Many people are confused as to why corporations have been buying back their shares in mass. The latest figures for 2018 are in and they demonstrate that the S&P 500 listed companies spent more on dividends and buybacks in 2018 than they actually made in total reported earnings ($1.26 trillion vs $1.1 trillion). What is really fascinating is that of the 500 listed companies, 444 have bought back their own shares. Buybacks alone have actually come in at 66% of reported earnings over the last five years. Since 2014, buybacks and dividends combined have exceeded the total increase in S&P 500 market capitalization by $1.3 trillion. In other words, buybacks alone represent 87% of the increase in S&P 500 market capitalization during that period.

Buying back shares at this stage has been massive, but companies have been taking advantage of the cheap interest rates. When interest rates collapsed to artificially low levels, it became economically more efficient to buy back the shares at such a low cost, and this, in turn, will increase the dividend yields. This mix of low interest rates has had a reverse impact on equities. There is no question that companies are keenly aware of just how important their buyback programs are to their share prices. As long as interest rates are cheap, then it’s hard to see them stopping unless the cost of borrowing forces them to do so. This is also setting the stage for a shortage in equities when capital begins to realize that there is a huge problem brewing on the public debt side of the balance sheet.

COMMENT: Mr Armstrong, I want to thank you for I listened to the forecasts of analysts who said Europe and Emerging Markets were the best places to invest because the US was overpriced and would crash. I was introduced to you by a friend. I listened. I cut my losses and switched to the domestic market. Your analysis saved my future.

I cannot thank you enough.

HA

REPLY: I was a hedge fund manager. I used to manage a fund for Deutsche Bank (Track Record). The reason analysis is so bad is because of regulation. We have the SEC & CFTC and the regulations between them are incompatible. You could never have a fund domestically where you would actually hire a fund manager who made that decision for you. Because of the regulation, you had fragmentation. Funds that sold Munis, other tech, others IPOs, high growth, etc., etc. etc. There was no domestic fund that would make those decisions for you because there was no single entity that served as the regulator as is the case outside the United States. Too many chiefs and no Indians, as they say.

The offshore hedge fund began, not a real hedge, but as a fund where the manager made the decision and could invest in anything. Today, hedge funds have lost their way. The idea that they would offer an alternative strategy that would move opposite to standard funds was really a sales job. Often, hedge funds have not performed because of biased domestic views. That was NEVER the way I managed the fund. I was named “Hedge Fund Manager of the Year” back in 1998 because my strategy was to make that decision on a global scale of what to be in and out of. I was not trying to lose money deliberately as a hedge when the market rallied and I saw its mirror image. I never got that idea of a hedge fund nonsense. My job was to pick the winners on a global scale and avoid the danger areas like Russian back in 1998.

If we look at the world in REAL VALUE terms, that means we MUST look at everything filtered through currency. Here is our index of the world. We take Europe and Asia, combine the indices and then replot them in dollars. This clearly shows that we ABSOLUTELY MUST include currency into the analysis. We can see that the US share market has dramatically outperformed everything else in the world.

I had to always consider geopolitical risks. Knowing when there was a risk of war or political uprising was important. Understanding the trends in weather was critical, as was evident from the Great Depression. Even keeping an eye on earthquakes and correlating that to the global economy was also obvious from hist – e.g. the 1923 Japan Earthquake and the 1906 San Francisco Earthquake that eventually contributed to the creation of the Federal Reserve. The realization that the world economy was dynamic meant we had to respect the various different influences each factor played in the outcome of the whole.

Yet, none of this would be possible without also considering capital flows and currency movements. The currency became the means for capital to vote on a global scale as to who it trusted and who it did not. Here we can see that the British pound reached $9.97 in 1864 against the dollar. It fell to $1.03 in 1985. The trend of the currency cannot be ignored.

Here are the share markets based in euros. All peaked in 1999 to 2000, except Spain which entered the euro late. How any analyst could recommend Europe two years ago was just nuts. This demonstrates that they do not understand international capital flows or the importance of the currency in making such forecasts.

Now, look at the European share markets that are NOT in the Eurozone. They have all made record highs. The difference has been the currency and regulations pouring out of Brussels with self-interest in maintaining the European Project, even though it has failed.

This is not my opinion v everyone else. This is simply looking at the facts, not propaganda, and letting the fact lead to the conclusion.

QUESTION: Hi Martin ! always wondered What would be the outcome of Fannie/ Freddie going private ? they have been trying this for years, but now looks like they are giving it another try and may be successful under the guise of ” protect the taxpayer ” …. what do you think will be the ramifications especially for real estate REITS and MREITS as well as homeownership going forward .

Thank you

JD

ANSWER: Fannie Mae and Freddie Mac are two companies that are in the longest conservatorship perhaps on record. Because the law governing these agencies is separate from banking conservatorship law, judges have largely done nothing about Fannie and Freddie shareholder complaints to date. The government’s 2012 net worth took all of the money that they said was worthless back in 2008-2011 that was on the balance sheets. Keep in mind that FHFA was acting as conservator when this was all agreed.

Fannie Mae and Freddie Mac will be allowed to retain capital, but the Senior preferred securities purchase agreement will be amended and the lawsuits will be settled in order for the companies to go to the public markets and raise new money via selling new equity to investors. They would like to do an IPO by 2020. After the balance of the senior preferred gets written off, the warrants will be exercised and the junior preferred will likely equitize some or all of their shares to help facilitate the recapitalization of Fannie Mae and Freddie Mac. There will be risks that include higher capital requirements, a shorter timeline to recapitalization, more CRT/STACR deals, more regulation and/or lower guarantee fees.

Moreover, we face a period where the interest rate is going to enter a major divergence. Central banks will be forced to create interest rate caps on sovereign debt, assuming people will buy them at these low rates of under 3%. This all hinges upon confidence. When we begin to see economic stress in the sovereign markets, such as in Europe with the ECB unable to stop QE, sovereign rates will become merely artificial and irrelevant. The ECB moved to negative interest rates but that did not lower private interest rates.

Expect divergences as we move forward into the next cycle which will peak in 2024. Expect wild movements ahead on the yield curve as well.

QUESTION: Marty, at the Rome WEC you put up that chart that showed historically private sector yields have gone below public. That really demonstrated your point on this shift from public to private. Now with Deutsche Bank on the ropes, here in Denmark, even mortgage bonds are going negative. Is this the real panic you were speaking about with the EU elections?

I’m coming to Orlando too. This is getting really dangerous here.

KA

ANSWER: Yes. Just look at this from a practical standpoint. If the government is the culprit and the crisis in banking is driven by this policy of Austerity, then you want to put your money where you just preserve it. This is what I was talking about. When confidence in government collapses, people turn to the private sector. It makes perfect sense that some capital will shift domestically into private mortgages for they are at least backed by property. If they go bust, you get something. If government defaults, you get nothing.

At some point, the government must address the structural reforms I outlined in the report we handed out – the Fate of Europe.