October 7, 2014 Comments

On Tuesday, the S&P 500 fell 1.5% and Toronto was down 1.1%.

Most of the stocks I monitor were down. A notable gainer was Canadian Tire up 1.0% to a hew high of $117.37. That is impressive on a down day. I did not see any special reason for that. They were doing some marketing but I am not sure why the stock went up. Actually almost all daily moves in stock prices are pretty much random. Companies only tend to release real news about four to 10 times in a year and yet stock prices gyrate daily. Usually there is really no particular reason.

I have never claimed any ability to predict where markets are headed especially in the short term. I did observe a few weeks ago that the S&P 500 looked some 16% over valued. But that was not a prediction it would fall in the short term and in fact it had looked somewhat over-valued on that analysis since February of 2013. I did not get out of the market in early 2013 and that was a good thing because the markets are up a LOT since then.

In any case I do not find myself disturbed by this decline. It’s always nice when the market is up but declines offer opportunities as well. I will be looking to add to some positions but I don’t want to get into a rush.

This morning, before the open I got an alert from TD about a Brookfield Office Properties rate reset preferred at 4.75%. and I grabbed some basically sight unseen because with these offering I have no time for analysis. I have never analyzed any Brookfield company but I do recognize them as smart successful companies over the years.

Coincidently Brookfield properties fund bought a casino today for some 5% of what it cost to build it two years ago. Without any analysis that sounds like a sweet deal. I have not analyzed it but am tempted to just buy some Brookfield Properties partnership. But I will likely try to analyze it first.

Another comment on Share Buy Backs

It is often said that companies are inflating their share prices with share buybacks. There is some truth to it. But buying back shares does not automatically raise the share price. If a company is profitable and is sitting on cash earning nothing then yes a share buy back will increase earnings per share. But it also means the company has less cash, and that means it may be less able to fund growth. Its book value per share almost always declines (since the shares usually trade above book value). Sure the buying in itself may support the share price momentarily in the market but that effect evaporates quickly and the shares will stay high based on earnings and growth prospects (or may fall). The shares could fall in price if the market realizes that growth will be slower with less cash to fund it.

It seems true that the market often pushes share prices up on news of buy backs. Sometimes that is quite irrational but it can work for a while. Longer term the share price is determined by earnings and growth prospects not by expectations of buy backs.

Buying back shares makes perfect sense when the shares are trading below a fair value and when the company has no better use for its cash. A one time buyback could lead to a misleading earnings per share growth that can not be counted on in future. But if a company buys back 2% of its shares every year and that adds say 2% to earnings per share in the process and it can keep doing that, funding the buybacks from earnings then to my mind that 2% earnings growth is perfectly good growth and can be projected into the future.

Companies are free to buy back their shares and recent commentary about it is mostly just noise. Non share owners who want to tell companies what they should do with their cash. The noise makers should worry about their own cash.

If a company really wants to increase its share price over the years it should retain all earnings (pay no dividends and do no buybacks) then it can invest all the earnings for growth and if it has good growth opportunities including acquisitions, then its share price will rise. Stantec was an example until it more recently brought in a small dividend. Berkshire is a classic example. In both of these cases the growth was highly logical and not done to pump up the share price per se, though it did do that.

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