Jittery Bond Markets-Is It Time to Invest?-VRK100-14Aug.2013

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Rama Krishna Vadlamudi, HYDERABAD       14 August 2013
www.ramakrishnavadlamudi.blogspot.com

Dear Friend,

After WPI (wholesale price index) inflation unexpectedly rose to 5.79% in Jul.2013 from 4.86% in Jun.2013, the bond markets fell sharply and the 10-year G-sec yield has closed at 8.50% on 14Aug2013. This indicates more than 100 basis points rise in 10-year G-sec yield in the last one month or so. The rise reflects:

1. Reserve Bank of India's liquidity tightening measures, undertaken after July 15th, purported to stem Indian rupee's fall against US dollar.

2. The inability of the Central/State Governments and RBI to control inflationary expectations and trends in the Indian economy. While manufacturing inflation is contained by vitiating investment climate in the country, the authorities (RBI as well as the Governments) have been unable to do anything meaningful in controlling food and fuel inflation. The self-made fiasco has been going on for the past four to five years under the Manmohan Singh leadership. 

3. The realisation by the market participants that the authorities are not in a position to control either fiscal deficit (before 2014 General Elections) or current account deficit. 

4. Complete failure of the management of external value of rupee, especially in the last six to nine months, on the part of RBI and the Central Government #. 

(# Even as I was posting this article on my blog, news has broken out that the RBI has taken certain steps to control overseas direct investments and outward forex flows. My initial reaction to these measures is that these are regressive steps taken under panicky conditions.)

As you're aware, markets are integrated—meaning that what is happening to rupee is impacting bond as well as stock markets; and what is happening in bond markets is affecting both the rupee as well as the stock markets. To sum up, the stock, bond and currency markets are closely interlinked. The inter-dependence does not end in domestic markets. All the financial markets have been dancing to the tune of global developments, almost on a daily basis, particularly in the last one decade. You've seen how violently the Indian bond markets reacted after the US Fed in May/June 2013 hinted at tapering its quantitative easing or QE3 bond buying programme.

My point is that we need to have an understanding of all these markets—both domestic as well as global—to be able to exploit any mispricing of securities.

I think Indian bond markets are poised to offer good investment opportunity for investors with a time horizon of two to three years. I think we're inching closer to getting better opportunities. Ordinary investors like us cannot time the markets. However, we can start investing in some good debt mutual funds, which have exposure to long term bonds. When interest rates start to fall, prices of long term bonds will rise much faster compared to short term bonds. Hence, you can consider exposure to some long term bond funds to exploit the opportunities thrown up in the market, depending on your risk appetite. 

If my memory is correct, the previous high of 10-year G-sec yield was around 9.55% in 2008. Investors who bought bonds at a yield level of 9.50% or 9.00% had reaped phenomenal returns in the next three months. 

If the 10-year yield rises to 9.25% or 9.50% in the next few weeks/months, it'll be an excellent opportunity for bond investors. But I doubt whether RBI will allow the 10-year G-Sec yield to rise to 9.50% or above. (RBI is the banker to the Central Government. RBI always takes care of the Government's interests. If bond yields rise, the interest cost for the Government goes up. So, RBI always tries to keep the yields lower in order to protect the government.) So, the safe option is to invest in long term bond mutual funds, when the 10-year G-sec yield reaches a range of 8.75% and 9.25%. 

If there is too much panic in bond markets, because of inflationary concerns or something to do with the rupee, then bond market may react feverishly creating excellent opportunity for bond investors with a time horizon of two to three years. Disclaimer: Please check with your competent financial adviser before making investments. This post is meant for information purposes only. You can select some gilt mutual funds by doing thorough research or after consulting your adviser. 

Sharing is Winning,

RamaKrishna Vadlamudi

P.S: Post your comments on:

http://ramakrishnavadlamudi.blogspot.in/ 

Imminent Disaster at National Spot Exchange?-VRK100-14Aug2013

Rama Krishna Vadlamudi, HYDERABAD       14 August 2013
www.ramakrishnavadlamudi.blogspot.com

The world has seen many a financial crisis in more than one hundred years—right from the Great Depression of the 1930s to the Lehman Brothers collapse in 2008. Despite such financial disasters, no stock or commodity exchange has gone bust so far—to the best of my knowledge.

Now, India is about to create history—in the form of a commodity exchange going bankrupt, making hundreds of investors (most of them could be short-term greedy traders or punters) gasping for breadth.

Yes, you heard it right. The National Spot Exchange Limited (it is in no way related to the NSE or National Stock Exchange Limited, Mumbai). According to media reports, the National Spot Exchange Ltd (NSEL) may not be in a position to pay off its dues, to the tune of about Rs 5,500 crore to investors. At the start of this month, NSEL had suggested phased payment to end the crisis. But there is no clarity on this from the NSEL.

As an exchange, NSEL is the central counterparty to all transactions done on that exchange—which means NSEL receives payments from all the parties and guarantees payments to all the counterparties, thereby completing the payment and settlement process. If newspaper reports are to be believed, NSEL may not be having sufficient assets (in the form of contracted commodities kept in the warehouses or other assets) to fulfill its obligations to the investors. NSEL is promoted by Financial Technologies Ltd, which is the promoter to MCX Ltd also. The brain behind them is Jignesh Shah.

The real problem is that the National Spot Exchange is lightly regulated. So, the light regulation has been exploited by stakeholders, market-men and some investors.

It’s not clear whether the NSEL fiasco will spread to other entities, leading to a systematic crisis in the financial markets.

If the National Spot Exchange goes under water, it will be a world record—earning India the dubious distinction of a commodity exchange going bankrupt, a world’s first!

Till now, we have assumed commodity or stock exchanges would not go belly up. I think we need to revise our assumptions of such infallibility. 

Gold Ration Shops-VRK100-13Aug13

Dear Friend,

“In the small hours of today, I had a talk with finance minister PC. He seemed to have burnt midnight oil. He looked tired but put on a brave face. I could sense something was bothering him. I casually asked him what the matter was. First, he kept mum. But slowly he opened up. He said he was thinking all the time about the shortage. First, I thought he was worried about shortage of onions. But he was too big a man to spend sleepless nights on minions. Later, I assumed he was brooding over shortage of funds. I tried to lift his spirits. I praised him, in half-jest, saying you’d done excellent work and filled up a big hole in the government’s finances since you took office last year. (Amazingly, many commentators really believe so!)

“With a half-smile, he mumbled it was not about government’s finances. It was about shortage of dollars to meet obligations to foreign banks and foreign investors. I kept quiet for some time. But later I asked him what his plan of action was. He said he had used a lot of arrows in his quiver, but to no avail. I asked him what a quiver was (he was good in English, you know). He said it was a container for holding arrows. The rupee kept on falling and falling without any relief, he sighed.

“I enquired what he was going to do now. He gave out an expression which suggested he was clueless. After collecting his composure, he asked me what I would do if I were in his position. I was caught unawares by his query. Initially, I tried to be modest saying you’re the smartest finance minister the country ever had and stuff like that. He was very pleased but did not say so outwardly. But he was very firm and persisted for a reply. Reluctantly, I suggested the following creative (or you might say quixotic depending on your mood) plan named ‘FM Paanch Pataka’:

1. Open Gold Ration Shops (Goras). Through these Goras, sell gold depending on the family needs—using ‘Aadhar’ numbers. It would increase employment also before the 2014 elections. (I showered praises, in half-jest, on PC saying you’d done good work with rationing of LPG cylinders).

2. Raise marriageable age. This would bring down gold consumption. (But be prepared to face music from Sushmaa Swaraz in the Parliament). The added benefit is it would not only control spiraling population growth, but also bring down food inflation.

3. The government can open Non-essential Goods Ration Shops (Non-Goras): after identifying the wealthy classes, which are about 33% (100% – 67%) of population, as per the Food Security Ordinance. From these Non-Goras, you can dispense these goods to the identified wealthy classes. (You would get appreciation from the communists and leftists in the Parliament for curtailing non-essential goods consumption).

4. You should start a ‘Black Money Becomes White in a Jiffy’ scheme to attract money kept in foreign banks. This would increase the foreign exchange reserves by 35 to 40 percent.

5. Hush…hush...hush… (Whispered into PC’s ears, because it’s classified information. If you want to know this point, you can file an RTI application before the RTI Act is amended!)

“I also suggested PC to set up a high level committee on this and take appropriate measures. He moaned in appreciation, sitting in a drooping position in his rocking chair. As I was looking outside the window, a bright star was rising in the Eastern sky. So it was time for me to leave. I wished him good luck and departed.”

Disclosure: This is a dream I had this early morning. It seems early-morning dreams turn out to be true, but I don’t believe in superstitions.

Disclaimer: Written with malice against Indian politicians.

With dreamy eyes,

RamaKrishna Vadlamudi,

Hyderabad, India.

vrk_100@yahoo.co.in

Date: 13 August 2013.

P.S: Please post your comments on:

http://ramakrishnavadlamudi.blogspot.in/

Emerging Markets: Down but not Out-VRK100-10Aug2013

Rama Krishna Vadlamudi, HYDERABAD       10 August 2013
www.ramakrishnavadlamudi.blogspot.com

Since the beginning of this calendar year 2013, emerging markets are down. Various reasons can be attributed to the steep decline. Predominantly, the perception of the US Federal Reserve tapering its bond buying program (QE 3) has rattled the world markets in the last two months. This has resulted in large outflow of money from emerging markets to developed markets. Of course, emerging economies have their own domestic problems, ranging from street protests, currency depreciation, large deficits, and steep fall in commodity prices. Global investors have started realigning their portfolios, moving from emerging markets to developed ones. The trend may continue for another few quarters, before investors flock back to emerging markets—which are currently down, but not out.

Comparing Equity Returns of Developed & Emerging Markets (2003-2012):

Notes: S&P 500 index represents US equities; MSCI EAFE - MSCI Europe, Australasia and the Far East index (excludes US and Canada); and MSCI EM - MSCI Emerging Markets index.

The MSCI EM index has outperformed both the S&P 500 and MSCI EAFE indices in eight out of ten years between 2003 and 2012. The equity returns are depicted in the above graph. Only in 2008 and 2011, the emerging markets equity returns underperformed both the US equities; and world equities (ex-US and Canada).

During the current calendar year 2013, the emerging markets have underperformed the US equities, as well as other developed markets. What is troublesome for market participants now is that the underperformance is very large. While the MSCI EM index has fallen by about 10 percent, the S&P 500 has surged by 18 percent, indicating an overall underperformance of about 28 percent for emerging markets in 2013 so far. This underperformance is due to fall, in the range of 10 to 20 percent, of equities in Brazil, Russia, China and India.

In Japan, the Prime Minister Shinzo Abe has vowed to double the country’s monetary base in two years—with Bank of Japan injecting massive doses of liquidity into the markets, in order to boost the crippled economy and tackle the entrenched deflation. Following this, the Japanese Yen has depreciated against the US dollar by 11 percent in 2013, while the Nikkei stock market index has shot up by 31 percent. Stock markets in the UK, Germany and France too have gone up this year.

What Caused this Underperformance of EMs in 2013?

In May this year, the US Federal Reserve had hinted at tapering of its bond buying program (QE3). It was perceived that the tapering would start in September this year and would end by the middle of 2014. The markets have taken this news of US Fed tapering very negatively. Even though attempts have been made to assuage the markets subsequently, the market perception has not changed. The US Fed, the IMF and the ECB have tried to calm the nerves of financial markets, by saying that they’ll try the easy money policies as long as their economies remain weak. The reality is that one day these central banks have to stop their massive liquidity injection programs, resulting in large money outflows from emerging to developed markets. 

With the hint of US Fed tapering, global investors have started selling securities, both equity and bond, in emerging markets and taking their funds back to the developed markets. The yield of 10-year US Treasury note has increased from 1.6% in May to the current 2.58%, attracting funds back to the US markets, in some sort of trend reversal.

(As part of its Quantitative Easing 3 or QE3 program, the US Fed is committed to buying bonds worth $85 billion per month. When central banks buy bonds, they inject liquidity into the banking system. The massive monetary stimulus from developed economies since the 2007/2008 Global Financial Crisis, particularly the US Fed, has resulted in enormous liquidity, said to be about $12 trillion, in the world fuelling price inflation in the emerging market equities/bonds and world commodities. This excess money has been circulating around the world, chasing returns and yields.)

Weakness in BRICS markets:

With the BRICs markets grossly underperforming the developed market indices, investors have started focusing on risks in emerging markets. In general, investors demand higher equity risk premium to invest in emerging market securities, due to higher risks in them as compared to developed markets. Even debt market returns in emerging markets are negative this year. Brazil and Turkey have faced massive street protests recently—impacting the investor sentiment negatively. (Interestingly, Turkey’s sovereign rating was upgraded to investment grade by Moody’s in May 2013).

India is facing its own problems. The Damocles sword of a rating downgrade by Standard & Poor’s is hanging on its head for quite some time. It is running a large current account deficit, in addition to high fiscal deficit and stubborn food inflation. In July 2013, Brazil increased its interest rates from 8% to 8.5% in response to growing inflation rate, while Turkish central bank intervened heavily and sold US dollars to prop up Turkish lira.

Chinese economy has slowed down in the past few years. The new Chinese government is worried about local government debt and trying to put restrictions on budget deficits and bank credits. Global commodity prices have corrected. Year-to-date, gold has corrected by 20 percent and silver by 34 percent approximately. Even copper, zinc and aluminum have corrected between 10 to 13 percent. Commodity-producing countries such as, Brazil and Russia, have suffered following the commodity price decline. However, crude oil prices have remained firm.

The commentary from experts indicates that the fancy for emerging market stocks and bonds has faded away for the time being, as the focus has shifted to developed markets and investors seem to have shifted their loyalty away from emerging markets.

Brazilian real, South African rand, Indian rupee, and Turkish lira have fallen anywhere between 8 to 12 percent since May this year, after the talk of US Fed tapering hit the markets. These currency depreciations have prompted selling in emerging markets.

Convergence between Emerging and Developed Markets:

Over the years, emerging markets have evolved with gradual opening up of their economies, achieving superior economic growths and creating a sense of political maturity. One interesting development in recent years is that it is difficult to distinguish between companies in the developed markets and emerging markets. For example, a large number of US and European multi-national companies (MNCs) derive their revenues from outside their countries, including those in the emerging market group. The US-based companies, IBM, Accenture, Coca Cola, and Pfizer generate more than 50 percent of their total revenues from non-US countries. So are Swiss-based Nestle and UK-based Unilever.

Even companies in the emerging countries have acquired a global status by acquiring companies in the developed world. India’s Tata Motors has acquired JLR, the Birlas have acquired Novelis, and Apollo Tyres is taking over US-based Cooper Tire and Rubber.

There was a time when different economies used to follow different monetary and fiscal policies. After the Global Financial Crisis, most of the developed economies have been following similar monetary policies—that is, buying bonds and injecting money into the financial markets. The US Fed, the ECB and the BoJ have followed these massive bond buying programs.

Convergence in the world markets has gone up. Correlations across equity markets have increased in recent years, especially in the last decade following increased globalization, massive surge in cheap money and interdependence of global trade.

Still Differences Exist:

While differences have narrowed down, there remain still a lot of differences between developed and emerging economies. Emerging markets still carry higher risks—ranging from volatile political/social environment, heavy dependence on commodities, weaker capital market regulation, higher market volatility, unsustainable current account deficits and currency risks. Global wealth is concentrated in developed countries.

Emerging Markets: Poised for Comeback:

At one end, global investors chase growth and/or yield. They’re quick to withdraw or invest their money at very short notice. But at the other end, large institutional investors, like pension funds, insurance companies and foundations, look for stable and long term returns. They lend stability to financial markets—be it equity or bond. They play an anchoring role in markets.

Emerging markets will continue to attract investor interest. Unilever increased its stake in Hindustan Unilever, its Indian subsidiary, from 52% to 68% by pumping in $3.2 billion. Diageo of the UK bought India’s United Spirits and UK-based BP invested in Reliance Industries’ gas blocks.

While emerging markets have not been doing well as compared to the developed ones at present, there exists a large potential for emerging markets to grow much faster than developed markets. Of course, there will be some rotation in the list of emerging markets. The focus of global investors will shift to newly emerging markets, where the prospects would be much better. The future of developed and emerging markets is interlinked. Higher fertility rates, advances in technology, education & healthcare, favorable demographic changes, and domestic consumption are still the star attractions for emerging markets. The negativity surrounding developing countries is justified, but no one can deny their potential for future and faster growth.

They’re down, but it’s not time to write them off.

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Notes:

BoJ – Bank of Japan

BRICs – A grouping of Brazil, Russia, India and China (sometimes South Africa is also included)

DMs – Developed Markets

ECB – European Central Bank

EMs – Emerging Markets

IMF – International Monetary Fund

Disclaimer: The author is an investment analyst and freelance writer. This write-up is for information purposes only and should not be taken as investment advice. Investors are advised to consult their financial adviser before making any investment decisions. The author’s articles on financial markets and Indian economy can be reached at:

http://ramakrishnavadlamudi.blogspot.in/

Short Report: Swelect Energy Systems-VRK100-04Aug2013

Rama Krishna Vadlamudi, HYDERABAD       04 August 2013
www.ramakrishnavadlamudi.blogspot.com

Dear Friend,

Swelect Energy Systems Ltd (Old name: Numeric Power Systems):

1. Business: After selling its UPS business through a slump sale in June last year, the company is now focusing on solar energy and wind power systems and related businesses, after acquiring controlling stake in HHV Solar Tech and BS Powertech Solutions. In recent years, it has also acquired controlling stake in foundries, steel and alloys--namely Amex Alloys Pvt Ltd and Amex Irons Pvt Ltd, both based in Tamil Nadu. The solar/wind business is a promising business, because public awareness about power cuts, cost benefits and clean technology has increased in India. This is a capital intensive business. The company's business prospects are now similar to that of a start-up company. 

2. Financials: I've looked at its 2012-13 Annual Report. There is no use analyzing the financials of the company to form an opinion about the company's strength because--after the slump sale of its core UPS business, it is just like a start-up. It has good cash balances in the Balance Sheet (B/S), including some cash kept in an escrow account related to the now-sold UPS business. So, please do not give too much consideration to the current book value of the company. In the past five to six years, the promoters have not relied on debt to grow their business and as such their interest costs had been minimal. The promoters seem to be following some discipline in relation to managing finances. For 2012-13, the operating cash flow is negative at minus Rs 40 crore. This is obvious because the company started on a clean slate last year after selling UPS business. Leaving aside the special dividend of Rs 120 per share paid in July 2012, it has been consistently paying dividends for several years. Historically, its dividend payout ratio is quite low at 10%--I think this is because the company had been using the retained cash for business rather than distributing it, thus avoiding any debt on the B/S. 

3. Corporate governance: The promoters' stake in the company is 65%. There is no record of pledged shares by them. I think the company doesn't have any governance issues. 

4. Institutional shareholding: Currently, the FIIs and Mutual Funds hardly own any shares in the company. In fact, their holding has come down from about 8% (18 months back) to almost nil now. Once the bread-and-butter UPS business is gone, the institutional investors seem to have lost interest in the company’s stock after the payment of special dividend of Rs 120 per share last year. 

5. Comparables: Due to the incipient nature of the business, I'm unable to find any listed companies comparable to Swelect ES. 

My opinion:

Overall, the promoters seem to be okay. The solar/wind business and foundry business seem to be unrelated. I'm unable to figure out what would be the core business of the company going forward. There is no clarity on business prospects, though I'm sanguine in general about solar power in India. This is highly capital intensive, though the company may be able to manage this aspect due to its good record of financial discipline. The governments (Union/State) seem to be ignoring the potential of solar business in India. 

The current market price of the stock is Rs 144 and its market capitalization is Rs 145 crore. Considering the uncertainty about its business prospects, bear grip on Indian equities, fear of QE tapering by the US Fed, and sputtering Indian economy, I would avoid investing in the stock at this point of time. 

Disclosure: This is a short analysis and not a through analysis. I don’t own any shares in the company’s stock.

Sharing is Winning,

Rama Krishna V

http://ramakrishnavadlamudi.blogspot.in/ 

Disclaimer: The author is an investment analyst has a vested interest in the stock markets.

Note: The following is my email reply to a query from a friend abroad about the prospects of this Chennai-based company.

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Politicians-The Breeders of Corruption-VRK100-03Aug2013

Politicians: The Breeders of Corruption

Rama Krishna Vadlamudi, HYDERABAD       03 August 2013
www.ramakrishnavadlamudi.blogspot.com

In the words of Lowell, political parties serve as ‘the brokers of ideas,’ in the sense they enable the citizens to find the truth for themselves in the matters of public policy.  But it wouldn’t be wrong to argue that political parties in India have become ‘breeders of corruption.’ Our politicians are masters in the art of self-preservation. In this pursuit, they spar like blood-thirsty hounds on issues of common public. On no matter of public interest, they see eye to eye. Remarkably, they display extraordinary cooperation when it comes to certain issues.

Ten areas where Indian politicians/legislators agree unanimously:

1. Amending the RTI Act to exclude political parties from its purview*

2. Seeking to negate the Supreme Court verdict, which disqualifies convicted MPs and MLAs from              contesting elections #

3. Raising salaries and perks of legislators – MPs, MLAs and MLCs

4. Formation of Telengana State (except CPM and SP)

5. Introducing more control in the garb of ‘regulation’

6. Defining poverty and poor people

7. Bunking parliament/assembly, but claiming all allowances

8. Thinking that they are above law

9. Craving for ‘Z’ security

10. ‘Slicing and dicing’ people with promises of more and more ‘reservations’

* The Central Information Commission on 03 June 2013 ruled that national parties, BJP, BSP, Congress (I), CPI, CPM and NCP are public authorities under the Right to Information Act as they are substantially funded by the Government.

# The Supreme Court on 10 July 2013 ruled that convicted persons are not eligible to vote indicating that convicted MPs and MLAs cannot contest elections.

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Abbreviations: MP – Member of Parliament and MLA – Member of Legislative Assembly.

Note: With malice and jaundiced view against Indian politicians.