While many bears have said that a boom in share buybacks has been a drag on growth and a way of masking weak earnings and revenues, top strategist Kenneth Fisher says that’s nonsense.
“When firms buy up their own stock, they reduce supply – great for prices,” Fisher writes in a column for Interactive Investor. “Simple Econ 101. This is smart financial management for the companies, who borrow cheap, buy shares in their increasingly profitable firms and pocket the spread.” He adds that buybacks “aren’t an earnings fake-out. They do boost the per-share measure of earnings and revenues – they reduce the denominator – but they don’t touch the numerators, total profits and sales.” And he says both are at all-time highs and rising.
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Fisher says that media reports have incorrectly characterized buybacks as being a big drag on companies reinvesting in their businesses. He cites a recent study that examined how firms in the S&P 500 spent their money between 2003 and 2012. It found that 54% of net income went to buybacks and 37% to dividends. “Through simple math, the media inferred only 9% went to capex and wages,” Fisher says. “[But] there is a major flaw here. It ignores corporate borrowing! Many buybacks are funded with debt – simple arbitrage. So are investments in structures, equipment, product development and R&D. Companies can retain earnings, saving cash for a rainy day, and use their strong balance sheets to back a new bond or get a loan. This is why corporate cash balances and bond issuances are up huge in recent years. Business investment is up, too! Total US business investment has risen 13 straight quarters and is at record highs. R&D has charted new highs since 2010.”
Fisher says that corporate investment has grown slowly during this economic expansion. But he says the reason for that is the Federal Reserve — not buybacks. By keeping interest rates so low, the Fed narrowed the yield curve dramatically, he notes, “making banks hesitant to lend – too small a potential profit, not worth the risk. … Big firms floated corporate bonds – so S&P 500 capex held up ok – but loan-starved small firms couldn’t invest. This is changing now, so get ready for a capex bonanza.”
In the end, Fisher said the buyback bashing is good for stocks. “To blame buybacks for weak growth perversely twists something great for stocks into a drag – the sort of false fear bull markets thrive on,” he says, adding that he thinks the bull market has a long way to go.
