The Buyback Bull is Back?

Thomas Franck of CNBC reports, The bull market's biggest buyer is back — companies are buying back stock at a record pace this month:

The stock market's biggest buying force is on track to post a historic November as corporations resume a rapid pace of share buybacks after third-quarter earnings announcements.

"November is shaping up to be the strongest buyback month on record," J.P. Morgan quantitative strategist Marko Kolanovic wrote in a note to clients Wednesday, citing activity observed by the bank's trading desk.

Investors blamed a so-called buyback blackout as a reason for the October rout in markets. Companies are barred from buying back their own stock in a window around their earnings releases. Buybacks have been a driving force behind this bull market with companies even issuing debt at low interest rates to repurchase their own stock.

Other data support J.P. Morgan's numbers. In the past four weeks as earnings announcements wound down, buybacks have averaged $3.3 billion daily, with the number of announcements running at the fastest pace in the past three years, according to TrimTabs Investment Research data from Wednesday.

Overall, Goldman Sachs notes that buybacks for companies in the S&P 500 jumped by 51 percent in the first half of the year as companies spent the money from the tax cut, especially the funds that were trapped overseas. Goldman Sachs expects S&P 500 share repurchases to climb another 22 percent to $940 billion next year.

The recent buying has been fairly concentrated, with buybacks for Wells Fargo ($18.1 billion) and Merck ($10 billion) accounting for a combined 43 percent of the volume, the site said in a press release. In all, 13 companies have introduced buybacks of at least $1 billion.

One notable buyer of its own stock was Warren Buffett's Berkshire Hathaway, which said it bought nearly $1 billion worth in August.

While companies are likely to continue to goad the market higher by returning cash to shareholders, it comes against a backdrop of concern that there may be no better place to put the cash. Further, a steady uptick in interest rates has some market strategists worried that lending — which helped pay for the buybacks — may become too expensive.

Both short-term and long-term Treasurys have seen their rates climb over the past 12 months, with the 10-year rate hovering at 3.21 percent, up from 2.3 percent one year ago.

The S&P 500, which fell intro correction territory in October with a drop of 10 percent from its September highs, has rallied 5.6 percent over the past 10 days.

So what to make of the stock buyback hoopla? It's tough to say, buybacks sure haven't helped shares of Wells Fargo (WFC) over the last year but they have helped propel shares of Merk (MRK) higher (click on images):

A quick look at these charts and I'd be long Merk (MRK) and short Wells Fargo (WFC) and it's not just because of golden crosses and death crosses (technical analysis). In these markets, I'm long stability and profitability and short cyclicality.

In fact, I was telling Fred Lecoq, my former colleague at PSP and trading buddy to buy Merk shares at $55 back in April. The thing took off on us but it was a beautiful swing trade and will likely run higher.

Fred now likes shares of Disney (DIS) and I have to agree with him, good stock to own in a slowing economy (click on image):

Anyway, there's no doubt that shares buybacks help markets at the margin but I think some analysts and strategists overestimate the effects of buybacks as if they're the end all and be all of the stock market.

They're not. They're part of the market and people should understand what drives them and what happens during a recession.

The two more important factors weighing on stocks right now are rising rates and a hawkish Fed sending the US dollar to a 16-month high and wreaking havoc on emerging markets stocks (EEM) and many other Risk On assets like biotech shares (XBI) and other momentum plays.

In fact, a lot of momentum stocks that were flying high have come tumbling down recently. For example, check out shares of Roku (ROKU), a favorite stock of momo chasers (click on image):

I can show you many charts like this where you had a big breakout and then "BOOM!", the floor gives out and the shares come tumbling down (in this case, the company disappointed in its growth outlook).

There's a time to buy momentum, this isn't that time, the market is brutal and companies that are disappointing on earnings and growth are getting pummelled. Just check out shares of Zillow Group (Z), Wynn Resorts (WYNN) and Yelp (YELP) this week.

Importantly, despite the massive rally in stocks on Wednesday following the US midterm elections, nothing has changed in my macro analysis and I still don't think we're going to see new highs this year.

But who knows. Chen Zhao, Chief Global Strategist at Alpine Macro posted an article from Asia Times stating that Trump all but announces trade deal with China and Chen shared this on LinkedIn:

GOP’s poor performance in the Midwest in last Tuesday’s elections suggests that China’s trade retaliation, aimed at inflicting pain on soybean growers who were mostly Trump supporter in 2016, might have worked. This may explain why Trump may be changing his trade policy with China. This report suggests that a US-China trade deal may be imminent.

However, Marko Papic, Chief Strategist, Geopolitics at BCA Research shared this on LinkedIn (click on image):

The key passage is this:

What is the investment implication of the Democrats' sweep in the Midwest? President Trump won over many blue collar "Obama-Trump" voters in 2016 by appealing to their belief that free trade was unfair. If Trump plans to outperform with these voters again in 2020, he may have to double-down on trade war in the next 12 months.

If that happens at a time when the Fed is hell bent on raising rates, committing a major policy blunder in the process, we are in for quite a storm for global risk assets.

All this to say they're a lot of moving parts to markets, take the buyback bull with a shaker of salt given the heightened risks there are out there.

You should all reread last week's comment on investors left guessing on stocks. Nothing has changed in my recommendations. Given where we are in the cycle, I'd steer clear of cyclical stocks like energy (XLE), financials (XLF), and industrials (XLI) and focus on defensive sectors like healthcare (XLV), utilities (XLU), consumer staples (XLP), REITs (IYR) and telecoms (IYZ). And I would hedge that stock exposure with US long bonds (TLT) because the bond bull is far from dead.

And that's no bull! Enjoy your weekend, please remember to subscribe to this blog or donate via PayPal on the right-hand side under my picture. I thank all of you who show your support, it's greatly appreciated.

Below, Federated portfolio manager Steve Chiavarone, the man who called the October selloff, discusses his market outlook into year-end, stating another selloff may be ahead.

Not surprisingly, working in the mutual fund industry, even though he sees volatility ahead, he remains constructive and bullish on the US economy and stock market next year. I have a more pessimistic view because I believe the Fed will overshoot and cause a recession (we will only find out after the fact).

And CNBC's Wilfred Frost and Bertha Coombs report on stocks seeing the worst one-day losses of November.