Equity Supply/Demand Picture In 2020 More ‘Benign’ Than Feared, One Bank Says

Over the weekend, I talked a bit about equity supply and demand in 2020, a year defined by plunging buybacks and a rush to raise cash, as corporate management teams attempt to cope with the reality of the COVID-19 recession.

On Goldman’s estimates, buybacks are set to dive by ~50% in the US this year, while equity issuance is seen coming in at around $300 billion.

Ultimately, the bank’s expectation is for net corporate equity demand to be just $100 billion, far below levels seen over the past half-decade, when the corporate bid was the largest source of demand for US stocks.

Read more: Goldman: Corporate Demand For US Stocks ‘Will Plummet 80%’ This Year. S&P Ain’t Going Anywhere

On the face of it, that’s bearish: Less demand and more supply equals falling prices, all else equal.

Obviously, all else is not equal, but given how prominent the corporate bid has been, the loss of that demand source is a big deal. Throw in secondaries as the C-suite looks to tap equity markets for cash, and you do have a dramatic shift in the landscape.

Given the interest in this topic (and I wrote more on it in “Why A Massive Debt-To-Equity Swap May Be Coming“), I thought it was worth highlighting some color from JPMorgan which includes global estimates for equity supply/demand in 2020.

The bank states the obvious, writing in a note out earlier this month that “on the demand side there is a clear downshift in buyback activity which is evident in announced share buybacks”.

“Last year we had around $700 billion of share buyback announcements in the US and the annualized pace stands at $350 billion for the first five months of this year”, the bank says, adding that on a global scale, 2019 saw around $900 billion of buyback announcements, versus an annualized pace of just $450 billion in 2020.

(JPMorgan)

“So, effectively, the YTD pace points to halving of gross share buybacks relative to last year”, JPMorgan remarks.

The bank then delves into a somewhat more nuanced discussion, beginning with a mention of shares issued as compensation. When taking that into consideration, JPMorgan says the actual decline in net share buybacks “and thus in equity demand by corporates is likely to be much smaller, around half of this $450 billion decline”.

After noting an expected ~50% decline in M&A activity in 2020, the bank writes that “global LBO activity, which has more direct impact on overall equity withdrawal than M&A activity as the latter often involve exchanges of shares, has held better and is down only 20% from the same period of last year”. The read-through, from the bank’s perspective anyway, is that “the equity withdrawal effect of LBO activity [will] fall by only $50 billion this year”.

When it comes to supply, the bank sees 2020 equity offerings globally just “slightly” besting 2019’s total.

“We believe the virus crisis is creating a pressing need for equity capital and thus a backlog of pending equity issuance”, the bank concedes, writing that the rally from the March panic lows pretty clearly indicates demand is healthy — or at least it is currently, and that should prompt corporates to tap the market “sooner rather than wait for 2021”.

All told in 2020, $250 billion has been raised in five months through IPOs and secondaries, the bank’s Nikolaos Panigirtzoglou says. After factoring in a bit of increased urgency, he comes up with an estimate of $700 billion for the full year, around $100 billion more than 2019.

Then, Panigirtzoglou flags a number of problems with attempting to proxy net equity issuance by simply taking equity offerings and subtracting buybacks and LBOs.

“One drawback is that share buybacks are announced rather than actual [and] another is that share buybacks are gross rather than net [and] omit the exercise of stock options and employee stock programs as well as other equity dilution activities such as the exchange of common stock for debentures and conversion of preferred stock or convertible securities”, he writes, before pointing to a better proxy — essentially just the change in the free float of the global equity universe.

(JPMorgan)

On this score, Panigirtzoglou says equity supply globally was around $200 billion for the first five months of 2020. Annualized, that’s roughly $500 billion, and JPMorgan forecasts $600 billion in order to account for “some acceleration in equity offerings for the remainder of the year”.

That projection (i.e., $600 billion) would be a third higher than 2019’s net equity issuance of $450 billion.

“So by taking into account the change in equity dilution activities so far this year in addition to the change in equity offerings, share buybacks and LBO activity, we project the net equity supply for this year to be significantly higher from last year but not massively so”, Panigirtzoglou concludes.

The read through, on a global scale anyway, is that the increase in net supply is fairly benign.

You can draw your own conclusions, but the overarching point is that it’s possible to paint a less daunting picture when it comes to projected supply/demand dynamics for the equity market in 2020. Of course, you can paint any picture you want if you’re armed with enough paint. All of this comes with the usual (long) list of caveats, including, but not limited to, the difficulties inherent in predicting the course of the virus and robustness of the assumed recovery, which will at least in part dictate corporate behavior.