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Stock Buybacks A Piece Of “Financial Engineering Game”

April 26, 2021

Stock Buybacks A Piece Of “Financial Engineering Game”

In today’s market far too much has become based on financial engineering rather than making money. Prior to the Great Depression share buybacks and margin lending was a huge factor in lifting stocks to an unsustainable level. We must remember this today because for years we have seen a slew of stories and articles about how companies buying back their own stock are driving the market higher. I would be amiss not to comment on this and point out the impact and importance of stock buybacks and how they add to both low volatility and at the same time support “crazy high” valuations.

 
For decades stock buybacks were illegal because they were considered to be a form of stock market manipulation. They were legalized in 1982 by the SEC and since then have become a tool for companies and management to boost share prices. Buybacks have been described as “smoke and mirrors,” because when a company buys back shares of their own stock they reduce the “share float” and increase earning per share.

Stock Buybacks Just Keep Coming


Buybacks should be viewed as a double-edged sword with great power in that they reduce the number of shares over which earnings are divided at the same time they add to market demand. Buybacks can give the impression the companies earnings are increasing while in reality, overall earnings may be flat or even on the decline. The deregulation of buybacks years ago has returned to haunt us because it tends to create a dangerous illusion that draws less sophisticated investors into a market that is not nearly as strong as it appears. …click on the above link to read the rest of the article…

Our Wile E. Coyote Economy: Nothing But Financial Engineering

June 12, 2020

Our Wile E. Coyote Economy: Nothing But Financial Engineering

Ours is a Wile E. Coyote economy, and now we’re hanging in mid-air, realizing there is nothing solid beneath our feet.

The story we’re told about how our “capitalist” economy works is outdated. The story goes like this: companies produce goods and services for a competitive marketplace and earn a profit from this production. These profits are income streams for investors, who buy companies’ stocks based on these profits. As profits rise, so do stock valuations.

It’s all win-win: consumers get competitively priced goods and services, workers have jobs producing goods and services and investors earn a return on their capital.

Sadly, this is a fairy tale that no longer aligns with the reality that the U.S. economy is now a decaying billboard of “producing goods and services” behind which the real money is made in financial engineering, a.k.a. legalized fraud. Take everyone’s favorite stock, Apple. The fairy tale is that Apple is in the business of making mobile phones and providing services to this customer base.

According to the fairy tale, Apple’s rise in value from $400 billion to $1.4 trillion is based on higher operating earnings, i.e. profits. But if we look at Apple’s operating earnings (see chart below), we see that they’ve been flat for years. So why is Apple worth $1 trillion more than it was a few years ago if profits haven’t risen, much less tripled?

The answer is financial engineering: Apple sells bonds that pay a paltry rate of return and then uses the proceeds from this debt (and most of its actual profits) to buy back its own shares–an astounding $338 billion over the past 7 years.

But look at the return on this legalized fraud: $338 billion added $1 trillion in “value” which can be sold by insiders to greater fools who believe the fairy tale.

…click on the above link to read the rest of the article…

Opinion: Inside the global elite’s bag of financial tricks

February 21, 2017

Easy money masks global economy’s precarious health

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Too much of economic growth and the accompanying bull market in stocks is the result of financial engineering. Increasingly, companies seek to improve earnings or increase their share price by means that are not necessarily directly linked to their actual business.

Companies have increased the use of lower-cost debt financing, taking advantage of the tax deductibility of interest. In private equity transactions, the level of debt is especially high. Complex securities have been used to arbitrage ratings and tax rules to lower the cost of capital.

Major benefits appear to have accrued financially to corporate insiders, bankers, and consultants.

Mergers and acquisitions as well as various types of corporate restructurings (such as spin-offs and carve-outs) have been used to create “value.” Given the indifferent results of many such transactions, the major benefits appear to have accrued financially to corporate insiders, bankers, and consultants.Share buybacks and capital returns, sometimes funded by debt, have been used to support share prices. In January 2008, prior to the global financial crisis, U.S. companies were using almost 40% of their cashflow to repurchase their own shares. Ominously, that position is similar today.

Tax arbitrage, especially by international companies operating in multiple jurisdictions, has increased post tax earnings. The use by many companies of special vehicles in low tax jurisdictions, like Ireland, evidences this trend.

Some companies have used trading to increase earnings. Oil companies can make money from trading or speculating in oil, for example. Accordingly, they can make money irrespective of whether the oil business is good or bad or the price of crude is high or low, profiting from uncertainty and volatility. It is not even necessary to produce, refine, or consume oil to benefit from its price fluctuations.

…click on the above link to read the rest of the article…

 

A Wall Street Witches Brew——Hockey Sticks And Financial Engineering Games

April 19, 2016

A Wall Street Witches Brew——Hockey Sticks And Financial Engineering Games

In a nearby post Jeff Snider makes a clean kill of the sell side hockey stick. Just 22 months ago (June 2014), Wall Street projected GAAP earnings of $144.60 per share for the S&P 500 in 2015.

Needless to say, that was off by a country mile. In fact, it was too high by 67%, but the instructive tale lies in the process of getting there.

Since 2013 actual results and 10K filings were long done by June 2014, you have to say that the street was virtually wallowing in hopium. To wit, the above 2015 estimates embodied a two-year gain of 45% from the actual figure of $100.20 per share for 2013.

And so it went. By March 2015 the consensus estimate had been lowered sharply to $111.34 per share because the fond hopes of the prior June had not quite worked out. In fact, GAAP results for 2014 had come in at only $102.31 per share, meaning a tiny gain of just 2.1% for the year and an impossible hole to fill with respect to the two-year gain of 45%.

Worse still, this December 2014 LTM reported figure was not just way short of the mark; it actually represented a reversal of direction. The post-crisis earnings recovery had already peaked at$106 per share in the September 2014 LTM period and was now down nearly 4%.

But no matter. The consensus estimate of $111.34 for 2015 made midway through the year represented a gain of nearly 9% over 2014. As per usual, of course, that was all back-loaded to the second half. The actual Q1 2015 GAAP profit of $25.81 was already in and represented a 6% decline from prior year.

But on Wall Street the hockey stick springs eternal. By the time of the September consensus estimate, first half earnings were already down by 17%. But the consensus assumed a stick save in the final quarter. Earnings per share were now projected.at $95.06 per share, representing a full year drop of just 7%.

…click on the above link to read the rest of the article…

Brexit Meltdown at the Bank of England

March 24, 2016

Brexit Meltdown at the Bank of England

But it’s supposed to be “independent” from national politics.

Project Fear — the massive PR campaign aimed at sowing and watering the seeds of dread about the potential consequences of a YES vote in the upcoming referendum on a British exit from the EU — is in full bloom. In the event of a wrong answer, all manner of biblical disasters can be expected to befall the nation, the British public is constantly being warned.

The country’s national income will shrink, hundreds of thousands if not millions of jobs will vanish, the City of London’s core industry — financial engineering — will migrate across the channel, the currency will collapse, house prices will plummet, European firms will stop selling products to Brits, the U.S. government will impose massive tariffs on British imports, and even Britain’s already dismal climate will get worse.

Project Fear’s shrillest shills include the British government and institutions of State, the UK’s most powerful business lobby group The Confederation of British Industry, the City of London Corporation (and all the too-big-to-fail financial institutions whose interests it faithfully serves), the European Union, the International Monetary Fund, and the world’s biggest fund manager BlackRock.

Another prominent prophet of Brexit doom and gloom is the Bank of England, an institution that, according to its charter at least, is supposed to be “independent” from national politics, but which has done nothing but feed the fear. In testimony to the UK government’s Treasury Select Committee earlier this month, the central bank’s Canadian and former Goldmanite Chairman Mark Carney warned that Brexit is the “biggest domestic risk to financial stability,” with potentially dire consequences for Britain’s balance of payments, its housing market, foreign investment, and its banks.

…click on the above link to read the rest of the article…

Peak Financial Engineering? Trends Spiral South

July 12, 2015

Peak Financial Engineering? Trends Spiral South

Our corporate heroes hit a snag.

We have long grinned painfully at the ways in which Corporate America and analysts collude to present the quarterly earnings charade in the rosiest light possible. But now, it seems they have reached the end of their magic tricks, and reality is showing through in an increasingly terrible trend.

Analysts concoct sky-high earnings-per-share expectations for quarters in the distant future to obtain “forward-looking,” pro-forma, adjusted, ex-bad-items fictional P/E ratios that they then bandy about to raise “price targets” and justify ludicrous stock valuations.

As the actual quarter draws nearer, these earnings expectations get whittled down to where very little earnings growth is left, if any. This way, corporations have a good chance of beating them, and thus propping up their stocks via an “upside earnings surprise.” If they get it right, it works like a charm.

Over the past four years, 72% of the S&P 500 companies have managed to report higher earnings per share than the analysts’ mean estimates at the time, according toFactSet. And so earnings growth has been on average 2.9 percentage points higher than the mean estimate at the beginning of the quarter, “due to the large number of upside earnings surprises,” as FactSet puts it.

Now the bad news. Currently the S&P 500 companies are projected to report a year-over-year decline in earnings of 4.4% for the second quarter, on a revenue decline of 4.2%. Of the companies in the index, 24 have already reported, which nudged up the estimates at the beginning of Q2, when the earnings decline was pegged at 4.5%.

 

So everything is estimated to head south. Companies are blaming the dollar, in addition to the weather and a slew of other things. Instead of losing value as it had been for years, the dollar has regained some inconvenient oomph. And inflation has been too low for our corporate heroes.

…click on the above link to read the rest of the article…

 

Record Financial Engineering Will Goose Stocks: Goldman

April 29, 2015

Record Financial Engineering Will Goose Stocks: Goldman

GE, in order to paper over a net loss of $13.6 billion and declining revenues in the first quarter, said on April 10 that it would buy back $50 billion of its own shares. That’s on top of the $10.8 billion in actual buybacks last year. The announcement was beat only by Apple’s $90 billion announcement last year, to which it added another $50 billion on Monday.

It’s going to be a great year, not for revenues and earnings, but for share buybacks. Hence for share prices and executive bonuses, despite crummy revenues and earnings. Goldman Sachs says so.

In a note to clients, Goldman predicted that companies would goose share buybacks by 18% over 2014 and dividends by 7%. That would be a $1-trillion banner year.

The year has started out on the right foot. Repurchase plans, including GE’s mega-dose, have already reached $337 billion through April 24, Reuters reported, based on data from Birinyi Associates. That’s a 34% jump over the same period last year.

The next party of actual repurchases will commence in a week or so, Goldman’s chief U.S. equity strategist David Kostin wrote in the note. Turns out, that’s when about 80% of the S&P 500 companies will have exited their blackout period for share repurchases, which stretches from about five weeks before they report earnings to two days afterwards.

So be it if actual earnings, as reported under GAAP, are in the doldrums. By reducing the number of shares outstanding, companies automatically increase their earnings per share. And EPS is the magic metric, particularly “adjusted” ex-bad items EPS. It performs outright miracles.

 

…click on the above link to read the rest of the article…

Money Printing And The Bane Of Financial Engineering—–How The Biggest LBO In History Blew-Up

April 18, 2015

Money Printing And The Bane Of Financial Engineering—–How The Biggest LBO In History Blew-Up

Financial engineering is one of the worst ills perpetuated by the Fed’s regime of cheap debt and money market subsidies for speculation. And these deformations are turbo-charged by the tax code which creates a powerful bias toward loading capital structures with tax deductible debt, and to delivering returns as lightly taxed capital gains rather than ordinary income.  In fact, stock buybacks and LBOs are the bastard offspring of the IRS and Federal Reserve.

Indeed, it would be safe to say that in an honest free market with a neutral tax regime, LBOs in particular would be as rare as a white buffalo. That’s because they inherently cause waste, inefficiency and malinvestment—–the opposite of market driven results.  These deadweight losses to society are, in turn, the product of a symbiotic arrangement of convenience between an avaristic breed of money manger——private equity funds—–and institutional investors, such as pension funds and insurance companies, which have a desperate need for yield in a financial system where returns on conventional fixed income securities are systematically repressed by the central bank.

Private equity managers are tax-enabled speculators. Their winnings come in the form of a 20% carried interest on the thin slice of equity at the bottom of an LBO capital structure. This 20% share of the return earned by the limited partners (LPs), who actually put up the money and bear the extreme risk of being pinned under a mountain of debt, might arguably be considered generous. But there is no way that it should be considered a capital gain. It is nothing more than the service fee earned for managing other people’s money.

 

…click on the above link to read the rest of the article…

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