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Share buybacks on the US stock market have dropped to the slowest pace since the early stages of the Covid-19 pandemic as rising interest rates undermine the incentive for companies to purchase their own shares.
Companies in Wall Street’s benchmark S&P 500 index spent $175bn buying back shares in the three months to June, according to preliminary data from S&P. That marked a 20 per cent decline from the same quarter last year and a 19 per cent decline from the first three months of 2023.
Analysts say the slowdown is likely to mark the beginning of a longer-term trend that could put downward pressure on stock markets.
“Structural reasons as well as the interest rate environment are both contributors,” said Jill Carey Hall, equity and quant strategist at Bank of America. “We would expect buybacks to not be as big for the foreseeable future.”
Corporate buybacks have become an increasingly important but controversial part of stock markets in recent years. They can directly prop up share prices by adding to demand and also help improve profitability on an earnings per share basis by reducing the number of shares in circulation.
However, critics of share buybacks accuse company boards of using them to artificially inflate their share prices and reward senior executives instead of spending on long-term investment or increasing pay for lower-paid employees.
Companies are now facing a combination of new investment demands and higher borrowing costs, making buybacks less of a priority.
“When rates were zero it made sense for companies to issue long-dated, low-rate debt and use it to buy back shares. Now not so much,” Carey Hall said. At the same time, businesses are facing increased pressure to invest in areas such as reshoring supply chains, automation and artificial intelligence and reaching net zero targets, she added.
The second quarter drop was exacerbated by the crisis in the banking sector in March. Many banks increased repurchases in the first quarter after a cautious 2022, with financial groups exceeding tech as the biggest sector for repurchases for the first time in six years.
However, bank buybacks slowed after the collapse of several smaller lenders raised concerns about the health of the sector, and regulators announced stricter capital requirements.
“Going forward the concern is not so much about more bank failures, as new regulations,” said Howard Silverblatt, senior index analyst at S&P. “They need to protect their dividends again. When it comes between keeping dividends and buybacks, dividend wins every time.”
US stock buybacks have also been subject to a new 1 per cent tax since the start of this year. Silverblatt said that, at its current level, the tax had not had much impact. However, the levy was a rare example of an initiative with bipartisan support, and is expected to be increased in the coming years, which could put further pressure on spending.
“Some companies might be impacted sooner, but I think about a 2.5 per cent tax is where you would see a significant impact . . . [and] shifts in spending from buybacks partially into dividends,” said Silverblatt.
Some investors, particularly in Europe, also argue companies should return capital via dividends instead of buybacks. Companies counter that buybacks are more flexible and can be easily increased or scaled back when conditions change, whereas cutting a dividend often leads to a sharp drop in a stock price.