Share buybacks: Home Depot investors were happy about the new stock repurchase plan, adding about $1.5 billion to the company's market value on Tuesday. History suggests they should curb some of their enthusiasm.
US companies have a terrible track record of buying their own shares high and selling them low. Home Depot's $1 billion program adds to the $136 billion of buybacks announced this year. Only the market peak of 2007 saw more such activity. That's not a good sign.
In theory, a buyback can be the best way to return surplus cash to investors if the stock is below its intrinsic value. Share counts decrease, leaving investors who stick around a larger chunk of the company.
That means more profit for them down the road. Moreover, investors don't have to pay taxes like they do when a company issues dividends. It’s different in practice, however.
Managers and directors can be overly optimistic during the good times and excessively pessimistic when the cycle turns against them. When things are flush, companies often have an abundance of cash and use it to buy back shares. During tougher periods, they worry about servicing debt and keeping their options open. Then, markets were crashing and companies could have scooped up shares for a pittance. Even steady performers like cigarette peddler Altria suspended their buyback programs. Worse still, companies set up harmful feedback loops. US banks bought tens of billions of dollars of stock while levering themselves up in the boom years before 2008. This had the not-so-coincidental benefit of pumping up the value of options granted to executives. Of course, where stock prices are headed is uncertain. They might well be a bargain. But companies haven’t traditionally been good market timers. The other side of the bet tends to be better.