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Written by: Jimmy Topping | Advisor Asset Management
The stage is set for a historic surge in corporate share repurchases, with estimates suggesting that companies will soon be pumping over $1 trillion into buying back their own stock in 2025. With the Tax Cuts and Jobs Act (TCJA) up for renewal in 2025, companies are seizing the opportunity to capitalize on favorable market conditions, reduced borrowing costs, and a shifting regulatory landscape. By repurchasing their own shares, corporations can drive earnings per share growth, reward shareholders, and instill market confidence.
Tax Cuts and Jobs Act
The TCJA was introduced in 2017 and unless Congress acts, it is set to expire Dec. 31, 2025. It is likely tax reform will be prioritized during President Trump’s second term. A key component of the TCJA was the reduction of the corporate tax rate, which has had a significant impact on the amount of after-tax profits companies retain, providing them with more capital to deploy. For companies that already generate strong profits, the ability to use this extra cash for buybacks makes the process even more attractive, incentivizing them to return capital to shareholders and signaling confidence in their future earnings power.
Source: Investors.com, TaxPolicyCenter.org
Buybacks set to eclipse $1 trillion in 2025
As we look ahead, Goldman Sachs Group Inc. is estimating a staggering milestone: corporate buybacks are expected to surpass $1 trillion for the first time ever this year. This forecast underscores the growing importance of share repurchases in the investment landscape. With companies increasingly opting to return capital to shareholders through buybacks, investors can expect a significant and growing portion of their returns to come from this source. In fact, buybacks have become a vital component of total stock returns, particularly as dividend yields have declined in recent years.
Source: Investors.com
Lower Interest Rates
Lower interest rates can enhance a company's ability to repurchase shares by reducing the cost of borrowing. With the Fed's rate-cutting cycle underway, benchmark interest rates on the front end of the curve have begun to decline, making it more affordable for companies to take on debt. This reduced borrowing cost enables companies to finance their share repurchase programs more affordably. By leveraging lower interest rates, corporations can access capital at a lower expense, allowing them to buy back shares without straining their financial resources.
Deregulation
Deregulation efforts can also be a catalyst for increased corporate share repurchases. With fewer regulatory hurdles and less stringent rules, companies are likely to have more flexibility in terms of their capital allocation strategies. This means they can reallocate resources previously tied up in compliance and redirect them toward value-enhancing activities, such as share repurchases, that drive earnings per share (EPS) growth and returns for shareholders.
Deregulation can also lead to increased access to capital, as companies can now operate in a less restrictive financial environment. With less regulatory overhead, financial institutions can provide more attractive terms for loans and credit, making it easier for companies to access the capital they need to fund share repurchases.
Trends within the Buyback Space
Historically, dividends were the primary means for companies to distribute profits to their shareholders. Dividends provided a regular income stream to investors, and companies that consistently paid dividends were often seen as stable and reliable.
However, over the past few decades, the trend has shifted toward share buybacks. There are a few reasons for this. One reason is that buybacks can be more flexible than dividends. With dividends, companies typically commit to paying a certain amount per share on a regular schedule. With buybacks, companies can repurchase shares at their discretion, which can help to offset dilution from stock-based compensation or even reduce the number of outstanding shares.
Another reason buybacks have become more popular is that they can be more tax-efficient for shareholders. When a company buys back its own shares, the value of the remaining shares might go up. This can be a more tax-friendly way for investors to profit, as they can delay paying taxes on those capital gains. Since the increased value is effectively deferred, investors won't owe taxes on those gains until they sell their shares — providing investors more flexibility in realizing their tax obligations.
Source: NDR, Inc. | Past performance is not indicative of future results.
Performance
Over time, companies that consistently buy back a significant amount of their own shares often outperform those that don't for several reasons. First, when companies repurchase shares, the reduced number of outstanding shares increases earnings per share, even if overall earnings remain constant. This not only boosts earnings per share but also enhances return on equity as profits are distributed over a smaller number of shares.
Returning excess cash to shareholders through buybacks, rather than retaining it, signals a commitment to enhancing shareholder value. Regular share buybacks send a strong positive message to the market, reflecting the company's confidence in its future prospects. This, in turn, has the potential to support valuations and drive stock prices higher.
Historically, reducing the number of shares while maintaining or increasing profitability has led to notable outperformance. In fact, those in the top 20% of share repurchasers within the S&P 500 have historically outperformed their peers in the bottom 20% by a substantial 4.52% per year since 1985. This trend underscores that companies engaging in well-timed and strategic share repurchases tend to achieve better long-term performance.
Share repurchases can also help mitigate stock price volatility. As illustrated in the table below, the highest quintile demonstrates superior performance across multiple dimensions. Not only does it offer higher returns, but its risk-adjusted returns — as measured by the Sharpe ratio — are significantly more favorable at 0.64 compared to the lowest quintile's 0.34. The highest quintile also experiences a less severe maximum drawdown of -56.81%, compared to the lowest quintile's -62.39%, showcasing that buying back shares during downturns can help cushion against losses. Volatility measures also favor the highest quintile, with lower downside deviation (11.12%) and standard deviation (17.64%), reflecting more stable performance and reduced fluctuations in returns.
The highest quintile has been superior across these metrics, historically. By opportunistically absorbing available shares in the market, companies can mitigate the impact of depressed valuations, leading to more muted drawdowns and ultimately resulting in significantly higher risk-adjusted returns.
Source: Ned Davis | Past performance is not indicative of future results.
Conclusion
Looking ahead, we believe it's evident that corporate share buybacks will become an even more crucial component of the investment landscape. With supportive tax policies, accommodative monetary conditions, reduced regulatory burdens, and a record-breaking trend in buybacks, companies are poised to maintain their focus on repurchasing shares as a key method for distributing capital to shareholders. As investors, we think it's vital to stay informed about these developments and appreciate the potential advantages that buybacks can bring to investment portfolios. By doing so, we can harness the potential opportunities arising from this shift in corporate strategy and position ourselves for sustained success in a dynamic market.
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