The Flinchum File
Thoughtful Economic Analysis and Existential Opinions

Stock Buybacks

10/23/2019

What should corporations do with their profit?  They can use it to increase cash on their balance sheet, which increases the book value per share.  Or, they can use the cash to reduce debt, which also increases the book value of their stock.  Or, they can use it to pay bonuses to executives and employees.  Or, they can use to it to pay dividends to stockholders.  Or, they could use it to buy their their own stock being traded in the stock market.  This is generally referred to as buybacks.

Buying your own stock back is considered healthy for the price of your stock shares.  Fewer shares means more earnings per share, which normally drives up the market value of those shares.  It also increases control for management, as the public has fewer voting shares.  (Most Republicans like stock buybacks, while most Democrats hate them.)

Most market analysts like stock buybacks, because it increases the demand for stocks, driving up the price per share.  As more and more companies retire their outstanding shares, it should raise the entire stock market, and it has.  In fact, 418 companies out of the S&P 500 have been buying back shares over the last few years.  But, has the stock market become “addicted” to the ever-increasing flow of money from corporations?

Nobody can answer that question, but it is clear that the level of buybacks has dropped this year.  Goldman Sachs estimates it has dropped 15% this year, due to the increased trade and political uncertainties.  Normally, reduced demand for stocks will lower the price of stocks.  It is not yet worrisome, except that another part of the market’s infrastructure is showing weakness.

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