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Buybacks are a big factor behind stock market boom

By Bernard Condon

Associated Press

Published: Saturday, May 18 2013 12:49 a.m. MDT

Another big share buyer, Home Depot, rose 5.7 percent on Feb. 26 after it announced a $17 billion buyback program. The S&P 500 rose 0.6 percent that day. If the retailer spends all the authorized in its plan, it will remove 18 percent of the shares outstanding at current prices, which will make the impact of a next round of purchases even more powerful.

Stocks of companies that have authorized the 10 biggest buybacks so far this year have risen 2.2 points more than the S&P 500 in the week after their announcements, according to Birinyi.

Funds riding the Narcissus trade suggest the lift in prices can last for months, too.

The PowerShares Buyback Achievers and the TrimTabs Float Shrink funds, two exchange-traded funds, are both up 23 percent so far this year. By contrast, the S&P 500 is up 17 percent.

Instead of getting excited, though, some on Wall Street are worried.

Gregory Milano, CEO of consultancy Fortuna Advisors, has run studies showing that companies that spend the most on buying back their own stock tend to underperform because they don't spend enough on opening new factories, research or otherwise building their business for the long term.

Andrew Smithers, who runs a London-based investment consultancy, thinks buybacks have pushed stocks more than 40 percent higher than they're worth. In his book "The Great Deformation," former U.S. budget director David Stockman says Corporate America is drunk on buybacks and that they've helped push stocks up too far, too.

Another problem is that buybacks can give investors a false sense of strength of the true earnings power of a company. Forty percent of the increase in the earnings per share of S&P 500 companies in the past 12 months came from reducing the number of shares through buybacks, estimates Barry Knapp, chief U.S. stock strategist at Barclays Capital.

Even if you're worried, it's not clear what you should do in the face of this massive corporate buying, which shows no signs of easing. Howard Silverblatt, senior index analyst at S&P Dow Jones Indices, notes that S&P 500 companies have plenty of cash to keep buying — a record $1 trillion, not counting money set aside in reserves as required by regulators.

The dilemma facing buyback skeptics who are thinking of selling is the same one facing those worried the rise in the market has come mostly from the Federal Reserve efforts to stimulate the economy. "Don't fight the Fed," the old Wall Street saw goes.

To which should perhaps be added, "Don't buck the buybacks."

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