An aggravating feature of this central bank magnified game, is that each snake finds players older each cycle with less income and time to recover losses. This is the critical point that financial types rarely acknowledge since their business models depend on desperate players willing to play the game even in the midst of irrational, reckless odds.
Think record corporate borrowing to buy back shares is “brilliant” business management? Think again. For an excellent assessment of the extractive thinking swallowing the c-suite today, see the September Harvard Business Review, Profits without Prosperity. Here is a sampler:
“Five years after the official end of the Great Recession, corporate profits are high, and the stock market is booming. Yet most Americans are not sharing in the recovery. While the top 0.1% of income recipients—which include most of the highest-ranking corporate executives—reap almost all the income gains, good jobs keep disappearing, and new employment opportunities tend to be insecure and underpaid. Corporate profitability is not translating into widespread economic prosperity.
The allocation of corporate profits to stock buybacks deserves much of the blame. Consider the 449 companies in the S&P 500 index that were publicly listed from 2003 through 2012. During that period those companies used 54% of their earnings—a total of $2.4 trillion—to buy back their own stock, almost all through purchases on the open market. Dividends absorbed an additional 37% of their earnings. That left very little for investments in productive capabilities or higher incomes for employees.
The buyback wave has gotten so big, in fact, that even shareholders—the presumed beneficiaries of all this corporate largesse—are getting worried. “It concerns us that, in the wake of the financial crisis, many companies have shied away from investing in the future growth of their companies,” Laurence Fink, the chairman and CEO of BlackRock, the world’s largest asset manager, wrote in an open letter to corporate America in March. “Too many companies have cut capital expenditure and even increased debt to boost dividends and increase share buybacks.”
Why are such massive resources being devoted to stock repurchases? Corporate executives give several reasons, which I will discuss later. But none of them has close to the explanatory power of this simple truth: Stock-based instruments make up the majority of their pay, and in the short term buybacks drive up stock prices. In 2012 the 500 highest-paid executives named in proxy statements of U.S. public companies received, on average, $30.3 million each; 42% of their compensation came from stock options and 41% from stock awards. By increasing the demand for a company’s shares, open-market buybacks automatically lift its stock price, even if only temporarily, and can enable the company to hit quarterly earnings per share (EPS) targets.
As a result, the very people we rely on to make investments in the productive capabilities that will increase our shared prosperity are instead devoting most of their companies’ profits to uses that will increase their own prosperity…”
“Artificially depressed interest rates punish savers and cause them to seek yield by channeling funds to more and more speculative areas of the economy, while encouraging already indebted borrowers to take on more debt so long as the debt can be serviced for now.” John Hussman, Broken Links, Aug 25 2014
Individual families have borrowed themselves into financial demise the past few years. The evidence of stress and financial fragility is everywhere we look. See: Canadians are indebted and stressed about it, for the latest staggering statistics.
Americans are a little less indebted than Canadians today thanks to some US debt write downs and foreclosures over the past couple of years, but the latest report shows that the median net worth for Americans as a whole declined by 6.8 percent between 2000 and 2011. See: Wealth gap widened.
Trillions of reckless monetary injections by misguided central banks have purchased negative net worth gains for the bottom 60% of American households (between 2000 and 2011), and just a 10% increase (less than 1% gain per year) for the top 20% of the population, as shown in this chart.
Meanwhile corporations have borrowed themselves into a perilous future as well. With poor demand and weak growth prospects, companies have also been enticed to borrow unprecedented levels at low rates in order to buy back their own shares (buying high) to boast short-term earnings and corporate bonuses at the expense of financial stability and longer-term health. Here’s where corporate debt sits now.
So borrowers have gone postal. But so too have those with savings to lose as they have increasingly tossed it into the highest risk bonds and stocks in a desperate push for yield even while sacrificing the capital itself. With every asset now over-bought and over-valued, only the junkiest, junk is yielding more than 4% as shown here. And the risk-reward tradeoff is completely unattractive.
This is now officially the largest credit bubble the world has ever known. Borrowers never do repay that which they cannot. There is no chance the debt can all be repaid, many zeros will be crossed off balance sheets before this mess is resolved. This means that indiscriminate lenders will be the biggest losers here. Which brings me to this lucid quote from Charles Gave this month:
“The big central banks seem to believe that printing money creates wealth. What such policies, in fact, do is ensure a different distribution of wealth that increases leverage and favors not legitimate risk takers, but groups which are politically well connected such as the too-big-to-fail banks. As such, the current approach is a clear expression of a policy captured by a crony class, and needless to say it is defended by the same group. This is not to engage in conspiracy, or to claim malfeasance by particular individuals. But what cannot be doubted is that even as those closest to the money source have made out like Cantillon, the outcome for pretty much everyone else has been awful. Looking forward, this cannot go on and I would hence avoid financials everywhere.”
And with Federal Reserve debt that looks like this next chart below, there is no one to bail out the banks this time. A crazy cycle in history is thankfully headed to a much needed end/cleanse.
It has been said that suicide is a permanent solution to a temporary problem. It is financial suicide to pile cash into assets at irrationally high prices in order to appear like one is making short-term gains. Better to wait for prices worth taking once more. They will come for those who are ready.
