• Christopher Hall

The most interesting insights this month:

The most interesting insights this month:

Driving the market rally over the last few years have been two key aspects:

  1. Share buy-backs; and

  2. Expensive shares becoming even more expensive (‘PE Expansion’)

Share buy-backs

When a company buys back its own shares from shareholders.

For example:

  • You own shares in BHP

  • BHP have a lot of profits sitting in their bank account

  • When BHP cannot find a good buying opportunity, new mine or growth plan, the money sits in BHP’s bank account

  • BHP decide that they are doing a good job of running BHP and their share price is pretty cheap

  • BHP then buy shares in a similar way to how you and I do

  • The key difference is that the shares that BHP buy, are now cancelled and there are less BHP shares in existence

  • With less BHP shares in the world, there are less people to share future dividends with

  • Now your dividend for each share has just improved a little bit

  • That little bit of improvement shows up on BHP’s report card as them making more money per share than last year

  • When BHP’s report card looks good, the share price normally goes up

PE Expansion

When the share price goes up without any real, fundamental reason other than low interest rates or star qualities.

For example:

When a company promises a lot of growth, the share prices goes up.

If the promised income and growth for the next five years is much more than today’s growth, then the company is trading at an amount far greater than today’s earnings. This is known as a ‘high multiple’, or ‘high PE multiple’.

On the opposite side, when a company looks to have a terrible five years ahead, the share price falls much lower. In this case, the share price can often be at a low multiple of today’s earnings, or ‘low PE multiple’.

In the current economic climate with low interest rates and low growth, investors hunt for growth opportunities. Many of the growth opportunities promising large growth are tech companies with low earnings today, but big promises for tomorrow. These companies are trading on high multiples, and when more investors compete to buy these shares and push the share prices higher, the multiples go up even further.

This scramble for growth at any cost (GAAC) has been a large contributor to the share market rallies over the last few years and a strong influence on PE expansion, both domestically and internationally.

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