Macquarie International Infrastructure Fund

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Nick Wrote:Management fees are based on market capitalization. Share buy backs will raise the share price but does it mean it will raise the market capitalization ?

Basic rules of supply and demand mean that when demand is stable, as supply goes to zero, prices go to infinity. But demand is NOT stable, in fact buy-backs temporarily INCREASE demand. So more demand, less supply, prices go up. If trading liquidity is limited the effect is even more pronounced.

In an efficient market, buy-backs would have no effect whatsoever. But since the stock market is NOT efficient, buy-backs do have an effect. If a company with $500m market cap and $500m of equity only trades $1m of stock a day, the company can easily boost its share price by buying an extra $500k of stock a day. This consumes resources at 0.1% a day, but can easily raise the share price 1-2% a day (since demand is now 50% more than normal).

After 10 days the company has used up $5m and bought back 1% of stock, but if it has raised the share price 5%, the market cap is now 0.99 * 1.05 * 500 = ~$520m. On paper it has "created shareholder value" of $20m. This can't work indefinitely since resources are not infinite. But it can help boost the share price temporarily, especially when the general market is dropping.

In the case of MIIF, the management gets paid more for a higher market capitalization and they are penalized for holding cash. Therefore the logical thing to do is to execute buy-backs which can potentially improve market capitalization and definitely reduce cash. Two birds with one stone. Even if the market is not rational, the MIIF management apparently is.
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RE: Macquarie International Infrastructure Fund - by d.o.g. - 16-10-2011, 05:52 PM

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