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Goldman Finds Buybacks No Longer Work To Boost Stock Prices: Two Reasons Why
One would think that companies announcing stock buybacks when their shares are trading at or near all time highs would be a less than rational and prudent use of funds. After all, everyone knows what happened to IBM which we first profiled as a prolific repurchaser in early 2014, and which after buying back $100 billion in stock since 2007 has seen its return on buybacks implode to levels that would see any hedge fund PM fired in milliseconds.
Then there was Monsanto, which likewise repurchased billions in shares, just to lose billions in the process.
However, companies are less than "rational and prudent" when it comes to boosting the stock-linked employee compensation, which in recent years has soared, mostly thanks to unprecedented amounts of buybacks. In fact, in 2015 buybacks have already soared by 50% more than in 2015, rising to over half a trillion dollars.
This, however, may soon be ending for two key reasons.
First, here is Goldman's Charles Himmelburg with an unexpected empircial finding: the performance of serial "repurchasers" has lagged not only that of companies that return cash to investors mostly through dividends, but the market itself.
More:
S&P 500 buyback announcements have jumped by 50% vs. last year to $521bn. Firms are also returning cash via dividends: 249 S&P 500 firms have raised their payouts YTD with a median hike of 10%.
Our equity strategy team continues to recommend being overweight their 'total cash return basket' (GSTHCASH), which they just rebalanced in the above report. This basket is sector-neutral and consists of the 50 stocks in the S&P 500 with the highest trailing 12-month total cash return yield. Exhibit 1 shows that, as of the close on October 26, 2015, this basket has outperformed the S&P 500 YTD by 85bp (3.15% vs. 2.24%).
However, the analogous basket of firms selected on the basis of high buyback yields alone (GSTHREPO) has underperformed the S&P 500 this year by 2.67% (-0.47 vs. 2.24%). This underperformance contrasts to the first quarter this year when both baskets were up comfortably over the S&P 500. The past few months, however, have seen both baskets underperform, with the 'buyback' basket underperforming by over 2.5% since early September. Could equity markets be suffering from buyback burnout? If so, it would come as welcome relief for corporate bond investors.
In other words, being your own best friend, and buying back your own stock in the hundreds of millions or billions is doing just one thing: accelerating the cash out of others, who are happy to sell stock faster than corporate CFOs can buy it.
This is troubling for a market in which the primary source of demand for shares have been, for the past 3 years, corporate buybacks.
But it gets worse: as we have shown before, the driver of the recent slowdown in buyback activity has little to do with debt investors becoming more prudent or no longer rewarding management teams who cash themselves out,(after all it's other people's money, and all that matters is generating a high-ish yield until bonus season, at which point the bond investment is someone else's problem). In other words, it has little to do with the eagerness of C-suites to sell debt just so they can buyback more stock.
The real reason for the slowdown has to do with the spread on investment grade debt, and nowhere is it seen better than in the chart below, which shows clearly that buybacks performance relative to the market is tracking the investment grade credit spread one to one. Because the higher the rate of interest, the higher the cash the company needs to generate to maintain EPS.
In other words, the decline in buyback activity is primarily a function of rising credit spreads, which will continue rising as long as the bond market is drowning in supply and as long as fears exist that the Fed may hike rates, which will push not only the underlying yields but the spreads on corporate instruments as well. This, and of course, systemic issues like the collapse in the junk bond market over the past year driven mostly by the plunge in commodity prices.
So for all those hoping that buybacks will prove to be the source of much needed stock upside, be careful, and keep a very close eye on IG credit spreads: if these continue widening, then the buyback window may just slam shut very soon.
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Share buybacks only work if after they buyback the shares THEY IMMEDIATELY PERMANENTLY RETIRE THOSE SHARES. Without retiring the shares they're just robbing peter to pay paul!
That's the main idea of the whole charade, my man.
Yep, these stawk buybacks are simply a scheme to show higher stawk price by buying at a higher price with free money....well big deal...now what?
And when buybacks and dividends total more than net profits, as many are, things are not well in Oz. But then this could be the new norm for our "bad is good" environment.
Permanently retire? Does that mean that they would promise to not sell the shares? Would that be a case of a promise literally being worth the paper it's written on?
it means the shares are permanently removed from the shares outstanding and can never be resold/repackaged/RSUed/etc...when the shares are retired this way the shares left now own a slightly larger percentage of the company.
the only stock that I know of that does this correctly is TPL, and they only use the actual profits made after paying all taxes costs etc. to buy-back-and-retire their shares.
Maybe they should do stock offerings to fund buy buybacks.
If you're not worth 7 figures on Wall St., I don't know who would be. That's a fantastic idea. Way to think outside the box.
Sadly I chose a happy life here in East central Indiana making a decent living married with children . At least I'm not selling shoes.
At least you're not selling women's shoes, much worse
Underwriters agree
That is some funny shit. +1000
Wow. Don't say that too loud, Silicon Valley might hear it, and bastardize it for private equity!
Despite Crude Oil WTI soaring, I don't think that entering a short-term long position is justified at the moment in terms of risk and reward. http://tripstrading.com/crude-oil-wti-1h-chart/
Gee you know times are tough when you can't make a buck even with free money!
Along with a new flood of dividend cuts.
The bottom graph should indicate that the credit spreads are shown INVERTED. I'm scratching my head the last 5 minutes wondering why the words aren't lining up with the pictures. That's why. Now it makes sense.
Good article, by the way.
we need a chart of IG vs overall credit spreads, i am scratching something too
CTRL-ALT-DEL pending
Pifft I buy my stock at the WAL MART check out counter...bitches.
Is there a prettier chart than one of Monsanto in a nosedive?
When TSHTF, and their stock prices crash, and they have to repay the debt they took on to buy those shares back, are they going to generate tax credits on their losses that reduce their corporate taxes going forward?
Of course they are.
In any case Goldman will be there to profit when it blows up.
Just like the CDOs. Set them up, bet against them and reaped huge sums.
Then one weekend in 2008 Goldman became a bank to access TARP money so it could arrange more profitable bets.
endgame for companies buying back their shares is to go private. some really large companies can't do that, and it raises the issue of corporate accountability. what if GM was a private company? ignition switch problems, what problems? with the new libertarian interpretation of corporate organization, the rights as guaranteed in the constitution include emancipation. corporations have no accountability other than criminal, (go ahead and prove that, for all you Paul lovers take note) and of course no credibility with the public. then of course they have a lot of money to invest, what i think we are seeing is russian gangster capitalism, but there are probably other definitions..
What you don't review balance sheets before you buy a car?
Let me get this straight. You want a Libertarian, like me, to prove that corporations have no accountability other than criminal? Since you use the word "libertarian" as a pejorative, I assume you actually want me to prove that corporations have acountability OTHER than criminal. Is that the point? It's hard to dissect your muddled thinking. But let me take a quick stab. Corporations have accountability to shareholders. Did you miss that one? Corporations are routinely forced to pay out non-criminal, but civil judgements against them. Criminal wrong doing is not protected by the corporate veil. The failure to prosecute any crimes you may perceive to be committed has nothing to do with the corporate structure. So there you go. There is criminal accountability for member of a corporation, civil accountability for the corporation and that whole pesky shareholder accountability thang. And one more parting shot, do you even know what a libertarian believes? What part of man's liberty do you wish to limit and by whose authority?
This is why QE4 can't work. Standing in a corner, pushing on a string...
if one buys back shares then immediately execises their bonus options it kind of mutes the effect. and yes, if the fed does raise the ffr significantly it would blow the spreads sky high.
Yet eps continued to grow at a pace to trigger bonuses? Yup.
monsanto didn't 'lose' anything. the fucking people who rigged the share repurchasing program did it so they could buy their OWN shares in the company at cheap prices and sell them at higher prices.
it is the suckers who OWN mansanto stock that lost money. the insiders had a raquet. and the speculators that sold early TOOK RISK on owning a poker chip. the one's who held are suckers.
there is 'monsanto' except for its employees brand name and equipment and the stock prices have a lot less to do with that on any give quarter than they do the plans of insiders for enriching themselves.
Its like a rich man who has got nothig left
But only piles of money ,
can you eat money, drink money or wear it
Goldman & other cabals will get crushed under the weight of the huge piles of money they got from puppet USA govt & Fed using Bernanke.
Just like a big star which gets crushed under its own weight & becomes a black hole.
About time it was going to happen, duh