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Tuesday, February 28, 2006

EM Bubble May Burst in 2006: Morgan Stanley

by Andy Xie/ Morgan Stanley

Summary & Conclusions

Declining risk premium has been driving the emerging market (EM) boom. The EM sovereign risk premium has declined from an average of 352 bps in 1H04 to 52 bps. MXEF has risen by 82% since mid-2004. In 2006, the EM sovereign spread has declined from 76 bps to 52 bps and the MXEF index has risen by 11%. As the EM risk premium gets close to zero, the base effect suggests that the EM ‘re-rating’ story is also coming to an end.

Recent social, security, and economic risk events suggest that the decline in EM risk premium cannot be justified by fundamentals. Liquidity and momentum explain most of the decline in EM risk premium, I believe, with much of the gain in EMXF due to overshooting.

As the EM boom stalls due to a high base, events have greater potential to trigger the risk reduction trade than before. The reverse momentum could have the same power as the forward momentum. I believe the EM boom overshooting could reverse and then some in 2006.

The Incredible Shrinking Risk Premium …

The rapidly declining risk premium of EM debt rivals the flattening yield curve as a conundrum for financial markets today. The EM sovereign risk premium averaged 352 bps in 1H04, when the perceived risk was not high. It has since declined to 52 bps.

Substantial improvements in EM fundamentals have accompanied the risk premium decline. Brazil and Russian have been taking advantage of their good fortune from high commodity prices to pay down foreign debts. Korea has become a developed economy by most measurements. The three economies that were embroiled in financial crises in 1998 have fundamentally changed their balance sheets.

Further, most emerging economies have been running trade surpluses during the current boom, unlike in previous booms. The surging US trade deficit is the main factor enabling emerging economies to enjoy trade surpluses. The liquidity boom that may have caused the flat yield curve and strong consumption in the US has allowed EM economies to improve their fundamentals. Hence, the improving EM fundamentals would appear part of the bubble, rather than suggestive of a change in secular trend.

However, the fundamentals do not explain all the decline in the risk premium. The trend of improving fundamentals in Brazil, Russia, and Korea was well established in 1H04. Many small EM economies without similar improvements in fundamentals have enjoyed a similar decline in risk premium. The ‘liquidity effect’ may be a bigger factor in explaining the declining risk premium than improving fundamentals. Momentum-investors piling into a winning trend without improved liquidity may explain the entire decline in risk premium in recent months, I believe.

… and the Meteoric Rise of EM Equity …

EM equity has enjoyed a meteoric rise as the sovereign risk premium has declined, with the MSCI Emerging Market Index (EXMF) rising by over 80% since mid-2004. The same force – the global liquidity boom – drives both. There is no fundamental causality between the two. As equity investors tend to use bond risk premiums in calculating equity values, the declining sovereign bond risk premium technically causes a rising EM equity market. MXFM has appreciated by 11% so far in 2006, while the EM sovereign risk premium has declined to 52 bps from 76 bps.

I estimate the declining risk premium may explain 90% of the appreciation in EM equity since mid-2004. However, momentum has now emerged as a more important factor. The change in the risk premium may explain less than half of the EM equity rise in 2006, I believe. As the EM sovereign risk premium becomes too low to fall, momentum becomes the main factor explaining EM equity movement.

… but There Are Risk Events Aplenty …

Events in recent days suggest that the low EM risk premium may not be justified. The terrorist attack on an oil facility at Abqaiq, the imposition of a state of emergency in the Philippines, Mr. Thaksin’s dissolution of the Thai parliament and call for an early election, and the abolition of the Unification Council in Taiwan are events that can change the economic trajectory for a regional or global economy.

EM risk premium exists not just because of the external balance situation. The lack of institutions that enhance future visibility is far more important. It seems to me absurd to believe that such economies can enjoy just 50 bps of risk premium.

Economic risks are rising also. India, Thailand, and the US may be behind the curve in tackling their inflation problem. This could lead to worsening trade balances for these economies.

The policy of the Bank of Japan is perhaps the biggest area of uncertainty as regards the EM boom. The BoJ is probably the lender of last resort in the global financial system. The massive carry trade – borrowing yen to borrow US treasuries for interest spread income – may be the explanation for the flat yield curve. Indirectly, I believe the BoJ liquidity may have caused the collapse in the EM risk premium.

… and the Risk Premium Cannot Drop Below Zero

While momentum is still strong in favor of high beta assets, the near zero risk premium on EM sovereign debt suggests that the boom is nearing its end. The base effect is about to boomerang on EM assets, I believe. Simply put, the risk premium cannot drop below zero. If the EM sovereign risk premium drops to zero, the implied increase in EM equity value is another 12% at most, on my estimates.

The high base effect suggests to me that the momentum in the EM market could hit a wall this year. We could see repeated surges and retreats in the coming weeks. However, maths is against forward momentum. When markets fail to reach new highs a few times, momentum tends to shift the other way. Then, it may take just one event to trigger reverse momentum – that is, the risk reduction trade.

India’s Sensex, China’s H-share index, and Japan’s TOPIX are where risk-takers have been congregating. I believe comparing them against the NASDAQ in 2000 yields potentially useful indications of when these markets might run out of steam and reverse.

Posted by toughiee at 8:49 PM | Permalink | Comments | links to this post

Random Readings

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On the budget day, it has been historically observed that there is volatility in the markets. Stockmarkets, as usual, may take a knee jerk reaction without understanding the appropriate implications of the budget proposals. Before you, the retail investor, take any investment decision, it is pertinent to take a step back and understand budget implications clearly, even if it means taking an investment decision after a day or two. "Reality leaves a lot to the imagination".

Posted by toughiee at 8:48 PM | Permalink | Comments | links to this post

Monday, February 27, 2006

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"This Time It's Different" are among the most costly four words in market history - John Templeton

Posted by toughiee at 8:42 PM | Permalink | Comments | links to this post

Price to Book Value: Numbers Say It All

The price to book value ratio is a basic valuation ratio to evaluate the fortunes of a company.

Price to book value ratio is one of the basic valuation ratios, one which you may hear most often after the P/E ratio. However, this ratio is not very useful in many cases, particularly at this time in the bull market. In terms of definition, it is share price divided by book value per share. The book value per share is net worth divided by number of shares. Often, analysts adjust net worth by removing revaluation reserves. However, not many companies have revaluation reserves, so if you don’t bother about revaluation reserves, that’s fine in most cases. The problem about book value is – it is not of much help when it is greater than one. Currently, in the BSE500 list, only 50 companies have price to book value ratio less than one. So 90% of the companies are quoting above book. When companies are quoting above book value, it is difficult to say whether they are cheap or expensive on the basis of only this ratio. For example, Hindustan Lever has a book value of 15 at current prices. Even at its low of Rs 100 a year ago, its book value was around seven or so. Clearly, a book value of seven didn’t deter the scrip from more than doubling. This is because, in HLL’s case and in many other businesses, book value will always be significantly greater than one.

Many FMCG companies like HLL have been working with negative working capital. They also don’t have much of fixed assets. Therefore, these companies can build sizeable businesses without having to keep too much capital in the business. In other words, they don’t need to retain too much of the profits to grow. Same is the case with IT companies. Infosys has a price to book value of 11 times. IT companies also aren’t too capital-intensive. Other than investing in office buildings, they don’t need much capital. Here again, price to book value has little meaning.

This ratio has some meaning only when it is less than or close to one. When it is less than one, then it means either of two things – either the company is undervalued or the company is in a declining business. Take the case of MTNL. It has a price to book of 66%. This company has been losing customers for the last few years to private telecom players. Its sales and net profits are declining. Or take companies like ITI and IFCI. These companies have eroded their net worth and have a negative book value. Escorts is another company with its price less than the book value. This company has not done well for years in any of its businesses. So most companies quoting below book value are now companies with declining businesses and with no great future. These are companies no one wants to own. There can be exceptions. If for example, MTNL gets its act together, there may be a great upside in the stock.

Price to book value has meaning for the banking sector. This is because here, the book value (or net worth) is a key factor which determines growth. A bank needs to maintain a minimum capital adequacy ratio, which acts as a cap to growth. That is one reason why banks should not quote significantly above the book value. HDFC Bank has a book value of 3.7, which is quite high for a bank. SBI has a book value of 1.4. Quite a few banks have book value less than one; examples being Dena Bank, Bank of Maharashtra and South Indian Bank. Some of these could be worth looking at.

Sometimes, companies quote below book value if their accounts are not genuine. Some companies show bogus profits, which means that the net worth shown is not correct. Sometimes, companies have high levels of debtors and loans and advances, some of which are not likely to be repaid. If such companies don’t take a write off, then again net worth won’t be genuine. In the current list of companies quoting below book, there are some companies which may fall in this category.

Posted by toughiee at 8:39 PM | Permalink | Comments | links to this post

Saturday, February 25, 2006

Random Readings

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The only investors who shouldn't diversify are those who are right 100% of the time - John Templeton

Posted by toughiee at 2:04 PM | Permalink | Comments | links to this post

Even the best can make the wrong moves

by Vivek Kaul/DNA Money

“Kyun dare zindagi mein kya hoga, Kuch na hoga to tajurba hoga” - Javed Akhtar

Dheeraj Sharma was going back to his office from a site visit. The company he worked for wanted to set up a new plant to expand capacities. Sharma was deputed to take a look at various locations and file a report, so that the management could finalise a site for the new factory.

Sharma was skeptical about his company’s decision to expand capacity but really could not do anything about it. He thought the expanded capacities would do no good to the company and just bring down prices, without really expanding the market.

When Sharma had started working around two decades back, he was of the opinion that it’s difficult for investors to figure out the future of the company. But people who ran the company (both managers and owners) would find it a lot easier being in the position they were.

Now, after two decades of work, he felt how wrong he had been. His experience had taught him that managements of businesses at times turn out to be as wrong about the future of a business as investors are at other times.

Sharma thought about the town of Modinagar he had to cross on his way to his hometown, Meerut, from New Delhi. Over the years, this town had turned into an industrial graveyard. One could see rows of dilapidated factories of cement, steel, textiles, etc. The family of Gujarmal Modi had tried to enter almost every business, unsuccessfully.

All this made Sharma wonder, “Why can’t the management of a company, being in the position where it is, see the future coming?”

Debashis Basu in his book, Face Value, Creation and Destruction of Shareholder Value in India, points out, “Managers are usually too full of their own strengths and cannot see the pitfalls ahead in their business when the market does.”

Further, it also does not help when the top management collect ‘yes men’ around them who go with what they are told instead of trying to question decisions.

Basu further points out, “Management assumptions always overestimate the future sales and underestimate the costs needed to get the projected level of sales. Actual performance rarely lives up to these rosy projections - as most project reports and analysts’ research reports testify.”

At times, the management is so focussed on the demand side of the business that they forget the supply side. In a climate where everyone is optimistic, managements tend to look at the growth opportunity that has presented itself without realising that there are many other companies in the market getting ready to tap the same market. This leads to a supply-side glut. Two excellent examples are the American and European consumer durable companies, which have come into India, but over the years really haven’t been able to make a dent into the market.

As Basu points out, “On the supply side, there are hundreds of drug companies in India fulfilling the basic needs of people. Like foreign consumer products companies, foreign pharma companies have to face doughty Indian competitors who happen to be more enterprising in changing their business model to discover new revenue sources.”

But the stock market usually figures out which way the company is headed in the days to come. This information gets reflected in the price of the stock. The stock market, at times, even ignores good financial results of a company. A good result is past data. What the stock market is interested in is the future. And if it feels that the future of the company is not clear, excellent financial results have no impact on the price of the stock.

The example is hypothetical

Posted by toughiee at 1:54 PM | Permalink | Comments | links to this post

Thursday, February 23, 2006

Sensex @ 10,000+: Any party poopers?

Source: Equitymaster.com

The BSE Sensex has finally hit the '10,000-mark'. As a matter of fact, it has comfortably managed to remain above this level, falling below it just twice - on the day it hit 10,000 and last Friday. The liquidity flow into India continues unabated, investors from countries like Japan, the UK, Denmark, Sweden and the US alike continue to warm up to the 'India story'. Corporate fundamentals remain on firm footing, GDP growth continues at an impressive pace - could anything be better?

Well, we, at the risk of being labeled as 'bearish', would just like to mention a few factors that could 'potentially' upset the apple cart. Please note, we remain positive on the 'India story' from a longer-term perspective, as we believe that major fundamental drivers, such as an expected increase in domestic consumption, a focus by the government on infrastructure development and the outsourcing story, all remain intact.

Interest rates and fund flows With the new Fed Chairman, Mr. Ben Bernanke, taking office, it is widely expected that he will continue with an upward interest rate bias. The US Fed rate, at 4.5%, has seen the fourteenth consecutive hike since June 2004, when it hit multi-decade lows of 1%. Continued hikes will result in US assets becoming better yielding, with no currency risk to boot. Thus, it is possible that some money/funds will flow back to the US if this rate goes to a level that is 'perceived' to be safer by foreign investors. What this 'threshold level' is and what quantum of funds might flow out, is anyone's guess. What we are saying is that it could be a 'potential party spoiler'.

Oil prices Global markets, including India, have been surprisingly resilient to crude oil price increases. Generally, any such increase is perceived as a 'tax on growth', which the economy has to bear, given the fact that 'black gold' is an essential commodity to keep the engines of the economy running. However, this time around, there has been no impact whatsoever. This can be explained by the fact that globally, stocks, real estate and commodities have all hit multi-year highs, causing a 'wealth-effect'. This has been possible due to an increase in global liquidity, caused by accommodative monetary policies of central banks worldwide. Commodity guru, Jim Rogers, has said that over a period of time, he expects crude prices to hit US$ 150 a barrel. If this happens, it could seriously restrict global economy growth, including India.

Valuations-expectations-earnings growth This is a linked chain that determines in a big way as to where the markets will go in the long term. Valuations, at present, may not be that attractive to a 'value investor'. With the BSE Sensex trading at 18.7 times trailing 12-month earnings, it certainly does not appear too cheap at current levels. This is also a reflection of the market's expectations from India Inc. Good earnings growth has already been factored in at the current levels and any hiccups on this front could result in some correction and a re-alignment of expectations from the markets.

Conclusion India Inc will now need to deliver on the earnings front in order to justify current valuations. This is the main fundamental factor that is expected to determine the movement of the indices over the longer-term. At these levels, high earnings expectations have already been built into stocks on a macro basis and if they do not deliver, some amount of profit booking would be in order.

However, we would like to additionally stress here that '10,000' is just a level and nothing else. For longer-term investors, it really does not mean a great deal, apart from the 'psychological impact'. These days, often, it is difficult to say whether one is watching the Sensex or the Dow Jones! But for such longer-term investors, it is more a stock-specific approach that is important and whether or not the individual stocks have breached their target price or not. It is such an investing strategy that one should follow in times like this.

Posted by toughiee at 5:48 PM | Permalink | Comments | links to this post

Random Readings

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"An ounce of patience is worth a pound of brains"

Posted by toughiee at 5:47 PM | Permalink | Comments | links to this post

The best way to sell a stock: Tell a tale

by Vivek Kaul/ DNA Money Nostalgia is like a grammar lesson: you find the present tense, but the past perfect! — Owens Lee Pomeroy Sharad Mavlankar is retiring today. He has worked for a stock market broker for the last four decades. He has seen the market change and evolve over the years. When he started working in the mid-60s people had the time to listen to him. Every stock had a story behind it. And it was a part of his job to narrate those stories to investors. The best sales pitch for a stock was to tell the investor a compelling story, backed with some anecdotal evidence. Over the years, things have changed. People still need a story to invest, but now they can get it from other sources like business media, websites etc. His role had diminished, and towards the end of his career, Mavlankar had very little work to do. Aswath Damodaran in his book, Investment Fables, Exposing the Myths of “Can’t Miss” Investment Strategies, points out, “Investment stories have been around for as long we have had financial markets and they show remarkable longevity. The same stories are recycled with each generation of investors and presented as new and different by their proponents.” The present-day experts have simply been recycling stories that Mavlankar had always told his clients. In his initial days, Mavlankar realised that it was easier to sell a stock if he could back it up with a story. As these stories appealed to the basic human nature of fear, greed and hope. And they came in various forms, each trying to target a particular kind of investor. For an investor who is risk-averse, experts recommend stocks with a low price-to-earnings (PE) ratio, stocks which pay high dividends, which trade less than their book value, companies which have stable earnings etc. For the risk-seeking investor, there are growth stocks and loser stocks (stocks which have fallen to an extent that they can fall no more). For those who have taken poor investment decisions in the past, there were stories like stocks always win in the long-term, just follow the experts, etc. There’s some amount of truth in these stories and that’s why they work. As Damodaran points out, “Part of the reason is that each story has kernel of truth in it. For example, the rationale for buying stocks that trade at low multiples of earnings. They are more likely to be cheap, you will be told. This makes sense to investors not only because it is intuitive, but also because it is often backed up by evidence.” Damodaran, in the context of the American stock market, further says, “Over the last seven decades, for instance, a portfolio of stocks with low PE ratios would have outperformed a portfolio of stocks with high PE ratios by almost 7% a year.” But most of these rules do not work all the time. Now let’s take another oft-repeated story, “Stocks always give greater returns in the long-term.” The BSE Sensex touched a high of 4546.58 in 1992. In 2000, it touched a high of 6150.69, giving returns of around 4% per annum in the intermittent period. In between, once it touched a high of 4643.31 in 1994. At the same time, other form of investments would have given better returns than the stock market. The Sensex kept falling from 2001 till 2003 when the present bullrun started. So this story did not work for a period of 12 years — from 1992 to 2003. As Debashis Basu points out in his book Face Value, “By the end of 2002, BSE Sensitive Index, was actually down over eight years of economic growth. Post office savings did better than the 30-elite Indian companies carefully chosen and changed to be part of the Sensex". He further says, “Instead of investing in blue-chip companies like Reliance Industries, Hindalco, ACC, TISCO, Grasim, Telco, L&T, SBI, Glaxo, Gillette (earlier Indian Shaving), P&G, Thomas Cook, Nirma and others you would have been better off putting money in fixed deposits.” The example is hypothetical

Posted by toughiee at 5:14 PM | Permalink | Comments | links to this post

Wednesday, February 22, 2006

The Limits of a Purely Technical Approach

By Rev Shark, RealMoney.com Contributor

One trap that many technical traders fall into is trying to find the one or two indicators that will produce a regular and steady flow of profits. They believe that if they just find the right combination of moving averages, stochastics, relative strengths or whatever, they can hit the buy or sell buttons when things align the way they should and take the profits to the bank. The market goes through cycles, and human behavior and emotions tend to be pretty repetitive, so quantifying things in mathematical terms shouldn't be that difficult -- right?

The search for the technical holy grail has gone on as long as the market has existed, and there have been systems that work for periods of time. Backtesting is a major industry, and there are all sorts of programs available that claim to have developed algorithms that will make you rich if you just follow the red and green signals.

There even have been some big hedge funds that have developed complex "black box" systems to trade the market. One of the most famous, and most secretive, was run by Ed Thorp, who wrote one of the first books about card-counting and blackjack basic strategy.

Mechanical trading systems can work, but few of them are adaptable to the ever-changing market environment. A system that uses a momentum scheme will break down in a trading-range market, and a system that focuses on overbought conditions will underperform in a strong trending market.

If you are tempted to believe that a couple of technical indicators can deliver consistent profits, ask yourself why the technicians employed at major Wall Street firms who spend millions of dollars on research aren't simply programming their computers to do such things. Why aren't the folks who spend their lives developing mechanical trading systems simply using the indicator that you like to make millions?

Despite all our efforts to quantify and understand the market, it will always be random and unpredictable to some extent. It simply is not possible to predict the news or how people will react to it. There are some things that remain constant, but not to the degree that we can ever be confident that we can capture the swings in the market through the use of a couple of simple indicators.

Posted by toughiee at 9:17 PM | Permalink | Comments | links to this post

Monday, February 20, 2006

Random Readings

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"Pigs get fat. Hogs get slaughtered".

Posted by toughiee at 6:36 PM | Permalink | Comments | links to this post

Inflation & Deflation: The Hot and Cold End

by Andy Xie/ Morgan Stanley

Summary & Conclusions

Inflation and deflation may coexist in the global economy, but going forward may no longer offset each other as in the past. The hot or high-inflation economies (mainly, Anglo-Saxon consumer economies and some low-investment emerging economies like India) may tighten more than expected.

The cold or low inflation economies are China, Northeast Asia, and Europe that have excess savings, demographic challenges or excessive investment. Their interest rates could surprise on the downside.

As most industries that could move to China have already done so, globalization is no longer as deflationary as before. Overcapacity in China would thus not have the same deflationary impact on the global economy as before, in my view.

I believe that monetary authorities around the world may not truly appreciate the bifurcation of the world into hot and cold economies. The risk of policy mistakes on monetary policy, especially among hot emerging economies, seems to be rising. The excesses in some cases have reached proportions seen in prior emerging market crises.

Click here for the complete article

Posted by toughiee at 6:33 PM | Permalink | Comments | links to this post

Saturday, February 18, 2006

Random Readings

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Most investors ... will find that the best way to own common stocks is through an index fund that charges minimal fees. Those following this path are sure to beat the net results (after fees and expenses) delivered by the great majority of investment professionals. - Warren Buffett

Posted by toughiee at 1:29 PM | Permalink | Comments | links to this post

Friday, February 17, 2006

Asian Inflation: Behind the Curve

by Andy Xie/ Morgan Stanley

Much of Asia is behind the curve in fighting inflation. The upward trend in inflation is apparent with the exception of China, which faces an overcapacity problem. As the Fed keeps raising interest rates, Asian currencies could weaken, which would exacerbate the inflationary pressure. The region’s central banks need to keep a tightening bias, I believe.

The region’s governments are too pro growth and are not vigilant enough against inflation or asset bubbles. As the Fed continues its rate hiking campaign, the risk is rising that the region could face another macroeconomic crisis.

Asia may also be bifurcating into high and low inflation economies. India, Indonesia, Philippines, and Thailand have high inflation and behave like traditional inflation-prone emerging economies. They should be especially vigilant against the potential scenario of weak currency and acceleration inflation.

India faces the greatest macro risk in 2006. It is exhibiting all the symptoms of an overheating emerging economy: widening current account deficit, overheating property market, and accelerating inflation. It should tighten as soon as possible, I believe.

The low-inflation economies should watch for asset inflation in determining their monetary policy. China and Korea stand out in that regard. Korea faces an emerging price bubble in its asset markets. The Bank of Korea is pursuing the right policy to normalize its monetary condition-policy rate at 4.5–5% vs. 4% now.

Click here for the complete article.

Posted by toughiee at 11:12 PM | Permalink | Comments | links to this post

Annual Budget Hopes by Morgan Stanley

Chetan Ahya & Mihir Sheth/ Morgan Stanley

Is the importance of annual budget declining? Since India initiated the liberalization program in 1991, the central government’s annual budget has been the anchor policy instrument for shaping the reform process. Over the last few years, however, the importance of the budget has been diminishing. First, a large part of the major the tax rate changes (key function of the budgets in the 1990s) has been accomplished; second, the coalition dynamics make it difficult for the finance ministers to announce path-breaking reforms in the budget before arriving at a consensus with the coalition partners.

Click here for the complete article

Posted by toughiee at 11:08 PM | Permalink | Comments | links to this post

For Jardine Fleming, India is Asia's best

by Venkatesan Vembu/ DNA Money

When a runaway stock index trebles in three years and breaches newer and higher milestones ever so often - as the Sensex has done - it of course gives cause for cheer.

But it also occasions concern among investors that it might be harder and harder to sustain the growth momentum and to find stocks with undiscovered value.

However, that concern is easily overcome if you’re convinced about India’s long-term growth prospects and your investment philosophy mirrors that conviction, and you’re therefore able to put your money where your faith is. It is such a level of conviction that has led Jardine Fleming Asset Management to characterise India as “Asia’s best long-term growth story.”

In an interview to DNA Money in Hong Kong, Jardine Fleming India Fund investment manager Rukshad Shroff noted that although after three breathless years of a bull run, the Indian stock market isn’t “outright cheap - and in some pockets it may even be expensive”, it was still possible to find value stocks with a bottom-up stock-picking strategy. Click here for the excerpts.

For the report on India: Asia's Best Long Term Growth Story by Jardine Fleming click here.

Posted by toughiee at 11:02 PM | Permalink | Comments | links to this post

Markets: Exhibiting resilience...

Despite scaling up to the evasive five-figure mark, the markets (Sensex) have shown a fair amount of resilience to negative pressures on the indices over the last couple of sessions. Surplus liquidity in the markets, on the back of consistency in fund flows from domestic and foreign investors alike, has kept the indices buoyant and bouts of resurgence have been witnessed despite profit booking at higher levels. Here, we review some of the factors that have lent support to investor sentiments.

Fund inflows remain intact: Capital flows to India have remained steady during FY06 so far, led by foreign investment flows and external commercial borrowings. The net inflows more than doubled to US$ 19.5 bn during 1HFY06 from US$ 7.4 bn a year ago. Foreign direct investment (FDI) inflows into India during 1HFY06 were higher by 35% YoY (source: RBI). Net FDI into India picked up on the back of sustained growth in economic activity and positive investment climate, with inflows going into the manufacturing as well as the services sectors. Outward FDI remained on track, reflecting the appetite of Indian companies for global expansion in terms of markets and resources.

While the net cumulative FII inflows during the first half of FY06 amounted to US$ 5.1 bn (US$ 4.7 bn during the corresponding period of FY05), the number of registered FIIs increased from 685 at end of FY05 to 823 by 9mFY06 (source: SEBI). What is also a comforting factor is that unlike earlier, instead of having regionally concentrated origination, the FII base has been very diverse this time. Also, notwithstanding further firming up of international interest rates, demand for external commercial borrowings (ECBs) increased during 1HFY06 in consonance with the sustained pick-up in economic activity. Thus, the market buoyancy has not been hampered by liquidity constraints so far.

Forex comfort: During 1HFY06, the current account deficit was more than offset by the surplus in the capital account, resulting in an accretion to the foreign exchange reserves to the order of US$ 6.5 bn. India's foreign exchange reserves stood at US$ 139.5 bn at the end of 9mFY06, with India holding the fifth-largest stock of reserves amongst the emerging market economies and the sixth-largest in the world. The basket-of-currencies' overall management has also done away with the 'liquidity risks' associated with a country. Taking these factors into account, India's foreign exchange reserves continue to be at a comfortable level consistent with the rate of growth, the share of the external sector in the economy and the size of risk-adjusted capital flows.

Well-hedged external debt: India's total external debt registered an increase of 1.8% during 1HFY06 and stood at US$ 124 bn at the end of 1HFY06. The increase during the quarter primarily reflected higher recourse to commercial borrowing and export credit. The key external debt indicators reflect the growing sustainability of external debt of India. Although the ratio of short-term debt to foreign exchange reserves increased marginally during the 1HFY06, India's forex reserves exceeded the external debt by US$ 18.7 bn, providing a cover of 115%. The share of concessional debt in total external debt also continued its declining trend, reflecting a gradual increase in non-concessional private debt. Nonetheless, the concessional debt continues to be a significant proportion of the total external debt, especially by international standards.

Inherent economic strength: Notwithstanding inflationary pressures and higher interest rates, the economy continued to grow at rates of over 8%, thus accelerating demand for consumer as well as capital goods. Better remunerations and a demographic shift are factors that are expected to fuel the growth engine over the longer term.

So far so good.... No doubt, the above factors deliver a certain degree of comfort with regards to the 'India shining' story. Nonetheless, when one tries to find a semblance of the same in the stock markets, one may get carried away by over-optimistic sentiments and invest in pricey stocks. It is here that one needs to keep in mind that while the going has been good so far, a correction in overheated markets is inevitable. We thus need to remind investors that while the long-term macro growth story is untarnished, investments need to be made by careful and well-researched selection. After all, safeguarding your investment is as important as multiplying it!

Posted by toughiee at 11:43 AM | Permalink | Comments | links to this post

Diversification does not always mean big bucks

by Vivek Kaul & Nikhil Lohade “Coffee isn’t my cup of tea,” Samuel Goldwyn once remarked. Ganesh Sharma might not agree with this. He liked having his freshly brewed filter coffee, first thing in the morning, with his business newspapers.

The newspapers today talked about a leading business family getting into a new area of business. “This step, in the long-term, will lead to increasing shareholder value,” the chairman had remarked. Sharma could see history repeating itself. The family- owned business enterprises (FOBEs) in India have always lacked focus. Most of them are heavily diversified. The managing agency system that prevailed during the Raj days is responsible for this disease. In a managing agency system, a single management is responsible for various businesses like cement, tea and so on. A typical British company in India was usually a managing agency, which raised money in England and invested it in a large number of businesses in India. This agency became a model for Indian businessmen. As Gurucharan Das points out in his book, India Unbound, “Since a businessman did not decide what he should produce and depended on what licences were available, there was a made scramble for these, and business houses ended up producing all kinds of unrelated products.” Further, as the new generations get involved, the male scions want independent businesses. This leads to an FOBE diversifying into unrelated areas to some extent as well. But the main reason for diversification, then and now, remains the addiction of Indian business with size. As Debashis Basu points out in his book, Face Value, “So the moment they were through with planning for one project, they were ready with another. And the moment they achieved a respectable size in one business, they wanted to become big in another.” In most cases, companies try and get into a new business when the markets are booming. This is a time when raising money for a new business is relatively easy. Thus, companies plan a big leap from the current operations, which rarely pays off. Further, companies rarely have several successful businesses under one umbrella. If one business does well, another pulls down the profits. A good example is Grasim. Grasim is into four major areas — viscose staple fibre (VSF), sponge iron, cement and chemicals. Grasim’s results for the quarter ending December 2005 were similar to the quarter ending September 2005. The bad performance of the company’s sponge iron and VSF divisions hit group profits.

Stockmarket data seems to suggest that it rewards companies which have a certain business focus. The 10th Motilal Oswal Wealth Creation study for 2000-05 clearly indicates that during the period, of the top wealth creating companies, diversified companies formed only 3%. This has largely been the trend since the survey was first carried out in 1992-97. As the study points out, “The participation of diversified companies in wealth creation remains limited”. Another example is the recent demerger of RIL. One reason why the stockmarket was positive about it was the fact that the demerger will bring greater focus to the residual entities.

Posted by toughiee at 10:56 AM | Permalink | Comments | links to this post

Thursday, February 16, 2006

Random Readings

Click on the link to read the full story

Buy right and hold tight. - John Bogle

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Wednesday, February 15, 2006

Random Readings

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Investing should be dull. It shouldn't be exciting. Investing should be more like watching paint dry or watching grass grow. If you want excitement, take $800 and go to Las Vegas. -- Paul Samuelson, Nobel-prize winning economist in The Ultimate Guide to Indexing

Posted by toughiee at 7:41 PM | Permalink | Comments | links to this post

P/E Ratio and Earnings Yield

As you probably know, A Company's P/E ratio is equal to a its share price divided by its earnings per share. However, as a value investor, you should look at this metric from a different perspective. It is useful to look at a metric known as the Earnings Yield. This is equal to the company's earnings per share divided by its share price; it is also equal to 100 divided by a company's P/E ratio.

If Jack's lemonade stand is trading at 20 times earnings it's earnings yield is 100 divided by 20, which is 5%. A company's earnings per share is a rough estimate of the amount of cash a company will earn in a year if it is not growing (i.e. if the company is not spending money in order to expand its business). So, suppose the Jack Company is not expanding its business and has an earnings yield of 5%. The company can pay all of its earnings as dividends; thus, the company can pay a 5% dividend yield. So you'd expect that an investor in the Jack Company's stock would earn a 5% annual return.

But there's something else: the Jack company earns a return on capital of 20%. If Jack can use all his income to expand his business, earnings per share will grow at 20% per year, and if earnings grow at 20% forever, shareholders will earn a 20% annual return. Thus, we can expect that Jack Company stock will return between 5% and 20% per year; If the company grows rapidly and can maintain that growth for a long period of time, the return will be closer to 20%, while if the Jack Company finds few opportunities to expand its business, the return will be closer to 5%.

The important point here is that the annual return of a solid business will generally be somewhere between its earnings yield and its return on equity.

Posted by toughiee at 7:38 PM | Permalink | Comments | links to this post

Tuesday, February 14, 2006

Random Readings

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Stocks are simple. All you do is buy shares in a great business for less than the business is intrinsically worth, with managers of highest integrity and ability. Then you own those shares forever. - Warren Buffett

Posted by toughiee at 6:57 PM | Permalink | Comments | links to this post

Buy a cushion when a fall is imminent

by Mobis Philipose/ DNA Money With the Sensex at its current lofty levels of over 10,000 points, the main risk for most stock portfolios is market risk, also known as systematic risk. A question some investors may have at this point is whether it is possible to buy insurance for their exposure to the stockmarkets. After all, an adverse news development like an unfavourable budget announcement would certainly lead to a substantial price correction.The good news is that there are several kinds of insurance policies available in the stockmarket. In fact, these policies have been running for some time now - since June 2000, to be precise, when equity derivatives were introduced to the Indian stockmarkets.

Insurance can be bought by investors for their stock portfolios, either by selling futures or buying put options. By selling futures, investors can gain when the market falls, which can offset the loss in their portfolio. The risk of the stock prices falling, therefore, is eliminated.

Let’s consider an investor who owns shares of Infosys because he believes in the long-term growth story of the Indian IT sector; but who now fears a temporary drop in the value of the company because the entire market may fall. He’s not sure, of course, or else he would have sold his shares and re-entered at a later time. The risk with this strategy is that if Infosys shares rise from the current levels, the investor would incur a loss when he decides to re-enter the stock. Enter stock futures. The investor can just sell an Infosys futures contract with a 1, 2, or 3 month expiry period (all three choices are available), and be rest assured that he doesn’t lose anything if Infosys’ share price drops. Whatever he loses from a drop in the share price, he would gain in the futures contract.

But then, he would miss out on any gain made by Infosys shares as that would be offset by losses on the futures contract. To tackle this problem, some investors prefer buying put options as a means of getting insurance for their stocks. With put options, you just have to pay a certain premium, which is normally around 1-2% of the contract value. The premium is the maximum an investor would lose from the contract.

On the other hand, if there is a drop in the share price, the losses would be offset by gains in the put option contract. Let’s take an example. Infosys shares trade at Rs 2,862 currently and investors can buy a put option that would allow them to sell Infosys shares at Rs 2,900 for a premium of Rs 70 per share (2.4% of the contract value). Let’s assume the share price drops to Rs 2,500. That would mean a loss of Rs 362 (Rs 2,862-Rs 2,500) on the shares, but a gain of Rs 400 on the put option contract (Rs 2,900-Rs 2,500), resulting in a net gain of Rs 38. Adjusted for the cost of buying the option (Rs 70), the loss would be limited to Rs 32, which is substantially lower than the loss of Rs 362 the investor would have incurred had he not bought the put option. And if Infosys shares gain, the maximum loss the put option buyer would face is Rs 70.

That’s a simplified way of explaining the concept of buying insurance for stocks. But most times, investors have a portfolio of stocks, and it would be cumbersome to buy options or sell futures of all stocks in the portfolio. At such times, it makes sense to just deal in Nifty contracts, which will help deal with systematic risk. This is because the Nifty represents market movement, and if the market rises or falls, this is captured by the Nifty.Currently, put options for selling the Nifty at 3,000 (rough equivalent for Sensex at 10,000) are available at Rs 31.1, which is just 1.04% of the contract value.

In other words, for every Rs 1 lakh an investor wants to protect from the risk of the Sensex dropping below the 10,000 levels, he ought to spend Rs 1,040 as insurance premium. Considering that losses could run into tens of thousands, that’s reasonable.

Posted by toughiee at 2:00 PM | Permalink | Comments | links to this post

Monday, February 13, 2006

Random Readings

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"In this game, the market has to keep pitching, but you don't have to swing. You can stand there with the bat on your shoulder for six months until you get a fat pitch." - Warren Buffett

Posted by toughiee at 7:29 PM | Permalink | Comments | links to this post

Sunday, February 12, 2006

Random Readings

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I'd compare stock pickers to astrologers, but I don't want to bad-mouth the astrologers. - Eugene Fama

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Saturday, February 11, 2006

Random Readings

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Success is getting what you want. Happiness is wanting what you get. - Warren E. Buffett

Posted by toughiee at 1:50 PM | Permalink | Comments | links to this post

Friday, February 10, 2006

Random Readings

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I'd be a bum on the street with a tin cup if the markets were always efficient.

- Warren E. Buffett

Posted by toughiee at 9:53 PM | Permalink | Comments | links to this post

India Inc`s P/E of 18.42 is racing far ahead of earnings

Source: Business Standard 1,613 firms' P/E is 16.65 to their trailing 12-mth earnings ended December 2005 against 13.24 for the period ended December 2004. Indian stock market is currently trading at a price-to-earnings multiple (P/E) of 16.65 times to its trailing twelve-month (TTM) earnings ended December 2005. A year ago, the stock market was valued at 13.24 times of its TTM earnings ended December 2004. The average P/E is arrived at by dividing the collective market capitalisation of the companies studied by the Business Standard Research Bureau with the total net profit earned by them in the trailing 12 months ended December 2005.

For the complete report click here and for Company-wise P/E ratios click here (229kb pdf file)

Posted by toughiee at 9:50 PM | Permalink | Comments | links to this post

Deluge of info, but is anyone gaining?

by Vivek Kaul/ DNA Money “Water, water everywhere, but not a drop to drink” goes an old English saying by Samuel Taylor Coleridge. If one were to paraphrase it in the context of the amount of news being churned out by the business news channels these days, it would be “information, information everywhere, but no time to think”. The business media in India has come a long way from getting the unabridged report of Reliance Industries Ltd within a few days of its printing meant an exclusive story to news anchors providing real-time information to investors and making a big hit when the Sensex crossed 10,000 for the first time. So, the question to be asked is, is more information good? The general rule is more information is always better. Investors need to have enough information on companies they are investing in. But more information need not always be good. Let’s take the case of US stockmarkets, and the stockmarket bubble in the late 90s. This bubble coincided with the explosion of business news channels. The most influential of them is CNBC. This channel provided non-stop coverage of what was happening in various stockmarkets through a ticker tape running at the bottom of the screen. As James Surowiecki points out in his book, The Wisdom of Crowds, “The network was, in one sense, just a messenger, letting the market, you might say, talk to itself. But as CNBC’s popularity grew, so did its influence. Instead of simply commenting on the market, it began - unintentionally—to move them. It wasn’t so much what was being said on CNBC that prompted investors to buy and sell, so much as it was the fact that it was being said on CNBC”. Economists Jeffrey Busse and T Clifton Green carried out a research on how markets reacted to information provided in the ‘Morning Call’ and the ‘Midday Call’ segments on CNBC. These segments, which were broadcast when the market was open, gave analysts’ views on individual stocks. When the recommendation on a stock was positive, the price of the stock went up within the first 15 seconds of the programme. When the recommendation was negative, the information was incorporated into the stock price over a period of 15 minutes. The point that clearly emerges here is that investors were not reacting to the content of the report. In 15 seconds, it’s not humanly possible to decide whether what was said in the report made sense. As Surowiecki points out, “All the investors, or speculators, cared about was that because CNBC said it somebody would be trading on it. Once you know that other people are going to react to the news, the only question becomes who can move fast enough”. CNBC and other business channels bombarded investors with news. At any point of time, an investor knows what other are thinking. This made it difficult for an investor to make an independent decision on a stock. Further research in psychology shows that more information does not necessarily improve judgment. Any extra information is helpful only if it comes without any bias or hype. But that is rarely the case. Business channels typically react to each and every piece of information they can lay their hands on. More often than not, any fall in the price of a stock is attributed to the trouble that lies ahead. And when the price rises, good times are promised ahead. This leads to investors buying and selling more often because they take each piece of new information to be more meaningful than it actually is. As Surowiecki points out, “The problem of putting too much weight on a single piece of information is compounded when everyone in the market is getting that information”.

Posted by toughiee at 11:14 AM | Permalink | Comments | links to this post

Thursday, February 09, 2006

The golden rules of investing

Source: Rediff Business Desk/ February 08, 2006

The Sensex is on fire, notwithstanding Wednesday's dip. It's a bull run like no other witnessed by Indian investors. And investment gurus -- like Marc Faber -- say this bull run could last for a decade or more!

While it is time to rejoice at the booming Indian economy and the historical journey of the Sensex, the foremost question in the minds of all small investors -- like us -- is whether it is the right time to buy or sell stocks now.

So what does the layman do in times of a roaring bull market? Are there any rules for you and me to follow while dealing in the stock market? What should you avoid doing? And, more importantly, what should you do?

Of course, there are some golden rules that you must follow. And these have been culled from a variety of sources: writings by investment gurus, articles in newspapers like Business Standard and Web sites like Equitymaster.com, opinions of brokers and analysts and a whole lot of others who have learnt the art of investing the hard way. Click here for the full story.

Posted by toughiee at 10:20 PM | Permalink | Comments | links to this post

Value-Stock-Plus

Informed Investing!

Tuesday, February 28, 2006

EM Bubble May Burst in 2006: Morgan Stanley

Random Readings

Monday, February 27, 2006

Random Readings

Price to Book Value: Numbers Say It All

Saturday, February 25, 2006

Random Readings

Even the best can make the wrong moves

Thursday, February 23, 2006

Sensex @ 10,000+: Any party poopers?

Random Readings

The best way to sell a stock: Tell a tale

Wednesday, February 22, 2006

The Limits of a Purely Technical Approach

Monday, February 20, 2006

Random Readings

Inflation & Deflation: The Hot and Cold End

Saturday, February 18, 2006

Random Readings

Friday, February 17, 2006

Asian Inflation: Behind the Curve

Annual Budget Hopes by Morgan Stanley

For Jardine Fleming, India is Asia's best

Markets: Exhibiting resilience...

Diversification does not always mean big bucks

Thursday, February 16, 2006

Random Readings

Wednesday, February 15, 2006

Random Readings

P/E Ratio and Earnings Yield

Tuesday, February 14, 2006

Random Readings

Buy a cushion when a fall is imminent

Monday, February 13, 2006

Random Readings

Sunday, February 12, 2006

Random Readings

Saturday, February 11, 2006

Random Readings

Friday, February 10, 2006

Random Readings

India Inc`s P/E of 18.42 is racing far ahead of earnings

Deluge of info, but is anyone gaining?

Thursday, February 09, 2006

The golden rules of investing

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