C.J. Lawrence Weekly – Want to Buy Stocks? Get In Line.
Positive 4Q17 earnings results, an improving economic backdrop and outlook, rising corporate profit forecasts, and increasingly bullish sentiment have added fuel to an already roaring stock market fire. The S&P 500 Index tacked on another 2.2% last week, putting the index price up 7.5% year-to-date. Hungry bears saw a meal in last week’s report that net flows into stock funds spiked in the past two weeks, and suggested that a euphoria based sell signal is building. But we would caution against reading too much into the recent fund flows results, noting that ~80% of the net new equity flows went into “global” equity funds and not into domestic funds, according to Investment Company Institute data. The return to positive equity fund inflows can also be viewed as welcome news after more than two years of net outflows. Nonetheless, the net equity inflows, and the marked increase in bullish sentiment in several widely followed investor surveys, suggest to us that the once considered “most hated bull market in history” is finally getting some love.
But for the growing number of investors looking to build new, or add to existing, stock positions, finding attractively priced, highly liquid stocks to purchase is getting more challenging and competitive. The number of public companies listed on major U.S exchanges peaked in 1998 at around 7,500. At the end of 2017 there were less than 4,000. Robust merger and acquisition activity, low cost debt-aided leveraged buy-outs, and a dearth of Initial Public Offerings (IPOs) have all contributed to the net reduction. According to private equity data provider, Prequin Ltd., in the US alone, there are now close to 7,500 private equity-owned companies, almost twice the number of public companies. Costs and risks associated with being a public company, and broader access to capital for private companies, are encouraging corporate managements to stay private longer, if not indefinitely. Corporate tax reform has also made many of them healthier, allowing for larger dividends to be paid to private equity owners, and reducing the urgency for exits. Only 47 private equity sponsored companies went public in 2017, up 42% from the decade low 33 IPOs set in 2016. On the other end, a record 770 first-time private equity funds are currently seeking capital, according to Palico, an online marketplace for funds. That is 48% more than the previous all-time high of 520 in 2008. Once raised, that money will have to be put to work, gobbling up private and public companies alike.
Exacerbating the shortage of public company shares are corporate re-purchase programs which are reducing share counts of the remaining public companies. For the average S&P 500 company, the annual buy-back pace slowed in 2017, but is likely to reaccelerate in 2018, as tax reform-freed capital is deployed for capital expenditures, but is also returned to shareholders in the form of dividends and increased share buy-backs. Meanwhile on the supply side, there were 236 U.S. IPOs priced in 2017, raising $52.2 billion, surpassing the $26.5 billion raised in 2016 (143 IPOs) and $41.0 billion raised in 2015 (217 IPOs). But the new supply of shares brought to market during the past three years, in aggregate, pales in comparison to the value removed from the market through repurchase programs in just the first three quarters of 2017. During that period, S&P 500 Index constituents executed $518 billion in share repurchases. By the time 4Q17 final results are tallied, that figure could climb well above $650 billion. Equity exchange traded funds are also contributing to the contraction in tradable shares through their creation process, which removes shares from circulation in exchange for floating the basket (ETF). Equity ETF’s now account for between 5% and 7% of most S&P 500 companies’ publicly traded float. As the ETF industry grows, those figures will continue to climb. The supply-demand equation for stocks remains tilted toward the demand side, and looks unlikely to change any time soon. So long as fundamentals stay intact, that could keep a bid under stocks for a long time.
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