Barron\'s - 02.09.2019

M4 BARRON’S September 2, 2019

4.3% average in the month following such

occurrences to make Harvey urge caution.

“You’re better off waiting for a better

opportunity” to put money to work, he says.

A Reckoning for Buybacks

Stock buybacks are loved by corporate man-

agement, welcomed by investors—and hated

by politicians. If they slow, they could pres-

ent a headwind to earnings growth. That

risk, however, isn’t evenly distributed

throughout the market. And investors

should seek safety from “buyback risk” in a

surprising sector: technology.

One reason investors like repurchases is

that they can boost earnings per share, or

EPS, by reducing the number of shares out-

standing, the denominator in EPS calcula-

tions. But it isn’t only reason. Buybacks also

demonstrate management teams’ willingness

to return cash to shareholders. Often, inves-

tors would prefer earnings growth from

share repurchases to, say, growth from

risky acquisitions or investments that have

uncertain returns.

Management loves buybacks because they

offset share dilution from issuance of em-

ployee stock compensation, awarded mainly

to the upper echelon of corporate executives.

Companies spent $800 billion buying back

stock over the past 12 months, but they also

issued more than $100 billion in new stock.

Some of that was used for investment, but

some represents the exercise of management

stock awards.

Politicians hate stock repurchases for the

same reason investors and management love

them. They’d much prefer local investments

that generate jobs and ribbon-cutting op-

portunities, even if the decision to build a

new factory, say, isn’t particularly sound.

Politicians also believe that buybacks repre-

sent a potentially not-so-hidden source of in-

come inequality. If politicians get their

way—and this is an issue that individual

Democrats and Republicans have em-

braced—repurchase activity could sputter.

But that isn’t the only reason companies

might repurchase fewer shares. Buyback ac-

tivity is cyclical; it rises in good economic

times and falls in bad ones, when companies

are more focused on preserving cash. And

these are good times for the U.S. economy.

It has been expanding for more than 10

years, since the end of the financial crisis—

and repurchases have been rising with it.

S&P firms have repurchased about $800 bil-

lion worth of stock recently, $250 billion

more than what companies spent in 2016. If

the economy slows, so will buybacks.

That $800 billion hides the fact that buy-

back and issuance activity varies widely by

sector, so investors worried about the out-

come of the debate between politicians and

CEOs can focus on market areas that rely

less on buybacks for their earnings growth.

The steepest share-count drops over the

past three years have occurred in the phar-

maceutical and consumer-staples sectors.

They face much of the risk from slowing

EPS growth from reduced stock buybacks.

What’s more, pharma and staples stocks, in

aggregate, have added debt over the past

three years—presumably, in part, to buy

back shares. That is another risk for inves-

tors to consider. Higher debt in a downturn,

combined with slower EPS growth, can be

a recipe for stock declines.

This means the seemingly stable, con-

sumer-staples sector might not be the safest

place to hide during the next downturn.

Procter & Gamble (ticker: PG), Mondelez

(MDLZ), and Eli Lilly (LLY), for instance,

all have higher debt and lower share counts

than they had three years ago. And buyback

activity has contributed almost 40% of the

trio’s total EPS growth over that span, ac-

cording to Barron’s calculations. If EPS

VITALSIGNS

Friday's Week's Week's

Close Change %Chg.

DJIndustrials 26403.28 + 774.38 + 3.02

DJTransportation 10126.98 + 387.24 + 3.98

DJUtilities 845.52 + 13.49 + 1.62

DJ65Stocks 8751.88 + 255.14 + 3.00

DJUSMarket 726.56 + 19.10 + 2.70

NYSEComp. 12736.88 + 320.43 + 2.58

NYSEAmerComp. 2419.55 + 54.61 + 2.31

S&P500 2926.46 + 79.35 + 2.79

S&PMidCap 1881.20 + 44.65 + 2.43

S&PSmallCap 918.74 + 22.24 + 2.48

Nasdaq 7962.88 + 211.12 + 2.72

ValueLine (arith.) 5957.67 + 156.36 + 2.70

Russell2000 1494.84 + 35.35 + 2.42

DJUSTSMFloat 29971.50 + 779.64 + 2.67

LastWeekWeekEarlier

NYSE Advances 2,165 1,184

Declines 887 1,854

Unchanged 51 61

NewHighs 352 411

NewLows 310 229

AvDailyVol(mil) 3,150.0 3,241.5

Dollar

(Finexspotindex) 98.82 97.64

T-Bond

(CBTnearbyfutures) 166-020 165-170

CrudeOil

(NYMlightsweetcrude) 55.10 54.17

InflationKR–CRB

(FuturesPriceIndex) 170.36 168.61

Gold

(CMXnearbyfutures) 1519.10 1526.60

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