Written by Tanner Buck
A stock buyback refers to when a company uses its profits to buy back shares from its shareholders. Stock buybacks were long regarded as a form of market manipulation where companies could artificially inflate their value by simply bidding up outstanding shares. Thus, stock buybacks were rare for the majority of the 20th century, and “companies refrained from doing them on a large scale because of the risk that the S.E.C. (Securities and Exchange Commission of the United States Government) might bring manipulation charges”(Lazonick & Jacobson, 2018). However, a new process of buybacks was legalized when “in 1982, the Securities and Exchange Commission passed rule 10b-18, which created a legal process for buybacks” (Stewart, 2018). Four decades later, we can see the effects of the new legalization of buybacks; they do not seem to be favorable for the average American.
One may think so what? So companies can buy back their own shares? This by itself seems rather harmless, however, this simple action bears the weight of a myriad of other problems. First and foremost, it shifts money away from reinvesting profits in their workers, physical capital, or ventures leading to the company’s growth. Over half of a company’s profits often go simply to buying back shares for shareholders, “From 2008 to 2017, 466 S.&P. 500 companies distributed $4 trillion to shareholders as buybacks, equal to 53 percent of profits”(Lazonick & Jacobson, 2018). This takes away money from investment in training or bonuses to employees. In addition, this act artificially creates surplus demand for a company’s stock and raises the price. Raising the price of the company’s stock results in larger benefits for higher executives who are often paid in stock options and/or wealthy individuals with holdings in a company. Thus, buybacks additionally reallocate money disproportionately towards the wealthier population and aid the deterioration of the middle class.
Companies do not want their stock price to drop, so when it starts dropping they start buying until it starts going up again. When people are uncertain about the future of a company and start selling stock the company will buy back more stock to help move the price back up again. So they are artificially increasing the valuation of the stock price using their profits? And then when the investors respond, by buying more as many do to an increase in stock price, the company can offload the stock to these investors. It should be noted that a company often does not have enough liquid cash to offset a negative stock price spike. One might wonder if that would essentially create a market filled with absurdly overpriced stocks, well yes. When looking at historical data, recessions are inevitable, so one may believe this would hurt the company in the long run when a recession hits and its stock price drops drastically. Well yes, but what if they had a way to unload their shares?
When would one begin the process of offloading shares? Probably near an election year, specifically a re-election year. Wayne Duggan (2024), a writer for U.S. news, states that the S&P 500 typically performs well above its average during re-election years. This is primarily due to the fact that the party in power will often attempt to keep the economy growing and stocks high. It looks incredibly bad for a candidate going into re-election if the economy is falling a few months prior. One would probably start the process of offloading shares by overbuying their own stock to help induce investors to buy their stock. One would probably attempt to get their name in headlines, essentially increasing the visibility of the company in the news, so that the average person feels more inclined to invest. Then one would slowly start offloading shares as the current party in power uses various fiscal powers to help keep stocks high. Then one would probably wait for a recession or retracement to occur and then rebuy their stock at a lower price and attempt to replicate the same process.
Another instance in which stock buybacks could pose a large problem is if one knew their company was about to release new information or a new product. One could buy stock immediately prior to making this announcement and then sell the same stock they just bought at a premium to the investors piling in their announcement, or just simply keep one’s stock now at a higher valuation. This income would also be counted as profit which would help push one’s stock even higher.
Overall, the ability to use one’s own profits to buy back their own stock is harmful to the average American. It diverts money away from investing in workers or physical capital and disproportionately aids the wealthy. It allows for artificial inflation of a stock’s price, and it allows in theory a variety of ways in which companies can use stock buybacks to manipulate stock prices to their benefit.
References
Blankenship Lacie. (2021). “Stock Buybacks Have a Positive Impact on Stock Price Stabilization, New Research Shows.” Vanderbilt Owen Graduate School of Management. https://business.vanderbilt.edu/news/2021/11/ 12/new-research-shows-stock-buybacks-have- a-positive-impact-on-stock-price-stabilization/
Duggan Wayne. (2024). “Election 2024: How Stocks Perform in Election Years.” US News. https://money.usnews.com/inve sting/articles/election-2024-how-stocks-perform-in- election-years
Lazonick William and Jacobson Ken. (2018).“End Stock Buybacks, Save the Economy.” The New York Times. https://www.nytimes.com/2018/08/23/opinion/ban-stock -buybacks.html
Moore Simon, “What Would A Build Back Better Buyback Tax Mean For Markets?” Forbes. October 31, 2021. https://www.forbes.com/sites/simonmoore/2021/1 0/30/what-would a-build-back-better-buyback-tax-mean-for-markets/?sh=630583cf33e0
Stewart, Emily. (2018). “Corporate stock buybacks are booming, thanks to the Republican tax cuts.” Vox politics and policy. https://www.vox.com/policy-and-politics/201 8/3/22/171 44870/stock-buybacks-republican-tax-cuts