In today’s Money Morning…cash is trash…inflation begins to bite…innovation from the small end of the market…and more…
As you may or may not be aware, Money Morning prides itself on being a contrarian publication.
Following the herd mentality or toeing the line just isn’t for us. We like to think about and offer up different perspectives to you, our readers.
Which is why today I’m going out on a limb and declaring the big banks’ share buyback plans as rubbish…
Yes, while every other financial publication is lauding the billions being handed over to investors, I believe they are being short-sighted.
Take the Commonwealth Bank of Australia [ASX:CBA], for instance. The posterchild and clear leader among the Big Four.
CBA has outlined a $9.5 billion investor bonanza.
Handing out over $3.5 billion via an improved dividend. Whilst also conducting a $6 billion share buyback scheme.
Great news for investors, right?
Well…it certainly is in the short term.
But for those looking for long-term improvements to their wealth, I think there are better options. Because while these kinds of cash handouts are popular, they also strike me as counter-intuitive.
Let me explain…
Cash is trash
Earlier this year you may have heard Ray Dalio emphatically proclaim that ‘Cash is trash’.
His reasoning, in a simplified context, is due to the Fed. Powell and his cronies have been pumping so much money into the US economy that no investor can afford to be holding onto cash.
After all, the more money supply there is, the less each dollar is worth in terms of its raw purchasing power. In other words, inflation begins to bite.
In Australia, we have seen a similar situation unfold. With the RBA and the government throwing cash at Aussie businesses. JobKeeper was the infamous scheme of 2020 that helped lined executives’ pockets.
So cash is just as trash here as it is in the good ol’ US of A.
And yet, cash is all the banks have to offer…
That’s why I believe buybacks have become vogue once again. Because compared to a dividend, a buyback is an easy way to boost stats like earnings per share and return on equity. Not to mention boost the share price of the stock.
All of which paints a rosy picture of growth for the company in question.
Is it really deserved though?
For instance, CBA’s 20% increase in net profit — topping out at $8.84 billion — seems like a bumper result. Which it is…compared to FY20.
But, when you compare it to FY19, FY18, and FY17’s respective $9.6 billion, $9.2 billion, and $9.93 billion bottom line figures, things aren’t quite so flash. And yet, CBA shares hit an all-time high of $108.75 yesterday. All because the market can’t get enough of this huge cash splurge.
More disturbingly, though, CBA shares are now trading at a P/E ratio of 20.1!
That’s almost unheard of for a major bank. Suggesting investors are willing to pay a huge premium for the ‘safety’ and ‘reliability’ of the bank’s future profitability.
As for whether CBA can live up to those expectations, no one knows.
We’re only going to find out in the years to come.
But I certainly know that I wouldn’t be putting my money into the big banks.
No, if your goal is to find the biggest, long-term gains, small-caps are still the place to be.
Innovation from the small end of the market
See, personally, I like stocks that back themselves in.
The kind of investments that are willing to reinvest and iterate upon their operations, ensuring that they can not only deliver strong results in the near term, but also the long term.
In terms of the big banks, I have my doubts as to their long-term potential.
I would have loved to have seen CBA and the rest opt to use their excess cash more decisively. Perhaps acquiring a few smaller and more innovative businesses to broaden their scope. Or even, simply use the cash to fund more internal projects and developments.
But, in today’s day and age, that probably wouldn’t fly with shareholders.
They expect and demand the kind of dividend and buyback programs that the bank has unveiled. Giving this money back to investors because of the precedent.
My concern is that in doing so, the big banks may inevitably seal their own demise. Because if they don’t start innovating or changing course, I wouldn’t be surprised if their operations are a whole lot smaller in the years to come.
But I digress…
The more important takeaway for you, dear reader, is that small-caps present an opportunity that is far more tantalising. Offering up a smorgasbord of opportunity within disruptive, innovative, and cutting-edge stocks.
The kind of propositions and eye-popping returns that you can only get from speculating in small-caps. Granted, a lot of the time these companies can be all-or-nothing gambits.
There are some big risks but also big rewards when you get it right.
Most importantly of all, though, they have more to offer than just cash.
Because while a return on your investment is rarely a bad thing, in the current market, cash isn’t exactly hard to come by. Rather, it is how much future return on investment you can get for your cash that matters.
And right now, we’re betting on small-caps to be the difference maker.
Editor, Money Morning
PS: Ryan is also the Editor of Australian Small-Cap Investigator, a stock tipping newsletter that hunts down promising small-cap stocks. For information on how to subscribe and see what Ryan’s telling subscribers right now, click here.