Share Buybacks Are Fueling the Rally

Brett Arends has an interesting article at MarketWatch noting that, according to TrimTabs, the market has been pushed higher thanks to companies buying back their own shares. During the first quarter, companies plunged $124 billion back into the stock market.

At the same time, there’s been a dearth of share buying by corporate insiders. My only quibble with the story is the subhead which reads, “Companies are buying stock, but insiders aren’t.” I would have changed “but” to “because.” And this highlights one of the reasons I don’t like share buybacks. Too often, companies use share buybacks as an indirect way to boost the value of options grants to company executives.

I have no problem with paying executives lots of money, assuming they’re good. But I do have a problem when we alter the cash flow statement to help these folks indirectly.

My view is very simple: Pay excess cash to shareholders as dividends. I wish the tax code was friendlier to this strategy, but it’s not. The problem with share buybacks is that any benefit can easily be lost through the normal volatility of a stock. A cash dividend will reach its target audience. Furthermore, if shareholders want to use the dividend to buy stock, they’re free to do so.

Posted by on June 30th, 2011 at 8:52 am

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