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The global economic situation remains incredibly shaky and has pushed many firms to reconsider further investments in production for the time being. Emerging markets appear to be slowing down and growth in developed nations appears to be suspect at best, a situation that seems unlikely to spur many companies to reinvest in their businesses. In light of this, many firms have decided to take a closer look at instituting more share buybacks as an easy way to boost EPS.
These buybacks are when a company purchases shares of its own stock on the open market. In addition to reducing the total supply of shares outstanding, this can increase earnings per share, and often times, the price of the security as well. Most importantly, this strategy can also signal to the market that management thinks shares are undervalued and are a great purchase at current depressed levels. This technique has surged in popularity in recent months as close to half a trillion was set aside by companies in 2011 for these programs, largely thanks to ballooning cash balances and limited quality options for investment (read Three Low Beta Sector ETFs).
Yet, while some might dismiss share buybacks as a low quality way to boost stock prices—when compared to investment in the company, acquisitions, or dividend payouts—the proof that the technique can work is in the performance of securities that utilize this methodology. This is especially true when one looks at an ETF that employs this strategy for its stock selection process; the PowerShares Buyback Achievers Portfolio (PKW - ETF report).
Buyback Achievers ETF In Focus
PKW looks to track the Share BuyBack Achievers Index which is a benchmark of U.S. firms that have participated in share buybacks in the last 12 months. However, investors should note that the product doesn’t just include all companies that have done buybacks in the past year; instead it only includes firms that have repurchased at least 5% of their total shares outstanding in the time period. With this focus, the fund holds close to 140 securities in total but charges a rather large expense ratio of 70 basis points (see Inside The Cloud Computing ETF).
Obviously, buybacks aren’t inherent to any one sector over another, but the fund’s portfolio suggests that certain types of companies have been more prone to the tactic as of late than others. Specifically, consumer discretionary, technology, and health care combine to make up nearly 75% of the total portfolio, giving the product a heavy concentration from a sector perspective. The fund is more spread out from an individual security look though, as Amgen (AMGN - Analyst Report) takes the top spot at 5.4% while Wal-Mart (WMT - Analyst Report) takes up another 5.1% and (IBM - Analyst Report) rounds out the top three at 4.7% of total assets.
While the product may be more concentrated and expensive than its broad-based counterparts like (SPY - ETF report), it has shown a good history of outperformance over a variety of time frames. When adjusting for dividends, PKW has gained 12% in the past year, a pretty lofty level when compared to SPY’s 4.5% gain in the same period. Furthermore, over longer time periods, such as the last three years, the trend is even more pronounced as the Buyback ETF gained 87.9% in the time period while SPY added 67.8%. Clearly, even when including PKW’s lofty fees, the fund can outperform broad-based ETFs, suggesting that over the long term and when using a basket approach, there could be something to the buyback strategy for boosting stock prices above their peers (read Three Outperforming Active ETFs).
So while there are certainly individual examples of buybacks not working out for companies, the broad consensus seems to be that these strategies can have a meaningful impact on price appreciation for a variety of securities. Furthermore, investors should note that PKW only tracks significant buybacks and only does so for about a one year period. With these stipulations, it is ensured that only the most impacted companies at the most important time in the process are included for the basket (see Three Tech ETFs Outperforming XLK).
Thanks to this, investors can rest assured that PKW’s strategy gives them the best chance to tap into the potential power of buybacks while eliminating the huge risks of a single company’s program not working out for shareholders, suggesting that for those looking for an alternate pick to play broad U.S. markets, this PowerShares fund could be an excellent choice.
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