Posts Tagged ‘wages’

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No, the stock market is not predictable. And no one knows the exact causes of last week’s carnage on Wall Street—with the Dow down 4.2 percent, the S&P 4.1 percent and the Nasdaq 3.7 percent, representing their worst weekly performances since March.

But the precipitous fall in all major indices, which many analysts blamed at least in part on the earnings blackout period, did serve to highlight one of the factors that has been driving the bull market: corporations purchasing their own stock.

As Matt Phillips explained,

When companies have more cash than they believe they can use productively, they typically return it to shareholders either with cash payments—known as dividends—or by repurchasing shares in the market. Buybacks raise demand, putting upward pressure on share prices.

Such repurchases have boomed this year as the strong economy—and steep cuts in corporate tax rates—have left American companies flush with profits. Companies including Apple, Cisco Systems and Amgen have returned billions in cash to shareholders by buying back shares. Apple is responsible for the largest sum, spending nearly $64 billion on buybacks in the 12 months ending in June 2018, the last period for which full data is available, according to data from S&P Dow Jones Indices.

Generally, around earnings reporting season, corporations avoid repurchasing their own stocks, to avoid the appearance of insider trading. And, without those corporate buybacks, it seems the stock market has fallen off a cliff various times already this year.

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But the overall trend is for U.S. corporations to spend (or to leverage, via debt) a large portion of their profits on buying their own stocks—with plans to spend $770 billion on share buybacks in 2018, and even more next year.*

And when they cut back on those purchases, as they seem to have done last week, a large part of the demand for stocks collapses.

The fact is, corporations have three major ways of goosing their golden goose, which they and a small group of wealthy households in the United States benefit from.

First, employers endeavor to keep workers’ wages low, even as productivity increases, thereby boosting their pretax profits (of which they then distribute a portion in the form of salaries to their CEOs and dividends to stockowners).

Second, corporations lobby for tax breaks on their profits, an effort that once Donald Trump was elected delivered a slashing of the tax rate, from 35 percent to 21 percent.

Third, businesses use a portion of those higher post-tax profits to purchase their own stocks, which tends to boost the price of shares, producing additional wealth for shareholders who hang onto their stock. It also improves per-share performance on key metrics like earnings, which in turn attracts more stock purchases from other institutional and noninstitutional investors with their own growing share of the surplus.**

The result, of course, is an increase in the already-obscene degree of income and wealth inequality in the United States.

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According to my calculations (illustrated in the chart above), the top 1 percent in the United States owns (as of 2014, the last year for which data are available) 62 percent of equities, which has been climbing since the late 1970s. Meanwhile, the share of the entire bottom 90 percent has been falling, and is now only 11 percent.

So, it’s really only the small group at the top that is in a position to receive a cut of corporate profits in the form of dividends and to increase their wealth as corporate buybacks boost the prices of the stocks they keep in their portfolios.

Everyone else is forced to have the freedom to try to get by on their stagnant wages—and to watch with both fascination and horror the ongoing spectacle in the Trump White House.

 

*For most of the twentieth century, stock buybacks were deemed illegal because they were thought to be a form of stock market manipulation. But since 1982, when they were essentially legalized by the Securities and Exchange Commission, buybacks have become perhaps the most popular financial engineering tool in the American corporate tool shed.

*According to the S&P Dow Jones Indices, the top 100 stocks with the highest buyback ratios in the S&P 500 have regularly outperformed the overall S&P 500 index (as seen in the chart below).

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I have long argued (e.g., herehere, and here) that capitalism involves a kind of pact with the devil: control over the surplus is reluctantly given over to the boards of directors of corporations in return for certain promises, such as just deserts, economic stability, and wage increases for workers.

In recent years, as so often in the past, we’ve witnessed those at the top sabotaging the pact (simply because they have the means and interest to do so) and now, once again, they’ve undermined their legitimacy to run things.

First, they broke their promise of just deserts, as the distribution of income has become increasingly (and, to describe it accurately, grotesquely) unequal and the tendency toward high concentrations of wealth has returned, threatening to create a new class of plutocratic coupon-clippers. Then, they ended the Great Moderation with speculative decisions that ushered in the worst economic crisis since the First Great Depression. And, now, the promise of using the surplus to create jobs that would raise workers’ pay appears to be falling prey to directing the surplus to other uses: share buybacks and increasing CEO salaries.

According to a recent report by Goldman Sachs, stock repurchases will reach $1 trillion this year, up 46 percent from 2017 on the back of tax reform and strong corporate profits. Corporations buying back their own stocks leads to higher stock prices, which is an additional benefit to those who own the stocks—on top of the dividends they regularly receive.

As I explained earlier this year, the top 1 percent owned in 2014 almost two thirds of the financial or business wealth, while the bottom 90 percent had only six percent. That represents an enormous change from the already-unequal situation in 1978, when the shares were much closer: 28.6 percent for the top 1 percent and 23.2 percent for the bottom 90 percent). So, rising stock prices are both a condition and consequence of the obscene levels of inequality that obtain in the United States today.

And who loses? Workers, of course. A recent report from the National Employment Law Project calculated that McDonald’s could have paid each of its 1.9 million workers $4 thousand more a year if it had used the $21 billion it spent between 2015 and 2017 on stock buybacks to reward its workers instead. Starbucks could have given each of its workers a $7-thousand raise. With the money currently spent on buybacks, Lowe’s, CVS, and Home Depot could give each of their workers pay increases of at least $18 thousand a year.

But they’re not. Instead, corporations are using their enormous profits to repurchase their own stocks and, in addition, rewarding their executives with enormous pay increases.

According to Bloomberg, the median CEO-to-worker-pay ratio last year was 127 to 1 (at International Flavors & Fragrances Inc.). For U.S. corporations, the ratio ran from 0 (for Twitter, because CEO and cofounder Jack Dorsey received $0 in 2017) to 4,987-to-1 (at Mattel, where CEO compensation was $31,275,289).*

As it turns out, some of the most extreme examples of the gap between executive and median worker pay occurs at companies directly supported by federal contracts and subsidies. The latest Executive Excess report, published annually by the Institute for Policy Studies, found that at many federally funded companies the gap is far in excess of what ordinary American taxpayers find acceptable. For example, more than two-thirds of the top 50 government contractors and top 50 recipients of federal subsidies, receiving a total of $167 billion, currently pay their chief executive officer more than 100 times their median worker pay. At the top of the scale are leading military contractors, with the top bosses at Lockheed Martin, Boeing, General Dynamics, Raytheon, and Northrop Grumman each earning an average of $21 million, or between 166 and 218 times average worker pay.**

So, do Americans have any sympathy for the devil? The typical American believes CEO pay should run no more than six times average worker pay, according to the “2016 Public Perception Survey on CEO Compensation” at Stanford Business School (which mirrors a similar study by Sorapop Kiatpongsan and Michael Norton). Clearly, given the obscene ratios of CEO to average worker pay, Americans are no longer puzzled by corporations’ game. My guess is we’d see the same results if someone conducted a survey about stock repurchases. U.S. publicly traded companies across all industries spent almost 60 percent of their profits on buybacks between 2015 and 2017, while workers’ wages stagnated.

Sure, the tiny group at the top may present themselves as people of wealth and taste. But they’ve also shown they can lay waste to the economy they alone control, and they are clearly in need of some restraint. So, now, almost a decade into the current lopsided recovery—as they watch with glee their growing profits and an increasing gap between those who receive the surplus and everyone else—they deserve no sympathy whatsoever.

They’ve broken the pact and now their game is up.

 

*But Dorsey still owns a bundle of equity in Twitter, whose stock has increased in value 20 percent since the beginning of 2018. As of April 2 Dorsey owned 18 million shares of Twitter, currently worth $627 million as of Tuesday’s closing price. Dorsey also is the CEO of payments company Square, in which he owns 65.5 million shares, which currently would be worth $6 billion.

**The Geo Group, one of the primary contractors for the notorious immigrant family detention centers, took in $663 million in Justice Department and Homeland Security contracts in 2017. Geo CEO George Zoley pocketed $9.6 million that year, 271 times more than his company’s median worker pay of $35,630.

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In a 1999 interview with Fortune, legendary investor Warren Buffett coined the term “economic moats” to sum up the main pillar of his investing strategy. He described it like this:

The key to investing is not assessing how much an industry is going to affect society, or how much it will grow, but rather determining the competitive advantage of any given company and, above all, the durability of that advantage. The products or services that have wide, sustainable moats around them are the ones that deliver rewards to investors.

The idea of an economic moat, with Buffett’s endorsement, has picked up steam since the article. Morningstar, an investment research firm, created an index that tracks companies with a wide economic moat in order to see if Buffett’s theory holds water. In 2012, VanEck, a money manager, created an exchange-traded fund called “MOAT” that would track Morning Star’s economic moat index.

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And it works! Since 2012, VenEck’s Wide MOAT fund has beaten the Standard & Poor’s Index: it’s up 125.68 percent compared to the S&P’s 108 percent.

But what’s true for the individual investor does not hold for the U.S. economy as a whole. That’s because corporations with a Buffet moat around them are only managing, for a time, to capture portions of the surplus produced and appropriated elsewhere. It’s a rent—thus, of course, justifying the use of a feudal concept to characterize an investment strategy within contemporary capitalism.

Of course, the U.S. economy is not feudal (at least, for the most part). Instead, it is based on capitalism. And what’s important about American capitalism is the gap between workers’ wages and the total value they produce, which is profits—a portion of which is distributed in the form of dividends.

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As is clear from the chart above, over the course of the past decade both corporate profits (the red line) and dividends to shareholders (the green line) have rebounded spectacularly while the share of national income going to labor (the blue line) has fallen precipitously and remained very low. That’s the case during the so-called recovery from the crash of 2007-08 as well as the 15 or so years prior to the crash.

So, the comparison between feudalism and capitalism is perhaps even more apt than Buffett and other investors are willing to admit: in both cases, the surplus labor pumped out of the direct producers—serfs then, wage-laborers now—is appropriated—in the form of feudal rents or capitalist profits—and is then distributed to still others—to other religious and secular lords or other capitalists and equity owners.

And the result is exactly the same: a growing gap between the small group of gangsters at the top and everyone else.

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Marketplace’s Kai Ryssdal is no class warrior. Far from it. But after Donald Trump’s chief economic adviser Larry Kudlow spent considerable time during a recent interview celebrating the latest statistics about economic growth, jobs, and wages and minimizing the effects of the trade tariffs, Ryssdal was encouraged to challenge him:

Ryssdal: Look, sir, really with all respect that’s easy for you to say sitting here on the second floor of the West Wing of the White House.

Kudlow: Now, don’t class warfare me or anything like that.

OK, let’s not class warfare him. Let’s just do some simple calculations. In June, hourly wages (for production and nonsupervisory workers in the private sector) rose at an annual rate of 2.7 percent. Prices (as measured by the Consumer Price Index) rose at an annual rate of 2.8 percent. That means real wages—workers’ purchasing power—actually declined, by 0.1 percent.

As is clear from the chart above, even as hourly wages (the grey line) have been growing by 2.2 to 2.7 percent since Trump was inaugurated, inflation (the red line) has also been rising, by 2.5 to 2.8 percent. The result is that the rate of growth of real wages (the blue line), which started in negative territory, is still in negative.

So, a year and a half after Trump took office, lots of conventional economic numbers look good: GDP growth, corporate profits, the stock market, the unemployment rate, and so on all point in a positive direction. Now, it’s a stretch to call it the Trump Bump, since it’s basically a continuation of the recovery that preceded his election. But we can let Trump and Kudlow revel in those numbers, which improve the fortunes of a small group of large corporations and wealthy individuals at the top.

However, it’s the rate of growth of real wages that affects the majority of Americans—and it indicates what can only be called a Trump Slump.

Put the two together and it sounds like class warfare to me. And it’s being directed not at but from the West Wing of the West House.