February 12, 2014

Losing Purchase

Say you were house-hunting in a hot real estate market. Would you Tweet: “I’m going to buy the house at 1342 57th Street, and I’m headed there right now.”

If you want a good deal, do you wave your hands and try to summon others to compete with you?

So why do companies announce stock repurchases?

Forget disclosure for the moment, or lowering shares outstanding to offset incentives. Sure, there’s a bit of the blue-light special. A repurchase wants attention in the sense that it signals “we think this is a great use of cash.” It blunts bad news: “Our margins were down this quarter – but guess what? The board said to buy $500 million of stock.” That’s a positive value action to forestall a negative value message.

In both cases, it’s also a marketwide Facebook post proclaiming that “we are about to spend money here.”

Let’s apply common sense now. Isn’t that antithetical to the wise deployment of shareholder resources? If you want a good deal, cut out the middlemen – don’t hail them from all over the globe to get between you and the thing you want to buy.

The stock market is crammed full of intermediaries. If one in ten trades is natural liquidity, the rest is moving stuff around, arbitraging spreads. Gaming your buyback.

Apple says it bought $14 billion of stock in two weeks. At least the CEO said so after and not before. But 85% of it occurred off-market – meaning they negotiated with sellers on $12 billion. Just $2 billion were open-market purchases.

What kind of marketplace is it where you’re better avoiding it and buying direct? Well, it does say one thing: If you want a good deal, cut out the middle man. And you can’t but wonder exactly whose positions Apple bought.

Public companies repurchased $500 billion of stock in 2013 (and borrowed $1 trillion). Unless they, like Apple, negotiated, it’s a highly inefficient way to distribute shareholder resources. You’re better off writing a check to holders – which is also called a dividend. That cuts out the middle man.

Activists figured this out. They’re the modern-day highwaymen, no offense to these folks. They learned you can rattle cages and call for reforms and a stock-repurchase. Then they sell what they’ve accumulated (mostly through swaps and negotiated transactions, not on the open market) back to the company.

Talk about a racket. But don’t blame the highwaymen smart enough to read signs. Regulators decided it would be great if every 100-share order could set market price, and oh yeah, let’s decree the best price marketwide the only one for everybody. They may as well have posted billboards saying: Come Rip Me Off!

Algorithms deceive. That’s their principal purpose. Institutions try to hide their intentions. Yet public companies conducting repurchases do the opposite. How is telegraphing your intentions wise, let alone bleating them through a horn?

If the entire market is predicated on a structure of deception, is there some form of strange simpatico between repurchases and activists?

Of course there is. But even drug dealers see wisdom in discretion. A purchase advertised is a purchase lost.

We should rethink everything, question assumptions. Especially the idea that repurchases, in open markets full of middle men and highwaymen, benefit core holders.

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