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>the companies who use debt to buyback their shares are whats driving the market. Every dollar they spend on their stock is then magnified 100x by the big passi
by Thorrez 6y ago
>the companies who use debt to buyback their shares are whats driving the market. Every dollar they spend on their stock is then magnified 100x by the big passive funds, and both 1 & 2 have no agency other than to try to get swept up in the winds.
I've always found stock buybacks intriguing and confusing. Here's a hypothetical scenario that seems to go against what you're saying:
Company A buys back $1 work of stock. Since there is now $1 less in Company A's bank account, that company is now worth $1 less. So the market cap should in theory be $1 less. Since the market cap should be $1 less, and $1 of stock disappeared, those perfectly balance out and mean the stock price should stay the same.
Now the index investors take a look at the situation. Company A's market cap has shrunk, whereas other companies' market caps haven't. So Company A has a smaller share of the index than other companies than it had before. But the index investors still have the old ratio of Company A to other companies, so they are overinvested in Company A. They all sell a bit of Company A in order to get the correct balance according to the index. Company A goes down in value.
So a stock buyback caused the price to go down.
- vomjom 6y agomarket cap = book value + discounted future cash flows = share price * number of outstanding shares When you do a buyback, the book value drops (company loses cash), but the discounted future cash flows remains unchanged. The number of outstanding shares also drops. The net result is the stock price increases as a company accumulates cash and uses it for buybacks because the number of outstanding shares drops. Another way of thinking about it is that it's the same as dividends, but the dividend only goes to the sellers of the stock during a buyback.
- mijamo 6y agoMarket cap = whatever the market decided at that time, and is determined by offer and demand. The whole book value + discounted future cash flow does not reflect the real stock exchange at all. If that was the case no investor would want share buybacks because as you say it would only reward the ones who sell... When taking into account offer and demand stock buybacks make more sense: the buyback increase the demand for the stock. The offer will increase a bit (a few might sell) but not in the same proportion because the offer is not very elastic (most of your investors are in for a long ride and are not going to sell), so the price goes up, you get rid of some short term investors, and the long term investors see their share increasing in value. Everybody's happy and the dividend ratios do not mean anything anymore.
- wrycoder 6y agoBuyback increases the value of the outstanding shares, which is great for those in the company with stock options.
- Thorrez 6y agoI don't understand your reasoning for why the price increases. To use your equation with my original example: Initially: market cap = $100 book value = $20 discounted future cash flows = $80 share price = $1 number of outstanding shares = 100 After the buyback: market cap = $99 book value = $19 discounted future cash flows = $80 share price = $1 number of outstanding shares = 99 So the market cap didn't change. I agree it's effectively the same as dividends (although I think buybacks are slightly better for the taxes of stockholders).