Stock market comment: Are corporate actions sending us any signals?

• M&A activity plateaued after the start of Sino-US trade war

• S&P 500 dividends continue to rise steadily

• Buybacks began to pick up once again as companies take advantage of cheaper funding

• US500 looks past deteriorating fundamentals and continues to move higher

The term “Merger Monday” has been around for a long time and this week shows that it is as on point as it has been. A few big mergers were either announced or confirmed at the beginning of this week, including LVMH takeover of Tiffany and Charles Schwab acquisition of TD Ameritrade. Total value of this week’s deals exceeds $60 billion. However, can corporate actions tell us something about a future? In this commentary we will focus on three types of such actions: M&A deals, dividends and buybacks.

M&A value data includes announced deals were at least one party was the US company. Source: Bloomberg, XTB Research

Before we start with M&A activity, it should be noted that Q4 2019 data has not been presented on the chart above as there is still over a month until quarter ends so such data would be incomparable.  Taking a look at the chart above, one can see that value of M&A transaction topped in a quarter proceeding start of the dot-com and financial crisis slump. Apart from that, one can see that 4-quarter value of announced M&A deals, that include at least one US company, has plateaued since the start of the second half of 2018. Does this mean companies are struggling to find a good merger partner or high valuations cause M&A deals to be less attractive now or maybe stock market is about to crash? Not necessarily. The reason is probably much more simple - easing of the M&A action coincides with the start of Sino-US trade war therefore companies may be simply postponing decisions until situation in the global economy is made more clear. Such behaviour looks logical therefore it is treated as a warning signal, it should be treated as a weak one.

Dividends of the S&P 500 companies continue to rise steadily in spite of macroeconomic doom and gloom. Source: Macrobond, XTB Research

Dividends are sacred for Wall Street. US investors got used to companies paying regular and increasing dividends and any news of dividend cut sees share price of a given company plummeting. Because of that US companies are reluctant to lower payouts and need a good reason to do so, or they are forced to do so by deteriorating business. Looking at the chart above, one can see that the aggregate value of dividends paid by the S&P 500 companies continues to rise. However, it should be noted that during the financial crisis dividends were little changed in each quarter of 2008 and began to drop as the stock market was nearing the trough. Once again - nothing looks worrying.

S&P 500 buybacks eased this year after significant increases in 2018. However, aggregate value of repurchased shares picks up again as lower interest rates make financing cheaper. Value for Q3 includes only those companies that have reported third quarter results already. Still, it is already higher than in Q2 2019. Source: Macrobond, Bloomberg, XTB Research 

Finally, let’s take a look at share repurchase programmes. Buybacks became a popular way of returning money to investors, especially among companies that do not pay dividends, as they tend to inflate per share metrics. Buybacks rose significantly in 2018 as companies took advantage of lower tax rates. Share repurchases are the only of three analyzed corporate action types that actually declined this year. While buybacks in Q1 2019 were higher than in the first quarter of 2018, year-over-year decline occurred in the second quarter. Moreover, it is likely that annual decline will also be spotted in Q3 data as, so far, the aggregate value of S&P 500 share repurchases is 16.7% YoY lower and only a dozen of companies have not reported Q3 results yet. Decline in the aggregate value of buybacks coincided with the start of financial crisis slump a decade ago. However, taking a look at the situation from 2015-2016 when the US fell into industrial recession, drop in buybacks was not accompanied by a decline of broad stock market.

Summing up, value of announced M&A deals and aggregate value of buybacks may be sending some warning signals while lack of decline in dividends could mean that companies are straining their finances not to disappoint investors. However, factors that support this view are as good as those that oppose it. One should keep in mind that market environment is way different than it was ahead of the global financial crisis as funding is way cheaper now. It may be tricky to call the next major trend reversal as the market is to a huge extent driven by sentiment nowadays, which is hard to predict itself. In fact, the S&P 500 companies are on track to record third straight quarter of declining earnings, what should be enough to concern investors. However, market seems to look past fundamentals and focuses on faint promises of the Sino-US trade deal. 

S&P 500 (US500) is trading over 5% higher against the close of Q3 2019. What happened since the end of September? S&P 500 companies reported lower earnings on average, Fed announced pause in rate cuts and no material improvement in trade talks occurred. Nevertheless, the promise of “Phase One” trade deal is enough to keep the US stock market surging. US500 is trading in an uncharted waters and closes in on the next major resistance - the 161.8% exterior retracement of the July-August correction (3181 pts). Source: xStation5