Latest / Stock Picking with Fexingo: Individual Equities, Research, and Building a Concentrated Portfolio / How Stock Buybacks Are Becoming a Litmus Test for Corporate Discipline
Transcript
- Lucas: So the S&P 500 is sitting at 7,501 as of this afternoon, the Dow just crossed 51,565 — both near record levels — and yet there's this interesting undercurrent of skepticism about how companies are spending their cash. Specifically, stock buybacks are getting a lot more scrutiny than they were even a year ago. Luna: I've noticed that too. A few high-profile buyback announcements recently got met with stock drops instead of pops. What's changed? Lucas: Right. The classic Wall Street logic used to be: a company announces a buyback, the stock goes up because it signals confidence and boosts earnings per share mechanically. But in 2026, investors are asking harder questions — like, is this the best use of cash right now? And with the new Fed chair Kevin Warsh signalling a much more hawkish stance than the market expected, the cost of capital is effectively higher, so misallocating cash is more costly. Luna: Yeah, Gundlach made that exact point this week — that Warsh is not going to be the easy-money chairman. So if you're a CFO and you borrow to buy back stock when rates are higher, that's a double whammy. Lucas: Exactly. And we've got a perfect case study from this year. A major tech company — I won't name it because the specifics are still playing out — did a large accelerated buyback in February when its stock was near an all-time high. Then the stock pulled back 15 percent in the spring on a sector rotation. The buyback essentially destroyed value: they bought high, and the EPS boost was minimal because the shares they retired were expensive. Luna: So it's a timing issue, but also a strategic one. If you're buying back stock when it's expensive, you're basically signalling that you have no better investment opportunities internally. Lucas: That's the critique. And it's why some of the most disciplined capital allocators — think of a company like a certain consumer staples giant that consistently pairs buybacks with dividend growth — they tend to buy back more aggressively when the stock is down, not when it's up. The data shows that companies that time their buybacks well outperform those that do it indiscriminately by about 2 to 3 percent annually over a five-year horizon. Luna: Is there a way for retail investors to track this? I mean, we don't get real-time buyback data like institutions do. Lucas: You can look at the company's quarterly cash flow statement — the line item for treasury stock. But more practically, you can listen to earnings calls. If management talks about buybacks as a residual use of cash after investing in the business, that's a good sign. If they talk about buybacks as the primary way to return capital and they're vague about organic growth, that's a yellow flag. Luna: And there's the broader ETF effect too, right? Because buybacks reduce the share count, and ETFs that track indices mechanically buy more of the remaining shares — so buybacks can create a self-reinforcing cycle in index-heavy stocks. Lucas: That's a great point. In fact, some analysts argue that the S&P 500's EPS growth over the past decade has been significantly boosted by buybacks — maybe as much as 30 to 40 percent of the growth. So if buybacks slow down because of higher rates or regulatory pressure, you could see headline earnings growth decelerate even if operating performance is fine. Luna: I want to zoom in on one specific company that I think does buybacks really well. Procter & Gamble has been a consistent buyer of its own stock for decades, but they do it alongside a growing dividend. And they've been open about targeting a specific leverage ratio, so they don't overextend. Lucas: Yeah, P&G is a textbook example. They've reduced their share count by about 25 percent over the last ten years, but they've also grown their dividend for 65 consecutive years. That's the kind of integrated capital return strategy that investors reward. And you can see it in their return on equity — it's been steadily rising because the equity base is shrinking while earnings grow. Luna: Right. And compare that to, say, a company that did a huge buyback right before a downturn and then had to cut its dividend later. That's the nightmare scenario. Lucas: Exactly. And we're seeing that play out in the energy sector right now. A lot of energy stocks have been crushed this month — XOM and CVX are both down — and some of them had been aggressive with buybacks when oil was above $90. Now that oil has pulled back, those buyback programs are being scaled back, and the stocks are getting hit twice. Luna: So the market is effectively using buyback behaviour as a litmus test for management quality. If you announce a buyback and the stock doesn't react positively, that's a signal that investors don't trust your judgment. Lucas: Exactly. And that's a healthy development, I think. It forces management to be more disciplined. One specific metric I look at is the buyback yield — that's the total dollars spent on buybacks divided by market cap. If it's above 4 percent and the company has a strong balance sheet, it can be a positive signal. But if it's above 6 percent and the company has high debt, that's often a warning. Luna: What about the argument that buybacks just enrich executives who have stock-based compensation? That's been a common criticism. Lucas: It's valid in some cases. If a company is issuing a lot of stock options to executives and then using buybacks to offset the dilution, that's not creating value for long-term shareholders — it's just maintaining the status quo. You have to look at net share count after accounting for stock issuance. If the net count isn't declining, the buyback is essentially cosmetic. Luna: So net share repurchases — after dilution — is the real number to watch. Lucas: Exactly. And the good news is that more companies are disclosing that now. The SEC has been pushing for better transparency. So for stock pickers, this is a tool that can help you separate the disciplined allocators from the ones just trying to juice EPS. Luna: Speaking of discipline, this kind of analysis is exactly why we love doing this show — digging into the details that most people skip. Lucas: Totally. And if you find these conversations useful and want to help us keep the show ad-free and independent, you can support us at buy me a coffee dot com slash fexingo. It's a simple way to keep the lights on and let us keep doing deep dives like this. Luna: Yeah, every bit helps and it really makes a difference. We appreciate everyone who chips in. Lucas: Alright, back to buybacks. I want to talk about one more angle — the impact on valuation multiples. When a company buys back stock, its price to earnings ratio can actually look more expensive if the buyback is debt-funded, because the higher debt increases risk. So you can't just look at P/E in isolation. Luna: Right, you need to look at enterprise value to EBITDA or something that accounts for the capital structure change. Lucas: Exactly. And that's where I think a lot of retail investors get tripped up. They see a company with a low P/E, not realizing that the P/E is low partly because the company took on debt to buy back shares, which increased earnings per share but also increased financial risk. The enterprise value multiple might tell a different story. Luna: So what's the takeaway for someone building a concentrated portfolio today? How should they factor in buyback behaviour? Lucas: I'd say: look for companies that have a consistent, transparent buyback program that is explicitly tied to free cash flow and that operates alongside a growing dividend. Avoid companies that do large, episodic buybacks that seem timed to offset dilution or prop up the stock. And always check the net share count over a three- to five-year period. If it's declining meaningfully — like 2 to 3 percent a year — that's a sign of real capital discipline. Luna: And with the market at all-time highs, buyback discipline becomes even more important because the downside risk of buying overpriced stock is higher. Lucas: Exactly. In a bull market, bad buybacks get forgiven. In a market that's more uncertain — like we're seeing with the rotation out of big tech into mid-caps and value — bad buybacks get punished. So it's a good time to be paying attention. Luna: Agreed. Next episode, I want to dig into how the ETF crowding effect is amplifying these buyback moves. That's been on my mind. Lucas: It's a great topic. We'll cover it. For now, thanks for listening, and we'll catch you next time.