There is a reason why activism was the best performing hedge fund “strategy” of 2013: as we wrote and predicted back in November 2012 in “Where The Levered Corporate “Cash On The Sidelines” Is Truly Going“, US corporations – susceptible to soothing and not so soothing (ahem Icahn) suggestions by major shareholders – would lever to the hilt with cheap debt and use it all not for CapEx and growth, but for short-term shareholder gratification such as buybacks and dividends. A year later we found just how accurate this prediction would be when as we reported ten days ago US corporations invested a whopping half a trillion in buying back their stock, incidentally at all time high prices.
Putting aside the stupidity of this action for corporate IRRs, if not for activist hedge fund P&Ls, another finding has emerged, one that was also predicted back in 2012. Because in addition to still soaring mountains of cash, corporations have quietly amassed even greater mountains… of debt. In fact, as SocGen reveals, net debt, or total debt less cash, has risen to a new all time high, and is now 15% higher than it was at its prior peak just before the financial crisis!
US corporates do indeed hold lots of cash, which is currently at record levels, but they also hold record levels of debt. Net debt (so discounting those massive cash piles) is 15% above the levels seen in 2008/09. The idea that corporates are paying down debt is simply not seen in the numbers. What is true is that deleveraging has occurred through the usual mechanism of higher asset prices (no doubt an aim of central bank policy). This is the painless form of deleveraging. It is also the most temporary, for a simple pull-back in equities and rise in volatility will put the problem back on centre stage.
And while it would be excusable if this debt had gone to prefund future growth, it is a travesty that the only thing companies have to show for it is that it has simply made a few already rich hedge fund managers even richer.