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The limits of share buybacks will have immediate and damaging repercussions on the stock market, according to Goldman Sachs stock strategists.
The presidential candidates, including Elizabeth Warren (D-MA) and Bernie Sanders (I-VT), are among those who called for a restriction on redemptions. Their main argument is that the benefits provided by companies buying their own shares go disproportionately to shareholders rather than to workers.
They also mention the Employment Tax and Job Creation Reduction Act of 2017, which gave companies a cash flow that allowed them to buy their own shares in record numbers last year. . The S & P Dow Jones Indices indicate that companies have spent $ 806 billion on redemptions in 2018.
But the practice, which has pushed up stock prices in this bull market, still has many supporters on Wall Street.
"The elimination of redemptions would immediately force companies to change their cash priorities, would affect the fundamentals of the stock market and would alter the balance between supply and demand. shares, "said David Kostin, chief US equity strategist, in a recent note to customers.
Here are the five detrimental consequences it provides in the event of limitation of redemptions:
1. Lower earnings per share growth: When companies buy their own shares, they reduce the number of shares outstanding and thereby increase the profits of each.
To prove that buybacks have so far boosted EPS growth, Kostin pointed to the gap between EPS and earnings growth. The median earnings of S & P 500 have risen 8% over the past 15 years, while EPS growth has increased 11%.
2. lower ratings: A decline in EPS growth could also lead to a decline in multiple price / earnings, Kostin said.
"In a world without redemptions, futures EPS growth could be reduced by 250 basis points, which is close to the impact of net redemptions on EPS growth at the enterprise level", did he declare.
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3. Change in cash spending priorities: Contrary to what some critics say about buybacks, companies are unlikely to increase capital expenditures, research and development, if redemptions are limited, according to Kostin.
He sees the money being redirected to transactions and dividends. After all, as redemptions have become popular over the past two years, companies have held back dividend distributions; the dividend payout ratio of the S & P 500 is currently 34%, below its average of 38% over 30 years.
Kostin says the pendulum could easily return to dividends if limits are imposed on redemptions.
4. Broader trading ranges: Buybacks provided timely support for the stock market downturn in this bull market. And so, it's not surprising that their restriction would make the market more vulnerable during these episodes. Kostin says that there would be "a greater range of index movements, a wider distribution of individual returns and greater volatility".
There is a precedent for these threats, said Kostin. Over the past 25 years, the 20th percentile yield of the S & P 500 Index's stock over the quarterly prohibition period has averaged 27% in pace annualized, compared to 16% outside these periods.
5. Reduction of the demand for shares: This goes almost without saying, since redemptions have always been the main source of demand for US equities. For example, companies' demand for shares has surpbaded all other categories since 2010, averaging $ 420 billion a year.
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