  
nominal interest rates4 ,this continues 
for some time4 ,it is only gradually as 
confidence returns and as the spirit of 
initiative begins to reassert itself    
that some part of the liquid capital    
created each year is diverted into fixt 
forms4 ,here and there some enterprising
 group of men will develop a mine1 lay a
 new piece of railway1 or make some     
addition to an existing undertaking4    
,for some length of time1 however1 the  
liquid capital of the country not only  
remains unimpaired1 but is continually  
increasing4 ,after a time a change      
comes4 ,the annual surplus of           
production1 tho larger than before1 is  
only sufficient to provide for the new  
undertakings which the growing optimism 
demands4 ,interest rates rise moderately
 in response to the added demand for    
capital4 ,a few years further along1 as 

business activity increases and success 
appears plainly to wait upon new        
ventures1 the demand for new capital    
with which to develop increased         
facilities and new enterprises exceeds  
the annual supply of wealth created4    
,prosperity having increased1 another   
factor commences to assert itself4 ,the 
spirit of economy and thrift which had  
prevailed throughout the years of       
depression gives place to extravagance1 
the demand for luxuries1 and other      
unproductive forms of expenditure4      
,while the total production is much     
greater than in the lean years1 the     
margin of production is not             
proportionately as great1 and this      
amount is insufficient to meet the      
demands upon it4 ,the supplies of liquid
 capital stored up during the years of  
depression are resorted to1 and they    
serve to provide the new capital for a  
few additional years4 ,interest rates at
 once reflect the encroachment upon     
stored-up capital1 and their rise gives 

the first real warning of the country's 
true position4 ,the optimistic business 
men do not heed the warning4 ,after     
exhausting all the real capital         
available in the country1 they proceed  
to borrow extensively from foreigners or
 from government banks--in this country 
from the national government through    
bank deposits4 ,every step which can be 
taken to induce foreigners to part with 
their capital is resorted to4 ,if       
foreigners will not buy long-term bonds1
 short-term notes are created4 ,if the  
foreigners refuse these1 they are asked 
to make loans secured by the new bonds  
and notes4 ,the rates of interest       
offered are so attractive that          
considerable sums are usually obtained1 
and the pressure of business activity   
continues further4 ,finally the day of  
reckoning arrives when some incident1   
usually unimportant in itself1 first    
suggests to the lenders of money that   
their debtors whom they know to be      
overextended may not be able to pay     

their loans4 ,the attempt to collect    
their loans produces a financial crisis 
which brings to an end the period of    
prosperity4  ,the foregoing is a        
description of the more important stages
 through which business conditions pass 
from crisis to crisis4 ,different cycles
 vary in particular details1 but all    
agree in essential outlines4 ,sometimes 
special influences are at work which    
operate to shorten or prolong the cycle4
 ,the approach of a crisis will be      
retarded by inflation of the currency1  
for the excess finds its way into bank  
vaults and increases the volume of      
loanable credit4 ,the effect of such    
inflation1 however1 is wholly           
disastrous1 because the addition to the 
supply of capital is fictitious1 not    
real1 and only defers the day of        
reckoning for a greater catastrophe4 ,on
 the other hand1 the approach of a      
crisis can be greatly hastened by wars1 
conflagrations1 and other agencies which
 destroy capital1 and by attacks upon   

capital and the conduct of corporate    
business1 for such attacks tend to      
render capital timid and produce the    
same effect as a violent curtailment of 
the supply4 ,these are only some of the 
many influences which might become      
operative1 but they serve to show the   
necessity for careful consideration of  
all the factors at work if a true       
conception of the condition and         
tendencies of business is to be formed4 
,from the general account given above of
 the successive phases of a credit      
cycle1 it is possible to summarize the  
course of interest rates and the course 
of business conditions4 ,money rates    
become suddenly easy after a crisis1    
remain low or grow easier for a period  
of several years1 and then rise         
continuously until the next crisis1     
advancing with great rapidity toward the
 close of the cycle4 ,business          
conditions remain poor or grow worse a  
few years after a crisis4 ,liquidation  
is taking place1 prices are going down1 

and the uncertainty of the outlook      
causes diminished activity4 ,thereafter1
 however1 conditions improve and        
activity increases with fair uniformity 
until it reaches the high tension of the
 period immediately preceding the       
crisis4 ,the course of interest rates   
and the course of business conditions   
may both be deflected by the operation  
of special influences1 but the general  
tendencies are substantially as         
outlined4 ,the result of the operation  
of these joint factors may be traced in 
the market movements of any class of    
security desired4 ,for the sake of      
simplicity1 let us consider their effect
 in producing the market swings of the  
highest grade of investment issues and  
of the lowest grade1 those which are    
affected only by money rates and those  
which are affected almost wholly by     
business conditions4  ,emerging from the
 strain of the crisis at their lowest   
point1 high-grade bonds1 such as the    
best municipal and railroad issues1     

advance rapidly as interest rates       
decline1 continuing their advancing     
tendency throughout the period of       
business depression which follows upon  
the heels of the crisis4 ,as business   
conditions improve1 their position1     
while perfectly secure before1 is       
further strengthened and an added       
stimulus is given to their rise4 ,about 
the middle of the cycle when the        
business outlook is very promising1 and 
before interest rates have sustained any
 material advance1 the prices of        
high-grade bonds are usually at their   
highest point4 ,from that time forward  
they commence to decline1 in spite of   
the increasing prosperity of the        
country1 under the influence of rising  
money rates4 ,they make their lowest    
prices in the midst of the crisis1 when 
the strain upon capital is greatest and 
the outlook for business most           
unpromising4  ,the lowest grade of      
bonds1 on the other hand 7whose margin  
of security is least71 do not commence  

to recover materially in price1 in spite
 of the influence of low money rates    
during the hard times which follow the  
crisis1 the influence of reduced        
earnings and the fear of default of     
interest holding them in check4 ,as the 
outlook becomes brighter1 they advance  
rapidly and continue to improve in price
 so long as they yield more than current
 money rates4 ,at some point1 difficult 
to determine in advance but usually well
 along toward the end of the cycle1 they
 reach their high point and thereafter  
decline under the influence of the      
growing stringency in money4  ,between  
these two extremes1 every class of      
security is to be found4 ,the better    
ones will tend to resemble1 in their    
market movements1 the course pursued by 
the choicest bonds2 the poorer ones will
 approximate the lowest class4 ,in every
 case1 however1 unless special          
influences operate to produce           
variations1 the market swing of a given 
security should be easily conjectured by

 an investor who gives careful attention
 to the relative weight which is likely 
to attach to each determining influence4
          99       99       99       99 
99   ,transcriber's ,note3 ,spelling    
remains as in the original except       
qualities to be emphasied2 for investors
 has been changed to emphasized4