Despite a seemingly fatal blow from the Crash of 2008, stock buybacks live on, like the creature at the end of a horror film, whose sinister claws rises from the muck, just as the good guys are celebrating victory over evil.

So, my earlier article heralding the end of the buyback era seems to have been a bit premature.

Federal Reserve flow of funds statistics for Q1 2009 show that the rise in equity prices in the first quarter of 2009 was due almost entirely to stock buybacks, rather than investor confidence in the future.

The harsh criticism of executive remuneration by the Obama administration and the public in general has thrown fear into boardrooms that this might be the last chance to transfer stockholder funds into their own pockets before pay reforms are introduced.

Stock buybacks dominate a thin market

The Fed flow of funds data for corporate equities show the primary purchasers of equities in Q1 2009 were the Federal government and corporate buyback programs, domestic and foreign.

The Federal government equity purchases were directed mainly to financial institutions — absorbing over 70% of stock issued by this sector.

Corporate stock buybacks were sufficient to support a market rally during the quarter, but volumes were down significantly, compared to prior years.

Furthermore, the market faced significant selling pressure from pension and retirement funds, mutual funds, exchange-traded funds, and broker-dealers.

US Corporate Equity Net Flow of Funds (yearly basis)

US$ billions	2007	Q4 2008	Q1 2009	Quarterly difference
Sales of equities
Financial sector new issues	178.0	1123.1	480.8	-942.3
Households (mainly executive stock options)	800.4	-96.2	217.8	314.0
Property-casualty insurance companies	-0.5	-69.1	0.2	68.9
Private pension funds	239.3	295.1	149.8	-145.3
State and local govt. retirement funds	35.3	-5.3	3.7	9.0
Federal govt. retirement funds	-2.7	2.4	3.2	0.8
Mutual funds	-91.3	110.4	158.0	47.6
Exchange traded funds	-137.2	-270.7	58.0	328.7
Brokers and dealers	-25.4	54.4	73.3	18.9
Purchases of equities
Non-financial corporate buybacks	831.2	386.0	297.0	-89.0
Non-domestic corporate buybacks	-118.0	158.7	3.0	-155.7
State & local governments	2.4	34.3	18.4	-15.9
Federal government	0.0	1025.4	347.5	-677.9
Foreign investors	176.2	13.2	0.9	-12.3
Commercial banks	1.6	-0.5	18.0	18.5
Savings institutions	-0.1	4.7	1.5	-3.2
Life insurance companies	71.4	23.2	18.0	-5.2
Closed end funds	18.7	-9.0	4.9	13.9

How buybacks were financed in Q1 2009

Net corporate profits after taxes and dividends in Q1 2009 were only $30 billion on an annual basis. (Federal Reserve Flow of Funds Table F.102)

First quarter corporate buybacks of $297 billion (annual basis) were financed at least 90% by depreciation reserves and by substantial new corporate bond issues.

In view of economic hard times, the de-leveraging of banks, and the wisdom of harboring assets to ride out the current storm, the return of financed buybacks in the midst of the most serious recession in over fifty years, signals an abysmal lack of fiduciary responsibility on the part of American corporate directors and executives.

At the same time, despite talk of regulatory reform, the US SEC has not taken steps to revoke the 1983 Rule 10b-18, granting executives safe harbor from charges of stock manipulation and fraud in connection with stock buybacks.

No signs of a return of investor confidence

Substantial net sales of equities by mutual funds, exchange traded funds, and pension funds during Q1 2009, into a rising market, suggest that although the buyback movement might not be entirely dead yet, its vital signs are, at least, not favorable.

Buyback volume is down at least two-thirds from 2007 levels.

Since even at these reduced levels, buybacks are not supported by corporate profits, but by depreciation reserves and borrowing — one might conclude that the fiscal profligacy of the Obama administration is well matched by the lack of fiduciary responsibility of US corporate boards.

These are indeed interesting times.

This entry was posted on Monday, June 15th, 2009 at 12:43 pm and is filed under Capital Flow Analysis, Equities, Corporate Managers. You can follow any responses to this entry through the RSS 2.0 feed. You can leave a response, or trackback from your own site.

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