Derailed Corporate Buyback “Gravy Train” May Sink Markets Further
From Birch Gold Group
It appears the “sleight of hand” that corporations use to inflate share prices and bloat balance sheets may be slowing down, for now.
The website Wolf Street highlighted the beginning of the end for this round of corporate share buybacks:
So far into this crash, over 50 companies have suspended share buybacks, accounting for $190 billion in cash that is not flowing into the stock market, representing over a quarter of total share buybacks in 2019.
HSBC also issued a dire estimate of $300 billion in lost inflows for the next two quarters, thanks to further buyback cuts.
Like a rendition of the late Billy Mays infomercial, however, there’s more…
Bloomberg reports that, according to Chris Wood, global head of equity strategy at Jefferies, the corporate share buyback game has ended:
The problem for the U.S. equity asset class is that it began the downturn so overvalued at a record high valuation to sales… The other problem is that the leveraged share buyback game has ended, which also means an end to the phony earnings growth it produced.
Stephen Dover, head of equities at Franklin Templeton added that limits might even get placed on buybacks in the future:
Probably going forward there will be regulation, or there will be limits to how much companies can do buybacks and pay dividends, and that will affect how much the market appreciates… It could put the United States market on a more even playing field with overseas markets, where buybacks are less prevalent.”
Already, any companies that get aid from the recently-passed coronavirus stimulus package will be prohibited from stock buybacks. As for all other companies, we’ll have to wait and see if any limits get placed down the road. For now, a more important question needs to be asked…
Could Canceled Buybacks Make this Market Crash Worse?
The interesting “sleight of hand” that corporations use to repurchase shares seems to manufacture market cap out of thin air. For example, in their 2018 Q2 results, Apple announced $100 billion in share buybacks, likely leveraging the new tax incentives available from the Administration at the time.
The tax incentives and share buybacks, along with media hype, increased Apple’s market cap by a whopping $118 billion. All from some fancy bookkeeping.
But today, the “sleight of hand” comes when that cash disappears into thin air after benefiting the corporation that pulls it off. As Wolf Richter explains:
This is cash that became a fresh inflow into the stock market. Most of these shares were canceled after the companies had bought them back. From a company point of view, this money just disappeared.
The drawback to this tactic comes when the corporation actually needs money, like right now. Since the “sleight of hand” made the money disappear, companies are now stopping this “cash furnace” to the tune of hundreds of billions that used to go into the stock market.
That is one big, empty hole in the markets that used to be filled with corporate cash flow. Wolf finished his coverage with the price for using “market cap magic,” and the potential impact for the U.S. economy:
By incinerating $4.6 trillion in cash since 2012, and often borrowed cash… companies willfully burned up their equity capital and rendered themselves recklessly fragile and overleveraged, and predictably far less able to withstand the next crisis.
Leaving aside the speculation of whether these companies foresaw the current crisis or not, if these companies don’t make it, jobs and economic spending are at stake.
So it seems like a bad situation was made worse by at least some of these corporate share buybacks. And, on top of that, they could be bailed out by the Government.
Thankfully, the current $2 trillion stimulus package has those rules to prevent buybacks, for now. The future remains up for grabs; let’s just hope fundamentals play a bigger role.
It’s Not Too Late to Consider Your Own “Crash Insurance”
Similar questionable “fundamentals” that those dot-com companies used to inflate their share prices have us potentially headed right into an even worse recession than originally thought.
And now that much of the buyback “gravy train” has stopped, the markets are left without a massive crutch. Consider this an opportunity to think about protecting your retirement with some “crash insurance” in the form of diversification and asset risk reallocation.2020, inflation, market bubble, stock market, taxes, us economy