One of this year’s key narratives has been the degree to which US stocks have benefited from a perpetual, price insensitive bid. By that we of course mean corporate buybacks, which one might fairly characterize as having replaced the monthly flow lost to the Fed taper.
The buyback bonanza shown above is of course sponsored by ZIRP. Put simply, when borrowing costs are close to zero and when the market has become completely myopic as it relates to assessing performance, it makes sense to issue debt and plow the proceeds into EPS-inflating share repurchases. Throw in the fact that the FED-induced hunt for yield has forced risk averse investors out of govies and into corporate credit and you have a kind of goldilocks scenario for corporate issuance and buybacks.
This all comes at cost. That is, you can’t simply keep leveraging the balance sheet to artificially inflate earnings. Eventually, some of the proceeds from debt sales need to go towards capex or wage growth or something that’s conducive to boosting productivity, long-term growth, and competitiveness. However, that simply won’t happen in a world governed by what Hillary Clinton correctly (yes, she has managed to get at least something right believe it or not) calls the “tyranny of the next earnings report.”
Once you understand all of the above, you can begin to see why a lack of market depth in the secondary market for corporate credit is so dangerous.
You have an environment that encourages record issuance and the proliferation of bond funds along with the now ubiquitous hunt for yield means any and all supply is promptly snapped up. But if those bonds ever have to be sold in a pinch, there’s no one home at dealer desks thanks to Volcker.
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