IFRS 9 - RESULT OF 2008 FINANCIAL CRISIS

One of the main reasons that contributed to the Financial Crisis that began during 2006-end and became a full blown crisis on 15 Sep 2008, with the collapse of Lehman Brothers, can be traced to some of the Accounting Standards followed then, especially IAS 39. This is what critics says. By the end of 2008 , such accounting practices, along with other economic factors, resulted in the collapse of numerous commercial and investment banks, including several high profile institutions such as Bear Stearns,  Merrill Lynch, Wachovia, etc. 

The Financial Crisis resulted in a near collapse of the US banking sector.   Most agree the crisis started due to the bursting of the housing bubble in the US, traceable to the hike in interest rates by Ben Bernanke.  The near collapse of the financial sector has resulted in the greatest economic contraction that the US and Europe have seen since the end of the Second World War. 

After the dust settled, there were legislative and regulatory changes to address the underlying causes of the housing bubble and the Financial Crisis. Such initiatives to prevent a repeat of the Financial Crisis demanded suitable amendments to Accounting Standards.   In this regard, fair value accounting that was a considered as a major contributing factor to the pro-cyclical fluctuations in the value of financial assets, financial instruments and liabilities demanded a revisit.

Accordingly, Accounting Standard setters began to pay more attention to IAS 39 that might have played a significant role in contributing to the Financial Crisis. Now, IAS 39 is no longer in existence. It is replaced by IFRS 9 that provides guidance on Financial Instruments: Recognition and Measurement.

Many believe that IFRS 9 affects just banks and financial institutions. It is not true. It affects non-financial institutions as well, especially , if you have a substantial trade debtors portfolio. Such entities will have to start providing for possible future credit losses much earlier. Please refer to the attached presentation for more details. Please click the following link.

https://www.linkedin.com/in/ciby-joseph-016b356/detail/recent-activity/

Market view - 22 Nov 2018

USA
Yesterday DOW ended flat after a promising jump at the beginning.
S&P Vix at 21, highest since Feb/Mar 2018. It touched low of 12 in Sep 2018. Only July/Aug 2015 VIX at 25 was higher than at current levels. It means there is fear in the US market. Recently, the confidence in the housing segment in the US hit a road block.

EUROPE
Germany GDP growth was disappointing
DAX went up yesterday, may go down today ... observe its opening and sentiments at 12 pm

ASIA

Asian shares mixed at opening

INDIA
Range bound

How Strategy Plays an important role in War and Stock market

ROLE OF STRATEGY IN WAR

Never in South India's history, perhaps, did a man of such extraordinary military genius suffer so extraordinary a military disaster. In late 1700s, Tipu Sultan, an accomplished ruler and military genius with tendency to Islamise the areas conquered , led an army of possibly 40000-60,000 men with 9000- 15000 cavalry and hundreds of guns  to conquer Travancore, a Hindu kingdom which was giving refuge to the Nairs and Brahmins fleeing Malabar, conquered by Tipu.

Since King of Travancore was a realist and knew that he had no chances against Tipu, he began to prepare strategies.  While he entered into an alliance with British East India Company based in Madras, his efficient General Keshav Das and King's war adviser D'Lenoy (Dutch) made a great wall (kotta) of defence of approx. 50 kms long and 15 ft to 50 ft high at Nedumkotta. (see the link for details https://en.wikipedia.org/wiki/Nedumkotta)

By March 1790, after months of attacks and causalities, Tipu's army conquered Nedumkotta and Travancore army made a strategic withdrawal to Alwaye without defending a the few key towns in between. Instead, Travancore army took position on the opposite side of Periyar river, hoping to put up another massive resistance. 

East India Company declared a war on Mysore to force Tipu to return and cease operations against Travancore. 
But Tipu didn't care as he was confident of defeating Travancore and imposing his terms on both Travancore and British. Moreover, Tipu had the support of French East India Company and an accomplished French military genius Lally was also part of Tipu's army.

Tipu's Army was all set to cross Periyar river (https://en.wikipedia.org/wiki/Periyar_(river)), the last stumbling block in the invasion of Travancore. Once the army crosses the river, there were hardly any ideal place for Travancore army to hide and fight. Tipu brought forward his ammunition, horses and forces to the banks of river Periyar during early April 1790 for the crossing of the river.

Possibly, unknown to Tipu, there was a large lake in Periyar at Bhoothankettu formed by the large rocks that fell into the river or possibly created by some Bhootams as the local folklore says. The rocks that supported the lake are still visible as evident from the photo below:

The huge rocks prevented the water-flow of the river, that created a large lake behind the rocks.  

Travancore General Raja Kesava Dasan, sent a secret strike force  upstream to blast a few rocks of Bhootankettu lake to create a temporary flood to wipe out as much as Mysore army as possible.

The plan worked. On the same night when Tipu moved his army to the banks of Periyar, the team sent by Raja Kesava Dasan celebrated 'Mission Accomplished' .

During our recent visit to Bhootankettu, a local person told that the location shown in the photo below could be the breach in the lake , widened by explosions by Travancore Army.

Possibly after 1-2 hours of successful blast at Bhootankettu, the massive body of water hit Mysore army. Tipu woke up at the mid of the night to see a flash flood wiping out his ammunition, cannons, most of cavalry and significant percentage of his fighting men. (The event has some similarities of Exodus, where the Jews, who were slaves of Pharaoh just managed to drown a large of Pharaoh's army in the red sea).

With this massive loss of force, Tipu had no choice but to return to defend his capital, Srirangapattanam, against the British forces. The strategy by Travancore Army helped them to defeat a larger and superior force. 

During our recent trip to Bhoothankettu (http://bhoothathankettu.com/) it was a disappointment to see that Kerala Govt authorities did not mention any of these historical events, that played a vital role in shaping the destiny of the state.

...................
ROLE OF STRATEGY IN STOCK MARKET

Now let us have a quick look at the stock market. Indian stock market had run ahead of it fundamentals when it hit 11200 +  in Jan 2018

Many in the markets knew it and booked the profits; so the stock market now corrected, with some stocks correcting sharply. If the Indian GDP is set to grow at 7%-8% in the next 15-20 years, the corporate earnings will grow much faster (as 12% - 20%) and such stocks will give opportunities to make money at the current levels

Of course, retailers are pitted against much larger Financial Institutions, who take the markets to dizzying heights and to despairing low levels, when they invest in.

Can retailers apply some kind of strategy to make 18% to 24% per annum in the long run from Indian stock market? A lot can be learnt from Warren Buffet. A few such learning point are:

a) It is ok to underperform the market at times ; but not ok to do so always. During his 50+ years at Berkshire Hathaway, WB underperformed the market on 12 occasions and on a few occasions, the performance was in line with the market. However, he was able to outperform market in many occasions too.
b) The CAGR of Berkshire growth is around 19%, compounded. The big idea worth noting here is that the annualized return WB has earned for its shareholders to achieve such magnificent result over 50 years is just 19% - something people of current bull run would discard as too less! The power is more on the compounding ; not on the return!
c) Buy the right stock and hold on to it. It is also known as 'Buy Right and Sit Tight' policy. Most of the stocks currently held by Berkshire Hathaway are bought in the 1960s, 70s, 80s and 90s.
d) Another important point is to invest. Exactly. Thou shall invest in good companies after making effort to study its fundamentals, future growth potential, etc. If you invest, you invest for long term (& not short term). 
e) Don't panic when the market panic- because you are sitting on good stocks with strong underlying business. WB says that during early 1970s when the Washington Post share price dropped by 50% (vs price he made massive investments), he got excited (instead of panic) and added more shares of Washington Post.

FASTER ROUTE TO SAVE ENOUGH FOR RETIREMENT

Most of us, during our working lives,  will think and worry whether we have saved / are saving save enough for retirement.

There are two answers for this Question.

1) Savings for retirement -Start early :  If you start at age 20, you have to save $361 per month to hit $1 million at 65. If you wait until age 30, the number doubles to $700. Of course, if wait until 40 or 50, it is bad news. 

2) Invest in wealth creating stocks, for faster wealth creation. If you place your savings in Equity Market, your retirement can be very early.  

To create wealth from equity markets one needs the mind-set of an investor. Remember that when you buy a share, you are not just buying a financial instrument, but rather you are becoming an owner in the business. 

Some quality shares if invested for long term can give significant wealth creation opportunities. These shares can go up many times over few years. These are popularly called as ‘Multibagger’ shares. However, one needs to be invested in quality shares over longer periods for wealth creation in line with performance of the company.  

I have a great friend in Dr Allen, Phd in Finance, who is an expert in Equities and Technical Analysis. Together, we have formed GEMS Wealth Advisory Pvt Ltd (with SEBI Research Analyst License) to help Retail investors make sustainable long term wealth through the power of Equity markets.

To know more, please write to us wealth4layman@gmail.com 

Demonetisation or Demonization - Interesting Aspects of a mini-Black Swan event in India

About a decade & half back, I was working with HSBC Saudi Arabia as Senior Credit Analyst (see http://tinyurl.com/osq7rvt). Since there is a rule in Saudi that all foreign banks shall begin their name with the word ‘Saudi’ it is known as Saudi British Bank (you thought prohibition of 'women drivers' is the only strange rule in Saudi? you won't be disappointed! there are many!). At that time, one of my seniors, Tariq was from Pakistan. He was very jovial and friendly and used to tell interesting events that happened in an undivided India, as told by his grandfather. Tariq’s family was basically from Patna, India and during the partition, migrated to Pakistan because his father was educated and was practicing as lawyer. He ‘understood’ the advantages of the move to newly created theocratic Pakistan ; while many of his father’s relatives who were not that educated, did not move to Pakistan. According to Tariq, now his father deeply regrets his move to Pakistan as their relatives in India is far better off and living in a peaceful, modern and progressive environment compared to the ‘Islamic Republic of Pakistan’, which as the majority opinion goes, is a failed experiment.

Lipton Tea

Now let us come back to the interesting story during undivided India. During the early 1900s, Lipton tea was expanding its operations in India and wanted Indians to consume tea. Unfortunately, tea was not so popular in Patna. One fine day, the police of Patna distributed free cup of tea to all people moving around in Patna city. The catch was that after taking the tea, the person will be led to a counter manned by policemen, who forced the person to buy a half kg pack of Lipton tea. Well it looks like the efforts paid off as tea is now a prominent drink in north India (south India still prefers coffee ‘e.g. Tamilnadu’s filter coffee’). As with typical Indian fashion, the tea has been indianized as we have ‘karak tea’, ‘masala tea’ etc.

It is sure that Patna people likes tea and ought to be thankful that it is introduced to them. Probably, their only wish may be that Lipton could have found another way to introduce tea!

Withdrawal of currencies

Just like the forceful imposition of tea in 1900s, I think Prime Minister Modi is trying hard to bring in banking culture in India, by pursuing demonetisation, although it has some additional benefits (i) stopping counterfeiting of the current banknotes both within and neighbouring countries (ii) crack down on black money in the country and reduce corruption, etc. While the counterfeiting, black money hoarding may come back again and corruption in India is likely to continue (1757 Battle of Plassey is the best example of corruption – Robert Clive paid bribes to a rival General to turn the tables in favour of East India Company and it worked!), the everlasting advantage will be the increase in the number of people using banks and bank facilities.

Advantage Banks

Heads of e-commerce companies and IT experts have hailed the demonetisation as it gives an impetus to bank based digital payments. The demand for point of sales (POS) or card swipe machines has increased manifold across India while more people are using E-payment options as well. Many leading retailers have stated that debit and credit card transactions doubled since 9 November 2016.

Moreover, more than eleven lakh crores currencies have been deposited in Indian banks, making the banks cash rich. One Deputy General Manager of leading bank in India told me (when I was in India in Nov) that even a massive deposit drive would find it difficult to bring half the amount into his bank! No wonder banks are fully supportive and working hard without complaints even into the mid night!  Advantage banks.

Many sharp critics in India and abroad state that Demonetisation has become demonization for common man in India who are forced to stand in ques overnight and postpone purchase of land and other properties & even marriages! But, for Banks it shall be a good news in the long run.

Despite, criticisms, Financial Thoughts believe that the move will bring in long term advantages, if implemented correctly and intelligently.

Is it similar to Pavlov Reform?

Although many are quick to point out about the failed Demonetisation reform of 1991 in the erstwhile USSR ( i.e. Pavlov Reform), the Indian context is different and the circumstances of USSR will not happen in India – e.g. anti-Gorbachev factions led a military Coup in 1991 and Ukraine decided to get out of the USSR; such things will not happen in India thanks to Pandit Jawaharlal Nehru, the freedom fighter and the first prime minister of India, under whose direction the Constitution for Indian Union was drafted (delegated to a team led by Ambedkar) and sealed.

Brexit - Europe & Britain will not be the same again

Napoleon Bonaparte may be turning in his grave again. The French Emperor had a grand vision of United Europe and he almost accomplished his Vision. At his peak day in 1810, the United Europe under him stretched from Spain to Poland. However, his grand vision of ‘United States of Europe’ was squashed by British in the fields of Waterloo around 201 years back on a rainy June 1815. British went on to enjoy one of the best centuries in their history post 1815.

Now on another rainy day in June 2016, British ended the European dream of a ‘United States of Europe’.  Europe will not be the same again after British left European Union (EU). By 2010, the European Union was expanding its geographical reach by including more countries. Even Ukraine was eager to join, divorcing from Russia, who was their long term friend and cousin. In fact, snatching Ukraine from under the nose of Putin irritated him leading to a civil war sponsored by Russia, bringing in misery to many parties concerned. Even here, one can draw some remote / rough parallels of Russia’s war with Napoleon in 1812, which resulted in tactical advantage to Russia. Tsar Alexander declared war on Napoleon as he expanded his empire close to Russia territories. Similarly it can be argued that Russia moved against EU using Ukraine as proxy after European Union decided to annex / add Ukraine to EU.

EU Commission President Jean-Claude Juncker (French) is putting up a bold face and asked United Kingdom (UK) to quit EU as soon as possible. However, will Jean’s bold stand pay off?  What would be the aftermath of British decision of quitting European Union? Will it bring in an era of prosperity and glory to the UK just as the hundred years after Waterloo? Or will Britain will fall into an era of despair and it will go back to pre-1600s, when it was known to be a cold island of fishermen? It is remarkable how a fishing nation transformed into a nation of shopkeepers and spearheaded industrial revolution and finally controlled about a third of the world at its peak.

While many post-colonial generation, who study their own version of history lambast Britain for the colonial era atrocities and excesses, it is undeniable that they have left lot of positive qualities and imprints that still form the strong cornerstones of post colony nations, such as India. In fact, it is through the English language (and not through Hindi or any of the 22 languages spoken in India) that Indian Information Technology industry flourished across the world. The fundamental institutions such as Courts, backbone of Indian bureaucracy Indian Administrative Service (IAS), Companies Act, modern medicine, chartered accountancy, mullaperiyar dam - that sustains the lives of millions in the state of Tamil-Nadu etc - are the legacies of colonial rule in India. They restrained Afghans in the North and ended ‘IS activities’ of Tipu in the south while China never dared to stare across the border or annex Tibet while British moved around in India. However, within 7 years after Britain left India, China conquered Tibet and India watched silently as Tibetan leader (Dalai lama) rushed across the border seeking India’s help!.  Similarly, Iran kept their hands off the islands owned by UAE till 1971. Once UK left UAE in 1971, Shah of Iran snatched and occupied unlawfully the islands that belong to the UAE.  This is not intended to justify the colonial times in India and UAE, but just to give another perspective so that the reader may take a balanced view of those times.

Coming back to 21^st century from the dark & dim aisles of 18^th and 19^th centuries and somewhat brighter 20^th century, how would Britain and rest of Europe evolve after the historic voted in June 2016? Financial Thoughts believe following scenarios are possible, depending upon how the Britain and European leaders will decide:

Scenario 1 : Although Britain is out of EU, it may still continue to be a member of European Free Trade Association (EFTA). In order to do this, Britain should continue some contribution to EU budget. This scenario will enable Britain to get access to European markets stretching from Spain to Greece & Italy to Poland. Possibly, Germany may support this scenario as Germany tops as one of the largest import partner of the UK. The trade will continue unfettered bringing in associated benefits to Britain and Europe. Also under this scenario, it is assumed that other EU nations will continue as one bloc under the leadership of Germany and France, just as Winston Churchill visioned soon after the end of the second world war. This is possibly the best scenario.

Scenario 2: Encouraged by the victory of ‘Leave’ vote, far rights in France, Netherlands may force a ‘referendum’ and if those countries move out; it will spell disaster to EU. Then, of course, the existence of Euro as a currency will also be in doubt. Disintegration of EU and Euro needs a separate study as how it will impact the various economies all over the world. Luckily, the risk of such a scenario seems remote as no thinking leader of EU nations will rush into such a referendum in the near future.

Scenario 3: Encouraged by the victory of ‘Remain’ vote, Scotts have started asking for independence from UK. If that happens and Scotland separates and Britain is denied a member in EFTA by EU as retaliatory measure, that would end Britain’s whatever glory it has hung during the post colonial era. London will cease to be the financial capital of the world and its economy will shrink. The names ‘Britain’ or ‘UK’ will disappear from new headlines just like the mighty USSR disappeared from the contemporary world. Only ‘England’ will remain!. Without ‘Scotts’, England will be a weaker. All the good times, England enjoyed in the world, was with the company of Scotts. Let us see; how events will unfold. Undoubtedly, scenario 3 will be a nightmare for UK and if this happens the next generation of English will regret the vote for ever and will cause Winston Churchill turn in his grave.

Scenario 4: Although UK voters voted themselves out of EU, the UK Parliament has to officially put their stamp of approval and authorize UK Government to invoke Article 50 of EU and notify EU officially that would like to quit. This has not happened yet. There is a speculation in the market that UK may not ratify the referendum in the Parliament in which case the referendum may become void. However, this will tantamount to rejection of people’s choice articulated in a referendum.

It is not clear which of the above scenarios will play out. It depends upon a lot of factors and decisions by UK and European leaders. As of now, it seems that Scenario 1 has some good chance, provided their leaders take right actions.

What all this holds for Indian stock market? Will it be in trouble? Will it continue to be strong performer going forward? Financial Thoughts believe that despite the recent sharp volatilities in the Indian stock market, there is not much to worry as far as Indian stock market is concerned. Now India is officially the fastest growing large economy in the world. India has surpassed China as the fastest growing economy. Every dip in Indian stock market may throw up great opportunities to make Warren Buffet like long term investments that ought to multiply your wealth in the medium to long term.

Is India a Bull Market ?

The Indian stock market has been relatively weak for the last couple of months due to China factor. Also the fact that the ruling party BJP lost a crucial state election to an alliance of strong regional parties added to disappointment.  The regional parties managed to win as they combined forces against the BJP. Prime Minister Modi had personally campaigned extensively, but it failed to reap electoral dividends. This was the second major political loss (first being State of Delhi), after Modi's tremendous win in the national elections in 2014.  There are fears that the economic reforms might get slowed, as the government might have to focus on populism. Nonetheless, soon after Bihar elections, the government announced increased FDI limits in 15 sectors , signalling that it will not slow down on its economic reforms agenda.

A few reasons to remain bullish on the India stock market is given below:

1) Best among Emerging markets - India remains the most attractive emerging market. Brazil has gone into a meltdown mode due to the commodity price crash and the weakness of the current government.  China's economy remains extremely troubled, with growing credit stresses and slowing down of GDP growth. Massive overcapacity is leading to corporate defaults. Russia is not only seeing a GDP decline due to economic sanctions and lower oil prices, but will also have to pay large military costs now due to its war in Middle East. Compared to the other major emerging markets, India is a highly attractive destination. It's massive market, stable political situation and strong growth is already attracting a large number of investors.

2) Structural reforms - Make in India campaign- Changing a country with 1.2 billion people is not an easy task.  The government has been implementing major structural reforms (such as GST, etc) that are slowly starting to show positive effects. India is cutting down red tape and inviting investments from foreign investors. Foxconn recently announced $5 billion investment and other multinational investors are also increasing investments in India's manufacturing sector. The good thing is that the corruption has significantly reduced under the watch of Modi.
Next budget has to be closely watched as wit is expected to introduce a new bankruptcy law and reduce the corporate tax rate . The financial sector is seeing massive changes, with the central bank giving licenses to several new organizations. This will increase competition and improve financial inclusion in a country, where millions do not have a bank account. The defence sector is seeing massive interest, as the government has opened it to the private sector. The roads and ports sector are also humming, with the government increasing capital spending on infrastructure.

3) Falling Commodity Prices - India imports billions of dollars of coal, crude oil and natural gas every year.  The positive effects are already showing in increased profit margins of companies, as well as increased spending on cars and durable goods by urban consumers. Despite a poor monsoon, India's economy is all set to expand by 7%. With commodity prices not expected to bounce back any time soon, India will continue to save more than $100 billion a year from low oil, coal and gas prices. India remains one of the biggest beneficiaries of the global commodity price crash. With such reduced import bills, it is a possibility that Indian Rupee may appreciate as well in the near to mid-term!

Of course, there are a few risks, which we will discuss in another blog.