Bloomberg News

Market Shrinks First Time Since ‘09 on U.S. Buybacks, Offerings

January 25, 2012

Jan. 17 (Bloomberg) -- Stocks are getting scarcer in the U.S. for the first time since the bull market began as companies cut share sales to the lowest level since 2006 and buy back equity at the fastest pace in four years.

Amgen Inc., Hewlett-Packard Co. and 1,971 other U.S. companies repurchased $397 billion of stock last year, while they issued $169 billion of new equity, data compiled by Birinyi Associates Inc. and Bloomberg show. The combination reduced the Standard & Poor’s 500 Index divisor, a measure of outstanding shares, by 0.6 percent last quarter, the first drop since March 2009.

Shrinking supply supports prices and shows valuations are so low that executives would rather buy back shares than spend the cash to expand, according to Columbia Management Investment Advisers LLC and USAA Investment Management Co. Bears say dwindling growth prospects will limit gains and deter investors who pulled money from stock funds for eight straight months through December, the longest stretch in at least two decades.

“Having that equity base shrink and starting from a relatively pessimistic point usually sets up pretty well in the long term,” Laton Spahr, who helps oversee $325 billion as a money manager at Columbia Management, said in a Jan. 11 phone interview from Minneapolis. “It gives you some hope that valuations have perhaps bottomed.”

Relative Yields

The S&P 500 trades for 13.6 times earnings, down from 15.2 a year ago and 19 percent less than the average level since 1960, data compiled by Bloomberg show. The gauge declined 0.04 point last year, the smallest annual change since 1947, after surging 11 percent in the fourth quarter. The S&P 500 has gained 2.5 percent so far this year to 1,289.09 on Jan. 13.

U.S. share sales fell 8 percent in 2011 as interest rates near record lows spurred companies to issue bonds instead. Corporate debt sales rose 3.2 percent to $800 billion, exceeding stock offerings by the widest margin since 2008, according to data compiled by Bloomberg.

Raising money through the bond market has gotten cheaper compared with selling shares, according to data compiled by Bloomberg. The 3.8 percent interest rate on Bank of America Corp.’s index of U.S. corporate debt compares with the 7.4 percent earnings yield on the S&P 500, the data show. Borrowing costs have been 0.5 percentage point lower than earnings yields on average during the past decade.

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“Companies want to shrink the number of shares,” James Swanson, who helps oversee more than $200 billion as chief investment strategist at MFS Investment Management, said in a Jan. 11 interview in London. “It’s efficient balance-sheet management with bond yields where they are and share prices where they are.”

Corporate debt yields will probably stay low this year as the Federal Reserve keeps its target interest rate for overnight loans between banks near zero, according to Jan Loeys, the chief market strategist at New York-based JPMorgan Chase & Co.

While Menlo Park, California-based Facebook Inc., the biggest social-networking site, is exploring a $10 billion share sale, Bank of America and Deutsche Bank AG predict U.S. IPOs this year will stay near 2011 levels.

Record buybacks, mergers and acquisitions fueled the stock market’s advance from the end of 2004 through 2007. The S&P 500’s divisor, which changes as shares are added or removed from index companies, fell almost 6 percent in the period as the S&P 500’s price rose 21 percent.

Slower Growth

The divisor increased about 5.3 percent from its 2009 low to last year’s peak in July as the S&P 500 jumped 56 percent. U.S. share sales in 2009 exceeded repurchases by about $80 billion, data compiled by Birinyi Associates and Bloomberg show.

The increase in buybacks last year suggests companies have fewer opportunities to invest in projects that will generate profit growth, said Russ Koesterich, the San Francisco-based global chief investment strategist at the iShares unit of BlackRock Inc., which manages about $3.3 trillion.

The International Monetary Fund will probably cut its forecast for global economic growth as Europe’s debt crisis persists, Christine Lagarde, the Washington-based fund’s managing director, said this month. S&P 500 companies relied on foreign sales for about 46 percent of total revenue in the past year, according to Howard Silverblatt, the senior index analyst at S&P in New York.

Teva Falls

Teva Pharmaceutical Industries Ltd., the world’s biggest generic-drug maker, sank 1.4 percent in U.S. trading on Dec. 21 even after saying it plans to repurchase as much as $3 billion of shares. The buyback announcement coincided with a warning from Chief Executive Officer Shlomo Yanai that the Petach Tikva, Israel-based company’s $31 billion sales target for 2015 is an “aspirational goal.”

Buybacks aren’t a signal that stocks are undervalued, said Andrew Lapthorne, the global head of quantitative strategy at Societe Generale SA in London. S&P 500 companies spent more than 35 percent of their net cash flow on repurchases at the end of 2007, the highest level since at least 1995, just as the gauge began a 57 percent retreat from its October 2007 peak, according to data compiled by SocGen.

“I hate share buybacks,” Lapthorne said at a presentation to investors and journalists in London on Jan. 11. “With a passion.”

Biggest Buybacks

Equity valuations are lower now than they were four years ago. The S&P 500 Health Care Index trades for 12.7 times profits, down from 17.4 at the end of 2007, while the price- earnings ratio on the S&P 500 Information Technology Index has dropped to 14.4 from 25, according to data compiled by Bloomberg. The two groups announced the most buybacks among 10 industries in the U.S. last year, with plans to repurchase $180 billion of shares combined, according to Birinyi Associates.

Amgen bought 9.5 percent of its outstanding shares last month for about $5 billion, the Thousand Oaks, California-based company said in a Dec. 14 statement. The world’s largest biotechnology company issued $6 billion of debt with an average coupon of about 3.35 percent to help fund the buyback. The stock has gained 16 percent since the plan was announced Nov. 7, compared with a 2.2 percent increase in the S&P 500.

Hewlett-Packard, the world’s largest maker of personal computers, spent $10.1 billion to repurchase shares in the fiscal year ended Oct. 31, 2011, according to the company’s annual report. The shares trade for 6.6 times profit, compared with an average of 15.3 during the past decade, data compiled by Bloomberg show.

Profits Climb

S&P 500 earnings may increase about 9 percent this year to a record $105 a share, according to more than 9,000 analysts’ projections compiled by Bloomberg. At least 48 companies in the index are scheduled to report quarterly results this week. A majority have topped analysts’ profit estimates for two straight years, data compiled by Bloomberg show.

Better-than-forecast U.S. economic data spurred the S&P 500’s rally from within 1 percentage point of a bear market on Oct. 3, even as outflows from equity mutual funds tracked by the Investment Company Institute totaled about $63 billion during the final three months of the year.

Government reports showed payroll growth beat forecasts in December and the unemployment rate dropped to the lowest level in almost three years, while the Institute for Supply Management’s measure of factory output grew at the fastest pace in six months. The U.S. Citigroup Economic Surprise Index, a gauge of how much reports are exceeding economists’ estimates, rose to a 10-month high on Jan. 6.

“Eventually confidence will return as growth stabilizes,” Wasif Latif, vice president of equity investments at USAA Investment Management in San Antonio, which oversees about $50 billion, said in a Jan. 12 phone interview. “All of a sudden you’re going to notice that there won’t be enough shares around.”

--With assistance from Alexis Xydias in London and Lee Spears in New York. Editors: Chris Nagi, Michael P. Regan

To contact the reporters on this story: Michael Patterson in London at mpatterson10@bloomberg.net; Whitney Kisling in New York at wkisling@bloomberg.net; Inyoung Hwang in New York at ihwang7@bloomberg.net.

To contact the editors responsible for this story: Laura Zelenko at lzelenko@bloomberg.net; Nick Baker at nbaker7@bloomberg.net.


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