Silent truth

Thought for the day

"A man should be upright, not be kept upright."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Estival (adj)

Pertaining or appropriate to summer.

Malice towards none

After western music, Korean Pop Bands are becoming increasingly popular with Indian youth and children.

This is one Make in India battle we are certainly losing.

 

First random thought this morning

In this post truth world dominated by social media, Google and Wikipedia, politicians should be extra careful while making claims and hurling accusations, especially when they rely on these very tools to say what they are saying.

The effort should be minimize one's digital footprints; cross verify whatever sensational material is available online; and learn to distinguish between "truth" and "post truth".

 

Silent truth

"The water in a vessel is sparkling; the water in the sea is dark. The small truth has words which are clear; the great truth has great silence."
—Rabindranath Tagore

To understand the politics of farm loan waiver, it is important to first understand the economics of farming in India.

(a)   As per 2013 NSSO survey about 83% (80% in 2003) of the total farming households in India are either landless or marginal (holding less than 1 hectare or 2.47 acres cultivable land).

The total cultivable land in India shrank to 92mn hectare in 2013 (average 0.6hectare per farmer household) from 107mn hectare in 2003 (0.72hectare per farmer household).

In 2013 the landless and marginal farmers owned 30% of the total cultivable land in the country up from 23% in 2003. This is due to further fragmentation of the land, or lower conversion of their land holdings.

(b)   On the contrary, percentage of medium and large farmer household (owning more than 4 hectares) shrank from 3.5% in 2003 to 2.17% in 2003. The cultivable land owned by these medium and large farmer households shrank from ~35% in 2003 to 24% 2013. Many of these farmers actually do not cultivate land themselves. They lease the land to landless or small farmers.

(c)    From political perspective, 130mn farming households are marginal or landless against just 3mn farmer households are medium to large land owners.

(d)   The average cultivable land price in 50-100km radius of a city or large industrial project is about Rs5lac/acre, It may though vary between Rs. 1 lac to Rs. 5crore/acre depending upon the location.

The crop on the land yields less than Rs75000/year for a medium and large farmer. Assuming minimum 2 crops every year, for a small and marginal farmer the yield is Rs25000 to Rs50000 per acre/year, excluding the cost of self labor.

Pertinent to note here is that a typical landless, marginal or small farmer household deploys 3-4 adults for 6 months in the farm. At ~Rs7000/month minimum wage rate the cost of self labor itself comes over Rs1,50,000.

If we adjust the yield for one crop loss every three year, lease rent and 18-24% interest that small and marginal farmer pays, agriculture is mostly an unviable business.

If we factor in rising labor cost, lower subsidy in input prices (fertilizer, electricity, diesel and water) and slower rise in MSP, the viability gap will likely only increase going forward.

(e)    A large majority of farmer households in India are landless or marginal. Many of these farmers take land on lease. The rent varies from Rs5000/acre to 50% of produce. A lost crop puts such farmers in a debt trap that may take minimum 3years to get out.

Many of these farmers do agriculture for sustenance. They grow wheat or rice for self consumption only.

Remember, the Gen X of these farmers is no longer enamored by the feeling of Dharti Meri Mata Hai (my land is my mother). The next generation of landless, marginal and small farmers is therefore least likely to prefer agriculture over construction or industrial labor. (Availability of agriculture labor is likely to shrink even further from the current alarming levels).

(f)    Given the low returns, the current generation of medium and large farmers is also not much interested in taking up farming as occupation. Many would want to sell the land if they get right price.

The problem however is that an overwhelming proportion of land holdings have unclear or disputed titles. Besides, finding a buyer for fragmented and scattered land parcels is tough. To make the matter worst, in many areas the revenue rate (circle rate or ready reckner rate) of land is much higher than the actual market price, making it really tough to sell the land.

...to continue next week

Farm loan vs. farmers' debt

Thought for the day

"Forward, as occasion offers. Never look round to see whether any shall note it."

—Marcus Aurelius (Roman, 121-180)                                                    

Word for the day

Confusticate (v)

To confuse or perplex; bewilder.

Malice towards none

At the end of the day, both Kumble and Kohli seem to have moved to a little lower pedestal.

First random thought this morning

A few months back, BJP MP from Mumbai had criticized the cryptocurrency Bitcoin a Ponzi scheme.

Notwithstanding, the ill-informed but aggressively judgmental views of some of its own MPs, the government reportedly has decided to regularize the trading in Bitcoin.

It is commendable. As per some estimates, the Indian Bitcoin exchange market is responsible for processing around 11% of Bitcoin-to-USD trades. It will be not long when Bitcoin will give serious competition to gold, at least in Indian urban markets.

Farm loan vs. farmers' debt

Farm loan waiver has been a contentious issues in India's socio-economic milieu for past many decades. It would not be entirely wrong to say that most governments and political parties have used this as a tool to exploit voters' sentiments rather than solving the problem of farmers' stress or structural inadequacies in the Indian agriculture sector. Consequently, every episode of loan waiver has yielded almost nothing more than a temporary relief for the farmers.

My colleagues visited Madhya Pradesh and Maharashtra to assess the ground level situation in the wake of recent violence involving farmers'.

In our assessment, the recent episode of loan waiver, which started with the newly elected BJP government in the state of Uttar Pradesh waiving farm loans to fulfill its election promise, seems materially different from the earlier episodes. This episode manifests some seriously disturbing trends emerging in Indian socio-economic sphere.

First of all, we found that the farmers are demanding loan waiver as matter of "Right" and not as a matter of "Relief", as used to be the case in earlier episodes of loan waivers. This change in attitude can potentially alter the dynamics of state-farmer relationship in future.

Secondly, for the first time we realized the change in the ethos of the farming community. Traditionally, Indian farmers considered defaulting on loans and other financial and social obligations an unpardonable sin. The popular belief was that if you fail to discharge your debt in this life, you will have to take another birth to discharge such obligations. This seems the case no longer. A significant number of young farmers are more than willing to default on their loans. With morality out of financial dealings, this can potentially change the whole paradigm of non-corporate lending in the country.

Third, in past many episodes of farm loan waiver were preceded by protests, blockades and some spontaneous violence. But this time the violence appeared more organized. There is nothing to suggest that this will end with one time waiver of loans. This appears to be a natural corollary of the first point. Not waiving loan would be considered violation of a legitimate "Right" and hence violent protests would be considered "in order".

Forth, the construct of "farm loans" is diverging wide from "farmers' debt".

The rise in aspirational consumption; distortion of social customs (especially marriage, death, birth) for the sake of vanity, ignorance, and misguidance; rise in crime and litigation expenses; rise in cases of chronic diseases and hence prohibitive healthcare expenses form an overwhelming part of "farmers' debt". This debt usually has nothing to do with farming activity.

Moreover, "farm loans" are also becoming riskier as the cost of input (seeds, agro chemical, equipment rental, wages etc.) is rising along with the output prices. However, in case of crop failure the quantum of loss is much higher as compared to, let's say, 10years ago.

In my view, farm loan waiver is just like first aid. It cures no problem.

...to continue tomorrow

Strategy 2H2017

Thought for the day

"Never let the future disturb you. You will meet it, if you have to, with the same weapons of reason which today arm you against the present."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Sundog (n)

A small or incomplete rainbow.

Malice towards none

PM Modi loves to surprise people. Great!

What if people surprise him?

First random thought this morning

I don't keep more than Rs500 currency in my wallet, because I fear government may scrap currency notes anytime. My faith in the examination system and meritocracy is seriously diminished. I seriously doubt any data published by the government. I am being told not to trust the story of Ramayana that my grandmother used to raise me as a good human being. I am sure my tax liabilities are going to be rise materially. To make the matter worst, Indian cricket team has lost to Pakistan. I must buy some hope.

Strategy 2H2017

As discussed in past few posts, I believe that—

(a)   Indian macro environment seems stable at present, however there is not much visibility for further improvement in near future;

(b)   Consumer inflation may ease further due to excessive supply. Manufacturing inflation may also stay low due to lower commodity prices, poor pricing power and stronger INR. However, rates may not fall much due to a variety of reasons, like rate trajectory in developed economies, fiscal pressures due to political reasons, falling private savings rates and capital constraints at banks. The real rates may therefore continue to be higher.

(c)    There is little visibility for improvement in private investment demand. The government investment demand visibility is limited to a few sectors (mainly roads and irrigation).

(d)   The consumption demand may remain stable. However, there is little visibility of any marked improvement in consumption demand.

(e)    The corporate earnings may not grow at the rate of 20% CAGR over FY18-FY19. The growth is more likely to be 12-16%, depending upon (i) how fast situation normalizes post GST implementation; and (ii) how effectively NPA resolution efforts yield results. However, given cost efficiencies, better capital allocation, financial restructuring etc., the quality of corporate earnings has improved. There is therefore justification for some premium valuation over long term average of ~15x PE ratio.

(f)    There is virtually no case for further re-rating of Indian equities. Post 1QFY18 results, we may in fact could see slight de-rating to 16-17x from the current 18-19x.

(g)    The upside in equities in next 12-15months seems limited, insofar as the benchmark indices are concerned. The investment opportunities therefore would mostly exist beyond the benchmark indices.

My strategy for 2H2017 would be as follows:

·         Continue to remain overweight in equities. Prefer long term debt.

·         Focus on globally competitive businesses, preferably with significant IPR assets, market leadership and high quality of earnings.

·         Underweight capital goods manufacturers.

·         Prefer road and water project contractors and asset owners with stronger balance sheets.

·         Prefer consumption proxies, e.g., packaging, supply chain, financing etc., versus expensive final good producers; auto OEMs.

·         In financial space prefer consumer NBFCs and select MFIs.

·         Continue to own large real estate developers, especially those with sizable land bank and lower dependence of pre-sales.

·         Lowering overall 2017 return expectations to 12%, including 1% dividend yield.

Mid Year Review 3

Thought for the day

"Everything that exists is in a manner the seed of that which will be."

—Marcus Aurelius (Roman, 121-180)

Word for the day

Whizzo (adj)

Absolutely first-rate; superb; excellent

Malice towards none

Why overanalyze everything?

First random thought this morning

In all likelihood GST will become a reality from 1st July. This will mark a big change in Indian trade and commerce landscape.

Such big changes, especially if these happen after a considerable amount of deliberation spread over a long period of time, are mostly good for the economy at large. All apprehensions about any major disruption in the businesses might therefore be misplaced.

In my view, all pieces will fall into place within 4-6months, and businesses will move forward strength to strength. If some businesses face existential threat, GST might only be a small push not the reason for their extinction.

Mid Year Review 3

After 4QFY17 results, we have heard a number of corporate management giving positive bytes about the future outlooks, especially those from cyclical financials, capital goods sectors. Auto, consumer durable and staple producers did also sound optimistic about the growth in FY187 and FY19.

A careful analysis of the commentary shows that most of the optimism is flowing from the government promise to invest more in infrastructure & capacity building, and spend more on social sector. Corporates also seems to have built in a lower interest cost in their projections.

The commentary on global demand has remained cautious. It is therefore safe to assume that most of the growth projections rely on the pickup in domestic demand.

Though, the outlook seems to have been well accepted by the market participants, there remain some areas of doubt. For example, FY18-19 growth projections assume a stable macro environment, including achievement of fiscal and inflation targets, and a stable current account.

My feedback from industry and lenders suggests that, regardless of falling interest rates there is almost no visibility of investment demand picking up in next 12-15months, as the capacity utilization continues to remain poor and falling. The fact that underutilization of capacities is a global phenomenon, does not help either.

The recent data shows significant deterioration in private savings in India. This trend juxtaposed with rise in personal borrowings, might imply constraints on household investment and consumption growth also.

Rising reliance on government investment and consumption, along with additional resource requirement for meeting political promises (farm loan waiver) and NPA resolution (bank recapitalization, UDAY funding etc.) may challenge fiscal discipline and therefore limit easing of interest rates.

Under the circumstances, I would like to discount the corporate optimism adequately. I may therefore not work with the premise of 18-20% CAGR in earnings over FY18-19. I am however quite optimistic about the improvement in earnings efficiency (ROCE), due to better capital allocation, financial restructuring and cost efficiencies.

I am thus willing to give a premium over long term average PE multiple of ~15x.

Assuming a 16% CAGR in earnings over FY18-19 (FY17 Nifty EPS Rs420) and discounting of 18x, 12 months Nifty target comes to 10173, a mere 6% return from the current levels. Most of these return may be front ended, leaving little for 2018.

I shall therefore work with the assumption of a bad 2018 in terms of benchmark equity returns, at least 1H2018.

I shall therefore focus on niche businesses that have the capability to do well even in challenging macro environment. Being a tiny investor, I can afford to buy these business even if these are micro sized. Leveraged trade is a strict no-go zone for me, unless market corrects 15-17% from the current level.

Mid Year Review - 2

Thought for the day

"The backbone of surprise is fusing speed with secrecy."

—Carl von Clausewitz (German, 1780-1831)

Word for the day

Prelapsarian (adj)

Characteristic of or pertaining to any innocent or carefree period, e.g., a prelapsarian youth

Malice towards none

Attributing cheaper food prices to DeMo and before time monsoon season sales to GST is a mistake, rather stupid one!

First random thought this morning

A good friend, who also happens to be a fund manager, lamented that after spending so many years in stock market, I am convinced of the massive role that "Unintended Consequence" plays. A large part of the stock market profits (or losses) in India are unintended, fringe or collateral. A handful corporates actually work to enhance shareholder value.

Unfortunately, I had nothing to say. And I do agree - in toto.

Mid Year Review - 2

 

So far, the year 2017 has been a satisfactory one for the investors in Indian markets.

The benchmark indices have gained over 17% YTD, while the broader markets have done even better returning over 25%.

Bond prices have been volatile, but on YTD basis, benchmark yields are lower and average return in bond funds has been 4-5% (not annualized). So not much to complain in this either. The lending rates have however fallen much more than bond yields, as the lenders have transmitted the benefit of previous rate cuts to borrowers.

INR has appreciated close to 6% YTD, versus USD.

In this period, the markets have weathered many a storms, including two Fed hikes, intense political drama (both in domestic and global spheres), slowdown in growth, disinflation, and anticipation of material business disruption due to implementation of GST, etc

 

 

Now, with each passing day, the expectations of the market participants from political establishment are diminishing. Though, the government is focusing on administrative reforms, the political compulsions are constricting the implementation. Beginning October 2017, the great election season shall commence that will last till May 2019. The government is widely expected to be populist rather than reformist.

Given the falling trajectory of inflation, poor visibility of investment demand growth due to still high real rates & poor capacity utilization across industries, challenges in job markets and poor farm realizations, the prospects of any significant acceleration in earnings growth are clouded.

Nifty currently trades at ~18x its 12months forward earnings estimates, which is a premium of ~20% to its 10yr average valuations. On the basis of FY17 earnings, Nifty trades at ~23x PE ratio. Though still some distance from bubble valuations, the probability of any spectacular return from current levels in next 12months looks low.

I have seen arguments for further rise in stock prices on the basis of price to growth (PEG) and price to book (P/BV). Some analysts are arguing for material rise in earnings in FY19. I find these arguments mostly just that "arguments"; lacking in conviction.....to continue next week

 

Mid-Year review - 1

Thought for the day

"Many intelligence reports in war are contradictory; even more are false, and most are uncertain."

—Carl von Clausewitz (German, 1780-1831)

Word for the day

Humblebrag (n/v)

(n) A statement intended as a boast or brag but disguised by a humble apology, complaint, etc.

(v) To make such a disguised boast or brag, e.g., He's humblebragging about how tired he is from his world travels.

Malice towards none

Should government define an amount, it is willing to spend on bringing Vijay Mallya back home from UK?

Or no matter what we just want him back!

First random thought this morning

As per media reports, Infosys management, in its filing with SEC of USA, has highlighted it's promoters' activism as a potential risk to the company. Earlier, Wipro had highlighted president Trump's policies as a potential threat to the company.

I fail to understand, why can't these tech titans understand a basic thing - A business is only threatened when it becomes replaceable by an efficient competitor or it becomes obsolete for failing in adapting to new technologies and environment.

Rest all is, as someone said, "Covefefe".

Mid-Year review - 1

 

The current result season is almost over. Broadly the market commentary over results has been mixed. While there has been acceleration in earnings downgrades, the analysts seem lacking conviction in their view. One may call it the bull market fear. No one wants to swim against the tide.

The step to abolish 86% of the currency in circulation in November 2016, has been widely used as a balancing factor to explain the lower demand, both consumer and investment. I am though not able to find anything backed by adequate evidence to show that this had much impact in 4QFY17.

For record, in Q4FY17 collective PAT of Nifty companies grew 21.3%yoy driven by financials (+36.5% yoy), metals & mining (+302% yoy), petrochemicals (+62% yoy) and construction (+31% yoy).

The strong performance by metals led to a spectacular rise in the earnings of commodities companies (+70.8% yoy), while non-commodities’ earnings grew just 10.8% yoy.

EBITDA margin, however, contracted 162bp for Nifty ex-financials, impacted by sectors like auto, cement, construction, infrastructure, IT, energy, pharmaceuticals and power utilities.

The key positives from 4QFY17 results could be listed as follows:

(a)   The asset quality deterioration of financial companies seems to have bottomed. The profit growth however remained skewed.

(b)   Consumption growth is uneven. The urban consumption seems to have picked up, while the rural consumption remained under pressure, perhaps due to lower farm prices, higher agri input cost and financial stress.

(c)    The debt servicing capabilities of beleaguered metal companies has shown improvement, led by better realization and lower interest expense.

(d)   The infra companies in select sectors like road and power distribution & transmission, have shown healthy growth in order book.

(e)    After remaining stagnant for three years, Nifty aggregate earnings recorded positive growth, though still in single digit.

(f)    Interest rates are showing an encouraging trend.

The key negatives were:

(i)    EBIDTA margins declined, showing complete lack of pricing power and rise in input costs.

(ii)   IT and Pharma sector continue to face pressure both on pricing as well demand front.

(iii)  Investment demand seems to be comatose for now.

Agenda for transformation

Thought for the day

"Principles and rules are intended to provide a thinking man with a frame of reference."

—Carl von Clausewitz (German, 1780-1831)

Word for the day

Hireling (n)

A person who works only for pay, especially in a menial or boring job, with little or no concern for the value of the work.

Malice towards none

How do we define Sino-Pak relationship?

Friendship, it is certainly not.

Slavery, may be.

Stooge, close.

 

First random thought this morning

It is the season when stories of children from poor and marginalized families excelling in various competitive examinations, especially IIT-JEE and UPSC Civil Services, are told in media with great fervor.

At the same time there is no dearth of horrific stories about repression of downtrodden and neglected.

Unfortunately, the popular narrative of liberal elite is limited to the latter only, thus giving an impression of total darkness and oppressive state machinery.

Agenda for transformation

 

The draft three year agenda released by NITI Aayog, seeks to transform all three major sectors of economy, namely agriculture, industry and services.

Insofar as the farm sector is concerned, as per the Draft, "Farmers make up nearly half of India’s workforce. Therefore, for India to flourish, its farmers and the farm economy must prosper."

The Action Agenda outlines "a strong programme for agricultural transformation. It includes numerous measures to raise farm productivity, bring remunerative prices to farmers, put farmers’ land to productive uses when they are not able to farm it themselves and improve the implementation of relief measures."

The Draft offers an ambitious agenda for empowering the rural population through improved road and digital connectivity, access to clean energy, financial inclusion and “Housing for All.”

The Draft recognizes that "Enhancing agricultural productivity requires of efficiently using inputs, introducing new technologies and shifting from low to high value commodities."

It is highlighted that higher farm productivity would require expanding the scope of irrigation to increase crop intensity, improvement in access to irrigation, enhancing the seed replacement rate and encouraging the balanced use of fertilizers.

The Draft agenda emphasizes that "Precision farming and related new technologies, that allow highly efficient farming and conserve resources, must be spread through appropriate policy interventions."

Reforming APMCs, redefining the system of support prices for crops, land reforms to make the landholdings of marginal farmers viable, and adequate social security program for farmers to deal with stress due to natural calamities etc. are some of the key suggestions.

The Draft agenda stresses that to achieve the goal of doubling farmers' income by 2022, "Conditions conducive to shift into high value commodities such as horticulture, dairying, poultry, piggery, small ruminant husbandry, fisheries and forestry need to be created."

For the industry and services sector, the agenda finds that underemployment and hence lower worker productivity is a more serious problem in India, rather than unemployment, which has remained mostly consistent between 5-8% through past many decades.

Accordingly, the Draft, emphasizes on creation of high-productivity, high wage jobs. To meet this end, it is highlighted, that focus has to be on measures necessary for the increased emergence of larger, organized-sector firms.

While recognizing steady progress in the services sector, the Agenda offers specific proposals for jumpstarting some of the key manufacturing and services sectors, including apparel, electronic goods, gems and jewellery, financial services , tourism and real estate.

I shall discuss all these proposals in some details in the coming days.

In search of Multibaggers

Thought for the day

"Two qualities are indispensable: first, an intellect that, even in the darkest hour, retains some glimmerings of the inner light which leads to truth; and second, the courage to follow this faint light wherever it may lead."

—Carl von Clausewitz (German, 1780-1831)

Word for the day

Athleisure (n)

A style of clothing worn as athletic apparel but also suitable for casual, everyday wear

Malice towards none

Shri Anand (Super 30) Kumar is a true Bharat Ratna, transforming life of oppressed, downtrodden and forgotten.

Salute!

First random thought this morning

It is an undisputed fact that no modern day politician wants to follow the path guided by the father of the nation Mahatma Gandhi. Most find his thoughts redundant in modern day politics and economics. His name though is invoked often for credibility purposes.

I feel the fault lies in the fact that we refuse to believe that his greatness lies in remaining an Aam Aadmi and not being incarcerated in photo frames. Not treating him a friend next door is a blunderers mistake we are making as a society.