Do it yourself

Tuesday, September 10, 2013

Salvation lies within

Last two weeks have been quite eventful for investors in Indian markets.

First, the Parliament in a completely unexpected show of efficiency passed four landmark legislations, viz., Companies Act; The National Food Security Bill; Right to Fair Compensation and Transparency in Land Acquisition, Rehabilitation and Resettlement Bill and Pension Fund Regulatory and Development Authority (PFRDA) Bill.

These legislations mark a watershed in India socio-economic history and will certainly have far reaching implications. Moreover, the urgency shown by the legislators in clearing these bills suggests that despite all criticism our elected representatives recognize the economic emergency and are willing to work together in this time of crisis. This should inspire investors in general.

Second, the change of guards at the Reserve Bank of India coincided with announcement of a slew measures to stem the sharp depreciation in INR. The new governor promised a more effective, transparent, calibrated and articulated policy measures. Currency markets took the lead and saw some speculative unwinding. We shall see more of that in coming months. Remember, we have been maintaining that the speculative element in the INR value should correct by year end but there is no visibility on the structural corrections.

Many commentators have been quick to announce anointment of Mr. Rajan as RBI governor as a turnaround in Indian economic cycle and therefore a cause for optimism.

We have maintained that the measures announced by Mr. Rajan are well intended and effective and should help in achieving limited objectives. However, these do not change our strategy premise that structurally the trend growth for Indian economy is 5-6% and not 8% towards which our planning process is geared. Unless the entire planning process is reoriented to this realistic sustainable growth trend, the structural imbalances in the economy cannot be corrected. This premise gains more strength from the above cited four legislations which should promote equitable, sustainable inclusive and slower growth.

Third, the economic data from the developed world suggested that developed economies are now stabilizing and the chances of a collapse are remote at this point in time. Therefore, in foreseeable future a need may arise for correction in the unconventional monetary and fiscal policies pursued since the 2008-09 collapse. This correction will inevitably lead to tighter and expensive money. This may not be good news for capital starved deficit economies like India. It would therefore be prudent to build a strong internal defense mechanism. Putting excessive reliance on global funds is fraught with extreme risks.

Fourth, the chances of a full scale escalation in Syria diminished as western nation failed to build a consensus on the imperative of such action.

As suggested last week, we do not see any need for change in our underweight equity strategy as yet. We shall review it after 20^th September.

In next few days, we shall highlight what could be done to build a strong local defense against likely global rebalancing.

Thought for the day

“Strange as it may seem, no amount of learning can cure stupidity, and formal education positively fortifies it.”
- Stephen Vizinczey (Hungary, 1933)

Word of the day

Ignoramus (n)

An ignorant person; a dunce.

(Source: Dictionary.com)

Shri Nārada Uvāca

The best thing going for India is unfailing democracy. Howsoever chaotic it may seem.

MMS says he is happy to work under Rahul Gandhi.

This reflects on whom – MMS, Rahul Gandhi, or Congress Party?

Friday, September 6, 2013

We will still wait till 20th September

The financial markets are definitely elated by the new RBI governor; and not completely without reasons. He has promised more certainty in policy and therefore less volatility in markets.

Insofar as the measure announced by him immediately after assuming the office is concerned in our view these were focused primarily on two issues:

(a) Building defense against potential outflow of money due to reversal of Fed policy stance, expected sooner than later.

Providing incentive to banks for mobilizing FCNR deposits and issuing foreign currency bonds to boost USD reserve is a good idea. However, it would be prudent to see how the Indian Diaspora and global investors respond.

In our view, people would want to see some macro improvement before they commit any significant amount of money to India.

The downside risk is that with more money in the system and better currency outlook, the resolve to contain fiscal and current account deficits below 5% may weaken, given the political commitments in an election year. In recent times, we have seen similar straying from targets in 2010-12, when large inflows due to QE in US and EU provided unwarranted comfort. In such an eventuality the measures proposed by the new governor may in fact prove to be counterproductive in the medium term.

(b) Strengthening and stabilizing the financial system through some structural changes in the banking system.

In our view, the proposal certainly does not mean CRR and SLR reduction on 20^th September. It also does not mean rate cuts or status quo on rates.

In our view, this means continued tight money policy; stringent prudential lending norms; higher provisioning, frequent stress tests for banks and onerous liabilities for those corporates seeking debt restructuring including change in management. Emphasis on inclusive growth may actually imply more political influence in terms of priority sector lending.

Anyone expecting dramatic shift in RBI policy stance may be disappointed. The disappointment may be exacerbated by the fact that the governor has actually raised expectations sky high. The promise of better communication does not seem to be coming through at least in the opening speech.

It is pertinent to note that the measures announced immediately after assuming the office were obviously not conceived between 4:00PM when Rajan took charge and 5:00PM when he addressed media. RBI obviously was working on these for some time. So believing that these mark any paradigm shift due to change in leadership is premature.

It’s the same as government waiting for the Parliament session to end to raise diesel prices, no matter how much damage will be caused in the interim.

For now, we do not see any reason to change our underweight equity stance.

Thought for the day

“The poison of skepticism becomes, like alcoholism, tuberculosis, and some other diseases, much more virulent in a hitherto virgin soil.”
- Simone Weil (1909-1943)

Word of the day

Vicissitude (n)

Regular change or succession from one thing to another; alternation; mutual succession; interchange.

(Source: Dictionary.com)

Shri Nārada Uvāca

c2009

QE: A recipe for hyper inflation; threat to fiscal stability, a disaster in making, etc. etc.

c2013

QE withdrawal: A threat to global economy; a potential disaster.

Thursday, September 5, 2013

We will wait till 20th September

New governor presents his first policy on 20^th September 2013. Good luck to him.

Once a farmer asked an economist way to the place he wanted to go. The economist answered “to go there I would not start from here!”

This is perhaps what the new RBI governor suggested in his first speech. We believe he would find his starting point at the earliest.

The macroeconomic headwinds to growth, sticky inflation, global uncertainties, low business confidence, falling investments, worrisome fiscal and current account situation all is well documented, debated and largely assimilated by the investors and analysts - notwithstanding the denial and dithering by the government, RBI and the planning commission.

The industry captains have very well demonstrated their low confidence by openly criticizing the government and RBI for inaction. It is not even uncommon to find the common man discussing the problems of current account, subsidies, mis-governance inflation, etc. in the trains and streets.

From the utterances of all authorities in past couple of weeks it is very clear that like every market participant, they are also waiting to see what Ben Bernanke will say on 18^th September.

In our view, it is not important what Bernanke says or does. Because, if Fed believes that US economy is steady and does not need the bond buying at the current pace, that should be good news for the global economy.

The more critical would be how the global investors who invested over 1trn USD in emerging markets over past 4years of QE react to the Fed stance. If they conclude, and not unreasonably, that US 10yr may rise to 3.5-4% in short term, USD may strengthen further, and EM currencies may depreciate further and therefore decide that it’s time for cows to return home – mayhem would be an understatement to describe the market scenario post that. However, if they decide to stay put and an orderly withdrawal ensues over next few years, we may get some reprieve and time to build our defence.

Nevertheless, we expect the economy and market to bottom out in next 12 months. We shall be watching closely for the following signals to mark the bottoming and turn “bullish” on Indian markets:

· Acceleration in asset sale even at distress prices by the infra and real estate companies.

· Capital restructuring by distressed companies, primarily by writing off equity capital.

· “Project credit” growth falling to mid single digits.

· All metal companies and banks trading substantially below book value.

· Expensive consumer stocks giving negative return for a quarter.

· AUM of domestic equity funds falling by over 5% in a month due to redemptions and not price erosion.

· Rise in India VIX over 40 with market falling 7-10% in a week.

Thought for the day

“Success consists of going from failure to failure without loss of enthusiasm.”
- Winston Churchill (1874-1965)

Word of the day

Skedaddle (v)

To run away hurriedly; flee.

(Source: Dictionary.com)

Shri Nārada Uvāca

Another midcourse correction in RBI policy stance “from price stability to inclusive growth.”

Better late than never.

Wednesday, September 4, 2013

It’s not only economics

“An Israeli day care centre found that parents were picking up their children too late, so they introduced a small charge of $3 to try and disincentivise lateness. However, instead of discouraging this behaviour, the payment served to legitimize it and buy the parents piece of mind. The result was that lateness actually increased. “ (Source: Unlearning economics)

This example is used by some economists to suggest that incentives impact the economic behavior of people. They argue that people actually face three different types of incentives: economic, moral and social. In the above cited example, the charges "substituted an economic incentive for a moral incentive (the guilt)", with the implication that the daycare centre simply didn't get the amount right.

In his recent statements Prime Minister Manmohan Singh has urged the fellow citizens to control the consumption of fuel and gold. Previously, finance minister P. Chidambaram and RBI governor Subbarao have also made appeals to curb gold consumption.

There are suggestions to increase the diesel price substantially to incentivize economical use of transportation fuel. Similarly, various disincentives have been introduced to curb consumption of gold.

The mute question is whether these monetary disincentives will work as moral incentives and encourage guilt free consumption?

On political side, curious to find the popular appeal of our political leaders, we did an impromptu check with people across seven states. The response was that of outright rejection, no-trust and disbelief.

The following two responses are especially notable.

(a) The present leadership is no comparison to the genuine Congress leadership. During 1965 war with Pakistan, the then Prime Minister Lal Bahadur Shastri urged people to give away one meal so that starving poor could be fed. Many people gave up two meals instead. A large number of families still carry the tradition by observing fast once a week. People did that because they totally believed in their leadership. But today no one seems to have faith in the country’s leadership. Squabbling within the government is not helping the situation either. (A 74year old Congressmen from Lucknow)

(b) Dr Manmohan Singh shares many similarities with Lal Bahadur Shastri. Both come from a very humble family background. Both have a austere life style and simple habits. Both believe in socialism with greater degree of private participation. Lal Bahadur Shastri initiated green revolution and white revolution. Manmohan Singh is widely credited with unleashing industry from the clutches of unproductive control and financial sector refoms.

However, unfortunately the similarities end there. Shastri bravely fought the wars – against enemy (Pakistan), nature (drought) and within the party – and won. Manmohan Singh on most occasions appeared helpless, escapist, withdrawn and compromising. (A Law professor from Haryana)

Thought for the day

“You are not only responsible for what you say, but also for what you do not say.”
- Martin Luther (Germany, 1483-1546)

Word of the day

Pari passu (adv)

With equal pace or progress; side by side.

(Source: Dictionary.com)

Shri Nārada Uvāca

Agenda 2014-2019

1. A law to establish right to health security for all, with provisions for treatment abroad where needed!

2. A law to establish right to have pucca house.

3. A law to establish right to proper clothing.

Tuesday, September 3, 2013

Prepare for the worst, anything better is bonus

The economic data appears to be worsening every minute. Notwithstanding the sharp rally in stock market, there is little that indicates toward improvement in macro environment anytime soon.

Before investors could digest the below expectation 1QFY14 GDP data released last Friday, manufacturing PMI data for August further clouded the outlook. Indian factory activity shrank for the first time in more than four years last month.

To further weaken the consumption story, latest data suggest that Indian diesel consumption was down 6.6% in Jul'13 and 2% in Apr-Jul'13. It is important to note that India accounted for 38% of global diesel demand growth in 2012 (12% in 2011). Diesel cracks (margins on producing diesel in refinery) are down 35% over last 8 weeks and petrol cracks down 58% over last six weeks.

Moreover, Singapore gross refining margins (GRMs) have completely collapsed over past 6weeks. This might be a reflection of demand collapsing in Asian economies.

This suggests that there is a decent probability of Asian economies revisiting 1997-98 crises. The worrisome part is that unlike 1998 India is no longer an insulated economy.

If US Federal Reserve (Fed) decides to slow down its bond buying program (tapering) as expected, emerging markets would begin to prepare for withdrawal of large pie of US$3.9trn invested in emerging markets over past four years. A disorderly adjustment might cause mayhem in the short term.

In context of India, Fed tapering should generally lead to higher rates globally and a stronger dollar. Theoretically both these trends should neutralize each other insofar as INR is concerned. However, rise in outflows or no inflow during the period of adjustment may cause sharp INR depreciation.

A weakening currency and rising interest rates, when domestic demand, both public and private, is collapsing may threaten a period of stagflation at a time when political establishment would be practically defunct.

In our view, the government and RBI have sensed the storm that is brewing. The helplessness shown by the prime minister indicates to this. Desperate measures suggested by oil minister indicate to this. The vanished trademark smile and missing twinkle in the eyes of finance minister indicate to this.

In all this despondency there is suggestion to postpone RBI policy meet to a date after the Fed meeting on 17-18^th September. In our view, this will tantamount to complete surrender. The message that will go out would be “our monetary policy is now subservient to Fed policy”. A bad precedence would thus be created.

In our view, it is rather the time to anticipate the worst and prepare for that, rather than waiting for Fed to spell out its policy and then react to that or exodus of foreign investors to begin.

Sharing the war plan with investors and businesses would only help the confidence level and anxiety.

Thought for the day

“Girls you've gotta know when it's time to turn the page.”
- ―Tori Amos, Tori Amos: From the Choirgirl Hotel

Word of the day

Auspicate (v)

To initiate with ceremonies calculated to ensure good luck; inaugurate.

(Source: Dictionary.com)

Shri Nārada Uvāca

Have you ever heard of a parliamentary democracy where the head of the government pleads ignorance about whatever ministers of his cabinet do or have done?

Monday, September 2, 2013

Long live hope!

Hope is a powerful therapy, but only for those who admit to the disease and seek cure, in our view.

The official reaction to the 1QFY14 economic growth data was on expected lines – little disappointment and lots of hope. Chairmen of planning commission and PMEAC both exuded confidence that 2HFY14 will be much better and the growth for full year will top 5%.

After travelling across the country this summer and meeting thousands of people from all walks of life we observed that economic activity is slowing considerably and current growth is more likely to be closer to 4% rather than 5% as hoped. (e.g., see here).

Given the environment of complete mistrust and suspicion, we are not sure how many people actually share the hope of the government. Nonetheless, it would be pertinent to consider the following before any investment strategy is constructed based on hope of revival.

By now almost everyone has admitted that there is little evidence of any recovery in 2QFY14. With manufacturing continuing to decelerate overall industry segment is most likely to report negative growth in 2Q. Widespread floods, liquidity squeeze, import curbs, and multiple hikes in fuel prices etc. have certainly further slowed down construction, transportation, trade and finance activities in the country in 2Q. The services sector growth is more likely to slow down to 5.5% this quarter.

Agriculture growth may be better on a lower base of a draught year, but not more than 4% due to floods.

With this maths, 2QFY14 real growth should be closer to or below 4%.

But the problem of investors is not 1HFY14 deceleration in growth. The real problem is that there is little hope for any improvement in next three quarters at least.

The highest contribution to 1QFY14 growth has been from public sector spending. With the government having already spent two third of its targeted deficit there is little help expected from this source. Liquidity squeeze, higher interest rates, higher fuel prices and import curbs shall certainly impact the private consumption.

Model code of conduct coming into effect before elections and thus curbing government spending shall also have its impact. (Usually, a quarter before election has seen slower growth due to spending curbs and lower investment).

The liquidity event in US (tapering) and geo-political event in Middle East shall also have their full impact over next 2-3 quarters. In our view, this should logically reflect in higher rates, weaker INR, higher inflation (especially energy prices), higher import curbs, lower consumption, saving and investment.

The next government will hopefully take charge in May 2014 and present budget in July 2014. Any pick up in economic activity therefore should be expected only from 2QFY15 at the earliest.

Besides, if the new Land Law comes into effect this year, most new projects might be delayed by at least one year. So keep your hopes alive, but preserve your capital.

Thought for the day

“Between two evils, I always pick the one I never tried before.”

- Mae West (1893-1980 )

Word of the day

Bulbous (adj)

Bulb shaped, bulging

(Source: Dictionary.com)

Shri Nārada Uvāca

By conceding to the undue pressure of political bosses, has RBI governor undermined the financial security of the country?

Friday, August 30, 2013

Will few more dollars and Sensex at 20K solve the problem?

In past few months we have repeatedly highlighted (see here) that the current socio-economic milieu of the country is quite reminiscent of the conditions prevailing during Mrs. Indira Gandhi’s decade of 1967-1977. Comparing this with current account crisis of 1991 or Asian currency crisis of 1997 is therefore fraught with risk of looking at wrong solutions.

Another evidence to support our fears could be seen in the reports that the government is looking to lower fuel consumption. At the first place, this distorted socialist mindset of curbing consumption rather than improving production and productivity is largely responsible for much of the ills plaguing Indian economy. Now perpetuating this legacy could only bring disaster, in our view. We hope, the government may wait to see the impact of curbs put on gold consumptions in past couple months before rationing petro/diesel or hiking duties on these products.

As the squabbling ministers of the Dr. Manmohan Singh’s cabinet play “pass the buck” and demonstrate to the world that they have absolutely no idea how to get out of this economic mess, the clamor for Narendra Modi is rising, especially in the urban middle class household and business community.

Many market observers and analysts have also highlighted that an early election and with Narendra Modi as PM outcome is perhaps the best solution at this point in time.

In our view, a strong decisive leadership is pertinent at all times. However, it is extremely critical during the periods of crisis like the one country id facing presently. Though not undisputedly supported by the evidence on the ground, Narendra Modi is popularly perceived as strong decisive leader. However, the perception is only small portion of the problem. The bigger part is the widespread social conflict about the appropriate development model for the country.

An overwhelming proportion of the population, which had been hitherto docile, is becoming assertive. Armed with constitutional protection for food, education, information, employment and resource ownership, this segment wants growth to be equitable, inclusive, and sustainable.

The model followed since independence has proven to be inequitable, exclusive and unsustainable. There has been no decade since independence when India did not face a significant economic crisis. The income disparities have grown, especially after economic liberalization since 1991. The policy makers and financial system have relied more upon global liquidity and charity rather than internal strengths in building the foundation of the growth and therefore growth has remain volatile and unsustainable.

Narendra Modi or any other leader so far has not offered a constructive agenda. From the resentment over proposed Maruti plant in Gujarat, it is evident that eventually Niyamgiri Panchayat decision will have to be accepted as the working template for the acceptable growth model.

A few extra billion dollars of NRI inflows and Sensex over 20k due to better perception will not matter much in bigger picture, in our view.

Thought for the day

“All things are subject to interpretation whichever interpretation prevails at a given time is a function of power and not truth.”

- Friedrich Nietzsche (1844-1900 )

Word of the day

Statis (n)

A state of balance, equilibrium, or stagnation.

(Source: Dictionary.com)

Shri Nārada Uvāca

Pray for a sub 4.5% GDP growth for 1QFY14 to be announced today.

That is the only thing that can keep the new RBI governor from raising rates later this month.

Indonesia and Brazil have already hiked rates this week to arrest the collapse in their respective currencies.

Wednesday, August 28, 2013

Two short stories

You cannot fool all the people all the time

In past 9 years there have been occasions when our economist prime minister and his colleagues have invoked coalition dharma to hide from their inefficiencies, lack of conviction, political convenience, misgovernance, and opportunism etc.

This politics of opportunism might haunt them for rest of their life as they would leave the country, especially the poor people who gave them two chances, in deep trouble in many respects – economic, foreign policy, socio-political divide etc.

The future generations will ask Dr. Manmohan Singh “If you could put your government at stake to get civil nuclear deal approved; If you could put your government at stake to get FDI in multi brand retail trade approved; If you could put your government at stake to pass Food Security Bill – why did you hid behind coalition dharma when it came to critical economic reforms?”

No one will trust when he writes his memoires and tell us that “he wanted to do so much but could not because of coalition dharma”.

Uncle Sam to have the last laugh

Post Lehman collapse, it appeared that the US is becoming a marginal force in the emerging global order. Emerging economies like BRIC, South Africa. Mexico, Indonesia etc. asserted themselves as leaders in a new multipolar world. G-20 was formed to undermine the supremacy of G-3, G-8 etc. The global multilateral financial and development institutions also saw rise in influence of these countries in their affairs.

However, the events of past six months are a subtle pointer to the fact that Uncle Sam may have lost a few battles, but it is certainly on course to win the war. Consider this:

· Plagued by sub-prime crisis which crippled its financial institution, the US did not bow down. It successfully transmitted the disease to these resurgent emerging economies and rescued its financial institutions.

Most emerging economies, especially India and China are now struggling with huge sub-prime assets with no clue as to how to get rid of these. After all their machines do not print US$ and Big Ben is threatening to slow down his printer.

· Many influential voices from the US have already suggested that the era of global economic cooperation and coordinated policy action is over. We will do only what is in the best interest of the US. If monetary tightening in the US disrupts common man’s life in 100 countries so be it.

· After becoming energy independent, the US does not bother about situation in Middle East or South Asia. Iraq was raided merely on the basis of unfounded doubts about weapons of mass destruction. Syria has actually used these weapons and no action is promised. The proposed Immigration Bill also indicates towards rising protectionism.

Thought for the day

“Hunger is a political issue, and there are several things politically that are keeping people hungry - not funding food stamps adequately, not funding school lunches adequately. So there is a political solution to the problem of hunger.”

- Tom Colicchio (1962 - )

Word of the day

Enervate (v)

To deprive of vigor, force, or strength; to render feeble; to weaken.

(Source: Dictionary.com)

Shri Nārada Uvāca

Early election or election on schedule?

Wonder why no one has spoken about delayed elections as yet!

Tuesday, August 27, 2013

What is ailing Indian economy and financial markets? – Part IV

QE tapering

One of the major concerns bothering Indian economy is the shift in the US Federal Reserve’s shift in policy stance – from very loose monetary policy to consolidation over next few years. Given that such shift shall be driven by improving economic fundamentals and not inflation, the USD is likely is strengthened by Fed tightening, much like 1999-2000.

The concern therefore is that at a time when Indian economy is struggling with structural weakness on account of falling growth led primarily by decline in investments, rising current account deficit, high fiscal deficit primarily due to unsustainable subsidies etc., a further fall in INR vs. USD and consequent hardening of interest rates may compound the problems and further delay the recovery.

In our view, it is a valid concern. However, we do not subscribe to the idea that it will lead to any collapse. For one, it is unlikely that any US monetary tightening will be disruptive, as economies outside are not showing much signs of economic recovery. Any disruption therefore may potentially stall the US economic recovery too, which is not a desirable outcome. Therefore, in our view, the easing process (popularly referred to as ‘tapering’) shall reverse if it causes significant disruptions.

Secondly, a weaker INR may not be a bad outcome for India as it may help growth of external sector. Nobody is betting on the recent bout of extreme volatility in currency value to last for long. Moreover, in the process INR may have accounted for a disruptive US monetary tightening, and therefore expecting further weakness in INR in near term may not be appropriate.

Thirdly, US monetary tightening may further restrain the already benign global inflation, a positive for India. This coupled with lagged impact of good monsoon, may actually bring the inflationary expectations down and thus alleviate the need for sharper rate hikes in near to short term Though we continue to believe that rise in US bond yields will lead to higher rates globally, including India, in midterm.

Fourth, monetary tightening in US may not necessarily lead to tightening in EU and Japan. In fact, it may lead to further easing, especially in Japan, to avoid the deflationary pressures to undermine the nascent economic stability.

For records, TARP – the US government US$750bn response to Lehman collapse, has more or less been withdrawn. No one talks about it. No one sulks over its withdrawal.

We had suggested in one of our earlier posts that QE is a matter of fact, not going anywhere. It will remain here till it completely outlives its utility – not likely in next 3yrs at the least, most likely till the time EU economy shows definite signs of revival, Japan achieves its objective of creating nominal inflation in the economy and gets out of decades of stagnation, and global trade rebalancing especially in relation to China makes steady progress.

We continue to suggest overweight on unleveraged exporters in IT, pharma and auto space.

Also read:

What is ailing Indian economy and financial markets?

Part – I

Part – II

Part - III

Thought for the day

“It is clearly better that property should be private, but the use of it common; and the special business of the legislator is to create in men this benevolent disposition.”

- Aristotle (384-322BC)

Word of the day

Provenance (n)

Origin; Source

(Source: Dictionary.com)

Shri Nārada Uvāca

Should the Food Security Law provide for criminal liability for the minister and officers in-charge in case a death by starvation occurs?