A Rally With a ‘Buyback’ That Just Won’t Quit

This rally is quiet...Too quiet...The Dow has crept up 5.5 percent year-to-date, the VIX has sunk to near 3-year lows. All the while geopolitical chaos in Egypt and earnings disasters like Cisco swirl around the rally with no lasting impact.

What is driving this market, ever quietly, higher? One possible answer: Buybacks.

In January alone, $37 Billion worth of buybacks were authorized by 47 different companies, according to Birinyi Associates.

That’s two and a half times the amount of buybacks in January 2010 (when—incidentally—the S&P 500 was down 5 percent). They appear to be ramping up: the final week of January and the first week of February each saw more than $26 Billion in new buybacks—the highest weekly totals since September 2008, according to TrimTabs.

The individual buybacks can add up to a market moving phenomenon: “Assuming multiples stay consistent—buybacks shrink the share-float of the company, which creates higher earnings per share (EPS), and therefore higher stock prices. But it only works if you don’t have multiple contraction,“ explains The Strategy Session’sGary Kaminsky.

Interesting to note that, as of this writing, the Dow is the best performing of the 3 major indices in 2011. Again—we see the buyback boost in full effect, three of the biggest buybacks have been authorized by Dow components: Intel ($10 Billion), 3M ($7 Billion) and Travelers ($5 Billion).

Some say that buybacks can only keep the rally going so far. “Buybacks don’t add any jobs, you’re not putting any money back into the economy—what you’re basically doing is shrinking the capitalization, which is meaningless if you have multiple contraction,” adds Kaminsky.

On the other hand: 2010’s respectable 12 percent annual rally may have been the byproduct of buybacks: last year was the fourth biggest year for buybacks in history.

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