The “buyback anomaly” is a global phenomenon whereby long-term investors can generate significant alpha through a structured investment strategy, says Theo Vermaelen, professor of finance at INSEAD, during the recent CFA Institute Middle East Investment Conference. Vermaelen gave an analysis of the U.S. market and provided insight on how, when, and which companies can maximize their returns using buybacks.
Vermaelen explained that there are four primary ways to buy back shares. In a fixed-price tender offer and a Dutch auction tender offer companies typically would have to pay a premium to buy back shares and so these types of transactions are rarely used. The private repurchase method is used when a large shareholder wants to sell their shares and approaches the company. The most common and widely used buyback method is the open market repurchase. In an open market repurchase, when a company announces it will buy back its share, it does not translate into a firm commitment on the company’s end, and there is no premium to be paid.
Vermaelen says that in recent years the buybacks in the rest of the world started catching up with the United States because of changes in regulation and tax laws that provided greater shareholder value. But he believes the most important reason is the adoption of executive stock option plans.