Citigroup Inc (NYSE:C) analysts continue to believe that debt financing is still inexpensive by historical standards, particularly relative to equity financing. Furthermore, companies still have cash on their balance sheets, which could support future endeavors to return capital to shareholders, including share buybacks. Tobias Levkovich, Citi’s U.S. strategist, highlights that investing in companies that shrink share count consistently provided excess returns relative to the S&P 500. Investing in firms that reduce shares outstanding is one value strategy used by investors consistently, and it involves share buybacks not diluted by management issuing shares or options to finance acquisitions or compensate executives.
Citigroup Inc (NYSE:C) analysts are using the MSCI AC World Index as their universe to find companies that have decreased their share count by at least 5% in the last twelve months. They choose the 50 largest companies the screen provided and run the screen monthly. Note that 47 out of 50 names on the global buyback screen are of companies with a market cap greater than $10 billion.
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Stocks listed in the screen in January 2014 provide an average buyback yield of 7.7% and an average dividend yield of 1.5%, which add up to an average return of capital of 9.1%. Consumer discretionary stocks dominate the list, followed by financials and healthcare. Forty four out of the fifty names in the list are U.S. based, which suggests that U.S. companies have been more consistent in shrinking their shares outstanding in the past few years. Also, U.S. based companies account for 15 out of 17 added to the screen. U.S. firms, however, were not as heavily represented in the screen between 2002 and 2005. European firms represented a larger share of share reducers during this period.
The global buyback screen has returned 13.8% annualized since 2000. In 2013, the strategy returned over 45% but this year the screen has lost about 5% as of January 28, 2014. The MSCI AC World is down about 4% during the same period.
To make the most effective use of the global buyback screen, investors shall determine whether management can use capital to organically grow the business when demand for the firm’s product improves. Management needs a compelling offering that can sustain a competitive advantage. For example, Goldman Sachs Group Inc (NYSE:GS) is a leader in investment banking and equity advising and its business is benefiting from improving economic conditions. Shrinking share count is not necessarily a winning strategy if investors purchase companies trading at a large premium to fair market value.