Friday, October 23, 2015

Did Someone Say Recession?

FT headlines after the US stock market close:

Microsoft shares hit 15-year high

Amazon shares jump 11% on sales surge

Alphabet soars on news of $5bn buyback

Earlier in the day via CNBC:

Bezos, Page and Brin just made $8 billion

McDonald's hits record high after earnings beat

Existing home sales rise more than expected

Jobless claims...4-week average lowest since 1973

Things will not end well. In the EPJ Daily Alert I am making clear that the big surprise is going to be accelerating price inflation, but the idea that the Fed is somehow "out of bullets" makes no sense from an Austrian school business cycle theory perspective.

To be sure, there are some companies that are underperforming, but it is not, by far, a general trend.

Current unemployment data continues to reflect the kind of decline in unemployment that you would expect to see in the boom phase of the Fed created business cycle.



  1. It is a mystery to me what is keeping the whole thing afloat. This has been going on a lot longer than many would have thought.

  2. Price inflation in necessities like food, utilities, health care, rent. More likely price deflation in everything else as the economy begins to grind slower from increasingly unproductive labor, assets, and loans. Less and less discretionary wealth available to bid up prices on discretionary goods. Malinvestment chickens coming home to roost.

  3. You're equating monetization of assets with real economic activity....and don't give me the economy is at full employment at cooly wages nonsense.

  4. I’m surprised EPJ buys into this official rosy picture stuff. Those "great" financial results are largely reflective of financial engineering like increases in leverage, not increases in value produced for consumers. That labor stat is manipulated and missing the bigger picture of skyrocketing labor force non-participation, under-participation, and mis-participation.

    What these numbers don’t show is this boom is increasingly fake. Mounting wealth destruction is increasingly revealing itself as tangible losses of material prosperity in the population at large (not the CEOs and bankers) as measured in obtainable goods and services. This is the true impact of the "boom" felt by the population at large regardless of the value of the monetary unit or skewed corporate numbers or government statistics.

    1. So you believe the labor department is deliberately understating the labor force participation rate? The current number is 62.4%. How high is it really? According to Shadowstats, the labor force participation rate is actually 76%. The highest number ever reported was 67.3% in Jan 2000.

  5. Robert,

    I think it’s a bit disingenuous pointing out share buy backs by alphabet. Which we all know means the company sees no growth opportunities to invest capital, interpreted by you as good things when you and I know that it is not. The ABCT points to growth in both the capital goods and growth in the consumer goods. The distortion happens first in the capital goods. Besides the stock market going up where do you see a large demand in the capital sector of the economy for resources? I see only stagnation there, Robert.

    Nobody here is arguing that the economy is being distorted by the FED. You have made and continue to make this prediction that the FED will raise rates this year or by December because of this booming economy. The FED uses various bureaucratic produced statistics to justify at least for them, whether to raise rates or not.

    Rather than pointing out stock prices, individual paper gains by CEO, or share buy backs from companies, perhaps it is best to post bureaucrat statistics that match the growth that you and the other MSM pundits see. Then you can justify your position of what the FED might do.

    1. A buy back is essentially a dividend distribution. It's not disingenuous to report it as good news. Maybe you are confused by the argument that the market is fake because corporations are using "funny money" to make a buy back. There is nothing to suggest that Alphabet is engaging in that activity. Earnings came in better than reported and are quite high. Google hasn't distributed cash to shareholders in 11 years. It's long overdue. Here is more on the story:

      Alphabet generated $18.7 billion in revenue, up 13%. Analysts had expected revenue of $18.54 billion. After subtracting the commissions Google pays out to partners, revenue was $15.1 billion, a 15% increase from a year ago.

      Alphabet earned $7.35 a share excluding certain expenses. Analysts expected $7.20 a share.

    2. Apologies for what I guess is a tangential point, but I don't understand how stock buy-backs are the same thing as issuing dividends, particularly for a company that, as you say, doesn't issue dividends in the first place. If buying back publicly traded stock makes the company's per-share numbers are look better without any fundamental improvement in operations, then it's a good thing for the executives and for momo traders, I guess.

      If company BODs/executives are bullish on their share price, for whatever reason, and believe they are buying back their shares on credit at little interest cost, confident that they can resell down the road at a higher selling price, then all other things being equal it's a net plus for investors...BUT non-financial companies are supposed to be in business to create shareholder value through operational activities, not primarily through financial or investing activities, so all this "financial engineering" is a form of boom/bust malinvestment, I would argue.

      From an Austrian perspective, share buy backs could be predicted in a boom, because firms that are booming as a result of credit expansion are engaged in malinvestments at the expense of net earnings and positive cash flow; goosing ratios like earnings per share by buying back shares in such a business context would help to hide the malinvestment from investors, and one would hope, market analysts too.

    3. Mak,

      Big difference between paying out dividends which usually more mature companies do, than a relatively young company buying back their own shares. Plainly put…if the economy is doing so well and great of returns are abound all over the place then, it’s a poor use of capital to run out and buy their own stock, when they could reinvest the cash for a bigger return. These purchase buy backs usually benefit the bigger shareholders meaning Bezos and his ilk.

  6. What is or isn't poor use of capital is one decision. A separate decision is _how_ to return capital.

    Dividends are a horrific method. Used primarily for window dressing to make low IQ fixed-income retirees and Cramer/CNBC followers slobber and grunt with satisfaction upon seeing themselves fed in the form of dollars sluiced into a special bucket on their statements prominently labeled "Dividends Received." Such dividends must be declared by shareholders to the IRS as income immediately in the tax year received, regardless of if this is desired or not. And these distributions are taxed at full rates, of course. A complete clusterf*** obliteration of value.

    Real investors only want share buybacks. Buybacks gather together then distribute unproductive capital specifically back to those shareholders who _want_ to cash out. Letting the rest of the shareholders stay invested.

    To better understand how this works, you have to stay focused on value. Dollars and shares are involved, but follow the value. First, realize everyone’s shares rose in value the minute the company earned the cash. So everyone has already effectively been paid. Let that sink in for a moment.

    The only remaining problem is if the company can’t keep that new cash productive (yielding above the company’s cost of capital). In this case, it must return this unproductive cash to shareholders…somehow.

    Distributing it in the form of a dividend to all shareholders in proportion to their share of claim on that cash will see the company share price _fall_. Because the company’s cash assets fall while the number of shares outstanding as claims on assets remains constant. You can see this happen in company share prices overnight after ex-dividend dates. Blip down. Effectively each shareholder has been involuntarily cashed out of a portion of the value of his holdings, partially liquidated, whether he likes it or not.

  7. ….
    The value-preserving, investor-focused company will abhor dividends in favor of buybacks. Buybacks effectively concentrate the cash portion of shareholder claims from all shareholders onto one group of shareholders - those who _want_ to sell for cash right now. In exchange, the rest of the shareholders get an equivalently valued greater claim on remaining productive company assets. A buyback shrinks the shares outstanding proportionally to the cash paid out leaving the remaining shareholders whole. They retain the same dollar value claim they had before, only now a larger percentage claim on a smaller amount of assets freshly restored to full productivity.

    Compared to dividends, buybacks convey profound tax advantages. With buybacks, gains will be realized only at a time, place, and amount of the shareholder's own choosing by his election to sell some shares. This need not occur until years, decades, or even generations later. Let the potential benefits of that sink in for a minute.

    Remember, the full pre-tax value of value an investor doesn’t receive as a dividend but instead holds as a capital asset can be used as collateral for margin loans, rolled over into new and bigger investments, employed for various tax-exempt purposes, etc. And even then, when the investor does elect to realize some gains by converting to exactly as much cash as much as he needs as specific needs arise, he does so at the much lower long term capital gains rates.

    The well-managed company does nothing but buyback, stock-split, repeat. And could distribute earnings this way to shareholders through the complete arc of its lifecycle until its final day of operation before closing its doors and buying out the final shareholders with cash from liquidation (shares necessarily valued at par by that point).

    This way, at any time in the corporate lifecycle, investors who want to take some amount of their value out of the company as cash may sell however many shares they want at whatever times they want. The market will arbitrage all timing differentials. Think of it as instant, self-declared, dividend-on-demand. Investors who want their value to remain invested in the company get exactly that, and just see the <# of shares * share price> total increasing over time.

    1. You missed the point I’m making. If the economy is booming like Robert keeps touting, then there are rates of returns to be made, and logically then these guys should be using the capital generated to be re-invest in the business. This act is a good sign of things in that sector and the economy. The market also automatically sees that as a good sign and thus appreciate the value of the stock, though not as high as a buy back but an increase in the share price nonetheless.

      If the company managers see little to no growth opportunity anywhere and have nothing to do with idle cash but buy back shares then I see two things, both of which are bad:
      1) Either the managers of the company see the economy at the present moment not providing worthwhile investments to provide a better return for their buck.
      2) Or the managers want to prop-up share price to appease Wall Street and themselves.

      I don't think the managers are dumb, nor do I think they are squandering the cash. I think they rightly see no better way to re-invest their cash but to BUY BACK shares. These types of signs to me contradict Robert’s view that the economy is hunky dory and that the FED will therefore be itching to pull the plug. These guys obviously don’t share Robert’s view that they should take advantage of the boom and in keep their chips in the casino. They instead took the cash out. Not a good sign.

      There are some sectors in the economy which are doing well, but the FED doesn’t look at one or two sectors and decides to pull the plug. It waits till it sees a sign that the economy is overheating and then tries to pull the plug. And that’s not happening just yet, maybe in 2016. Like I said, this economy is sputtering along, some sectors are doing better than others, but overall the economy is not all rosy, and so the FED will not touch rates in December.

    2. Oh I see what you are getting at. Returns of capital = poor growth outlook. Be sure to factor in the stage of lifecycle the company is in along with that industry’s historical norms as well as net out all the borrowing funding the preponderance of these buybacks. Debt-funded buybacks are not a disgorgement of capital, just a change to existing capital structure - a levering up that replaces capital from investors with capital from creditors.

      I think a more straightforward approach to judging near term growth prospects would be to just look at YOY sales figures. Executives are most often pollyannish and reactive, but their outlook, such as it is, will be reflected in rates of capital expenditures and labor force expansion.