Worthwhile article by Jared Dillian, courtesy of Mauldin Economics today:
“Ten years ago, during the housing boom, the consumer was the most leveraged entity, taking out negative amortization mortgages, cashing out home equity, things like that. The consumer got a margin call, which was ugly—you know the story—and has spent the last six years deleveraging.
While the consumer was taking down leverage, the US government was adding leverage, taking the deficit to over 10% of GDP at one point. But even the government is deleveraging (for the moment), and now it is America’s corporations that have been adding leverage, at a furious pace. We’ve had trillions of dollars in corporate bond issuance in the last few years.
So when corporations sell bonds, what do they typically use the proceeds for?
In theory, the proper use for debt is to finance capital expenditures. Growth. But in this last cycle, that’s not what the money has been used for. It’s primarily been used for stock buybacks and dividends…
So what can we learn about financial engineering? It works, up to a point. In the short term, you can conceal from investors the fact that your business model is broken and you don’t have a plan. You can conceal it for a number of years, in fact. That is the thing about finance: you can suspend the laws of economics in the short term. But not forever. It will always come back to haunt you.”
Read the whole article: The Financial Engineering Market, for more insight on how IBM and other S&P companies have recklessly borrowed trillions to buyback shares and pay dividends, degrading their balance sheets for a temporary pump of stock values to unsustainable levels.