Why stock buybacks are now a big yawn

Few companies are beating the market after announcements

In late July, CBS announced it was increasing the size of its share repurchase program to $ 6 billion. Yet its shares fell 2% in their first day of trading after that announcement.

This reaction is surprising, since announcements of share repurchases — also known as buybacks — used to cause prices to jump. In the 1980s and 1990s, for example, the average stock outperformed the market for up to three years after a buyback announcement.

To be sure, stock prices are affected by many factors besides share repurchase programs. But in CBS’ case, there is no obvious explanation for its disappointing recent performance. On the day the company announced the increased buyback program, for example, it also reported secondquarter revenue and earnings above Wall Street’s expectations and a 20% increase in its dividend.

Regardless of the specific reasons why CBS shares didn’t respond favorably to its recent buyback announcement, however, it’s not particularly surprising, according to research conducted by Neil Pearson, a finance professor at the University of Illinois at Urbana- Champaign.

In a study that has been circulating in academic circles, he and fellow researchers report that, in recent years, fewer than half the companies that are the focus of buyback programs proceeded to beat the market following their announcements.

Because this recent experience stands in stark contrast to the typical experience in the 1980s and 1990s, he and his co- authors concluded something must have changed. They are unsure what that something is, however.

Gautam Mukunda, though, a professor of organizational behavior at Harvard Business School, says he is “extremely unsurprised.” He argues that share repurchase programs have become a favored way for executives to engage in short- term financial engineering. Essentially, it’s not surprising the market would “wise up” that such engineering does nothing to promote a company’s long- term value.

This discussion puts in a different light the recent criticism of buybacks from a number of quarters — including by Democratic presidential nominee Hillary Clinton, who has complained that firms pursue buybacks only to please activist hedge funds. Yet firms will have less of an incentive to repurchase their shares as the market wises up to what buybacks really signify. And that in turn would mean the market, on its own, has in large part already fixed the problem.

This may be why buyback activity has fallen to a multiyear low. Buybacks are running at half the year- ago pace and have fallen to the lowest rate since 2012, according to TrimTabs.

Note carefully that, even if buyback stocks in the future don’t significantly outperform the market, there is no reason to expect them to lag either. But, unlike what was the case a couple of decades ago, you will have to be increasingly choosy in selecting buyback candidates that truly represent good long- term value.

AFP The pace of stock buybacks has fallen to multiyear lows.