Stock market recovery faces new hurdle as record buybacks slow

(Bloomberg Opinion) — The end of a record-breaking spree in corporate America is giving stock bulls one more worry.

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JPMorgan Chase & Co., Citigroup Inc. and Best Buy Co Inc. paused buyback plans when they reported their second-quarter results, deciding to hold onto cash instead as rising Federal Reserve interest rates runs the risk of driving the economy into a recession. They are among 10 that have halted programs this year for reasons unrelated to mergers and acquisitions, a “very, very rare” phenomenon, according to Birinyi Associates.

The moves may be an early sign of a reversal of an era of record-setting share buybacks that erupted in the wake of the pandemic, when executives tapped into cash reserves to buy nearly $1 trillion of their own shares. As analysts debate how much of an impact share buybacks ultimately have, the pullback threatens to remove a crutch from a fragile market already grappling with inflation and the specter of slowing global growth.

“Buybacks have been the biggest source of demand for US equities this year and a big support for equity markets,” said Mathieu Racheter, chief equity strategist at Julius Baer. “But buybacks are expected to slow from here amid a gloomier earnings outlook and lower CEO confidence.”

At the end of the first quarter, US companies had spent just over $265 billion on share buybacks, a record amount, according to data from Barclays Plc. While buyback announcements have been strong so far this year, some US companies “have used second-quarter results to reduce existing buybacks due to concerns about growth prospects,” said strategist Emmanuel Cau.

JPMorgan Chief Executive Jamie Dimon said the bank is pausing to meet higher capital requirements and allow flexibility for “a wide range of economic environments” while reporting earnings that missed estimates. . Citigroup also cited higher capital rules, saying it is now in “capital building mode.”

Other companies are also favoring the use of cash to fuel their businesses during a tough economic period.

Retailer Best Buy said it was pausing buybacks as part of its capital management strategy “in response to the current sales environment.” The company cut its guidance, saying inflation is hitting consumers. And Starbucks Corp. founder Howard Schultz called off the coffee chain’s buyback plan in April, saying the cash could be better spent on stores and staff.

tax nervousness

The outlook for buybacks next year is even more uncertain, with a proposed tax on US stock buybacks expected to go into effect. Democrats hope the 1% excise tax will delay the use of corporate buybacks, because they produce capital gains but not immediate tax bills.

That may open a window for companies to move forward with their plans through the second half of this year. Still, strategists don’t expect this to provide much support to the markets, as prevailing macroeconomic uncertainty will outweigh any positive sentiment from accelerated buybacks.

“Companies with a clear direction will probably try to bring forward some of the buybacks, although it may not move the market as much as some expect given the main macro drivers at the moment,” said Esty Dwek, chief investment officer at Flowbank SA.

Robert Cantwell, portfolio manager at Upholdings Group LLC in Nashville, agrees. “We don’t expect a ‘buyback rush’ in the second half, as they rely more on share prices than a 1% tax,” he said. “The tax is more likely to depress share buybacks in favor of more mergers and acquisitions or internal capital spending.”

But there is good news for those looking for a buyback boost: The stock market’s rally from its June low may also reduce the need for companies to back their shares through buybacks.

“Equity market prices have been recovering strongly over the last month and as a result, buybacks should absolutely decline,” Cantwell said. “The slowdown in buybacks may be a sign of a strong market, rather than a weak one.”

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