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Matt Levine is a Bloomberg Opinion
columnist covering finance. He was an editor of Dealbreaker, an
investment banker at Goldman Sachs, a mergers and acquisitions
lawyer at Wachtell, Lipton, Rosen & Katz, and a clerk for the
U.S. Court of Appeals for the 3rd Circuit.
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Companies Want Buybacks to Be Easier
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By
Matt Levine
April 30, 2018 10:37 AM
People are worried about stock buybacks.
One reason that people sometimes worry about stock buybacks is that
they are supposedly a form of market manipulation: If a company buys
its own stock, it’s probably because it wants the stock to go up, and
that is
arguably manipulative. People who
dislike stock buybacks often
make this argument. But people
who like stock buybacks also seem to assume that they
are a little manipulative, and so you
often get
articles where people
worry that, without enough
corporate buybacks, there’ll be no one to prop up the prices of
stocks.
And in fact the original understanding, way back in ancient financial
history, was that corporate stock buybacks were probably
illegal market manipulation, and so companies rarely did them. And
then in 1982 the Securities and Exchange Commission came along with
Rule 10b-18, which gives
companies a “safe harbor” from manipulation liability if they follow
its requirements. The requirements are basically designed to limit the
impact on the stock: Companies can’t buy more than about a quarter of
their stock’s volume, or buy at the beginning or the end of the day,
and they can’t push the stock up by paying more than the highest
independent bid (or the last trading price, if that’s higher) for the
stock. If the market for a stock is $10.00 bid, $10.02 offered, and
the last trade was at $10.00, the company can’t come in and bid $10.02
to get more shares, because that might be viewed as manipulative.
Some people are
weirdly mad about these rules:
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But the “safe harbor” rules have not been revised since 2003 and
critics say they do not reflect the electronic, fragmented
nature of today’s markets, which makes share repurchase orders
easy to spot and trade in front of by high-speed trading firms,
leading to higher prices for companies that buy back stock.
“Everybody knows there is a corporate order flow so they
front-run it and that just pisses me off because they will raise
the price high enough where then they will sell it back to me.
That’s just not fair,” Gary Barth, assistant treasurer at United
Parcel Service Inc, told Reuters. |
Okay first of all I am not a corporate treasurer but I have some
doubts about this story. I agree that it is inconvenient for corporate
buybacks not to be allowed to cross the spread: Companies “cannot buy
shares at the best offer available” ($10.02 in my example), because
they are stuck paying the best bid, which can slow down their
purchases. And I agree that “everyone knows there is a corporate order
flow” because companies do have to announce their buybacks in advance.
But I am skeptical that all the evil high-frequency traders can
recognize corporate order flow—by its non-aggressiveness, its
refusal to cross the spread—and then jump in to “front-run” it.
Corporate buyers aren’t the only buyers who try to avoid crossing the
spread to bid up stock. And intuitively you’d expect aggressive buying—the
kind that crosses the spread, takes out higher price levels, etc.—to
push up the price; quietly sitting on the bid should have less of an
impact. After all, the point of the SEC rules is to reduce the
impact of corporate buying.
Also: What is the point of a buyback, anyway? I tend to think
that the most reasonable purpose of a corporate buyback is mostly to
return cash to investors in a tax-efficient way, and the
second-most-reasonable purpose is to buy back the company’s own stock
when it is undervalued, but there really are a lot of proponents of
the theory that the purpose is to keep the price of the stock up. And
that theory has some foundation: The company wants its shareholders to
be happy, after all, and a high stock price is the main source of
shareholder happiness. So if high-frequency traders really are
spotting corporate buybacks and pushing the price up, then perhaps
corporate treasurers should think of that not as “front-running” but
as “leverage”: They get more of a stock-price impact per dollar that
they spend, because other traders are also buying stock alongside them
and pushing the price up more. Again I do not quite believe this—again
it is exactly what Rule 10b-18 is meant to prevent—but if you’re a
corporate treasurer who does believe it, then you might conclude it’s
a good thing.
Also here is
UPS’s description of its share buyback
program:
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From time to time, we enter into share repurchase programs with
large financial institutions to assist in our buyback of company
stock. These programs allow us to repurchase our shares at a
price below the weighted average UPS share price for a given
period. During the fourth quarter of 2016, we entered into an
accelerated share repurchase program, which allowed us to
repurchase $300 million of shares (2.6 million shares). The
program was completed in December 2016.
In order to lower the average cost of acquiring shares in our
ongoing share repurchase program, we periodically enter into
structured repurchase agreements involving the use of capped
call options for the purchase of UPS class B shares. We pay a
fixed sum of cash upon execution of each agreement in exchange
for the right to receive either a pre-determined amount of cash
or stock. Upon expiration of each agreement, if the closing
market price of our common stock is above the pre-determined
price, we will have our initial investment returned with a
premium in either cash or shares (at our election). |
Yeah I mean … these guys are not just idly sitting on the bid worrying
that the market is getting ahead of them, you know? They’ve actually
found a way to get paid a premium if the market gets ahead of them.
In any case:
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Exchange operator IEX Group has petitioned the SEC to let firms
buying back shares do so using hidden orders that only execute
at the midpoint between the best bid and the best offer. That
would make it difficult to move the stock price while making the
activity harder to spot. |
Honestly that should probably be allowed; hidden midpoint peg orders
do not seem like a particularly aggressive way to manipulate up stock
prices. But mostly I love this story because it is a showdown between
two of my favorite unfairly maligned financial villains. On the one
hand, you’ve got corporate buybacks, which are widely criticized for
wasting corporate cash and enriching executives and shareholders at
the expense of workers. (Also for being manipulative, sure.) On the
other hand, you’ve got high-frequency traders, who are
widely criticized for front-running legitimate investors. Now the
corporate treasurers, who people think are manipulating their stocks,
want permission to manipulate those stocks a bit more, to save them
from the high-frequency traders, who they think are front-running them
as they try to manipulate the stocks. Which side will get less popular
sympathy?
Elsewhere: “Apple expected to boost shareholder returns
by at least $100bn.”
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This column does
not necessarily reflect the opinion of the editorial board or
Bloomberg LP and its owners.
To contact the author of this story:
Matt Levine at
mlevine51@bloomberg.net
To contact the editor responsible for this story:
James Greiff at
jgreiff@bloomberg.net
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