Demand for U.S. shares among companies and individuals is diverging at a rate that may be without precedent, another sign of how crucial buybacks are in propping up the bull market as it enters its eighth year.
Standard & Poor’s 500 Index constituents are poised to repurchase as much as $165 billion of stock this quarter, approaching a record reached in 2007. The buying contrasts with rampant selling by clients of mutual and exchange-traded funds, who after pulling $40 billion since January are on pace for one of the biggest quarterly withdrawals ever.
While past deviations haven’t spelled doom for equities, the impact has rarely been as stark as in the last two months, when American shares lurched to the worst start to a year on record as companies stepped away from the market while reporting earnings. Those results raise another question about the sustainability of repurchases, as profits declined for a third straight quarter, the longest streak in six years.
“Anytime when you’re relying solely on one thing to happen to keep the market going is a dangerous situation,” said Andrew Hopkins, director of equity research at Wilmington Trust Co., which oversees about $70 billion. “Over time, you come to the realization, ‘Look, these companies can’t grow. Borrowing money to buy back stocks is going to come to an end.”’
While it’s debatable whether the involvement of retail investors is necessary for stocks to advance, it can’t be disputed that markets have become more turbulent in 2016, with the Chicago Board Options Exchange Volatility Index hovering at an average level that is 32% higher than last year. The S&P 500 has posted daily swings of 1% or more in 26 of 48 trading sessions since December, a rate that if sustained would make 2016 the most volatile year since 1938.
Seven years of earnings growth has left chief executive officers flush with money to spend. Non-financial companies in the S&P 500 held more than $900 billion of cash on their balance sheets at the end of 2015, up from $870 billion a year earlier.
Companies executing repurchases through Bank of America Corp. have bought about $9 billion of shares in 2016, the second-busiest start to a year since the bull market began in 2009, the bank said in a research note last week. Other trading clients have been net sellers, with hedge funds leading the pack, dumping $3.5 billion.
Assuming Bank of America maintains a roughly 8% share in the total buyback pool since 2009 and the pace of transactions lasts through the end of March, corporate repurchases may reach $165 billion this quarter, data compiled by Bloomberg show. That would bring the 12-month total above $590 billion, an amount that’s higher than the record $589 billion in 2007.
“Corporate buybacks are the sole demand for corporate equities in this market,” David Kostin, the chief U.S. equity strategist at Goldman Sachs Group Inc., said in a Feb. 23 Bloomberg Television interview. “It’s been a very challenging market this year in terms of some of the macro rotations, concerns about China and oil, which have encouraged fund managers to reduce their exposure.” Should the current pace of withdrawals from mutual funds and ETFs last through the rest of March, outflows would hit $60 billion. That implies a gap with corporate buybacks of $225 billion, the widest in data going back to 1998.