Manmohan Singh's Magic

Indian Economy was growing at a reasonable 6%-7% with petrol prices at Rs 50/- even when the crude oil prices hit USD 145/- during 2008. After 5 years, the oil prices are around USD 100/- but petrol prices in India has gone up by 20% to Rs 70/- thanks to poor foreign currency rate management by RBI. This resulted in imported inflation in a country with net imports.

Manmohan Singh and team, along with back seat driver (Congress President) made a mess of everything.

RBI Governer played a huge role - he started hiking interest rates when inflation was 9%. But the inflation continued to climb while Indian growth rate fell to 5% from 7%. http://www.financialstrategyonline.com/2013/03/discussion-on-rate-hikes-that-killed.html

I cannot help adapting a cartoon from the internet sources, which is given below

 

Are bank deposits safe? or are they high risk assets?

If you ask any financial advisor, they will classify fixed deposits as one of the safest financial assets that earns low returns. Well, low risk, low returns - as the theory says.

Those who support equity market related investment schemes would be quick to point out that the bank deposits are losers eventually - in terms of purchasing power. This is because of the fact in most cases the bank deposit interest rates are lower than the inflation and hence in the long run, the purchasing power of the bank deposits goes down.

But ask Cypriot depositors - they will tell you that the bank deposits are 'low return assets; but with high risk' - you can lose the principal invested in the deposits.

Yes, now-a-days the bank deposits have become high risk assets!!

Deposits of more than €100,000 at the banks of Cyprus would lose 37.5 per cent in money which would be converted into bank shares, according to a recent finance ministry decree. Depositors get some near worthless bank shares - usually it is the Governments who bailed out banks. Now it is passed on to the depositors.

Additional 22.5% cannot be withdrawn as it will be parked in a special reserve without earning any interest income till the banks complete the financial restructure.

This is a big warning sign - this new trend of asking the depositors to rescue banks will change how financial system works in many countries. Any deposits over and above the sums insured by 'desposit insurance' is liable to be confiscated. Let us have a quick look what is the maximum amount covered by deposit insurance in a few countries:


USA                       : USD 100,000
European Union     : EUR 100,000
India                       : INR  100,000

In your Scenario analysis, you may wish to add the following

- What would you do if your country's finance ministry confiscated your hard earned deposits to bailout the banks?
- What is the logic of asking you to take personal responsibility for poor lending practices of the  those banks?

At least it is better if they read and understand the principles of good credit (lending) risk analysis and management.
http://eu.wiley.com/WileyCDA/WileyTitle/productCd-1118604911.html

MASTER STROKE BY WARREN BUFFET

Recently, Warren Buffet hit the headlines again due to his acquisition of an ‘elephant’ along-with an investment partner. We are referring to Warren Buffet's acquisition of Heinz. However, the deal smacked something unlike of Warren Buffet. Why? Warren Buffet is known to be value investor or a bargain hunter. Well he was till late 1980s- however thereafter Warren Buffet changed his investing style. He began to ardently follow the advice of his business associate Charles Munger that it is better to buy a good company at a fair price than a fair company at a cheap price. This slight change in the investment philosophy has done wonders to the investment career of Warren Buffet.

Acquisition of Heinz was done at USD 28 billion. Warren Buffet and his Brazlian investment partner had paid 20% more than the market. There were criticisms that they overpaid for this acquisition. Did Warren Buffet overpay? Has Warren Buffet moved away from his investment principles? Financial Views will examine a few points below as to why did warren buffer pay 20% more than the market?

1.       Warren Buffet knows its trackrecord. Warren Buffett’s file on Heinz goes back to 1980. Heinz has been incredibly consistent over that time. During the last 5 years, the company have recorded strongest performance to date, with a ROE (return-on-equity) of 32%. Heinz has a nearly 60% market share in the U.S. ketchup market, but only 25-26% international market share. So, Warren Buffet has identified a company with potential to grow further in international market.

2.      Strong dividends: Warren Buffet may not pay dividends to his shareholders; however Warrant Buffet’s fancy for dividend paying companies is well documented (Recently Warren Buffet came out with a clarification whey he is not paying dividends to shareholders) Heinz’ dividend growth rate has increased over the last 5 years. This trend will accelerate after the company is taken private.

3.      Growth opportunity : Since late 1980s, Warren Buffet penchant for growth companies is well known. Warren Buffet likes increasing strength of Heinz’s in China, India, Brazil and other “emerging” markets. In this way, this investment by Warren Buffet has some similarities to his investment in Coco Cola Warren Buffet might also have noticed the Heinz strategy of buying local brands in these markets to speed up the access to introduce its own global brands.

4.      Paying for him first: Even if someone argue that there is overpayment, Warren Buffet has played the game in his favour. Warren Buffet (through Berkshire Hathaway) gets preferred shares (with warrants). The structure of the deal is favourable to Warren Buffet. Warren Buffet invested $4.12 billion in Heinz common equity, another $8 billion in preferred shares, (and gets warrants). 3G Capital contributed $4.12 billion of equity, the rest financed by $7.1 billion in acquisition finance, by Warren Buffett’s darling banks, Wells Fargo & Company (WFC) and JPMorgan Chase & Co. (JPM)).

5.      Future Cash Inflows: Warren Buffet obsession with cash is also well-known. So what does Warren Buffet will receive in return for his massive investment in Heinz? Assured $720 million (pre-tax) a year on his $8 billion worth of preferred shares with a 9% yield, and dividends on equity shares of $4.12 billion, which could fetch a dividend yield of 10%-15%. Hence, Warren Buffet could enjoy  a billion dollars inflow from this deal + capital appreciation possibilities.

 

At a time when US treasury offers just 0.25%, this deal has all features of a master stroke by Warren Buffet.

Discussion on rate hikes that killed Growth

Recently RBI Governor (RBI-G) D Subbarao addressed IIT-Kanpur Alumni and made some observations. http://www.moneycontrol.com/news/economy/5-6-growth-not-sufficient-says-rbi-governor_833324.html In fact RBI-G is admitting that his own policies since 2011 were wrong! Financial Thoughts(FT) have taken the key sections of the speech and provides some comments, which are captured below:

RBI-G:  “Growth rate of 5-6 percent is not sufficient for the economy, which has the potential to grow at double-digit rate provided some issues are addressed”

FT Comments: To achieve growth, proper monetary policy is needed. The interest rates have to reduced - which RBI had increased during 2^nd half of 2011. Since then the growth rate was on the downward trend. Correlation between rate hike and slowdown is well established.

RBI-G: “Pointing out some of the long-term challenges for the growth, Subbarao said there was a need for stable and predictable macroeconomic environment, removal of infrastructure deficit, skill improvement and job creation. He said there is also need for raising agriculture productivity, and improvement of social sector outcome.”

FT Comments: RBI clearly failed in this. Whilst RBI is supposed to be a guardian of foreign currency exchange rate, they have failed abjectly. Once $: INR was stable around Rs45/- now it has touched Rs55/- and it may fall further resulting in higher cost of fuel, which drives the economy. See the link http://www.financialstrategyonline.com/2011/12/rbis-smart-moves-taking-india-down.html On another blog post dated 21 Oct 2011 Financial Thoughts had screamed as follows:

“Those who support further indiscriminate rate hikes must go back to US in 2006 when US Fed was blindly hiking the rates in pursuit of a mirage, which achieved nothing but a fantastic economic collapse in 2008”

RBI-G: "We are quite happy that India is growing at 5-6 percent, but I must tell you that is not sufficient. That is much less than our potential ... unless we grow at 9-10 percent year on year for about 10 years we cannot pull hundreds of millions of people out of poverty," 

FT Comments: Totally wrong! In fact many Indians are unhappy in way things are mismanaged and brought to this level. 

RBI-G: "India consists of the largest number of poor people in the world. India has more poor people than the entire economy of South Africa," Subbarao, who is also an alumnus of IIT Kanpur, added.

FT Comments: For the sake of poor, put the economy back on track on 9% growth rate. Studies have proven that since liberalisation in 1991, the Indian Poverty has dropped because of the growth in the economy. Even slums in India have a TV set and two wheelers which during 1980s was the luxury of middle class. Post liberalisation, middle class migrated to four wheeler, however it becomes unbearable now due to the hike in fuel costs, thanks to RBI whose foreign currency management has exacerbated the issue. 

RBI-G: “Inflation is still high and stubborn. Balance of payments is under stress. Decline in investments is a worry. Investments not taking place today, that's a worry," 

FT Comments: Very sad to hear this as the interest rates were hiked in the first place to curb inflation!! Secondly investments will not take place if the debt finance is costly.  Thirdly with the slowing growth in India, there are other countries with better profitable opportunities as far as FII and FDI are concerned. FII and FDI deploy their capital not for charity; but for profit. Right now, India is not the second fastest growing economy but the third or fourth!

RBI G: "So people worry whether we have got derailed from the high growth trajectory. My short answer to all those questions is that the India story is still intact and India's growth story is still credible," he said.

FT Comments: Whilst Indian Growth story is still credible, we wait for a radical change in RBI policy or a new RBI Governor similar to Bimal Jalan to rekindle growth in the economy.

Financial Thoughts also believe that Narendra Modi, who has an excellent track record in ruling Gujarat must be given a chance to rule from New Delhi. Whilst many will point out to 2002, Financial Thoughts would like to point out to the role of congress leaders during 1984 massacre in New Delhi.  Financial Thoughts do not support any type of massacre or violence (as it reminds the chimpanzee past of humans!? Real humans are more evolved and sophisticated and do not indulge in violence – learn from Mahatma Gandhi or Martin Luther King)

With Modi at helm, the probability of India growing at 10% and becoming an attractive investment destination of the world would be a reality.

Why India needs a bolder RBI - not a timid one!

The recent news highlights that corporate India is moving slow and records slower growth and profits. Someone should give some boost to the real economy and Financial Thoughts believe RBI has big role to play.

One of the reasons for this dismal performance is traceable to RBI’s macro monetary risk management.

India had once became tantalizingly close to 10% growth p.a. However, RBI saw monstrous threat in single digit inflation level and began to adopt drastic measures and began to hike interest rates during the second half of 2011.

Why was RBI in a hurry to raise interest rates to beat inflation, when the inflation was mostly caused by oil price hikes? It is evident that blindly following standard prescriptions don’t help.

As Financial Thoughts had warned http://www.financialstrategyonline.com/2011/11/foolish-rate-hike-part-ii.html in 2011, India needs more supplies – just by choking demand, the RBI kills the economy. And it has proven true.

Current poor economic growth and corporate profits is due to RBI policy. Whilst RBI may point their finger to Govt. policies, no one can deny that RBI had played a big role in making the Indian growth rate pale in comparison to what China, Indonesia, Philippines, etc. have achieved. All these countries also import  oil!

The recent economic data such as GDP growth, industry production, unemployment, etc  are the worst in the recent past. What no one speaks is the Indian unemployment (already it is more than 20%-25%). The slowdown in the growth results in lesser opportunities. Frustrated youth will get more frustrated!

Who will go for expansion when the interest rates are uneconomically high and no feasible business transactions is possible? The result is that as expansions are curtailed, the CAPEX had declined. Investment in India has reduced ever since RBI has hiked its interest rates!

Have a look at the Capital Goods sector index of NSE/BSE and it will show the result. As investments in the economy drop, the accelerator and multiplier effect works against the economy. Economic activities dropped & dried up. Result is the sharp drop in turnover in many corporates and profits while interest burden increases. No wonder many companies reported losses since the interest rate hike began.

Then the banks suffered as the corporates struggled to settle and service the loans they took from bank. Most of the banks reported higher NPA and the banks shares dropped. Leading banks such as Canara Bank, Bank of Baroda, Corporation Bank, Andhra Bank, etc. all reported lower profits. Other banks did more or less the same. Now the banks will get scared and reduce lending. That could send the economy into another downward spiral. RBI induced vicious circle?!

To put salt to the injury caused by RBI policy, now RBI has tightened the rules of restructuring the debt and have recommended policies that will hurt banks further. It may be noted that RBI played a role to bring woes to the corporate world, which in turn affected lenders (banks) and borrowers (corporates). So they resorted to restructuring, which RBI didn’t appreciate.

Come on RBI! – Please give some respite!

Eurozone also suffers from inflation similar to India, but European Central Bank is more growth focused and has managed the macro monetary risks in a better manner. Despite fears of inflation, they have eased the monetary policy during early 2012. RBI should step in with monetary easing to further aid the economy and boost growth.   

India's current account is a critical macro risk and trade deficit numbers indicate that India has a trade deficit of USD 240-250 billion per annum. These are met by portfolio flows – FII and FDI – and it is in the better interests of India that we have good growth and profitability .

Hope RBI will slash the interest rates by1.5% to 6.25% during its next policy announcement. 

Financial thoughts believe, risking a little inflation is nothing but a calculated risk for India’s growth, well-being of its population by having more output, more employment creation, more job opportunities, healthier banks, increasing profits, more direct tax and indirect tax revenue for Govt., improving stock market, attracting more FDIs and FIIs.

Real USA & Currency Wars

USA Story

One of the countries in the world is characterised by extreme income inequality and health inefficiency.

Which country is this?

Someone may think this is the hall mark of an underdeveloped country. Well it could be.

However the above feature is attributed to US Economy, which is supposed to be the wealthy and robust and model of wealth distribution.

If you don't believe, please refer to financial times dated 23 Jan 2013. The link is given below (see the 5th para of the article)

http://www.ft.com/intl/cms/s/0/dd2d89f4-63c0-11e2-af8c-00144feab49a.html#axzz2IsbMUPSs

Whilst Obama is intelligent and took out US biggest threat Bin Laden without any loss of US life and that too in a foreign territory without their permission, USA's tryst with terrorists is far from over. They are expanding in Afganisthan and nearby areas and spreading across North Africa. Terrorists are taking classes on their ideologies, more terrosit teachers get recruited, more youngsters get trained and learning hatred which different from their ways and of course practices bombing techniques.

History may rate Obama as a Chamberlain if he continues to avoid strong policies and try containment or appeasement of terrorists - just as Chamberlain thought of Hitler

Currency Wars

Well currency is the invention of human kind for facilitating the exchange of goods and services. However, it has recently become a powerful political tool as well.

When USA thought Euro is going to a threat, so Goldman Sachs over financed Greece which spelled trouble for Euro. This trouble will end only with the collapse of Euro. Over-Financing Greece was a brilliant currency war strategy.

China's permanent currency – Renimibi - policy is keep it undervalued; but this has caused trouble for its arch-rival japan whose exports suffered in the past decade.

So finally Japan is taking an action as its exports suffered by the devaluation of Euro and Renimibi and other currencies of their competitors in exports.

Hence there is a possible battle of currencies in the horizon - Japan is facing accusations that it is trying to revive its economy at the expense of its trading partners (or competitors ?). Bank of Japan’s move to ultra-loose monetary policy is expected to invite similar action by other central banks - mainly by ECB. Within Eurozone, it is Germany who is concerned the most because they are the beneficiary of Euro and Euro vs. Yen disadvantage will impact Germany more than anyone else in the Eurozone. Italians muse the good old days of Lira which they could have devalued at their leisure and get more tourists or export their exclusive ceramics, etc. and increase employment in the country. Now they can't do that.

Well, has anyone heard Germany criticising about China's policy to keep its currency undervalued? We have heard about noises by USA on Renimbi undervaluation. This is because Germans export a lot to China. But USA faces lot of imports from China that killed several US industries, which in turn resulted in US unemployment.

Steel Bubble

We are reaching the end of 2012. A few days left in Dec 2012, before the new year sets in. The good news is that most of the stock markets will record a year of gain and hopefully many investors will walk into the New Year with a smile.

Many steel traders may also look forward with hope as major steel companies such as Arcelor Mittal (MT), etc. have witnessed some revival in its share prices recently. MT which touched USD 100/- per share in mid-2008 had crashed to sub-USD 14/- levels along with the collapse in steel prices.

It is an interesting story. Not only had the shareholders of MT faced a bumpy ride, the volatility in steel prices during 2007/08 period made many a steel trader bankrupt in 2008/09/10.

Steel Bubble

Steel prices which stood at $500 level in Dec 2006 touched $700/- record high in Dec 2007. Thereafter it zoomed to $1540 by July 2008, at the peak of commodity bubble, as evident from the chart below.

Source: mesteel.com

The problem was that many a normal ‘steel businessmen’ caught up in this whirlwind of speculation and when the bubble deflated by late 2008 to $480 levels, found themselves bankrupt!

Reasons for Steel Bubble

There were stories of steel becoming scarce due to several reasons – booming construction all over the world (GCC, China, US, Spain, etc.) which itself was credit fuelled.  Many businessmen switched to steel trading enticed by the profits and stories, which included that the entire years production of steel mills being pre-booked, etc.  Moreover those were crazy times of credit fuelled inflation!!

Real life example

There is a reason why I write this now. After a gap of about three years, I met an ex- CFO of a steel trading company, who reminisced about the crazy days off 2007 and first half of 2008. In fact from 2005 onwards, the steel prices were on the uptrend and it is like the gold prices of today. Just one way direction!

Attracted by the uptrend since 2006 many business men diverted their capital (exiting perfume manufacturing, textile retailing, etc.) to the lucrative steel business. Together with the credit facilities, they bought and stocked more steel which became almost like a precious metal.

Regular steel traders panicked and also began to stock more. And a borrowing customer (during my banking days) decided to do exactly that – hold more stock in view of the booming prices, which was supported by the research conducted by experienced purchase managers and industry experts. However, when the market crashed, the CEO, CFO and the Head of Purchase and Sales found it difficult to offload as the demand suddenly vanished. The aftermath of holding substantial inventory with borrowed funds in a crashing market is quite predictable! The proud CEO of this company, who was once chased by Private Equity (PE) firms with attractive offers, was humbled as he agreed to rather humiliating terms set forth by creditors (including banks) to restructure the credit facilities he took to finance his overpriced stock.

It took several years for the company to stand on its feet. He was lucky to survive as many of his competitors had either fled the UAE or faced jail terms for not settling business dues.