Vijay Kumar Gaba

Friday, November 18, 2016

Sir, I beg to differ

Thought for the day

"It is a golden maxim to cultivate the garden for the nose, and the eyes will take care of themselves."

—Robert Louis Stevenson (Scottish, 1850-1894)

Word for the day

Pleonasm (n)

The use of more words than are necessary to express an idea; redundancy, e.g., Free Gift or True Fact.

Malice towards none

Politician hoping that the inconvenience caused to common people by demonetization will reflect in 2019 elections will do better if they recall that people forgot trauma of emergency in less than three years and reelected Mrs. Indira Gandhi with thumping majority.

First random thought this morning

Three key learnings from four hour trip to the town to assess the reaction of common people to the demonetization move:

1. A large number of common people are looking for a sense of purpose in their life. They no longer want to live like insects. This move has certainly stroked that sense in them. Many termed the wait in long queues as their contribution to the nation building.

2. Though most politicians claim to have risen from the lowest ranks in the society - their actions and reactions suggest a total disconnect. The preparation for demonetization suggest that PM and his team are no exceptions.

3. If demonetization is not followed by some tangible welfare schemes to give effect of wealth transfer, politically it may boomerang on BJP.

Sir, I beg to differ

In past one week or so, a number of experts have expressed their views on the effect of demonetization on various sectors and highlighted the opportunities and threats that may emerge out of it.

The consensus certainly seems to suggest that the real estate sector will be hit the hardest. Besides, this move is also expected to the consumption, especially the discretionary consumption, at least over next two quarters. The trade disruption caused by currency shortages could have ripple effect and impact almost every other sector.

On the other hand banks and NBFCs are mostly seen as gainers from the move as the move is expected to lead to transfer a material part of informal sector financial transactions to the formal sector; besides higher use of services like credit card and e-wallets (commonly referred to as 'plastic money'). Though there are concerns that in next couple of quarters the stress in the personal loans and MSME sector credit could rise.

Without getting into the popular views, I may share my subjective views by the readers. As these views are based on my personal assessment of the situation, these may suffer from my socio-economic prejudices and poor knowledge of finance.

I believe that demonetization of HDNs per se brings little change in the financial system. The market disruption is temporary and may not last beyond 2-3months. The ripple effect may also be limited to 4QFY17 and not beyond. Moreover, the effect of disruption would seen mostly in the unorganized sector.

Insofar as consumption demand is concerned, the demand for non-durable and staples could suffer for two months. After all, if I do not drink alcohol today, I usually would not drink double the quantity tomorrow.

The demand for durable goods however may just get deferred to FY18. It is pertinent to note that demand for motor cycle, smart phone, washing machine, water heater, etc. is no longer luxury for a large segment. It is rather becoming a necessity. A rise in tax-compliance will make at least 20mn more people eligible for higher bank credit at a time when rates may be moderating.

I therefore see the opportunity in consumer financing sector becoming even more attractive from structural growth viewpoint. Though the people who are looking for immediate gains may be subject to disappointment.

The largest opportunity I see is in the real estate sector. I mostly disagree with the prognosis that reduction of black money stock in the system will lead to material correction in real estate prices.

I believe that the sector is already going under an overhaul. In the process a large majority of smaller, inefficient and unorganized players are getting eliminated from the business. Demonetization may just accelerate the consolidation process. I see massive consolidation with 4-5 large players remaining relevant in each market....to continue next week

Thursday, November 17, 2016

Mistrust & Unpredictability

Thought for the day

"The Devil, can sometimes do a very gentlemanly thing."

—Robert Louis Stevenson (Scottish, 1850-1894)

Word for the day

Manna (n)

Any sudden or unexpected help, advantage, or aid to success.

Malice towards none

UP government, in contemptuous defiance of the Central Government notification, has declared that they will accept land registration fee in currency that is no longer legal tender.

Does this tantamount to sedition?

First random thought this morning

Many Indians who sounded like ardent devotees of PM Narendra Modi before 2014 Lok Sabha elections, are literally abusing and cursing him. Even some Gujaratis who cheered him at Madison Square in New York, are regretting their enthusiasm.

On the other hand, the world leaders who treated him like a pariah during 2002-2014, are embracing him like no one.

I ask - who was wrong about PM Modi before 2014 and who is wrong now?

Mistrust & Unpredictability

Indubitably, the demonetization of HDNs may go down as a watershed event in the India's economic history; that is even if the experiment fails

Beyond trade disruption and demand deferment for few months, it could bring some lasting changes to the economic behavior of the Indian consumers and businessmen.

This may provide some good opportunities to the investors. Assigning any more importance to this event at this point in time may not be relevant.

As I suggested yesterday (see here), the main challenge in formulating an appropriate investment strategy today is to incorporate the rising "mistrust and unpredictability" in the overall economic environment.

In an environment where the policy direction is totally unpredictable and you cannot trust, amongst other things —

· the commitment of politicians to their ideologies and long stated policy stance on even core issues;

· the experts' opinions about the socio-economic trends;

· corporate governance standards of most reputed companies;

the investment strategy, for a small investor like me, must include the following five doctrine, even if it makes the strategy little dogmatic:

1. The companies with business model that relies heavily on the policy arbitrage are to be totally avoided.

2. The companies that enjoy valuation premium based on the legacy of promoters should be adequately discounted.

3. The discount on the commitment of politicians to a particular ideology or policy stance should be raised to a minimum of 50%.

4. All expert opinions must invariably be backed by self assessment. In cases where self assessment is not possible, equal reliance should be placed on experts' views and traders' positions (fundamental and technical analysis).

5. Let your imagination run wild in making investment assumptions, leaving almost nil scope for a black swan event.

From the recent utterances of PM Modi, PM May, Chancellor Merkel, President designate Donald Trump, etc. it is clear to me that the global trade order is due for a reset. In my view, therefore, overwhelming the investment strategy by demonetization impact may tantamount to missing the forest for trees.

Tomorrow, I shall share the opportunities (and threats) I see due to demonetization.

I promise to share my updated investment strategy before end of this year.

Wednesday, November 16, 2016

Worrisome & encouraging

Thought for the day

"There is only one difference between a long life and a good dinner: that, in the dinner, the sweets come last."

—Robert Louis Stevenson (Scottish, 1850-1894)

Word for the day

Anathema (n)

A person or thing detested or loathed.

A person or thing accursed or consigned to damnation or destruction.

Malice towards none

Pak army claiming causalities and transgression on their sides and India rubbishing the claims with contempt.

The life comes full circle.

First random thought this morning

It is unfortunate that the government has to restore to "Marking" the people who have availed the one time facility of currency exchange.

This highlights the existence of wide trust deficit and continuing game of cat & mice between the establishment and the public.

The worst part - it is again the poor who is being used to further the interest of the non-compliant, to the detriment of the cause of poor in general.

The consolation is that this time the poor have (so far) not played the game with opposition parties which are trying to engineer riots by inciting the poor to advance their vested interests.

Worrisome & encouraging

Mistry, Modi and Trump have hit the Indian equity markets hard. The erosion in equity prices has been swift and material. Inarguably, there is a sense of disbelief and bewilderment amongst market participants.

As an investors I am naturally inclined to look for opportunities in the mayhem; and I already see some investment opportunities emerging. Though I am not too excited as yet. I am preserving some cash (20%) for even better opportunities that may emerge in next month or so.

But before I share my thoughts of the emerging opportunities, I find it pertinent to put the context in, what I believe is the right perspective.

Mistry episode has yet again challenged the faith of investors in the corporate governance standards in the country. After the AV Birla group announced group restructuring a few months back punctured the faith of investors, the Tata feud has widened the whole considerably.

· The corporate governance premium on Tata group companies and others like Infosys et. al. is vanishing fast.

The Army supported by the Narendra Modi led political establishment made first ever and most audacious official admission of the surgical strikes on PoK based terror camps. PM Modi followed the move by demonetization of high denomination notes (HDNs).

· These steps and political utterances after these events have completely demolished the predictability of policy. So much so that the defense minister brought the "no first use" nuclear doctrine under clouds; and tax officials are openly talking about retroactive amendment of penal provisions of IT Act to impose penalty on disproportionate rise in income declaration post demonetization of HDN.

The mostly unexpected victory of Donald Trump, after a surprising Brexit verdict in June this year, should challenge the confidence of policy makers and investors who rely on "experts" to gauge the mood of the public and socio-economic realities on the ground level; besides of course highlighting a perceptible shift in the public opinion.

· The two largely unexpected events have highlighted the widening chasm between the public opinion and the elite group that has been so far considered "opinion maker". The natural outcome of these has to be rising mistrust

The rising unpredictability and mistrust in the social order, and consequentially in the market place is worrisome as well as encouraging.

Worrisome, in the sense that it may deepen the chaos in the socio-economic sphere.

Encouraging in the sense that it will precipitate the corrective action and lead to emergence of a more robust socio-economic order.

...to continue tomorrow.

Friday, November 11, 2016

Be careful in what you wish for

Thought for the day

"Do the best you can, and don't take life too serious."

— Will Rogers (American, 1879-1935)

Word for the day

Syncretism (n)

The attempted reconciliation or union of different or opposing principles, practices, or parties, as in philosophy or religion.

Malice towards none

People who found 45% tax under IDS prohibitive, are now pleading with government to take 50% and let them account for their hitherto unaccounted cash!

First random thought this morning

The opposition parties, especially Congress and CPI-M are making the most puerile comments on the step to demonetize high denomination notes (HDNs). The argument of inconvenience to daily wage earners coming from Rahul Gandhi & Prakash Karat's mouth is most preposterous.

They are the people who organized maximum bandhs in the country. It is only in the past one decade that people have understood their game and stopped responding to their bandh calls.

The Congress and SP are perhaps responsible for most curfews in the country. The arguments made by P. Chidambaram, who is most responsible for complicating the tax compliance procedures, are clearly pervert.

Be careful in what you wish for

"May you get what you wish for", is one of the three popular Chinese curses. It cautions people to be careful in what they wish for; because they might just get what they wished for and realize that the thing they desired is not what they actually wanted.

Persistently chiding PM Modi to fulfill his election promise of recovering black money from the rich and putting them in the account of poor, the opposition leaders would have never imagined that their this wish may actually come true - that too so soon.

One is hearing numerous stories about how the cash rich people are distributing their unaccounted money to the poor. A builder in Varanasi reportedly has given away 2.5cr worth of 500-1000 notes to street dwellers over night.

Many people are renting the Jan Dhan bank account of their servants & their family members, by promising to share as much as 20% of the cash deposited in such accounts. There are many reports suggesting that people have approached poor farmers to help them in converting the color of their black money. Taking advantage of good monsoon, a farmer can show higher than usual income this year and deposit the money in their bank account.

Redistribution of wealth on such a massive scale is unprecedented. The steps like abolition of privy purse, nationalization of banks, insurance companies and coal miners, etc. all resulted in transfer of money from select rich to the government. Education cess might have enabled the government to fund the education of poor kids. But this is as direct a transfer as it could be - Rich people eager to share their wealth with poor directly and apologetically!

Assuming that the government may have sounded BJP and NDA allies to go light on cash, the opposition parties are the biggest victims of this masterstroke. PM Modi has made them pay for his promise of wealth transfer.

The equity market is worried about the impact of demonetization on consumption. I find the fear somewhat misplaced. Though consumption may indeed suffer for few months, it would be much higher next year as the propensity to consume is much higher at the lower quartile of the pyramid where the redistributed wealth will find shelter. A lighter balance sheet of RBI (assuming 20% reduction in currency stock), may provide space for larger public sector spending and lower rates.

Moreover, those arguing for a midterm decline in consumption may be mistaking washing machines, motorcycles, smart phones, TV, etc. for discretionary items. Trust me these are no longer discretionary items in most cases. Those who are not able to buy in cash will buy on credit.

At last, in my view, the government should make this demonetization process constitutional. All HDNs should be mandatorily demonetized every 10years to effectively control of menace of black money without any inconvenience to the common man.

Thursday, November 10, 2016

Cashless in Great Mall of India

Thought for the day

"Too many people spend money they haven't earned to buy things they don't want to impress people they don't like."

— Will Rogers (American, 1879-1935)

Word for the day

Circumspect (adj)

Watchful and discreet; cautious; prudent, e.g., circumspect behavior.

Malice towards none

Mahatma Gandhi shows his power to the ungrateful nation.

He takes a break of three days o change his attire and all the detractors are on their knees.

First random thought this morning

In his victory speech, Donald Trump looked nothing like the Trump who was engaged in a long bitter, filthy presidential campaign.

He struck all the reconciliatory notes to sooth the nerves of dissenting republicans and opposing democrats.

The economic, financial and market commentators should soon come around and dilute their prophecies of an impending disaster.

Cashless in Great Mall of India

Past two days so much has happened. First on Tuesday evening PM Modi struck hard on the black money abolishing about 85% of the currency notes in circulation (in value terms). Then on Wednesday, Republican Donald Trump trounced the Democrat Hillary Clinton, to shock the poll pundits. Republicans also secured majority in both the houses of the US Parliament, making Trump one of the strongest presidents in recent decades.

I must admit that I am too lazy to call Trump's triumph and Modi's strike on black money earth shattering events requiring a major change in my position. Nonetheless it does necessitates blinking eyes few more times and perhaps changing the side.

First of all, let me tell you that I am stranded cashless in the Great Mall of India; and trust me I am not alone. There are millions like me - wandering around aimless with no money in pocket. My banker informed me that wait for three days and we will provide you with crisp new notes and things would be perfectly normal. However, when I tried to pass this message on to some of my acquaintances, I was ridiculed like never before. The angry voices told me that —

· Large traders are left with virtually no working capital. The visibility of recovery of goods sold on credit is seriously clouded, as the buyers are already invoking force majure.

· Consumers are also struggling to dispose off high denomination notes (HDNs) they have been holding to spend in near term. Many of them do not want to deposit the papers in banks for the fear of persecution by tax authorities, whom they refused to oblige by declaring in IDS.

· Most small contractors are busy reworking the project costs, if they have to pay service tax on all services used and VAT on all inputs. This extra cost may not be claimed under escalation clauses.

· Most political parties in UP (except BJP) had accumulated the cash required for election related expenses, as they were planning to formally launch campaigns from 11th November (Dev Probdhini Ekadashi) when the inauspicious four months (Chaumasa) ends. They would find it hard to return this cash and get the new one in time for elections.

Look at the irony, Modi Ji has hit the opposition hardest where it hurt the most, but no one can cry. rather they are forced by media to smile and sing praise for the government!

· A large number of brokers and financiers were funding the stock & commodity market transactions in cash. These brokers and financiers are in trouble, as they face defaults from the traders. They would need to liquidate all the position immediately. The losses could be material in cases where the underlying is illiquid mid and small caps stocks. 50-75% price erosion in these stocks may not be exceptional.

· My daughter was saving the HDNs received on Diwali and Bhai Dooj for Christmas vacation. She is quite upset to part with that money as it would need to be deposited in bank account. No trust in money matters!...to continue tomorrow

Tuesday, November 8, 2016

GST: More losers than gainers in year one

Thought for the day

"I don't make jokes. I just watch the government and report the facts."

— Will Rogers (American, 1879-1935)

Word for the day

Bathos (n)

insincere pathos; sentimentality; mawkishness

Malice towards none

Ain't "Rath Yatra" a communal phrase?

Why a political campaign on a motorized vehicle not be termed a "Bus Yatra" or simply a "Motor Yatra"?

First random thought this morning

Why Indian middle class and media is taking unprecedented interest in US presidential elections?

(a) India's interests are now aligned more than ever with the US interests.

(b) More Indians now live an American dream than ever.

(d) The entertainment quotient of present elections is highest ever.

(e) All of the above.

(f) None of the above.

GST: More losers than gainers in year one

Last week GST council made substantial progress and finalized the broad tax rate structure to be followed under the proposed single tax regime. Now only the formula to share the power to administer the proposed tax system stands between the proposal and reality of GST.

There is naturally a good deal of anticipation as to the impact on Indian economy and corporate bottom-line.

Many readers have asked for my views on the impact of GST. In past six months, on many occasions I have expressed my views on GST impact. I may reiterate the same for the benefit of readers.

GST is not make or break

In past one year various segments of the government have tried hard to sell GST as the panacea for faster economic growth. The sentiment has also been echoed in matching notes by the captains of Indian industry and professional money managers.

There can be hardly any doubt about the need for and importance of a unified market and simplified tax structure. GST certainly promises to fulfill this need. To that extent, the profoundness of its utility cannot be challenged.

The problem lies in the assumption that GST will catapult Indian economy into top gear almost immediately, to which I beg to differ. For a sustainable and consistent 10% growth we would need much more than GST.

The high growth phases in India have so far been mostly a function of sporadic rise in domestic demand catalyzed by fiscal profligacy, unsustainable private debt and/or global commodity cycles.

Consequently, growth has been highly cyclical, volatile and fragile. Every decade we have struggled to remain out of the spectrum of "Hindu rate of growth" due to some global crisis, poor monsoon, or political stalemate, etc.

Sustainable productivity gains have not played any major role in India's economic growth structure, except perhaps for the green revolution that saw material gains in agro productivity in 1960-1970s.

Unlike many Asian economies that chose the path of industrialization on the road to economic development, we have taken the route of services. This has resulted in poor infrastructure development. Regional and socio-economic imbalances are two major outcome of this, adding to the fragility of growth.

Using the words of Dani Rodrick, there are plenty of world-class firms in India, and the expansion of the middle-class is unmistakable. But only a tiny share of labor is employed in productive enterprises, while informal, unproductive firms absorb the rest.

Sustainable growth may remain elusive unless we can take out at least if 50% of people engage in farming and employ them productively elsewhere.

More losers than gainers in year one

From investors' perspective the single point of interest is to find the potential gainers and losers from the indirect tax regime transformation.

A number of brokerages have published research reports listing the potential gainers and losers of GST. Unfortunately, I do not find any of the reports currently available in the public domain actionable.

On my part, I am in no position to list the beneficiaries, or otherwise, of GST with any degree of certainty. However, the five things I can say with fair degree of certainty at this point in time are as follows:

(a) GST is a progressive reform and will benefit the economy as a whole. It is possible that due to regional political interest groups, in the initial years some restrictions are introduced in the legislation that prevent creation of a truly national market.

Nonetheless, it will happen as the benefits become quantifiable over next decade or so. We have been living without GST for seven decades. One more with less than full implementation is definitely not a matter of life and death.

(b) One of the primary objective of GST is to improve tax compliance. This is hugely disruptive to the ways a large number of businessmen in the country are used to function.

It is common knowledge that in the country hundreds of thousands of MSME units are viable just because of tax evasion opportunities under the current taxation regime. Many of these opportunities may not be available under GST regime. Hence, the sustainability of these units is under thick clouds.

Moreover, there is a full army of professionals which helps these businesses evade tax. These also risk losing their jobs. A large number of revenue department personnel who thrive on bribes, and agents responsible for collecting & managing octroi & entry tax will also suffer.

Unemployment, losses and shut down of businesses due to financial unviability, unemployment and relocation of jobs are inevitable consequences that will impact urban consumption in the short term. The positive is that we may see many polluting factories operating in neighborhood getting closed.

(c) Many businesses have made huge investment in tax havens (backward areas) to benefit from tax arbitrage at the expense of business rationale. This investment risks going under water as this arbitrage vanishes in due course. Rebalancing of industrial growth will follow.

(d) Productivity gains shall be seen in most large businesses as logistic costs improve, and compliance becomes easier. For smaller local businesses though benefits are not so direct. These may mostly benefit from the overall pick up in economic growth.

(e) Project costs of many under implementation projects may need to be revised to factor in higher input costs as "tax efficient" vendors become unviable....to continue tomorrow

Friday, November 4, 2016

Clinton & Trump - two sides of same dime

Thought for the day

"I love you the more in that I believe you had liked me for my own sake and for nothing else."

—John Keats (English, 1795-1821)

Word for the day

Hagiography (n)

The writing and critical study of the lives of the saints; hagiology.

Malice towards none

History is always written by the victorious.

First random thought this morning

I do not know why - but everyone I talk to these days is talking about war. Some fear an Indo-Pak war; whereas some other go much further and want to talk about the possibilities of a full-fledged World War III.

On a deeper inquiry I find that no one is prepared for a war. It is just fashionable. Surprisingly, the people of age 80 and above who do remember the destruction of WWII do not even want to think about a war. It is the people in 50s and 60s who are most interested in this talk. Perhaps, these are the people who want the script to be re-written. First they could not grow due to controlled economy and later because they could not keep pace with the dramatic transformation into a free economy.

Clinton & Trump - two sides of same dime

The US presidential election next week and FOMC meeting next month are inarguably the two most keenly watched events in the financial world currently.

As things stand this morning, FOMC decision is mostly being seen as a function of the election outcome next Wednesday. A consensus amongst traders is that a Trump victory will mean a certain hike by Fed on 14th December; whereas a Clinton victory will make it doubtful.

Ostensibly, the trades in past few days are driven more by fear than any anticipation and are therefore somewhat disparate. For example, the sell-off in equities and buying in gold to safeguard against a Trump win seem incongruent with the sell-off in USD and bonds. A hike by Fed in December should theoretically add strength to USD and lead gold and bonds lower.

If we see in Indian context, the sell off is being attributed to the fear of a Trump win. But the most severe selling is happening in Pharma sector - indicating a Clinton victory and consequent stricter drug price controls.

In my view, investors should not bother about US elections and look beyond it. In that sense, any inexplicable fall in markets should be used as a buying opportunity.

Insofar as the impact of the outcome of the elections on India is concerned, my intuitive, and perhaps over simplistic, thoughts are as follows:

· India policy of US: Republican Bush loved Manmohan Singh (a socialist) and Democrat Obama is a proclaimed Modi (a right wing nationalist) Bro. It is evident that both the principal US parties have accepted India as a key strategic ally of US. I do not see any reason why Clinton or Trump should change this. To the contrary, in the emerging scenario, where US would be looking for stronger allies, especially in our part of the world, it is difficult to presume any negative shift in US policy towards India. Trump in particular would need India's help if he wants to implement his plan to isolate China. Check on illegal immigration from Mexico may also help Indian Diaspora in US, who compete fiercely with these illegal Mexicans for many unskilled and semi skilled jobs.

· Business opportunities: It is a proven fact that historically Indian companies have helped the US establishment and corporations in bringing down the cost, enhancing productivity and generating more and newer avenues of employment. Any US recovery plan therefore must provide for a Indian role. At policy level therefore one should not worry too much.

There may however be a business case where the companies may have to face greater competition or pricing pressure due to change market dynamics or overall policy changes. Correlating these business cases to election may not be appropriate, in my view.

· Foreign flows: Irrespective of the elections, the gap between US and Indian bonds yields is shrinking. The trend may only accelerate given (a) the Fed's commitment to normalize ZIRP and (b) current macro conditions in India. This convergence of yields and stronger USD may make the USD carry trade unviable in the short term. It is thus possible that we may see some of the portfolio flows received in past three years returning back to US shores.

However, given the opportunities opening in a number of sectors, e.g., real estate, defence manufacturing, and infra asset ownership, with decent long term annuity earning potential, this money shall soon return in a new and much better color.

· INR vs. USD: Hike in Fed policy rates and consequent rise in US yields may take USD higher, irrespective of the election outcome. RBI does not have much ammunition left to support INR. A rate hike by RBI to support INR is not conceivable at this point in time. 2-4% depreciation in next 4months looks likely.

· Equity markets: Unlike Brexit market crash, the outflow of foreign funds is not likely to be matched by the domestic investors. The equity prices are therefore most likely to correct materially. The pain may be particularly severe in case of mid and small cap stocks which have seen significant PE expansion in recent past. In my view, as I suggested hereinabove, the outflows could be irrespective of the election outcome.

· Bond yields: Rise in US bond yields, a stronger USD may further accelerate foreign funds' selling in Indian bonds. The bond yields may therefore come under pressure in next 3-4months. The trend may reverse if the government sustains its resolve to maintain fiscal discipline in the FY18 budget to be presented in the first week of February.

More generally speaking, I am little worried as the USA is forced to chose between the bad and the worst. The world has been struggling with a leadership vacuum since past many years. The crisis will only deepen after the election results are declared next week. None of the two candidates enjoys the respect and credibility with the global community.

Under these circumstances, I am inclined to unleash my wishes and imagine our PM, who commands both respect & credibility with global leaders, assuming a much greater role in international affairs, of course with the support and concurrence of a weaker US leadership. Amen!