Investors may finally be ready to cut the cord to one of the primary lifelines of the 8-year-old bull market in stocks.
If earnings are the lifeblood of stocks, then share repurchases have been the nutrients on the plate that have kept circulation going. Companies have been aggressively repurchasing their own stock, reducing share count and thus putting upward pressure on the earnings per share equation — the fewer shares, the less profits needed to push EPS higher.
However, the relationship is changing.
After engaging in $4.3 trillion worth of buybacks over the past 10 years and $2.4 trillion during the most recent five-year span, companies have been pulling back. Corporations cut repurchases by 11 percent in 2016 and have slashed them 20 percent so far in 2017 compared with the same period a year ago, according to Goldman Sachs.
Moreover, investors have punished companies that have focused on buybacks and rewarded those focused on dividends. While the bull run has seen dividends increase fairly well, they have not kept up with buybacks. Dividends have grown $2.9 trillion over the past decade and $1.7 trillion over the past five years, according to S&P Dow Jones Indices.
Goldman analysts said the “investor obsession” with buybacks is waning now that the rewards just aren’t there.
“Infatuation with buybacks has ended for both companies and investors,” David Kostin, Goldman’s chief U.S. equity strategist, said in a note to clients. “Experience shows that firms repurchasing shares at extremely high valuations regret those actions when the stock price inevitably de-rates.”
The stocks that will benefit
Indeed, Goldman’s basket of stocks with the highest buyback yield has underperformed the S&P 500 by 2.5 percentage points. A grouping with the highest combined buybacks and dividends has lagged by 2.8 percentage points.
Goldman actually had forecast a big year for buybacks, with growth of 30 percent. However, the firm has scaled back that estimate almost completely, with expectations now for just 2 percent growth.
The culprit, aside from performance, is policy uncertainty. The original forecast had assumed that much of the $2.6 trillion in profits that U.S. companies are storing overseas would come home due to favorable tax treatment approved in Washington.
However, with much of the implementation of President Donald Trump‘s agenda obscured at this point, Goldman has had to recalibrate its view.
“The delay in tax legislation means firms will not augment cash allocated to buybacks until reforms are clear,” Kostin wrote.