2022 Volume 39 Pages 5-24
South Manchuria Railway saw its number of private shareholders increase by 59,787 between 1927 and 1940, a level of growth in a class by itself, but that proliferation was not due to the fact that was listed on stock exchanges across the country. The prewar Japanese stock market was beset by bad circulation of share certificates and a prevalence of off-exchange trading (transactions that took place outside the stock-market environment), and South Manchuria Railway was not immune to the effects of those limitations. On top of the characteristics defining the prewar stock market, there were also many risk factors that affected shareholders both before and after the acquisition of shares: the pre-acquisition risks that fraudulent securities dealers posed and the post-acquisition risks of a legal framework that did not provide protections for purchases in good faith and without negligence. Despite the many barriers and risk factors standing in the way of share ownership, South Manchuria Railway saw its private shareholder count surge. Fueling the increase was a “correction” process in the market. When the Manchurian Incident prompted numerous existing shareholders to distance themselves from the company and begin selling off their share certificates, the influx of available shares created a rush of opportunities to buy them—and thereby make stock investments—for individuals who had almost never been able to do so in the years prior. That opportunity gap is what drove the increase in South Manchuria Railway’s private shareholder count. Although the shift finally let a broader base of individuals buy shares, Japan’s demise in the Second World War reduced those long-coveted certificates to mere scraps of paper. The resulting damage would then shape the groundwork for the bank finance of postwar Japan.
This paper aims to identify distinguishing features of the prewar Japanese stock market and delineate the reasons behind the rise in the number of private shareholders in the South Manchuria Railway (“SMR”), which continued up to just prior to the end of World War II. In doing so, the paper also seeks to explore possible connections between those factors and the stock market in postwar Japan.
Past scholarship on the prewar Japanese stock market has focused largely on the size of the Tokyo Stock Exchange and its functions in the market. For Hamao et al. (2005), whose discussion centered on how Japan had a bank-oriented financial system in the postwar years but actually a market-oriented system in the prewar environment, the Tokyo Stock Exchange represented the central cog in enhancing the fluidity of an organized stock-distribution framework and establishing fair stock prices—a process that helped enhance the efficiency of both corporate finance and corporate governance. Hamao created a database of companies that listed on the Tokyo Stock Exchange since its inception and found that the Exchange not only broadened the base of new listings in growing industries but also opened the doors to listing for fledgling small businesses.
Other scholars have shined a different light on the Tokyo Stock Exchange, however. Bassino et al. (2015), for example, conducted a variety of quantitative analyses using the daily stock-price indices for the Exchange from 1931 to 1940. The study found that, in a context of persistent volatility across the years in question and sudden increases in uncertainty surrounding economic events, the Tokyo Stock Exchange significantly deviated from weak-form efficiency. In a way, the Tokyo Stock Exchange was a “risky casino-like financial environment”—and Bassino argues that the “lack of efficiency” at the Exchange may have been one fact in postwar Japan’s shift toward bank finance.
This paper seeks to offer a new perspective on the conflicting arguments in these two studies1: the standpoint of “market participants,” whom Hamao et al. (2005) tacitly assumed to be part of the context and Bassino et al. (2015) assumed to be actors with sophisticated transactional skills. In particular, I devote special attention to market participants’ access to and entry into stock exchanges. In other words, my interest goes beyond simply the trading that took place on the Tokyo Stock Exchange and the frequent swings in stock prices that came as a result. I take a broader look at exchanges as “stock markets” in general to probe the pertinent points, analyzing commercial practices in stock trading, transfers of shares, the risks of share acquisition, legal protections for shareholders, and the assignment and delivery of actual share certificates.
The paper’s perspective is also novel in another sense. Analyses that focus exclusively on listing, trading, and pricing at Japanese stock exchanges often struggle to discuss the element of continuity between the prewar and postwar environments, especially considering how the nation’s defeat in the war caused disruptions in trading activity and the closures or dissolutions of listed companies. Japan’s surrender essentially “reset” the stock-market situation. However, I center my analysis not on trading activity at the corporate level but rather on shareholders. Whereas the end of the war cleaved a rift in the continuity of stock-market operations, many shareholders survived through Japan’s defeat and remained active as economic entities in the ensuing years. The continuity of the shareholder element makes it possible to draw threads between the prewar and postwar setting, which enriches the paper’s novelty.
As I explain below, stock exchanges in prewar Japan allowed traders to sell short, buy short, and engage in other types of speculative dealing (similar in many ways to clearing transactions). That meant that sell and buy orders did not necessarily involve the assignment and delivery of actual, physical share certificates. The key to deciphering exactly why the number of SMR’s private shareholders continued to mount up until the end of World War II lies in the investment behavior of securing rights to dividends via transfers. If one were to include speculative trading that could take place without any physical acquisition of share certificates, the analysis would not be able to elucidate changes in shareholders with sufficient accuracy. Considering the nature of the inquiry, this paper thus comprises the following structure.
Section II uses statistical data to explain two characteristic features of the prewar Japanese stock market: the bad, imbalanced circulation of share certificates, first of all, and the prevalence of off-exchange trading. In Section ⅡI, I look at the risks that securities dealers posed prior to a potential buyer’s acquisition of stock. From there, Section IV shifts the focus to post-acquisition risks stemming from “legal flaws” that could imperil an acquisition on the grounds that the parties failed to make the transaction in “good faith without negligence,” noting prewar business practices like assigning and delivering share certificates together with blank stock powers (forms granting free power of attorney and allowing the recipient to transfer the stock at will). Building on the discussion in Sections II, III, and IV, Section V then incorporates elements from Hirayama (2015) on the increases in SMR’s private-shareholder count to form a fuller picture of the reasons behind that rise. Following Section V is the Conclusion, which explains the broader significance and implications of these findings and draws connections between my discussion and the context of the postwar Japanese stock market.
First, Table 1 illustrates the changes in shareholder counts and authorized capital at Dainippon Sugar Mfg., Nippon Yusen, SMR, Japan Steel Tube, Kanegafuchi Spinning, Tokyo Electric Light, and Nichiro Fisheries between 1927 and 1940.
Note: Rate of change = (1940 value - 1927 value)/1927 value x 100
The data makes it easy to see which companies saw their shareholder counts rise and which experienced declines. The largest gainer was SMR (+59,787 shareholders), followed by Nichiro Fisheries (+14,386), Japan Steel Tube (+7,599), and Dainippon Sugar Mfg. (+1,769). Drops in shareholder count, on the other hand, occurred at Kanegafuchi Spinning (-4,741), Nippon Yusen (-4,485), and Tokyo Electric Light (-1,195). In terms of capital, every company saw an increase besides Nippon Yusen, whose capital level remained the same across the years in question. SMR saw the largest gains here, too (+360 million yen), with Japan Steel Tube (+79 million yen), Kanegafuchi Spinning (+60 million yen), Dainippon Sugar Mfg. (+23 million yen), Tokyo Electric Light (+22.41 million yen), and Nichiro Fisheries (+13.8 million yen) posting the other increases.
However, the companies were of considerably different sizes—and that variance obviously shows in the real numbers of shareholders and capital totals, making direct comparisons a challenge. The “rate of change” column presents the changes in relative terms to facilitate comparison. As the percentages indicate, Nichiro Fisheries had the largest relative increase in shareholder count at 812.3%, while Japan Steel Tube saw the largest capital growth at 376.2%.
One important dynamic to consider is how changes in capital affect changes in shareholder count. Dividing the rate of change in the number of shareholders by the rate of change in capital—finding the elasticity of the shareholder count in relation to capital, in other words—is a statistical means of assessing that impact. When a 1% increase in capital produces a 1% increase in the number of shareholders, the elasticity is 1. An elasticity value greater than 1 would mean a shareholder count growing at a rate proportionally greater than that of the corresponding capital amount.
Looking at the four companies that experienced rises in both capital and shareholder count, one can see that the firm with the highest elasticity was Nichiro Fisheries at a value of 23.5. SMR had the next-highest elasticity (6.9), followed by Dainippon Sugar Mfg. and Japan Steel Tube (both at 0.4). The two companies whose shareholder count fell over the period in question saw increases in capital, which means their elasticity values were negative; Tokyo Electric Light had an elasticity of -0.4, and Kanegafuchi Spinning’s elasticity was -0.3. At Nippon Yusen, which had no elasticity value because its capital volume went unchanged, the number of shareholders also fell. Five companies—Dainippon Sugar Mfg., Nippon Yusen, Japan Steel Tube, Kanegafuchi Spinning, and Tokyo Electric Light—thus had elasticity values of less than 1. These sub-1 values suggest that the companies’ increases in capital outpaced their respective increases in shareholder count or, possibly, that the companies’ existing shareholders were holding on to their shares. The two companies with elasticity values greater than 1 were Nichiro Fisheries (23.5), which had the lowest capital volume of the set, and SMR (6.9), the most capital-rich of all. At these two firms, the number of shareholders increased faster than the amount of capital. In all likelihood, the companies’ capital growth was fueling increases in the numbers of new shareholders, or existing shareholders were selling stock from capital allocations.
The next question to ask is where that difference in elasticity levels came from. When it comes to capital, a company’s management has the power to influence the rate of change. It would be reasonable to infer that shareholder count varies at a rate that depends partly on management decisions as well—but the shareholder variable also actually lies outside management control. In that context, looking at the connections between the rate of change in a company’s number of shareholders and the company’s listing status on stock exchanges can be illuminative. The next section thus examines whether being listed on various Japanese stock exchanges prompted increases in a company’s shareholder count.
Table 2 shows the listing statuses of the seven companies on 15 stock exchanges in Tokyo, Osaka, and elsewhere by transaction type (long-term transactions [“L” in the Table] and short-term transactions [“S”], which I detail later). Some companies, namely Kanegafuchi Spinning and Tokyo Electric Light, had listings virtually across the board (a combined total of 25 listings for long-term and short-term transactions), while SMR and Nippon Yusen were not nearly as ubiquitous (18 listings). Dainippon Sugar Mfg. and Nichiro Fisheries had slightly fewer listings than SMR and Nippon Yusen (15), and Japan Steel Tube’s listing presence was even smaller (11). The two firms with the highest shareholder counts, rates of change, and elasticity (Nichiro Fisheries and SMR) were not necessarily everywhere to be found on Japan’s stock exchanges, evidently. Another interesting revelation from Table 2 is that the companies that did list on virtually exchange (Kanegafuchi Spinning and Tokyo Electric Light) were actually the ones that saw their shareholder counts drop over the time frame in question and thus end up with negative elasticity values. Whatever the perspective, it would be hard to suggest that being listed on stock exchanges across the country naturally drove the circulation of a company’s stock and spurred growth in its shareholder ase.
Source: Shōken Hikiuke Kaisha Kyōkai (1941).
Notes 1: "L" and "S" stand for long-term transactions and short-term transactions, respectively.
2: Of the 1,002 companies in the report, 287 were listed companies.
The transactions that took place at Japan’s prewar stock exchanges fell into two basic categories: clearing transactions and spot transactions. A clearing transaction is one where a buyer acquires share certificates in a “net” amount, calculated by totaling the cumulative number of buy orders and sell orders over a given time period and then subtracting out the trade orders when the final trade date arrives. At the time, clearing transactions could be either long-term (generally up to three months) or short-term (generally up to one month). Since everything was cumulative, eliminating the need for hand-offs of actual share certificates with individual orders, the system in place allowed for selling and buying short. This means that a given stock exchange’s “trading volume” could be misleading at face value. In Table 3, the “Sales” columns contain the aggregate trading totals with short buying and selling included, while the figures in the “Deliveries” columns represent the total numbers of stock-certificate deliveries from the “Sales” totals. Naturally, sales outnumber deliveries. Spot transactions, meanwhile, happen literally on the “spot”: a sale involves an actual share certificate changing hands, so the numbers of sales and deliveries are equal. One thing to note about listings in general is the relatively small number of companies that had a widespread listing presence. Shōken Hikiuke Kaisha Kyōkai (1941), which serves as the basis for the data in Table 2, contains a wealth of corporate information ranging from balance sheets and income statements to key executives, major shareholders, and stock prices (for spot transactions) for 1,002 companies. Of the more than 1,000 firms in the collection, only 287 were listed for either long-term and short-term transactions at Japanese stock exchanges.
Note: Figures in italics are the corresponding ratios relative to Tokyo.
The next point to examine is the scale of the clearing transactions and spot transactions that took place at Japanese stock exchanges. Table 3 provides a comparison of the sales volumes and deliveries of the Tokyo, Osaka, Nagoya, and Kyoto stock exchanges in 1935, with the numbers in italics representing the ratios of the stock exchanges’ respective values to those of the Tokyo stock exchange (whose ratios are all 1.00, accordingly). In terms of short-term transaction volume, Osaka topped Tokyo—but it was the only stock exchange to do so. Tokyo had by far the highest figures for long-term transaction sales, long-term transaction deliveries, and spot transactions. At other stock exchanges not in the Table, such as Niigata and Hiroshima, the trading volumes either lack surviving records or were so low that the ratios were virtually 0 (Niigata Shōkō Kaigisho 1931; Hiroshima Shōkō Kaigisho 1929). Data on spot transactions at the Nagoya and Kyoto stock exchanges is also unavailable (Nagoya Shōkō Kaigisho 1936; Kyoto Shōkō Kaigisho 1936). While the combined totals for short-term transactions at the Osaka, Nagoya, and Kyoto exchanges may have approached or surpassed the corresponding values at the Tokyo exchange, Tokyo dwarfed the others combined in every other transaction category.
Looking at Tables 2 and 3 side by side, one can conclude that being listed on stock exchanges across the country did not necessarily guarantee that a company’s share certificates would see much trading activity. The circulation of share certificates was strikingly stagnant, and the stock exchanges ostensibly did little to stir activity. Sluggish circulation and a lack of balance among stock exchanges were thus two characteristics of Japan’s prewar stock market.
One last point that deserves closer examination is the question of whether all deliveries of share certificates actually took place at stock exchanges. After two parties complete an assignment and delivery of a share certificate at a stock exchange, the assignee normally conducts a “transfer” if he or she wants to own the stock. If he or she intends to resell the acquired stock, on the other hand, he or she can simply stay at (or return to) the exchange and sell it off on the spot without having to go to the trouble of completing a transfer first. It would thus be reasonable to assume that the number of share certificates assigned and delivered at a given exchange (deliveries) would be higher than the number of transfers. Was that the case at exchanges in prewar Japan? Table 4 provides some answers.
Sources: Tōkyō Kabushiki Torihikijo Chōsakai (1936); Ōsaka Shōkō Kaigisho (1936); Nagoya Shōkō Kaigisho (1936); Kyōto Shōkō Kaigisho (1936); Tōkyō Kabushiki Torihikijo (1934-41); South Manchuria Railway (DCI-Before: 17A-229).
Notes1: Estimates were calculated based on totals from stock exchanges throughout Japan by multiplying the sales and deliveries at the Tokyo Stock Exchange by 1.2 for long-term transactions (both sales and deliveries), 2.9 for short-term sales, 2.1 for short-term deliveries, and 1.2 for spot sales.
2: The figures for paid-up stock and 1933 stock for 1934 are the values for June-December of that year. The figures for paid-up stock for 1941 are the values for January-October of that year. The figures for 1933 stock for 1938 are the values for January-May of that year. Also note that the figures for paid-up stock for June 1938 and thereafter include 1933 stock.
Table 4 compares the estimated total deliveries and transfers of SMR share certificates at the various exchanges. I estimated the values for sales and deliveries by multiplying the Tokyo Stock Exchange values by the ratios from Table 3. With a quick glance at the figures, one can easily see that the total sum of the deliveries at the stock exchanges (⑦) is lower than the number of transfers (①).
The year 1935, which I used for the ratio calculations in Table 3, brings the reality into focus. In the 1930s, SMR issued two types of stock: paid-up “old stock + new stock” and partly paid “1933 stock.” Table 4 indicates that there were 782,647 transfers and 329,867 deliveries of old stock + new stock in 1935, a difference of 452,780. Meanwhile, transfers and deliveries of 1933 stock came to 1,025,376 shares and 434,708 shares, respectively, for a difference of 590,668 shares. These two discrepancies—452,780 and 590,668—were likely the numbers of shares that changed hands via “off-trading,” or transactions taking place off the stock-exchange floor. For comparative purposes, I took each total of “off-trading” shares and divided it by the corresponding transfer total to determine an “off-trading rate” (the ratio of off-traded shares to transferred shares). The off-trading rates in 1935 were 57.9% for old stock + new stock and 57.6% for 1933 stock, meaning that shares traded outside stock exchanges accounted for over half of all transfers of both types of stock. Throughout the entire table, the off-trading rate surpassed 30% in all categories and years except for 1933 stock in 1938. The composite off-trading rates for the entire span were 40.6% (old stock and new stock) and 45.2 % (1933 stock).2
An investor intending to become a shareholder in a company needs to apply and register with the company accordingly, which entails completing a stock transfer. That obviously requires an actual, physical acquisition of a share certificate. The people who complete this process officially become shareholders, whose numbers Table 1 showed to be increasing in the 1930s. As Tables 2, 3, and 4 suggested, however, the only means of securely obtaining an actual, physical share certificate was through the Tokyo (or Osaka) stock exchange—and that reality forced many to go the off-trading route. In defining the character of the prewar Japanese stock market, the prevalence of off-trading is another key feature to take into account.
The bad, imbalanced circulation of certificates and substantial off-trading that characterized the prewar Japanese stock market created certain inconveniences and inefficiencies for shareholders looking to sell and others looking to buy. Take, for example, an individual who wanted to acquire share certificates from a given company (any of the companies in Table 1)—in other words, to become a shareholder in the company and thereby earn dividend revenue. If that individual lived in Kōchi, Kumamoto, Morioka, or some other location far from a major urban center, he or she would have had virtually no access to a stock exchange in reasonable proximity to make the purchase in the first place. Even if he or she lived in an outstate area with a stock exchange, like Hakata or Niigata, the circulation of share certificates outside the major metropolitan areas was so bad, as Table 3 showed, that it would have been next to impossible to secure certificates without access to the Tokyo Stock Exchange. The same issues surely affected individuals trying to sell share certificates, as well: if people trying to get their hands on share certificates needed to go to Tokyo, it would make sense to assume that sellers did the bulk of their business at the stock exchanges where buyers congregated. In any event, the centrality of the Tokyo Stock Exchange affected the entire arena, and the resulting congregation of trading activity was inevitable. Of course, traders could minimize the number of their assignments and deliveries of share certificates if they limited themselves to securing sales profits via clearing transactions; going that route, a trader outside a major metropolitan area may have been able to avoid much of the inconveniences or inefficiencies (although the costs of obtaining information, such as telephone calls, telegraphs, and radio expenses, would have factored into the situation in those cases).
At the time, however, every form of stock trading—be it the buying and selling of actual share certificates or clearing transactions—came with risks that were too serious to ignore. Many of these risks stemmed from securities dealers, the intermediaries between buyers, sellers, and stock exchanges.
Transactions at stock exchanges always involved some kind of intermediary; people looking to buy and sell shares did not go to stock exchanges to do the deals themselves, nor did people hoping to become shareholders interact directly with people intending to divest themselves of their holdings. They took place between registered “regular traders,” or securities dealers. Other parties were not allowed to make transactions at stock exchanges. A person intending to buy or sell shares submitted a buy or sell order to a regular trader, who then concluded the order with another regular trader. Stock exchanges also established eligibility rules for the regular traders that they allowed to do business and enforced penalties for instances of misconduct. Despite the rigorous protocols in place, there was no shortage of malicious securities dealers who engaged in dishonest, unstable, or otherwise shady activity in the interwar period.
A wide array of publications and other print material strove to raise awareness of these types of securities dealers. One was Kabushiki Chōsa Kai (1935), an introductory guide to trading that provides a revealing glimpse of the contemporary milieu.
Kabushiki Chōsa Kai’s book “color coded” regular traders into four classes. The “first-class” traders were regular traders that specialized in commissioned sales, earning fees from their clients without bringing any self-interested, ulterior motives into their activities. Populating the first class were a select group of under 20 regular traders registered with the Tokyo Stock Exchange, such as Obuse Shōten and Yamaichi Shōken. The “second-class” regular traders were securities dealers who dealt in principal transactions and conducted “arbitrage dealing,” which refers to leveraging differences in the price of a given stock resulting from lower prices close to clearing dates and higher prices farther away from clearing dates to lock in gains. The second class was also home to around 20 firms. Kabushiki Chōsa Kai called the first two classes of traders “trustworthy.”
The problematic dealers were those in the “third class” and “fourth class.” “Third-class” dealers centered their practices on their own agendas, reeling in profits when their speculations proved accurate but taking losses when things played out differently. If losses began to pile up, firms of this type would find themselves on financial thin ice and sometimes partake in illegal activity in hopes of finding a solution. Kabushiki Chōsa Kai placed around 20 dealers in the third class as well. The remaining traders fell into the “fourth class,” a set of firms that the book terms “the epitome of bad regular traders.” The book also notes the existence of a “horde of stock-certificate dealers” completely unqualified to serve as regular traders. Going by names like “spot shops,” “brokers,” “stock traders,” and “certificate traders,” these companies constituted what Kabushiki Chōsa Kai called “the embodiment of fraud.”
To give readers an idea of the predicaments disreputable regular traders and securities dealers could create, the work presents a handful of examples in a narrative format. The first is a story of a father and a son from a rural farming family. The story starts with the son saying that he had “heard about a chance to make some good money” and showing his father a newspaper ad with the title “A Surefire Way to Make Money during a Recession.”
Son: All right, lemme read it to you. “Stocks are cheap at the moment. Stocks that used to cost 500 or 600 yen when the economy was good are now selling for a third or even a quarter of that. But recessions pass, just like spring turns to summer and fall turns to winter. Good times are bound to come again. If you buy stock at recession prices now and put them away for just a year or two, you can turn that little expense into a payoff two, maybe three, or possibly even five times what you paid for it. The profits are there to be had—and that we guarantee with a big, firm stamp of assurance. On top of those profits, buying stock also fills your pocketbook with annual dividends that make the interest you earn on your savings seem like pennies. And if you ever find yourself short on cash, you can put your stock up as collateral for a loan. Has there ever been a more surefire, risk-free, benefit-rich way to make money? Not a chance!”
Father: You don’t say. How ‘bout that!
. . .
Son: And listen to this. “There is not one sliver of a doubt that buying stock now and reaping it when the time is right will bring in bigger profits than toiling tirelessly away at the same old trade ever will. Although big stock investments bring in bigger rewards, all you need to get started is 500 yen. There are so many stocks that start at a purchase price of 200 yen per 10 shares and proceed to double or triple in just a year or two. Our Special Communications Division is here to help you turn your stock investment into wealth.” How ‘bout it, old man?
Father: You think that idea’d work?
Son: You bet. If you buy something for 200 and it goes up five times in value, you get 1,000 yen out of it. You know, we’d be able to open an inn or something instead of workin’ the soil day in and day out.
Father: Make 1,000 yen out of 200, huh? Sounds good by me!
Imagine a pair of poor farmers, their hands stinking with the smell of manure, excitedly reaching back and forth for an old newspaper ad to get a look at an enticing advertisement for stock investment.
As the saying goes, a drowning man will clutch at a straw!
The father and son, seeing the advertisement as a gift from the heavens, sold the land that had been their family’s heritage for generations for 300 yen and sent the sum straight to the trading company.
But they never got a reply. The share certificates never came.
Feeling increasingly uneasy about what had happened to their money, the father and son made the days-long journey from the countryside to Tokyo and found their way to the office of the firm from the advertisement. When they arrived, their questions fell on deaf ears—and they had no choice but to accept their fate.
The book also describes a “case from a few years ago” in which a “novice investor” from a rural area fell victim to stock fraud—but the victims were not all beginners.
One day, a brokerage firm received a call from Mr. A, one of its clients.
“Give me Mr. B, the salesman,” Mr. A said. As Mr. B was out of the office, a different employee asked what the call was about.
“When he gets back,” Mr. A explained, “tell him to buy 150 shares in Nissan at 122 yen.” The employee responded that he would relay the information on Mr. A’s limit order.
A few days later, Nissan’s stock price had shot up to over 138 yen. Mr. A’s 150-share purchase had turned a quick profit of 2,400 yen.
But his brokerage firm was actually a “bucket shop,” an operation that used money from clients to gamble on stock prices instead of buying or selling on client orders. If the shop were to square the account, Mr. A would reap the 2,400-yen profit, and the shop would take on a massive loss. The manager called over Mr. B, the salesman, and told him how to handle the predicament.
“Let’s just tell Mr. A that since you weren’t here when he called, there was a mix-up with the order and it never went through.”
They both agreed to the plan and proceeded to wipe clean any record of the buy order.
Oblivious to what had transpired, Mr. A was ecstatic at Nissan’s surging stock price. He put in another call to Mr. B and asked him to sell 100 of the 150 shares he had bought.
Feigning surprise, Mr. B responded, “But I have no recollection of taking that order, sir.”
Mr. A decided to pay a visit to the firm’s office and get to the bottom of the matter, but his inquiries went nowhere. They could not even tell him who had taken his call in Mr. B’s stead.
This sent Mr. A into a rage. Still, no amount of complaining and hollering could get him the answers he was after, and he went home empty-handed.
What would have happened had Nissan’s stock price plummeted instead of soared? Without a doubt, the brokerage firm would have put Mr. A’s order through right and proper—and from there, the shop would have been quick to fleece him with a margin call or demands that he cover their losses.
The schemes that the two stories illustrate—the first an example of “swindling” and the second of “bucketing”—were both common at the time. Kabushiki Chōsa Kai calls the second maneuver a “sophisticated form of ‘client-killing.’” In addition to painting these cautionary scenarios, the publication also includes examples of people who would “sweet-talk impressionable ‘country bumpkins’ or people who appeared to have deep pockets into their shops, spin baseless tales of foolproof profits, and cheat them out of their money on payments, securities, and the like.”
Kabutochō Inshi (1921) also mentions “bucketing” practices by securities dealers: “We have heard about proprietors of ‘spot shops’ who take orders from clients, dispatch salesmen or clerks to collect the down payments, and, when they return with the money in hand for the certificates or spot transactions (outside stock exchanges), give them ‘rewards’ for their work equivalent to 20% of the payment and pockets the rest as ‘revenue’ to spend on whatever they so please.” Securities dealers at the time operated with a hierarchical structure that put proprietors at the top, clerks on the next rung down on the ladder, and salesmen at the bottom—but salesmen had almost no real sense of attachment to the outfits they worked for. If word got around that a given operation was “bucketing,” the proprietor would have the salesman who had taken the order quit (or simply cut him loose); the system sustained a constant pattern of preying on the defenseless. Kabutochō Inshi goes as far as to direct its warnings specifically at people who tended to find themselves in particularly vulnerable or defenseless positions, addressing the passage to “provincial residents conducting business with firms in Tokyo.”
Naturally, the authorities took aim at these types of illicit and fraudulent activity. When one “bad” regular trader came under investigation, the proprietor apparently tried to turn the tables: “How am I supposed to not take that money when I’ve got so many clients practically begging me to use it? It’s their fault, that’s what it is.” He laid things out in plain terms, saying “We speculators swindle because we’re hurting for money—and our clients are so easy that they don’t even see it coming” (Kabushiki Chōsa Kai 1935).
As the above discussion suggests, there were numerous barriers to making an entry into and doing legitimate, normal trading business in the prewar Japanese stock market. Newcomers, especially, first had to learn the lay of the market as they could not afford to be impervious to the underhanded misconduct of certain securities dealers. Once they had finished that initial learning process, they then needed to collect accurate information on which securities dealers were trustworthy and safe to do business with. Otherwise, they would put themselves at an enormously higher risk of falling victim to the fraudulent practices that this section of the paper has detailed. The stock-exchange environment in prewar Japan was, in many ways, a dog-eat-dog world with a very small margin for error.
If a buyer managed to overcome these risks and obtain a share certificate without incident, the next step would be to apply to the corresponding company for a share transfer and officially join its roster of shareholders. The buyer might have thought at that point that everything was in the clear, but unfortunately, there were more risks to come. A major cause for concern was the fact that the contemporary legal system had no protections guaranteeing share acquisitions made in good faith and without negligence.
First, one needs a basic understanding of the contemporary “business practices” that applied to assigning and delivering shares. One involved transferring share certificates together with accompanying “blank stock powers,” which were letters of proxy that handed over all procedural tasks for the transfer of the certificate to a proxy but listed no proxy name or date. A shareholder (“A,” for our purposes) selling a share certificate to a buyer (“B”) would attach a blank stock power to the certificate before conducting the delivery. If B wanted to keep the share certificate (and thereby become a shareholder), he or she would write his or her own name as the “Proxy” for A (the transferor) on the blank stock power, create a transfer request, and then submit all three documents—the share certificate, blank stock power, and transfer request—to the target company to complete the transfer and officially become a new shareholder. If B wanted to sell the certificate to a different buyer (“C”), he or she would simply deliver it to C with the blank stock power attached as is. Then, should C wish to become a shareholder, he or she would follow the above process for becoming a shareholder: fill out the blank stock power with his or her (C’s) name as the “Proxy” for A (the transferor), draw up a transfer application accordingly, and file the three documents with the company. C could also choose to sell the certificate again, which he or she would do by delivering it with the same blank stock power, with nothing filled out, to the next buyer (“D”). A single blank stock power could thus go from A to B to C to D and so on, interminably, with every sale and resale of the certificate. This was the standard business practice for the purchase and sale of share certificates at the time, and the Supreme Court considered buying and selling share certificates with accompanying blank stock powers to be legitimate and valid (Kaneko 1918).
However, legal scholar Matsuda Jirō noted in a 1926 work that “many court decisions have shown that buyers of stock in Japan today, even should they make their purchases in good faith and without negligence, have little protection” (Matsuda 1926). Records support Matsuda’s claim, as there are myriad examples of the legal system not providing proper protection to purchasers acting in good faith and without negligence. Osaka Kabushiki Torihikijo (1933) teems with examples of decisions and their supporting rationale, and “deliveries of named stock with blank stock powers” alone account for 217 cases spanning a full 175 pages of text. Below is a typical example from that extensive selection.
For a third party to acquire the rights stipulated on a named share certificate with a blank stock power via the issuance thereof, said blank stock power shall be required to have been created at the discretion of the creator.
(1914 (Re) 1246, July 6, 1914, Criminal II judgment)
In this decision, the court ruled that the acquirer of a share certificate would have no rights whatsoever to the certificate if the accompanying blank stock power had not been created at the discretion of the creator (the shareholder, in other words)—regardless of whether or not the acquirer knew the origin of the stock power. A stock power “not created at the discretion” of the creator refers to a document that has been falsified, altered, created under coercion, or created by a juvenile lacking sufficient mental capacity, for example. Why would the court have come to this decision? The rationale was that an acquirer may have obtained a share certificate in the belief that the holder (seller) possessed legitimate authority over the certificate, but the person whose name the certificate bore (the shareholder) may not have intended the acquirer to believe that the seller had legitimate authority. Therefore, the original shareholder had no liability for the result of a trade between the seller and the acquirer and could thus cancel and nullify the transaction between the two.
The reasoning seems wholly irrational to us in today’s world, as the system then in place was supposed to have permitted the business practice of using blank stock powers. It was likely just as illogical to buyers, sellers, and legal experts in the prewar setting. “From a legal standpoint, and considering the circulation of named stock,” Matsuda wrote, “acquirers of shares were bereft of not only the protections of Article 441 of the Commercial Code but also those of Article 192 of the Civil Code. One could thereby conclude that named stock, which was by that point a full-fledged commodity and viewed as one the most important forms of assets and collateral in the Japanese economic sphere, was apparently not worth even the same protection granted run-of-the-mill personal property.” The provisions Matsuda cited in his critique, namely Commercial Code Article 441 and Civil Code Article 192, spell out rudimentary, common-sense stipulations:
Commercial Code Article 441
No one may demand the surrender of a bill from any person who has acquired it without bad faith or gross negligence. (The Codes Translation Committee of the League of Nations Association of Japan 1932)
Civil Code Article 192
If a person has peaceably and openly commenced to possess a movable, acting in good faith and without negligence, he shall immediately acquire the right which he purports to exercise over such movable. (Hōten Eiyaku Iinkai 1937)
Three key concepts come into play here: “good faith,” “bad faith,” and “negligence.” “Good faith” essentially means “not being in knowledge of certain facts or circumstances,” while “bad faith” means “being in knowledge of certain facts or circumstances.” An example of bad faith would be knowing the fact that a given bill is a stolen article, for example. Meanwhile, “negligence” means “not recognizing something that one should normally recognize due to carelessness.”
Although Commercial Code Article 441 pertains to bills and Civil Code Article 192 deals with movables, both establish protections for rights to items that individuals acquire or own without bad faith or negligence—or, in other words, in good faith and without negligence—and provide that there are no obligations to surrender such items. Say, for instance, that a customer sees a kimono in a store and decides to buy it. The customer is unaware that the kimono is, in fact, a stolen property, and there is no possibility that the customer has simply failed to recognize that fact because of his or her own negligence. Under the laws in place at the time, the customer is under no obligation to surrender the kimono, even if the original owner (the person from whom it was stolen) demands that he or she return it; under the circumstances of the purchase, it would make no logical sense to force the customer to give up the kimono. The theft of the kimono, a transgression that the original owner would seek to rectify, and the purchase of the kimono, which the customer made without any knowledge of the theft, are entirely different things.
Matsuda’s book constructs a counterargument against the contemporary legal system’s inversion of common sense and lays out the causes (with backing in academic circles) for the illogicality in a clear, convincing manner, citing roots in the two Supreme Court decisions below.
While a share certificate is a security that represents a stockholder’s right, it is not intended for the payment of funds, etc. or securities under the provisions of Article 282 of the Commercial Code. Therefore, a share certificate is not subject to the protections for an acquirer who acts in good faith and without negligence stipulated in Article 441 of the Commercial Code.
(1915 (O) 541, March 6, 1916, Supreme Court Civil II judgment)
In cases where an individual entitled to a named security creates and attaches to the corresponding security the disposal-consent form and blank stock power required for the transfer thereof at his or her own discretion and then issues the documents together to another party, if there are business practices that deem the transfer of a security together with a filled-in disposal-consent form and power by the individual entitled to the security together with accompanying documents to a third party seeking to acquire the security and accompanying documents in good faith and without negligence to be a valid disposal, regardless of the reason for the initial issue of the security and accompanying documents, the bona fide purchaser of the named security may be subject to the protections under said business practices in certain cases. However, if the accompanying power and disposal-consent form have been created unauthentically or the transfer security and the accompanying documents have been transferred without the discretion of the legitimate holder of the right, the acquirer shall not be subject to the protections under said business practices.
(1925 (O) 1071, March 5, 1926, Civil II judgment)
In the first decision (1916), the Supreme Court ruled that an individual who had acquired a share certificate in good faith and without negligence would not be subject to protections because share certificates were not securities intended for the payment of funds or the like; in other words, Article 441 of the Commercial Code, which I explained above, did not apply to stock. The second decision (1926) recognized the business practice of trading share certificates with accompanying blank stock powers, but it also ruled that an individual obtaining a share certificate without any knowledge that the stock power was created against the will of the party turning over the stock would not be subject to protections.
Why, then, were shares “not securities intended for the payment of funds or securities?” According to the rationale behind the 1916 decision, a share was a security that represented a “shareholder’s right,” and shareholders’ rights included the “right to claim dividends from the corresponding company” and the “right to claim a share of the corresponding company’s remaining assets in the event of its dissolution.” However, the rationale went, that did not necessarily make shares securities intended for the payment of funds or securities. The court ruled that shares represented rights to “claim” dividends or remaining assets, not “receive payments” of funds or the like, thereby cleaving a clear line between rights to be claimed and payments to be instructed.
The rationale behind the 1926 ruling mentions the grounds for drawing that distinction: the 1911 amendments to the Commercial Code. Prior to the revisions, Article 282 of the Commercial Code stipulated that “The provisions of Article 441, Article 457, and Article 464 shall apply mutatis mutandis to instruments payable to order intended for the payment of funds, etc.” An “instrument payable to order” refers to a security whose represented rights one could transfer to another party by endorsing the instrument; typical examples include promissory notes and checks. To coincide with the new Article 449-1, a provision pertaining to bills of exchange, the revised Commercial Code replaced the “shall apply mutatis mutandis to instruments payable to order” in Article 282 with “shall apply mutatis mutandis to securities.” Reading the amended Article 282 at face value, in and of itself, one would naturally assume that “securities” would include share certificates, which are named securities. What the 1911 revisions actually intended to do was not to expand the scope of the provisions from “instruments payable to order” to “securities” in general, however. The intended focus was limited to three types of securities, namely instruments payable to order, bearer instruments, and other securities equivalent to bearer instruments. Ultimately, there was no change to the actual target of the provisions; they remained applicable only to promissory notes, checks, and the like (Osaka Kabushiki Torihikijo 1933). In addition, Article 57 of the Act for Enforcement of the Civil Code limits the scope of petitions for public notifications to instruments payable to order, bearer instruments, and other securities equivalent to bearer instruments—the legal grounds for excluding share certificates from the “securities” stipulated in Article 282 of the Commercial Code (Keto 1911). Without a nuanced understanding of the links between the 1911 Commercial Code revisions and provisions in other laws, people at the time would have struggled mightily to make sense of the befuddling ruling and its supporting rationale.
What these decisions point to is the presence of legal flaws or “blind spots” in the protections for share acquirers. For this paper, which seeks to illuminate the features defining the prewar Japanese stock market, an important question is how—and how well—stock-market participants got information and insights into these legal hazards. The short answer is that knowledge of legal implications was likely meager. Although limitations on length make it impossible to diagram in full here, I have collected a total of 36 primers, general introductions, and guidebooks published between the years of 1916 and 1942 (including Kabushiki Chōsa Kai  and Kabutochō Inshi , mentioned above)—and just two of them go into any amount of detail on potential pitfalls in the legal system. The flaws and blind spots were thus a major risk that few market participants were aware of.
That general lack of awareness is also evident in historical documents on a case involving SMR share certificates. The case centered on Koizumi Shinshichi, the proprietor of the Koizumi-ya dry-goods store, and Kanbayashi Denshichi, one of his employees. Kanbayashi made off with 1,450 shares in SMR, forged blank stock powers, and sold the shares. The corresponding share certificates were subsequently resold and split up, eventually winding up in the hands of 70 different “shareholders.” In the lawsuit, Koizumi demanded that the 70 shareholders return their certificates. SMR’s legal advisors cited the above legal precedents, arguing that the 70 shareholders had not legitimately acquired their share certificates. The court agreed and ruled in favor of Koizumi, the original shareholder. The defendants who were well aware of the contemporary stock market’s workings did not even attend the oral proceedings. However, 52 of the 70 defendants appealed the ruling—a number that testifies to just how little stock-market participants knew about the legal holes that could be ruinous for people who had acquired their shares in good faith and without negligence (Hirayama 2019).
From a different perspective, one could see these legal flaws and blind spots as means of curbing the circulation and spread of shares to protect existing shareholders and keep the ownership circle to a limited number of individuals. Examining that dimension would require a separate, detailed discussion, but the important elements to note here are the two types of risks surrounding share acquisition in the contemporary context: the pre-acquisition risks stemming from fraudulent securities dealers and the post-acquisition risks arising from legal flaws and blind spots. The next section takes another look at the increase in SMR shareholders (see Table 1) in light of these risks.
The numbers for the SMR in Table 1 show that the company saw an increase of 59,787 shareholders and 360 million yen in capital (the latter of which was the result of a 360-million-yen capital increase in 1933). The Japanese government underwrote half of the capital increase, which means that the private sector’s contribution—the amount that could theoretically have circulated in stock exchanges, in other words—came to the total of the other half, or 180 million yen (3.6 million shares). (Incidentally, the Japanese government also funded half of the company’s 1927 capital of 220 million yen.) It follows, then, that this private sector–funded capital increase of 180 million yen came with an increase of 59,787 shareholders.
The 1933 capital increase gave existing private shareholders an additional one share for every two shares already held, which means that 2.2 million of the 3.6 million shares of 1933 stock issued were distributed to existing private shareholders. A total of 200,000 shares were also allocated to company employees. That left a remainder of 1.2 million shares, which went up for sale in a public offering. The number of existing private shareholders that received additional shares via the capital increase came to 32,110. SMR’s shareholder count thus increased by 21,450 individuals over the period leading up to the 1933 capital increase and 38,247 individuals thereafter (see Table 1).
The number of SMR’s outstanding shares remained constant, however, so the rise in the company’s shareholder count following the 1933 capital increase was accompanied by a diffusion of stock ownership. In geographical terms, the scope of ownership expanded from an urban core to cover a broader regional reach. For explanatory purposes, I call shareholders residing in Tokyo Prefecture, Osaka Prefecture, Aichi Prefecture (including Nagoya), Kanagawa Prefecture (including Yokohama), and Hyogo Prefecture (including Kobe) “urban shareholders” and shareholders in other prefectures “regional shareholders.” After the 1933 capital increase, the number of urban shareholders rose from 11,941 to 22,505, while the number of regional shareholders grew from 14,784 to 33,971. Both segments thus saw substantial increases. Of special note here, though, are the changes in the stockholding ratios between the two categories. The ratios for paid-up stock (old stock + new stock) went from 54.5% to 49.9% among urban shareholders but leapt from 34.5% to 40.3% among regional shareholders. Meanwhile, urban shareholders accounted for 58.6% of 1933 stock prior to the capital increase but 46.4% after; for regional shareholders, that percentage went from 26.8% to 43.1%. (The totals do not add up to 100% because of the holdings of colonial shareholders and employee shareholders.) The urban shareholders’ ratios thus fell by 4.6 points for paid-up stock and 12.2 points for 1933 stock, while regional shareholders’ ratios jumped up by 5.8 points for paid-up stock and 16.3 points for 1933 stock. That shift resulted in regional shareholders holding 127,600 more shares of paid-up stock and 586,800 more shares of 1933 stock (Hirayama 2015).
In addition to the geographical diffusion of stock ownership from urban shareholders to regional shareholders, the changes also included an outflow of shares from shareholders with particularly sizable holdings. The extant records on shareholder counts spanning from November 1935 to May 1938 show that there were 217 “major shareholders” who held at least 5,000 shares during the period. Of those 217 major shareholders, 124 were “stable major shareholders” who maintained a share count of 5,000 or more across the entire duration of the period. The group included individual shareholders, banks, life-insurance companies, and other entities. While there was a rise in the total amount of 1933 stock that these 124 stable large shareholders had in their possession, going from 818,364 shares to 853,994 shares (up 35,630 shares), their holdings of paid-up stock dropped from 1,310,930 shares to 1,201,520 shares (down 109,410 shares). The diffusion of ownership was thus not just a geographical expansion outward from the five major urban centers of Tokyo, Osaka, Nagoya, Yokohama, and Kobe but also a redistribution of holdings from a core segment of stable large shareholders with at least 5,000 shares to a broader set that included small- and medium-sized shareholders. Along with that multidimensional diffusion also came a drop in stock prices. Assuming a par value of 100, the price of SMR stock was at a relative value of 135 in 1934. From there, it began a steady decline before sinking below 100—and thus dropping below par—in September 1937 (Hirayama 2019).
As I explained above, two of the features that defined the prewar Japanese stock market were bad, imbalanced circulation of share certificates and the prevalence of off-exchange trading. People looking to acquire shares in that environment also had to deal with a variety of risk factors, which included the presence of fraudulent securities dealers and legal issues. For an individual outside an urban hub, therefore, successfully obtaining a share certificate was a process rife with challenges. Despite that stark reality, the ownership base for SMR share certificates stretched out into Japan’s outstate regions as the company’s shareholder count proliferated. How did SMR manage to overcome the unfavorable nature of the contemporary stock-market environment and its inherent risks in achieving that growth?
It all started with the company’s enormous capital increase and the negative responses those infusions prompted among its existing shareholders. The 1933 capital increase, which added a whopping 360 million yen, served to enable SMR to provide wide-ranging support for industrialization in Manchukuo (a state founded in the Manchurian war zone as a result of the Manchurian Incident). Boasting impressive profits and high dividend ratios that solidified its standing as a blue-chip railway operator, SMR went ahead with the massive 1933 capital increase so that it would be able to exert economic control over Manchukuo. The move and its surrounding circumstances irked some existing shareholders, who subsequently sold off considerable paid-up stock and 1933 stock in the company. That spurred a significant increase in the available “supply” of SMR shares, which endangered SMR’s prospects for procuring funding through the stock market.
However, securities dealers also found themselves with a steady, sizable stream of SMR share certificates to procure virtually whenever they so chose. Instead of having to go out and secure buy orders for SMR shares, securities dealers began to secure certificates and then sell them. Up to that point, buying SMR share certificates was never a sure thing; no matter how many buy orders hopeful acquirers submitted, they rarely landed SMR shares with any degree of ease or reliability. Now, an abundance of SMR share certificates was there for the taking—like hot commodities on display in a store under signs reading “Buy before inventory runs out” or “On-shelf stock only.” Off the stock-exchange floor, at securities dealers in regional towns, and even at locations far off in the countryside, people had accessible means of obtaining SMR share certificates—and sellers attached blank stock powers to the certificates with legitimate, reasonable motivations. It was a development that set off a decline in the price of SMR shares, but it also fueled a rise in the company’s number of regional shareholders and elevated their ownership ratio.
Figuratively speaking, the two defining characteristics and two risk factors I have discussed above made the prewar Japanese stock market like a broad expanse of “parched earth” with numerous inhabitants. The stock from SMR, a colonial company, was like water quenching parts of the vast, dusty plains. The people in the fertile areas of the land—the company’s existing shareholders—apparently had no use for any more of that pure water; taking on any more may well have been too much. The course of events surrounding the changing ownership of SMR shares was a process of “correcting” gaps in opportunities to engage in investment via share acquisition. In other words, the prewar stock market would never have been able to explore new frontiers without the existence of these kinds of inequalities. The “parched land” of the contemporary stock market and the opportunity gaps pervading the landscape were what made it possible for the number of private shareholders in SMR to grow and flourish.
SMR did not experience a rise in its number of private shareholders because it was gaining popularity as an investment target. Rather, the increase emerged out of existing opportunity gaps in stock investment—and the process of correcting those gaps also entailed the process of bringing new entrants in. In evaluating whether or not the stock-trading market (or the Tokyo Stock Exchange) in prewar Japan was efficient in terms of stock prices, one thus needs to account for the dynamics of gap correction and market expansion.
One final contextual piece to note is how investment behavior in Manchuria fit into the connection to the postwar environment. From the perspective of Northeast China, virtually all stock investment in Manchuria (“ownership” of a given company) was of a foreign origin. That foreign investment met with fervent domestic resistance in the form of the “ownership” of agricultural land and other privately owned estates, an intricate web of interests and rights; that complexity frustrated Japanese attempts to forcibly carve out pieces for their possession. While that conflict eventually culminated in the birth of Socialist China, investment in Manchuria came to take on an interesting dynamic: it developed as a kind of balancing equilibrium. From the Japanese standpoint, investment in Manchuria was larger-scale “economic” activity that involved infusions of not just money but also human resources and property. One of the most important elements of that activity was agricultural immigration, which gained significant momentum after the Manchurian Incident and, unlike commercial and industrial players that had worked to make their way into Manchuria up to that point, received support within the framework of official Imperial Japanese policy. But then, after its defeat in the war, Japan repatriated the immigrants out of Manchuria. It was a foregone conclusion that landgrabs were bound to occur, but the repatriation process was humbling and tragic all the same for Japanese farmers making their way home. Shareholders who resided in Japan never had to deal with anything resembling the harrowing realities of the pullout that immigrants to Manchuria experienced. Nor did they need to give up their land, houses, or other property, as the people who emigrated from Japan to Manchuria did. Compared to the immigrants to Manchuria, the pullout was quick, easy, and perhaps even efficient for the shareholder segment.
However, the share certificates they had acquired were nothing but worthless scraps of paper after the war. The private shareholders that continued to grow in number and expand SMR’s investment footprint during the years prior—people (sometimes vulnerable people) who had been constrained by the prewar stock market’s bad, imbalanced circulation of share certificates and the prevalence of off-exchange transactions, not to mention being exposed to the risks of fraudulent securities dealers and legal flaws—suddenly lost the SMR shares they had worked so hard to secure as the company’s operations came to a halt. Without any public guarantees providing a safety net, the shareholders’ losses were simply the results of “poor investment decisions” that they bore liability for. SMR shareholders (and shareholders in colonial companies in general) thus took on massive losses and the collateral damage.
Unfortunately for the field of business history, these pieces of the picture have rarely garnered much attention. Inquiries into questions like how SMR’s former shareholders regained their footing—or why they failed to do so—are virtually nonexistent in relation to the wealth of studies on the Manchurian pullout. In my view, venturing into this unexplored territory in the literature could reveal important threads linking the prewar Japanese stock market to the postwar Japanese financial system.
1 This paper builds on the findings of Hirayama (2015), (2018), and (2019) by incorporating a discussion of investor-related information gathering and analyses of the Commercial Code, Civil Code, and judicial precedents to bring the discussion into alignment with the thematic context of this issue of JRBH.
2 There were certain months where the total number of deliveries at the stock exchanges surpassed the number of transfers, resulting in “negative” off-trading rates. Most of the negative months were June and December, which is when companies paid out dividends.