(Bloomberg) -- A surge in stock buybacks in Europe has kept investors happy this month even as economic uncertainty grows. The boost may not last.
An index of companies that have announced plans to repurchase shares has jumped 14% this year, outperforming the broader European market. But margin pressure from inflation and the need to preserve cash are likely to make it harder for firms to sustain such programs from here on.
European companies have announced buybacks of nearly $70 billion so far this year, according to Bloomberg Intelligence. Energy firms, flush with cash after a surge in oil prices, and banks — where higher rates have boosted income — have led the way.
“A prolonged multi-year trend of buybacks increasing in Europe requires global growth recovery which will help earnings,” Bank of America Corp. quantitative strategist Paulina Strzelinska said. While the number of new programs has risen by over 50% compared with the previous season, they are mostly concentrated in banks and energy, two sectors with “structural support to earnings,” she added.
Buybacks, typically a less popular vehicle for shareholder returns than dividends in Europe, are gaining pace. The region’s buyback yield — the amount spent by a company to repurchase its own shares relative to its market cap — last year rose to the highest since 2011, according to Bank of America. But some strategists warn the trend may not truly take hold unless accompanied by strong fundamentals, a scenario that looks shaky as bets for further policy tightening grow, making a recession more likely.
At the same time, sustaining a buyback policy has become key to stock performance, with Sanford C. Bernstein strategists saying repurchases are yet another reason to be overweight on European equities.
Stoxx 600 companies that announced new buyback plans this year had a one-day stock gain of 1.5%, while those that had large buybacks in the past two years — but suspended or didn’t renew them — suffered a 3% decline on average, as a net of the index returns on the day, Bloomberg Intelligence strategists Laurent Douillet and Kaidi Meng point out.
Stocks such as chemical firm BASF SE, brewer Carlsberg A/S and lender Societe Generale SA fell on disappointing buyback expectations this year. By contrast, carmaker Mercedes-Benz AG, oil major BP Plc and distiller Pernod Ricard SA all surged after publishing new programs. LVMH shares climbed today after the world’s leading luxury goods company announced a plan to repurchase as much as €1.5 billion ($1.59 billion) of its own stock.
“We estimate that last year the biggest buyer of European equity was the corporate sector via buybacks,” Goldman Sachs Group Inc. strategist Sharon Bell said. While that may not be the case this year, given the potential return of mutual fund flows, buying still is likely to be “significant,” she added.
With European earnings expected to fall in 2023, some of these shareholders returns could be at risk. Margin pressure from inflation has forced companies including Carlsberg, BATS, ING Groep NV and Deutsche Bank AG not to renew their programs. If the economy worsens, buybacks will also take a backseat to companies’ need to preserve capital.
“The volume of net buyback continues to build up, currently at the 100th percentile since 1990,” Morgan Stanley quantitative strategist Ronald Ho wrote last week. The key risk, according to him, is companies that have strong historical buybacks could change course unexpectedly and stop the program.
Buybacks in the energy sector, in particular, are expected to drop the most after companies spent €41 billion last year, while metals and mining companies have cut not only share repurchase plans but also their dividends on lower commodities prices and higher operating expenses, according to Bloomberg Intelligence.
“EU companies may find cutting share buybacks from their high levels of 2021-22 challenging as investors have had a sweet taste of the generous remuneration,” strategists Douillet and Meng said.
--With assistance from Jan-Patrick Barnert.
(Updates with today’s LVMH buyback news in eighth paragraph)
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