Author Topic: New Credit Bubble?  (Read 1780 times)

FL_MM

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New Credit Bubble?
« on: June 13, 2018, 10:29:18 AM »

toganet

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Re: New Credit Bubble?
« Reply #1 on: June 13, 2018, 11:09:19 AM »
The article is interesting, and I do worry about the amount of debt that has been amassed, and the stupid tax decisions -- but I resist the temptation to predict anything here.  Companies (and people) take on debt to pay for things they find worthwhile.  Hopefully they're making good decisions.  Banks and Bond buyers lend their money to entities they think will pay them back.  Hopefully they are making good decisions as well.

Personally, I am far enough away from FIRE that I'm not worried about it.  If something happens, it might make for some good "sales" though.

PDXTabs

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Re: New Credit Bubble?
« Reply #2 on: June 13, 2018, 11:12:16 AM »
By contrast, the 64 firms that spent the most repurchasing shares (the equivalent of 100 percent of market value) saw an average 22 percent decline in the firm’s market value. These include Sears, J.C. Penney, Hewlett-Packard, Macy’s, Xerox and Viacom, for all of which the primary purpose of the buybacks was to prop up the stock price in the face of disappointing operating results.

I used to work at one of these companies and I approve of this message. That is, stock buybacks are the last vestige of an executive team that can't find any way to innovate, or are just milking a company instead of investing in R&D. To take on debt to fund buybacks is dumb on the face of it.

FIRE@50

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Re: New Credit Bubble?
« Reply #3 on: June 13, 2018, 11:24:37 AM »
The author says that corporations are borrowing money for stock buybacks and then sites Apple as an example of enormous stock buybacks. Apple doesn't have any debt and has a shockingly huge pile of cash sitting around. I don't think buybacks are an efficient use of capital, but the author is attempting to mislead.

Do I think poorly run companies such as JC Penny and Macy's buying their own shares is going to crash the market? No.

PDXTabs

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Re: New Credit Bubble?
« Reply #4 on: June 13, 2018, 11:33:22 AM »
The author says that corporations are borrowing money for stock buybacks and then sites Apple as an example of enormous stock buybacks. Apple doesn't have any debt and has a shockingly huge pile of cash sitting around. I don't think buybacks are an efficient use of capital, but the author is attempting to mislead.

Do I think poorly run companies such as JC Penny and Macy's buying their own shares is going to crash the market? No.

I agree that Apple was a strange example from a leverage standpoint, but the author goes on to clearly state:

The most significant and troubling aspect of this buyback boom, however, is that despite record corporate profits and cash flow, at least a third of the shares are being repurchased with borrowed money, bringing the corporate debt to an all-time high, not only in an absolute sense but also in relation to profits, assets and the overall size of the economy.

You don't have to agree that a full third of stock buybacks being debt financed, packaging that debt into collateralized loan obligations, and then selling CLOs to retail investors is a macroeconomic risk. But the author isn't being misleading.
« Last Edit: June 13, 2018, 12:15:17 PM by PDXTabs »

Rosy

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Re: New Credit Bubble?
« Reply #5 on: June 13, 2018, 12:06:39 PM »
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Welcome to the Buyback Economy. Today’s economic boom is driven not by any great burst of innovation or growth in productivity. Rather, it is driven by another round of financial engineering that converts equity into debt. It sacrifices future growth for present consumption. And it redistributes even more of the nation’s wealth to corporate executives, wealthy investors and Wall Street financiers.

Put that way I don't like any of it.

grandep

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Re: New Credit Bubble?
« Reply #6 on: June 13, 2018, 12:31:12 PM »
I was surprised to learn from this article how much of the stock buybacks are being financed. That seems bizarre to me. With the new lower corporate tax rate I imagine that most companies were using freed-up earnings to purchase shares. Why on earth would a company be motivated to take on additional leverage for a stock buyback? For appearances?

I also found it interesting that one factor leading to the high CAPE ratios recently is the reduced supply of total outstanding shares. If that is true then that should take some of the concern out of inflated CAPEs, no?

Companies (and people) take on debt to pay for things they find worthwhile.  Hopefully they're making good decisions.  Banks and Bond buyers lend their money to entities they think will pay them back.  Hopefully they are making good decisions as well.

But the whole point of this article is that they're not making good decisions. They're taking on debt to increase their stock price. What conceivable argument can be made that that is a good business decision? As far as consumers go, the article mentioned that debt held by subprime credit card holders has increased by 26% in the last two years.

Why do people never learn? 10 years wasn't that long ago, is it really that easy to forget that "spending a ton of money on shit you can't afford" = "bad news"?

PDXTabs

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Re: New Credit Bubble?
« Reply #7 on: June 13, 2018, 01:28:31 PM »
Why do people never learn? 10 years wasn't that long ago, is it really that easy to forget that "spending a ton of money on shit you can't afford" = "bad news"?

Because the human species hasn't lived long enough to select for thinking more than one year into the future. Initially we only had to think about getting away from one lion, or finding one more meal. Eventually we had to stockpile enough food for one winter. This is why people smoke for 20 years, take on way too much student debt, why so many people retire destitute, and why global warming is going undressed. Also, we are never going to select for better brains because spendthrifts and smokers are still going to reproduce. By the time we select for people that don't allow global warming to get out of hand we might all be dead.

« Last Edit: June 13, 2018, 01:30:24 PM by PDXTabs »

grandep

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Re: New Credit Bubble?
« Reply #8 on: June 13, 2018, 03:17:18 PM »
Why do people never learn? 10 years wasn't that long ago, is it really that easy to forget that "spending a ton of money on shit you can't afford" = "bad news"?

Because the human species hasn't lived long enough to select for thinking more than one year into the future. Initially we only had to think about getting away from one lion, or finding one more meal. Eventually we had to stockpile enough food for one winter. This is why people smoke for 20 years, take on way too much student debt, why so many people retire destitute, and why global warming is going undressed. Also, we are never going to select for better brains because spendthrifts and smokers are still going to reproduce. By the time we select for people that don't allow global warming to get out of hand we might all be dead.

And yet this whole forum is populated by people who have somehow overcome their myopic evolutionary tendencies. Why are we different? Suggesting that people's poor decision making is simply a function of their genetic programming is unhelpful because it suggests there is no solution.

maizeman

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Re: New Credit Bubble?
« Reply #9 on: June 13, 2018, 03:28:28 PM »
Why do people never learn? 10 years wasn't that long ago, is it really that easy to forget that "spending a ton of money on shit you can't afford" = "bad news"?

Because the human species hasn't lived long enough to select for thinking more than one year into the future. Initially we only had to think about getting away from one lion, or finding one more meal. Eventually we had to stockpile enough food for one winter. This is why people smoke for 20 years, take on way too much student debt, why so many people retire destitute, and why global warming is going undressed. Also, we are never going to select for better brains because spendthrifts and smokers are still going to reproduce. By the time we select for people that don't allow global warming to get out of hand we might all be dead.

And yet this whole forum is populated by people who have somehow overcome their myopic evolutionary tendencies. Why are we different? Suggesting that people's poor decision making is simply a function of their genetic programming is unhelpful because it suggests there is no solution.

Some problems don't have solutions. I'm not weighing in specifically that in this case there isn't a solution, or that the lack of long term planning is driven solely by genetics,* but we shouldn't disqualify a potential answer to a question just because we don't like the downstream implications.

*Really cool study about how people whose native languages lack a separate future tense ("It is raining today" "It is raining tomorrow") tend to save more money, smoke less, practice safer sex, and are less likely to be overweight than people whose languages have a future tense ("It is raining today" "It will rain tomorrow"), and speculation that this is because thinking about the world without a future tense, the future seems more real inside our brains. 

Original study: https://www.aeaweb.org/articles?id=10.1257/aer.103.2.690

Popular press summary: https://insights.som.yale.edu/insights/the-language-we-speak-predicts-saving-and-health-behavior

PDXTabs

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Re: New Credit Bubble?
« Reply #10 on: June 13, 2018, 04:12:43 PM »
And yet this whole forum is populated by people who have somehow overcome their myopic evolutionary tendencies. Why are we different? Suggesting that people's poor decision making is simply a function of their genetic programming is unhelpful because it suggests there is no solution.

But what's the ratio of mustachian to non-mustachian human beings?* Also, I'm not sure that accepting that humans are bad at long term planning wouldn't really help. That is, if you know your gut reaction to certain situations might be unfair (say for race, religious, sex, gender identity, ethnicity, nationality, sports fandom, etc) you can use tools to evaluate your actions to try to make sure that you are acting in a moral and ethical manner. I'm not sure that you couldn't do that for the short-term-ism in humanity that only seems to be getting worse. But first we we would have to admit that we have a problem, because back in the day if you saw some ripe fruit on a tree, it was an evolutionary advantage to gorge yourself.

* - also, every ounce of my mustacianism is hard fought against my first reaction to buy more plane tickets, skateboards, bicycles, computers, dinners out, etc.

LAGuy

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Re: New Credit Bubble?
« Reply #11 on: June 15, 2018, 11:39:13 AM »
I actually think a lot of companies were acting pretty rationally by borrowing to buy back shares given how low interest rates were. If you're a CEO and you're paying a 4% dividend and you can borrow at 3%, it's a no brainer to take on debt to reduce share count. Equity is just another form of debt, afterall. I'd expect this sort of activity to slowdown as interest rates continue to creep up.

grandep

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Re: New Credit Bubble?
« Reply #12 on: June 18, 2018, 09:07:38 AM »
I actually think a lot of companies were acting pretty rationally by borrowing to buy back shares given how low interest rates were. If you're a CEO and you're paying a 4% dividend and you can borrow at 3%, it's a no brainer to take on debt to reduce share count. Equity is just another form of debt, afterall. I'd expect this sort of activity to slowdown as interest rates continue to creep up.

Why not reduce the dividend?

jjcamembert

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Re: New Credit Bubble?
« Reply #13 on: June 18, 2018, 04:10:04 PM »
If you want a really in-depth study of debt and its effects on economies, this is a thorough article I read last year: http://www.imf.org/en/Publications/FM/Issues/2016/12/31/Debt-Use-it-Wisely

I agree it's all concerning, but for me there's no actionable evidence to work from. This isn't really news, you could have made the same arguments last year and missed out on the huge rally.

Regarding index investing, the most concerning thing to me is that since tech has been the big winner in this cycle, every index investor is more concentrated in tech than before. Earnings expectations for the top companies continue to rise and be exceeded, but what will happen when they stagnate and fail to exceed expectations? Remember that fundamentally stock price is not the value of the company but the anticipated future value.

thunderball

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Re: New Credit Bubble?
« Reply #14 on: June 18, 2018, 06:20:40 PM »
following...

toganet

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Re: New Credit Bubble?
« Reply #15 on: June 18, 2018, 06:36:05 PM »
Regarding index investing, the most concerning thing to me is that since tech has been the big winner in this cycle, every index investor is more concentrated in tech than before. Earnings expectations for the top companies continue to rise and be exceeded, but what will happen when they stagnate and fail to exceed expectations? Remember that fundamentally stock price is not the value of the company but the anticipated future value.

This is a point that has made me think about "rebalancing" across different sectors in order to insulate from a bubble in tech (or healthcare, or whatever).  However, looking at the options I've seen so far I don't know that it would be worth the effort and added expense ratios to do so.

IndyPendent

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Re: New Credit Bubble?
« Reply #16 on: June 18, 2018, 07:35:14 PM »
I actually think a lot of companies were acting pretty rationally by borrowing to buy back shares given how low interest rates were. If you're a CEO and you're paying a 4% dividend and you can borrow at 3%, it's a no brainer to take on debt to reduce share count. Equity is just another form of debt, afterall. I'd expect this sort of activity to slowdown as interest rates continue to creep up.

This, plus the author never provides a key data point—are these companies buying back stock via debt because they are cash poor, or are they doing it because it’s the cheapest financial instrument in their tool belt? What is the ratio of cash to debt? How much of their cash is (or was at the time of incurring debt) sitting in another subsidiary offshore? Was it just simply cheaper to borrow compared to incurring tax hits against a huge cash pile, a la Apple?


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pecunia

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Re: New Credit Bubble?
« Reply #17 on: June 19, 2018, 08:03:00 PM »
Quote
Another thing to keep in mind is that share buybacks are a very tax efficient way to return capital to continuing investors.

So - I expect this helps index funds.  How long will this help continue? 

grandep

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Re: New Credit Bubble?
« Reply #18 on: June 20, 2018, 08:23:11 AM »
Also, I think managers are greedy and don't like to share the benefits of returned cash with competitors, or other firms.  Let me explain...  If an investor owns a single stock and commits to reinvesting its dividends, they will either be participating in a drip or instruct their broker to buy more shares of that company when the dividend hits.   However, with the modern invention of the index fund, this isn't how things play out anymore.  People set the fund to reinvest dividends, and instead of for example 3M's dividends going back to 3M, 3M's dividend are reinvested by the index fund into all the companies on the index along with any other companies that pay dividends according to market cap weighting.  The result is that a company could pay a fat dividend but will only be blessed by the index fund with dividend reinvestments based on it's market cap pecking order...  The obvious solution to this for a company that want's more access to that capital is (1) don't pay your dividends in cash which will then be spread across the market by the index fund, and (2) boost your own market cap in order to capture said market-cap weight dividend reinvestment from other companies.  In my mind, share buy-backs accomplish both of these goals since a share buyback is the economic equivalent of forcing reinvestment all of the dividends and it will boost share price and market cap since the capital is not dissipated the way cash dividends currently are.

When an investor reinvests dividends back into 3M stock, 3M does not receive any additional capital from that transaction (the seller of the stock does). So why does 3M care what happens to their dividend?