Thursday, March 28, 2024
Homethe worlds biggest risksA stock ploy undermining the US economy

A stock ploy undermining the US economy

Retail investors take note: Not every investment vehicle lauded by billionaire investors is good for the little guy.

Take stock buybacks. Carl Icahn loves them. Warren Buffett is a big fan. But these financial instruments come with risk—and not much long-term reward. That's why even a skeptical Hillary Clinton has proposed a series of policies to discourage them, saying they waste shareholder money to enrich hedge funds and well-heeled activists. A number of economists have also argued that they are a big threat to the U.S.economy, since they are a guise used to prop up share prices.

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How they work is simple: Companies repurchase their own stock, inflating paper profits without producing anything of tangible value—such as investing in R&D, wages or plants and equipment. Since 2004 more than $6.9 trillion went into them, according to data compiled by Mustafa Erdem Sakinç of The Academic-Industry Research Network.

According to Goldman Sachs, stock buybacks will surge by 18 percent in 2015, exceeding $600 billion and accounting for nearly 30 percent of total cash spending.

Read MoreShare buybacks: Boon or boondoggle for investors?

A further deep dive into the trend reveals some startling facts. Excluding recession years 2001 and 2008, dividends and stock buybacks have represented on average 85 percent of corporate earnings since 1998, according to analysts at S&P. And stock repurchases worth almost $2 trillion have helped buoy the bull market since March 2009, according to FactSet data compiled for CNBC.

Excluding recession years 2001 and 2008, dividends and stock buybacks have represented on average 85 percent of corporate earnings since 1998.

While a good low-risk bet for the C-suite, the reluctance to boost capital investment in operations, people and product has left companies with the oldest plants and equipment in almost 60 years. The average age of fixed assets reached 22 years in 2013, the highest level since 1956, according to data compiled by the Commerce Department, as reported by Bloomberg and S&P.

That could explain some of the weak productivity numbers in the U.S.

For retail investors, the truth that matters is this: Buybacks have little concrete relationship to how stocks perform, and there's little evidence that suggests they'll consistently help mom-and-pops drive above-market performance.

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