Bloomberg View, April 30, 2018 commentary: "Companies Want Buybacks to Be Easier" [Kitchen views of cooking buybacks]

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Kitchen views of cooking buybacks

 

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Source: Bloomberg View, April 30, 2018 commentary

 

 

OPINION | view

 

 

 

Matt Levine is a Bloomberg Opinion columnist covering finance. He was an editor of Dealbreaker, an investment banker at Goldman Sachs, a mergers and acquisitions lawyer at Wachtell, Lipton, Rosen & Katz, and a clerk for the U.S. Court of Appeals for the 3rd Circuit.

 

Companies Want Buybacks to Be Easier

♦♦♦

By Matt Levine

April‎ ‎30‎, ‎2018‎ ‎10‎:‎37‎ ‎AM

People are worried about stock buybacks.

One reason that people sometimes worry about stock buybacks is that they are supposedly a form of market manipulation: If a company buys its own stock, it’s probably because it wants the stock to go up, and that is arguably manipulative. People who dislike stock buybacks often make this argument. But people who like stock buybacks also seem to assume that they are a little manipulative, and so you often get articles where people worry that, without enough corporate buybacks, there’ll be no one to prop up the prices of stocks. 

And in fact the original understanding, way back in ancient financial history, was that corporate stock buybacks were probably illegal market manipulation, and so companies rarely did them. And then in 1982 the Securities and Exchange Commission came along with Rule 10b-18, which gives companies a “safe harbor” from manipulation liability if they follow its requirements. The requirements are basically designed to limit the impact on the stock: Companies can’t buy more than about a quarter of their stock’s volume, or buy at the beginning or the end of the day, and they can’t push the stock up by paying more than the highest independent bid (or the last trading price, if that’s higher) for the stock. If the market for a stock is $10.00 bid, $10.02 offered, and the last trade was at $10.00, the company can’t come in and bid $10.02 to get more shares, because that might be viewed as manipulative.

Some people are weirdly mad about these rules:

But the “safe harbor” rules have not been revised since 2003 and critics say they do not reflect the electronic, fragmented nature of today’s markets, which makes share repurchase orders easy to spot and trade in front of by high-speed trading firms, leading to higher prices for companies that buy back stock.

“Everybody knows there is a corporate order flow so they front-run it and that just pisses me off because they will raise the price high enough where then they will sell it back to me. That’s just not fair,” Gary Barth, assistant treasurer at United Parcel Service Inc, told Reuters.

Okay first of all I am not a corporate treasurer but I have some doubts about this story. I agree that it is inconvenient for corporate buybacks not to be allowed to cross the spread: Companies “cannot buy shares at the best offer available” ($10.02 in my example), because they are stuck paying the best bid, which can slow down their purchases. And I agree that “everyone knows there is a corporate order flow” because companies do have to announce their buybacks in advance. But I am skeptical that all the evil high-frequency traders can recognize corporate order flow—by its non-aggressiveness, its refusal to cross the spread—and then jump in to “front-run” it. Corporate buyers aren’t the only buyers who try to avoid crossing the spread to bid up stock. And intuitively you’d expect aggressive buying—the kind that crosses the spread, takes out higher price levels, etc.—to push up the price; quietly sitting on the bid should have less of an impact. After all, the point of the SEC rules is to reduce the impact of corporate buying.

Also: What is the point of a buyback, anyway? I tend to think that the most reasonable purpose of a corporate buyback is mostly to return cash to investors in a tax-efficient way, and the second-most-reasonable purpose is to buy back the company’s own stock when it is undervalued, but there really are a lot of proponents of the theory that the purpose is to keep the price of the stock up. And that theory has some foundation: The company wants its shareholders to be happy, after all, and a high stock price is the main source of shareholder happiness. So if high-frequency traders really are spotting corporate buybacks and pushing the price up, then perhaps corporate treasurers should think of that not as “front-running” but as “leverage”: They get more of a stock-price impact per dollar that they spend, because other traders are also buying stock alongside them and pushing the price up more. Again I do not quite believe this—again it is exactly what Rule 10b-18 is meant to prevent—but if you’re a corporate treasurer who does believe it, then you might conclude it’s a good thing.

Also here is UPS’s description of its share buyback program:

From time to time, we enter into share repurchase programs with large financial institutions to assist in our buyback of company stock. These programs allow us to repurchase our shares at a price below the weighted average UPS share price for a given period. During the fourth quarter of 2016, we entered into an accelerated share repurchase program, which allowed us to repurchase $300 million of shares (2.6 million shares). The program was completed in December 2016.


In order to lower the average cost of acquiring shares in our ongoing share repurchase program, we periodically enter into structured repurchase agreements involving the use of capped call options for the purchase of UPS class B shares. We pay a fixed sum of cash upon execution of each agreement in exchange for the right to receive either a pre-determined amount of cash or stock. Upon expiration of each agreement, if the closing market price of our common stock is above the pre-determined price, we will have our initial investment returned with a premium in either cash or shares (at our election).

Yeah I mean … these guys are not just idly sitting on the bid worrying that the market is getting ahead of them, you know? They’ve actually found a way to get paid a premium if the market gets ahead of them.

In any case:

Exchange operator IEX Group has petitioned the SEC to let firms buying back shares do so using hidden orders that only execute at the midpoint between the best bid and the best offer. That would make it difficult to move the stock price while making the activity harder to spot.

Honestly that should probably be allowed; hidden midpoint peg orders do not seem like a particularly aggressive way to manipulate up stock prices. But mostly I love this story because it is a showdown between two of my favorite unfairly maligned financial villains. On the one hand, you’ve got corporate buybacks, which are widely criticized for wasting corporate cash and enriching executives and shareholders at the expense of workers. (Also for being manipulative, sure.) On the other hand, you’ve got high-frequency traders, who are widely criticized for front-running legitimate investors. Now the corporate treasurers, who people think are manipulating their stocks, want permission to manipulate those stocks a bit more, to save them from the high-frequency traders, who they think are front-running them as they try to manipulate the stocks. Which side will get less popular sympathy?

Elsewhere: “Apple expected to boost shareholder returns by at least $100bn.”

♦ ♦ ♦

This column does not necessarily reflect the opinion of the editorial board or Bloomberg LP and its owners.

To contact the author of this story:
Matt Levine at mlevine51@bloomberg.net

To contact the editor responsible for this story:

James Greiff at jgreiff@bloomberg.net

 


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