Weekend Reading: $7 Trillion To Manipulate Prices

Tyler Durden's picture

Authoreed by Lance Roberts via RealInvestmentAdvice.com,

As the stock market continues to press new highs, the level of optimism climbs with it. I discussed yesterday Richard Thaler’s, a recent recipient of the Nobel Price in Economics, comments about not understanding the current “irrationality of investors relating to their investing behavior.”

What is interesting is that Thaler’s received his Nobel Prize for his pioneering work in establishing that people are predictably irrational — that they consistently behave in ways that defy economic theory. For example, people will refuse to pay more for an umbrella during a rainstorm; they will use the savings from lower gas prices to buy premium gasoline; they will offer to buy a coffee mug for $3 and refuse to sell it for $6.

The fact that a man who studies the “irrationality of individuals” is stumped by current investor behavior should be alarming at the least.

But as earnings season gets underway we once again return to quarterly Wall Street “beat the estimate game,” in which companies are rewarded by beating continually lowered estimates. Of course, the primary catalyst used to beat those estimates was not a rise in actual revenue, or even reported earnings, but rather ongoing accounting gimmickry and stock buybacks. As shown below, through the second quarter of this year, reported EPS, which includes “all the bad stuff,” actually declined in the latest quarter and has remained virtually unchanged since 2014. (But, even that is an illusion as shares have been aggressively bought back in order to sustain that same level of EPS.)

The difference between reported earnings with and without the benefit of share repurchases is substantial. The chart below shows the net difference between gross reported earnings with and without the buyback impact. Importantly, the net effect of buybacks is having less impact which, as was the case in 2007, was a precursor to the crash. 

Ralph Nader just recently did an in-depth expose on the problems with share repurchases. To wit:

The monster of economic waste—over $7 trillion of dictated stock buybacks since 2003 by the self-enriching CEOs of large corporations—started with a little-noticed change in 1982 by the Securities and Exchange Commission (SEC) under President Ronald Reagan. That was when SEC Chairman John Shad, a former Wall Street CEO, redefined unlawful ‘stock manipulation’ to exclude stock buybacks.”

Yep, stock buybacks used to be considered stock manipulation, yet today, it is widely accepted by investors as “just the right measure to boost earnings in the ongoing “beat the estimate” game.

As Ralph Nader points out – there is a problem.

“The stock buyback mania was unleashed. Its core was not to benefit shareholders (other than perhaps hedge fund speculators) by improving the earnings per share ratio. Its real motivation was to increase CEO pay no matter how badly such burning out of shareholder dollars hurt the company, its workers and the overall pace of economic growth.

The bottom line is that while companies take trillions of dollars and buyback shares, it only benefits the executives of the company at the expense of both workers and, ultimately, shareholders as companies with excessive stock buybacks experience a declining market value.

The interview is worth watching, and read the article, and think about it.

Here’s your reading list to for the weekend.

Trump, Economy & Fed


Research / Interesting Reads

“Making it, and keeping it, are two different things.Anonymous


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adr's picture

"Making it, and keeping it, are two different things.“


GUS100CORRINA's picture

One of the BEST CHARTS I have seen in a long time was "REPORTED EARNINGS W/OUT SHARE BUYBACKS".

Finally, someone is telling the TRUTH. 

Rapunzal's picture

They have to ramp it up eventually exponentially. But the crash will be very sudden.

RagaMuffin's picture

"that they consistently behave in ways that defy economic theory." Which is more worthless, economic theory or the prizes awarded for it?

hxc's picture

If not selling a $3 cup for $6 is unexplainable by a mainstream (non-Austrian) economist, then their theory is obviously myopic and thus almost certainly wrong.

Obviously people have their own, different valuations of goods. The person might have bought the cup for $3 but it normally sells for $10. A person may prefer having a cup to 6 more dollars and thus prefers the cup.

Marginal utility and subjective value beat the neoclassical and keynesian claptrap every time.

RagaMuffin's picture

How about we keep it simple, dude pays  $3 for coffee on the the way to work,late and some asshole academic offers him $6 for that cup of coffeee. In terms of the offer, the $6 is perceived as a double at the expense of employment. Something a tenured asshole might be flumoxed by.........

Rex Andrus's picture

Ergo, economic theory is bullshit. Where's my Alfred?

jamesmmu's picture
Where is the Gold of the Planet? – How Long Can the “LIE” Last?


thefinn's picture

I was hearing the other day, that most of the stocks in the stockmarket that are pushing these gains were by and large not even on the stock exchange 10 years ago. They are - by and large - untested companies.


So this doesn't really surprise me.


Umh's picture

I have wondered if there is any reason why the PPT folks seem to be buying so much of some stocks. The broader market is up because of their buying, but some symbols are just ridiculous.

One of my ROT is if I cannot figure out why it is going up it is time to sell it.

SillySalesmanQuestion's picture

Is that all...ONLY, seven trillion?

The Duke of New York A No.1's picture

Selling just enough VIX is a small price to pay for the casino operators - too keep the lights on and the sheep buying.

Umh's picture

This "people will refuse to pay more for an umbrella during a rainstorm" reminds me of a guy I knew that could not understand why the price of plywood goes up before a hurricane. I guess he thought that truckers should make a special trip and not charge for it.

This "they will use the savings from lower gas prices to buy premium gasoline" is just stupid.

wacky47's picture

Nader has always been a fraud.

Zorba's idea's picture

well, he was right about the Corvair..

Let it Go's picture

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Lio's picture

Markets are irrational or people fail to understand them ?