ADVERTISEMENT

Goldman Considers ‘A World Without Buybacks.’ It Looks Ominous.

Goldman Considers ‘A World Without Buybacks.’ It Looks Ominous.

(Bloomberg) -- With political scrutiny of stock buybacks growing, Goldman Sachs started assessing an extreme scenario: “a world without buybacks.” The picture doesn’t look pretty.

That’s because corporate demand has far exceeded that from all other investors combined, according to strategists led by David Kostin. Since 2010, net buybacks averaged $420 billion annually, while buying from households, mutual funds, pension funds and foreign investors was less than $10 billion for each, Federal Reserve data compiled by Goldman showed.

“Repurchases have consistently been the largest source of U.S. equity demand,” the strategists wrote in a note Friday. “Without company buybacks, demand for shares would fall dramatically.”

Goldman Considers ‘A World Without Buybacks.’ It Looks Ominous.

Voices against buybacks are getting louder as politicians focus on corporate governance as an election issue. Senator Marco Rubio (R-Fla.), several Democratic senators and presidential candidate Bernie Sanders (I-Vt.) have lashed out at buybacks and have proposed related legislation.

Goldman has been one of the strongest defenders of the corporate practice, saying in a note a month ago that some “misconceptions” about buybacks are unfair. Without share repurchases, volatility would rise and valuation would dwindle and the bull market would risk losing one of its staunchest allies, they said in the latest report.

To get a taste of what the market would look like without buybacks, Goldman studied stock performance during earnings-related blackout periods, when discretionary buybacks are restricted beginning about five weeks before a company releases earnings, and then for two days after. During the past 25 years, return dispersion and volatility during blackout windows have been higher compared with non-blackout periods: 16 percentage points versus 14 percentage points, and 16.4 points versus 15.8 points, respectively.

Meanwhile, since buybacks have bolstered earnings per share by reducing the total stock outstanding, blocking repurchases would hurt growth in per-share earnings, a key measure watched by investors, Goldman said. Over the past 15 years, the gap between EPS growth and earnings growth for the median S&P 500 company averaged 260 basis points.

“In a world without buybacks, forward EPS growth could be trimmed by 250 bp,” a reduction that has historically corresponded to a 1 point decline in forward price-earnings multiples, the strategists said.

The role of buybacks have become all the more important now that equity exposure among major investors is already high, according to Goldman. By its count, aggregate equity allocation totals 44 percent across households, mutual funds, pension funds and foreign investors -- and that ranks in the 86th percentile relative to the past 30 years.

“Eliminating the largest source of equity demand could lower the demand curve if other investor categories do not replace the corporate bid from buybacks,” the strategists warned.

To contact the reporter on this story: Lu Wang in New York at lwang8@bloomberg.net

To contact the editors responsible for this story: Brad Olesen at bolesen3@bloomberg.net, Scott Schnipper

©2019 Bloomberg L.P.