Vijay Kumar Gaba

Friday, February 14, 2014

Stay focused

Thought for the day

“I have never made but one prayer to God, a very short one: 'O Lord make my enemies ridiculous.' And God granted it.”

- Voltaire (French, 1694-1778)

Word for the day

Albumen (n)

The white of an egg.

(Source: Dictionary.com)

Teaser for the day

Stadiums are for playing games!

Stay focused

(Picture courtesy Google search. All rights completely respected)

The behavior of current AAP top leadership reinforces one of the best lessons learned by me wandering through incredible landscapes of our country.

Sitting on the banks of the Mother Ganga at Gangotri many summers back, I noticed numerous large rocks, stones and small pebbles lying in the middle of the current.

The current was so strong that if stopped for a second, it could unsettle even a mountain. But the Mother had no time to take issues with these obstructions. She would gently pat on the back of the obstructionist rocks, stones, pebbles and politely skirt them.

She was solely focused on the needs of millions of hungry and thirsty children waiting for her to irrigate their fields and quench their thirst. The obstructionist forces were getting slowly eliminated by their own friction – reduced to dust in due course. The same dust is used to build homes for the same children of the Mother!

The lesson here is that if you are committed to your mission and remain focused on the chosen path, the obstructions get dissipate by their own friction and eventually follow you.

The conduct of the current AAP leadership is exactly opposite. They are not only stopping by every obstruction, but even creating some of their own; compromising the commitment and losing focus in the process.

In my view AAP is a significant evolutionary event in the history of India; and entirely belongs to the common man, which has brought about this evolution. Arvind Kejriwal & co. should not be allowed to undermine this movement and appropriate it for their egotistical gratification.

Insofar as FIR in KG-D6 is concerned, the conduct of various parties involved may not be beyond suspicion. But loot if any is within the contours of the law of the land. You can change law to prevent repetition. But trying to set the clock backward may not yield much. As we shall see in coal and 2G cases.

Thursday, February 13, 2014

Remembering the “broken window fallacy”

Thought for the day

“We must, however, acknowledge, as it seems to me, that man with all his noble qualities... still bears in his bodily frame the indelible stamp of his lowly origin”

- Charles Darwin (English, 1809-1882)

Word for the day

Sooth (n)

Truth, reality, or fact.

(Source: Dictionary.com)

Teaser for the day

Should the government have handled the “US VISA denial to Modi” case the same way it handled Devyani Khobragade case.

Remembering the “broken window fallacy”

Idling through some blog I stumbled into my favorite Bob McTeer’s following post that explains in simplest possible words how misdirected subsidies and wasteful expenditure in itself seldom leads to acceleration of economic activity. Though Bob had written it in the context of US economy, I find it more relevant in Indian context, especially when we are in the midst of the season of benevolence.

“Some teenagers throw a brick through a baker’s window. The gathering crowd said what a shame, but soon focused on the silver lining: much helpful economic activity will be set in motion when the baker has the window replaced. The repairman has more income to spend on something else, and the seller of something else will have more income to spend on still something else, and so on until we have an expansion of economic activity that is some multiple of the initial repair job.

Bastiat called it a fallacy because, while the spending chain originating with the broken window, does generate economic activity, it does so at the expense of other spending chains that don’t occur because this one did. In other words, had he not had to spend his money on window repair, the baker would have spent on something else, and the beneficiary of that spending would have new income to spend, etc. The broken window didn’t create net new economic activity. What it did was divert economic activity from one set of players to another. While some people benefit from the spending that took place, others are harmed (probably unknowingly) by the diversion of spending away from them.

Broken windows do not add to the wealth of nations. They diminish it by destroying part of the nation’s capital stock and productive capacity. Surely the nation would be better off if unbreakable windows could be produced as easily and cheaply as breakable windows. Surely, the nation, and the world, would be better off if trains, planes and automobiles could run on water rather than on the product of those South Texas oil fields.

The Broken Window Fallacy is a great tool for understanding much of what goes on today. We are confronted daily by pitches for government to spend on this or spend on that to generate economic activity without anyone pointing out that the economic activity that does not take place because of that that does. One classic example is what I call “stadium socialism.” The franchise owner gets local governments to help finance a new stadium on the grounds of all the new business it will generate locally. Left out of the equation is what spending is cancelled by the use of resources in this way rather than other ways and the locations that miss out on the stadium windfall. This doesn’t necessarily mean that I wouldn’t do it if I were the local mayor, but it probably does mean I wouldn’t do it as president.

The broken window fallacy is reproduced over and over every day, but rarely is it as clear as glass.” (BoB McTeer’s Economic Blog)

Wednesday, February 12, 2014

I don’t want whatever I want

Thought for the day

“Civilization began the first time an angry person cast a word instead of a rock.”

- Sigmund Freud (Austrian, 1856-1939)

Word for the day

Blatherskite (n)

A person given to voluble, empty talk.

(Source: Dictionary.com)

Teaser for the day

Yogendra Yadav and Ashutosh please stop saying “Bhai pehle Uska sign le kar aao, phir main sign karoonga.”

Please accept that people have accepted that AAP is different from traditional parties. So behave differently.

I don’t want whatever I want

Most participants in financial markets, including captains of industry and trade have been clamoring for accelerated economic reforms ever since. The present UPA regime has been severely criticized for “policy paralysis” and lack of Will to implement key economic reforms.

Not surprisingly, Narendra Modi is being seen as the divine intervention that will get India rid of the current social, political, and economic crisis.

My interaction with many of these market participants, including industrialist, traders, brokers, analysts, investors and bankers, in past one year has underlined a serious dichotomy. The market is asking for something it does not want – serious economic reforms.

An overwhelming majority of publically traded companies are found to be direct or indirect beneficiary of (a) the inefficiencies of the administration; (b) lack of transparency; (c) incongruent policy framework; (d) unduly supportive politicians; (e) government largesse in form of misdirected subsidies; and (f) protection from fair competition at the expense of consumers, etc.

Some real economic reforms, as against administrative and procedural corrections, could destroy the basic premise behind many large Indian companies.

It needs to be understood that permitting FDI in retail trade when Tata, Birla, Reliance and Goenkas are already there along with Biyani is not a reform. It brings no fundamental change to the economy. It just creates some more competition and brings the collateral benefits to consumers.

What reforms? The market participants are just excited about the potential arbitrage opportunity this move could provide assuming foreigners will buy the existing retailers paying some crazy value for their operations. Somewhat similar is the case with FDI in insurance and pension.

Tell market participants that FDI will be permitted only in green field ventures that will not be allowed to list for 10yrs and see how excitement fizzles out.

The outrage seen after announcement of GAAR in 2012 union budget and alleged irregularities in coal block and 2G spectrum allocation and deafening silence over Radia tapes, in my view, is clear evidence that the Indian corporates who are used to working under the patronage of political establishment are definitely averse to economic reforms, contrary to what they claim publically.

That is perhaps why no one is discussing that economic reforms often mean transformational changes that not necessarily lead to immediate rise in corporate profitability and aid in resource grabbing. On the other hand these usually do lead to lesser protection, more competition and larger accountability for corporates. If you do not want to pay taxes, cost of compliance and market linked compensation for exploitation of natural resources clamoring for economic reforms may not yield much.

Tuesday, February 11, 2014

Need ≠ Demand

Thought for the day

“They must often change, who would be constant in happiness or wisdom.”

- Confucius (Chinese, 551-479BC)

Word for the day

Dulcify (v)

To make more agreeable; mollify; appease.
(Source: Dictionary.com)

Teaser for the day

Who we want our next Prime Minister to be:

(a) A conformist

(b) A reformist

(c) An anarchist

(d) A contrarian

(e) A capitalist

(f) A socialist

(g) A secularist

(h) A nationalist

(i) A superman

(j) Can’t say

Need ≠ Demand

Yesterday, I received overwhelming criticism for my suggestion to avoid large gestation infrastructure projects (e.g., power, roads etc.) and financials for investment purposes.

Much of the criticism is driven by the assumption that these sectors have seriously underperformed for some years and offer good value at current prices. Most critiques assumed that with new government in saddle, the infrastructure sector should in particular be in focus of investors.

My attempts to argue with some of the critics however exposed the tremulous foundation their arguments stand on. The following two examples are worth taking note of, in my view.

(a) One common highlight of the criticism was enormous physical infrastructure deficit that needs to be filled almost immediately to achieve the potential growth rate.

In my view, in this context it is critical to make a distinction between the “need” and “demand” for infrastructure. There is no denying that the need for infrastructure is colossal. To meet the ends of social justice, economic equality, sustainable economic growth and regional balance, development of social (e.g., education and health) and physical infrastructure (roads, communication, power etc.) is imperative. But at the stage of development where India stands today, the demand (ability to pay to fulfill one’s needs) for infrastructure is abysmally low.

The infrastructure development therefore needs to be mostly socio-political effort rather than an economic proposition.

The efforts to make roads, power and airports projects economically viable by bundling land and coal resources in past 15years have proved rather counterproductive. The evolving socio-political paradigm indicates that in foreseeable future it would not be possible to masquerade land and mining mafia deals as infrastructure development projects.

Besides, even if we accept the all hunky dowry scenario post election, where are the balance sheets worthy of undertaking new large projects? The only way existing infra developers could be viable is by way of transmitting a large part of stress to lenders and equity holders and offloading cash generating assets. Considering this, in my view, we are at least two years away from making an investment theme out of infra developers and financiers. For keeps sake odd L&T is fine with me.

(b) The other subtle hint in most critiques was Narendra Modi. The subterranean hope that messiah will come on a white horse holding a magic wand in his hand and all problems will vanish in a poof seems to be driving investment strategies.

I am also hopeful. I believe Modi led BJP will cross 250 mark on its own. But that is a bad news for equity investors in the short term. Most of the potential steps that the new government will likely take to set the economy in order would only cause pain in the short term….more on this tomorrow.

Monday, February 10, 2014

What to do? - III

Thought for the day

“There is nothing so strong or safe in an emergency of life as the simple truth.”

- Charles Dickens (English, 1812-1870)

Word for the day

Schuss (n)

A straight downhill run at high speed.

(Source: Dictionary.com)

Teaser for the day

RIP Maruti800 - a metaphor for Indian middle class rising.

What to do? - III

After two days of dithering and side stepping, I would like to tackle the real question, viz., “What to do?” To borrow a leaf from RBI governor’s book, it may not earn me many “likes” on social media. But, I guess even in these times you have to do few things which are beyond the realm of “likes” and “dislikes”.

At the outset, I would like to make it clear that I expect Most Indian equities should correct significantly (10% or more) from the current level in next 12months. Though is possible that benchmark Nifty does not correct to that extent due to its skewed construction but beyond Nifty correction could be serious. The correction in my view would be led by the stressed sectors like financials, realty and leveraged infrastructure builders.

What to do?

1. Equal weight in equity, hold 25% tactical cash at present. In debt only accrual products, no duration play. 10% precious metals in portfolio. In commodities – prefer agri commodities vs. industrial commodities. In real estate prefer land vs. apartments.

2. For equities, 2014 to be portfolio construction phase. Plan low to no return in next 12months.

3. Overweight domestic compulsions (staples, financials, higher productivity, low cost, low price discretionary, two wheelers etc.).Avoid aspiration stories and high gestation infrastructure projects, leverage.

4. Overweight global compulsions (highly skilled workers, low cost). Avoid consumers.

5. Global deflationary trends appear real. Avoid global commodities, including energy.

6. PSU stocks are completely avoidable, except may be for a small trade with a time horizon of less than 2months.

When to do?

Currently remain parked in select Index heavyweights and niche midcaps.

As usual, at some point in time over next few months the correction will be overdone and a good opportunity to buy will emerge. Mark the stocks you like based on quality of assets, strengths of the management, market leadership, execution skills and buy slowly at each dip over next 6months.

In case 2014 elections provide an undesirable outcome, the market may correct substantially. That in my mind would be an opportunity to go overweight in equities. However, if as expected Narendra Modi is able to form a stable government and market become euphoric, I would suggest “sit back and relax”.

How to do?

InvestTrekk model portfolio is mostly designed to reflect this strategy. Use the template and design the one to your liking.

Friday, February 7, 2014

What to do? - II

Thought for the day

“Men in general are quick to believe that which they wish to be true.”

- Julius Caesar (Roman,100-44BC)

Word for the day

Farceur (n)

A joker; Wag

(Source: Dictionary.com)

Teaser for the day

We all know that it’s anarchy when AK does it.

Will Kapil Sibal tell us what it is when KKR does it?

What to do? - II

The bad things are easier to believe. Haven’t you noticed that?

- Vivian to Edward in movie Pretty Woman

Continuing from yesterday, I would like to admit that answering the real question honestly is extremely difficult, especially knowing that I will be judged every day for my answer.

It is much easier and convenient to use the jargon like “long term”, “bottom up”, “stock-picking”, “value investing”, etc. and have a rather simplistic large cap defensive portfolio. However, given that ‑

(a) we are at junction where 5yr normalized CAGR of Sensex is close to peak of 16% and appears as a warning if you juxtapose it to declining real growth and elevated inflation and hence interest rate levels;

(b) we had one of the best year in 2013, in terms of foreign flows (both FII and FDI), a scenario that may likely not repeat itself considering the US tightening its monetary policy and conditions in Europe again taking a turn for the worst;

(c) the “high quality” and “global stability” (read exporters) trade is so crowded and exploited that the risk-reward in this sphere might have turned negative;

(d) the optical “deep value” in “financial” and “domestic investment pick-up” may not be deep enough to warrant a jump as of now;

applying most of these principles may not actually be gratifying for most investors.

The positives at this stage are all derivatives of hope, compulsion and continuity. Rationally, it is difficult to find some positives which are self sustained, definitive and confirmatory. For example, consider the following rays of hope.

· The domestic inflation and therefore rates have peaked as the vegetable prices have fallen. Core inflation rise despite lower capacity utilization is seasonal.

· CAD is now under control (<2.5% of GDP), as gold demand has been successfully curbed; exports to developed countries have picked up; NRI flows are strong; Fx reserves have been augmented to US$295bn from a low of US$274bn; imports have fallen; fuel demand has slowed due to higher prices.

· Fiscal deficit is under control (<5% of GDP) as government expenditure is cut; subsidy payments have been successfully rolled over; disinvestment targets have been accomplished through cross sale; service tax amnesty.

· China is just soft landing. The concerns over the stress in financial system are overblown to mythical proportions.

· ECB’s “whatever it takes” commitment will continue to be an effective back stop for all concerns, including France falling into recession.

· Fed’s QE tapering underscores the strength of US economy. EM collapse will not impact US and Japan. Tighter liquidity will not strengthen the deflationary trend rather lower commodity prices will aid the growth.

…to continue on Monday