The cheerleaders of the US equity bull market since the bounce from 2009 lows have met their match with the price action of 2016 after the rally ended with hardly a whimper. Rising volatility and an exodus from risk assets that has enveloped financial markets across the globe since the outset of the New Year have sent investors scurrying for cover with no stone left unturned. Valuations are being slashed across the board, no matter the industry as the slowing pace of global expansion feeds lower expectations in a wide-breadth of sectors.
Since tightening policy, the Federal Reserve has begun to engineer a dramatic shift in asset allocations with its gradual tightening of interest rates. Although still overvalued and plagued by shrinking revenues alongside waning corporate buybacks, the safety net in place for the S&P 500 over the last 6 years has since been removed. Even though the potential for a rebound is high over the near-term, this should not be taken as a bullish sign but rather an opportunity to sell more.
End of a Buyback Era
The pressure in on for American corporations that have benefited from the steady stream of stimulus unleashed until 2014 to show they mean business. After funding record buybacks at near zero interest rates and rock bottom borrowing costs, corporations will have to focus on deploying the cash hoarded over the past few years. problem of the perverse incentives of zero rates is that it forces more short-termist behaviors instead of sustainable long-term investment policies. By moving off the zero bound and calling for additional rate hikes, the Federal Reserve has dictated to companies that they must get back to work.
While falling valuations have kept buybacks attractive and 2016 is currently forecast to see additional share repurchases from major companies, the question is whether or not the pace will beat the $724 billion spent in 2015. The problem is that these activities do not provide long-term value for shareholders and if rates continue to rise, corporations will be forced to deploy this cash towards investment activities intended to grow the top and bottom line. Additionally these companies must show they remember how to invest in organic growth by engaging in heightened research and development alongside capital expenditures.
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