Mera Bharat Kahan-- Bala's Blog

Reduction of bank branch audits—a right step - Moneylife Personal Finance site and magazine

2012-01-17T19:53:00.000+05:30

Reduction of bank branch audits—a right step - Moneylife Personal Finance site and magazine

Reserved Bank of India

2012-01-16T19:56:00.001+05:30

The RBI has demonstrated that it can poke its dirty nose in to any corner. For years, the RBI has been making the PSU bankers as corrupt as possible, by keeping their salaries below what an equity research analyst would get at a brokerage firm. You rarely see the kind of competence in a PSU bank that you see in a private sector bank. RBI has now issued the most devastating circular yet. (RBI/2011-12/349DBOD No.BC.72/29.67.001/2011-12- dated 13 January 2012)Soon we will reach a time when even the salaries of the clerks in a private bank will be decided by the RBI. It is also a funny circular in the sense that it contains so many homilies like:• Compensation must be adjusted for all types of risk.• Compensation outcomes must be symmetric with risk outcomes.• Compensation payout schedules must be sensitive to the time horizon of risks.• The mix of cash, equity and other forms of compensation must be consistent with risk alignment• Supervisory review of compensation practices must be rigorous and sustained, and deficiencies must be addressed promptly with supervisory action.• Firms must disclose clear, comprehensive and timely information about their compensation practices to facilitate constructive engagement by all stakeholders.Each sentence is a gem. If the spirit of this circular has to be followed by private sector banks, the best thing is to have a dummy CEO for the sake of compliance and RBI monitoring and have a CEO who is designated outside the various positions covered by the circular. RBI is interfering in internal things of a business. I can understand that they screw up the PSU banks, since they are part of the same gang that give targets to the banks to fritter money on political causes and bosses.The hand of a frustrated government employee is visible across the circular. Frustration and envy about someone far more competent getting a higher salary.

Stocks vs Mutual Funds vs Gold vs Silver

2012-01-02T16:44:00.001+05:30

(This appears in the recent issue of Moneylife. The magazine does not carry the table, which I have given here for easy reference)PRESERVING WEALTH I have made an attempt to have a look at various asset classes and how they have delivered. I did not include real estate as it would vary too widely even within the same city. In equities, I have given the index values (to indicate passive investing) and also taken an actively managed equity fund. I have chosen HDFC Top 200 as has history and size. Also, it is not purely large cap or mid cap oriented, though given its present size, surely finding new stocks to invest in meaningful sizes would be extremely tough. Yes, the choice of funds would make a difference to the performance, since nearly half the existing mutual funds in equities, underperform the index. I have added gold and silver as the other assets that are commonly being encouraged and talked about. Of course, statistics can be presented in many ways and for different time periods. The timelines can make a huge difference to the conclusions that we wish to draw and a writer’s bias can always be introduced. I have tried to minimize this by taking data measurement at multiple reference points during a ten year span. Hopefully, I have ironed out most of the biases, though a glance at the table does tell me that I have managed to avoid the highs and the lows of the stock markets. To this extent, I have no case to argue with anyone who says (with a glance at the rearview mirror) that investing at the highest or the lowest level of the indices could have different conclusions. I have of course stuck to domestic investment options only. Today, with freedom to remit and invest up to two lakh dollars each year, the available asset classes expand dramatically. We can also play on the foreign exchange risk rewards. Surely, that is an important asset class (for the real HNI and not for mere mortals) and Indians will seek to keep assets overseas to diversify wealth. Of course, a lot of Indians do have unaccounted wealth overseas and they could perhaps tell us better about the performance of that asset class.Also, it was difficult to get reliable or authentic data on prices of gold and silver going back to ten years, so I have used multiple sources from the internet to get data. However, I think that the prices are fairly accurate and sufficient for this exercise.My key takeaways are:i) Next to direct equities (specific company stocks), a well managed diversified equity fund delivers the best results over time;ii) Timing makes a big difference to the returns. Someone who got in to the markets in the beginning of 2002 has more money on December 1st, 2011 as compared to the person who started off in the beginning of 2000. So, paying attention to market moods and valuations is as important as committing money to an asset class;iii) Gold and silver have delivered far better returns than the index, but lag the chosen fund;iv) Gold has given consistently positive returns since 2002, but it is debatable whether this run will continue. So long as the world has problems and worries, gold will do well as it is simply an alternate to the dollar or the Euro;v) Silver has been highly erratic and is surely much more speculative than gold;vi) Passive investing in ETF’s may not be the best strategy to pursue equities;vii) The most important lesson is that it takes a long time to create serious wealth. Patience is important; viii) There will be very good years, very bad years and some uninteresting years;ix) Traders will find it extremely tough to consistently make money in our stock markets; andx) Pray that when we need the money, the markets are in a bull phase so that we can exit high. Perhaps we should think of taking off some part of our money away from equities whenever there is a spectacular year. Or more important, keep a constant balance between equities and fixed income. For instance, keep equities plus fixed income at a constant percentage, so that when equities rise, part of it automatically gets converted in to fixed income and vice versa. A balanced fund will not work because it can never get returns like equities, in a bull market.Table given below (If anyone cannot decipher this, please email me at balakrishnanr@gmail.com for a copy in excel format) PRESERVING WEALTH I have made an attempt to have a look at various asset classes and how they have delivered. I did not include real estate as it would vary too widely even within the same city. In equities, I have given the index values (to indicate passive investing) and also taken an actively managed equity fund. I have chosen HDFC Top 200 as has history and size. Also, it is not purely large cap or mid cap oriented, though given its present size, surely finding new stocks to invest in meaningful sizes would be extremely tough. Yes, the choice of funds would make a difference to the performance, since nearly half the existing mutual funds in equities, underperform the index. I have added gold and silver as the other assets that are commonly being encouraged and talked about. Of course, statistics can be presented in many ways and for different time periods. The timelines can make a huge difference to the conclusions that we wish to draw and a writer’s bias can always be introduced. I have tried to minimize this by taking data measurement at multiple reference points during a ten year span. Hopefully, I have ironed out most of the biases, though a glance at the table does tell me that I have managed to avoid the highs and the lows of the stock markets. To this extent, I have no case to argue with anyone who says (with a glance at the rearview mirror) that investing at the highest or the lowest level of the indices could have different conclusions. I have of course stuck to domestic investment options only. Today, with freedom to remit and invest up to two lakh dollars each year, the available asset classes expand dramatically. We can also play on the foreign exchange risk rewards. Surely, that is an important asset class (for the real HNI and not for mere mortals) and Indians will seek to keep assets overseas to diversify wealth. Of course, a lot of Indians do have unaccounted wealth overseas and they could perhaps tell us better about the performance of that asset class.Also, it was difficult to get reliable or authentic data on prices of gold and silver going back to ten years, so I have used multiple sources from the internet to get data. However, I think that the prices are fairly accurate and sufficient for this exercise.My key takeaways are:i) Next to direct equities (specific company stocks), a well managed diversified equity fund delivers the best results over time;ii) Timing makes a big difference to the returns. Someone who got in to the markets in the beginning of 2002 has more money on December 1st, 2011 as compared to the person who started off in the beginning of 2000. So, paying attention to market moods and valuations is as important as committing money to an asset class;iii) Gold and silver have delivered far better returns than the index, but lag the chosen fund;iv) Gold has given consistently positive returns since 2002, but it is debatable whether this run will continue. So long as the world has problems and worries, gold will do well as it is simply an alternate to the dollar or the Euro;v) Silver has been highly erratic and is surely much more speculative than gold;vi) Passive investing in ETF’s may not be the best strategy to pursue equities;vii) The most important lesson is that it takes a long time to create serious wealth. Patience is important; viii) There will be very good years, very bad years and some uninteresting years;ix) Traders will find it extremely tough to consistently make money in our stock markets; andx) Pray that when we need the money, the markets are in a bull phase so that we can exit high. Perhaps we should think of taking off some part of our money away from equities whenever there is a spectacular year. Or more important, keep a constant balance between equities and fixed income. For instance, keep equities plus fixed income at a constant percentage, so that when equities rise, part of it automatically gets converted in to fixed income and vice versa. A balanced fund will not work because it can never get returns like equities, in a bull market.Table given below (If anyone cannot decipher this, please email me at balakrishnanr@gmail.com for a copy in excel format) HDFC Top 200 BSE Sensex Gold(10gms) Silver(1kg) NAV Returns Value Returns (Rs) Returns (Rs) Returns01-01-2000 20.380 5,005.82 4508 8455 01-01-2001 15.260 -25% 3,972.12 -21% 4512 0% 7820 -8%01-01-2002 13.570 -11% 3,262.33 -18% 4630 3% 7770 -1%01-01-2003 17.360 28% 3,377.28 4% 5590 21% 8040 3%01-01-2004 41.043 136% 5,838.96 73% 6235 12% 9575 19%01-01-2005 51.517 26% 6,602.69 13% 6300 1% 10170 6%01-01-2006 79.982 55% 9,397.93 42% 7705 22% 13770 35%01-01-2007 109.925 37% 13,786.91 47% 8835 15% 17975 31%01-01-2008 170.241 55% 20,286.99 47% 10170 15% 19100 6%01-01-2009 94.479 -45% 9,647.31 -52% 13450 32% 17958 -6%01-01-2010 180.456 91% 17,464.81 81% 16665 24% 26700 49%01-01-2011 225.661 25% 20,509.09 17% 20688 24% 46016 72%01-12-2011 183.153 -19% 16,805.33 -18% 28880 40% 56652 23% Value of one rupee HDFC Top200 Sensex Gold Silver invested on 01-01-2000 8.99 3.36 6.41 6.70 01-01-2001 12.00 4.23 6.40 7.24 01-01-2002 13.50 5.15 6.24 7.29 01-01-2003 10.55 4.98 5.17 7.05 01-01-2004 4.46 2.88 4.63 5.92 01-01-2005 3.56 2.55 4.58 5.57 01-01-2006 2.29 1.79 3.75 4.11 01-01-2007 1.67 1.22 3.27 3.15 01-01-2008 1.08 0.83 2.84 2.97 01-01-2009 1.94 1.74 2.15 3.15 01-01-2010 1.01 0.96 1.73 2.12 01-01-2011 0.81 0.82 1.40 1.23 PRESERVING WEALTH I have made an attempt to have a look at various asset classes and how they have delivered. I did not include real estate as it would vary too widely even within the same city. In equities, I have given the index values (to indicate passive investing) and also taken an actively managed equity fund. I have chosen HDFC Top 200 as has history and size. Also, it is not purely large cap or mid cap oriented, though given its present size, surely finding new stocks to invest in meaningful sizes would be extremely tough. Yes, the choice of funds would make a difference to the performance, since nearly half the existing mutual funds in equities, underperform the index. I have added gold and silver as the other assets that are commonly being encouraged and talked about. Of course, statistics can be presented in many ways and for different time periods. The timelines can make a huge difference to the conclusions that we wish to draw and a writer’s bias can always be introduced. I have tried to minimize this by taking data measurement at multiple reference points during a ten year span. Hopefully, I have ironed out most of the biases, though a glance at the table does tell me that I have managed to avoid the highs and the lows of the stock markets. To this extent, I have no case to argue with anyone who says (with a glance at the rearview mirror) that investing at the highest or the lowest level of the indices could have different conclusions. I have of course stuck to domestic investment options only. Today, with freedom to remit and invest up to two lakh dollars each year, the available asset classes expand dramatically. We can also play on the foreign exchange risk rewards. Surely, that is an important asset class (for the real HNI and not for mere mortals) and Indians will seek to keep assets overseas to diversify wealth. Of course, a lot of Indians do have unaccounted wealth overseas and they could perhaps tell us better about the performance of that asset class.Also, it was difficult to get reliable or authentic data on prices of gold and silver going back to ten years, so I have used multiple sources from the internet to get data. However, I think that the prices are fairly accurate and sufficient for this exercise.My key takeaways are:i) Next to direct equities (specific company stocks), a well managed diversified equity fund delivers the best results over time;ii) Timing makes a big difference to the returns. Someone who got in to the markets in the beginning of 2002 has more money on December 1st, 2011 as compared to the person who started off in the beginning of 2000. So, paying attention to market moods and valuations is as important as committing money to an asset class;iii) Gold and silver have delivered far better returns than the index, but lag the chosen fund;iv) Gold has given consistently positive returns since 2002, but it is debatable whether this run will continue. So long as the world has problems and worries, gold will do well as it is simply an alternate to the dollar or the Euro;v) Silver has been highly erratic and is surely much more speculative than gold;vi) Passive investing in ETF’s may not be the best strategy to pursue equities;vii) The most important lesson is that it takes a long time to create serious wealth. Patience is important; viii) There will be very good years, very bad years and some uninteresting years;ix) Traders will find it extremely tough to consistently make money in our stock markets; andx) Pray that when we need the money, the markets are in a bull phase so that we can exit high. Perhaps we should think of taking off some part of our money away from equities whenever there is a spectacular year. Or more important, keep a constant balance between equities and fixed income. For instance, keep equities plus fixed income at a constant percentage, so that when equities rise, part of it automatically gets converted in to fixed income and vice versa. A balanced fund will not work because it can never get returns like equities, in a bull market.Table given below (If anyone cannot decipher this, please email me at balakrishnanr@gmail.com for a copy in excel format) HDFC Top 200 BSE Sensex Gold(10gms) Silver(1kg) NAV Returns Value Returns (Rs) Returns (Rs) Returns01-01-2000 20.380 5,005.82 4508 8455 01-01-2001 15.260 -25% 3,972.12 -21% 4512 0% 7820 -8%01-01-2002 13.570 -11% 3,262.33 -18% 4630 3% 7770 -1%01-01-2003 17.360 28% 3,377.28 4% 5590 21% 8040 3%01-01-2004 41.043 136% 5,838.96 73% 6235 12% 9575 19%01-01-2005 51.517 26% 6,602.69 13% 6300 1% 10170 6%01-01-2006 79.982 55% 9,397.93 42% 7705 22% 13770 35%01-01-2007 109.925 37% 13,786.91 47% 8835 15% 17975 31%01-01-2008 170.241 55% 20,286.99 47% 10170 15% 19100 6%01-01-2009 94.479 -45% 9,647.31 -52% 13450 32% 17958 -6%01-01-2010 180.456 91% 17,464.81 81% 16665 24% 26700 49%01-01-2011 225.661 25% 20,509.09 17% 20688 24% 46016 72%01-12-2011 183.153 -19% 16,805.33 -18% 28880 40% 56652 23% Value of one rupee HDFC Top200 Sensex Gold Silver invested on 01-01-2000 8.99 3.36 6.41 6.70 01-01-2001 12.00 4.23 6.40 7.24 01-01-2002 13.50 5.15 6.24 7.29 01-01-2003 10.55 4.98 5.17 7.05 01-01-2004 4.46 2.88 4.63 5.92 01-01-2005 3.56 2.55 4.58 5.57 01-01-2006 2.29 1.79 3.75 4.11 01-01-2007 1.67 1.22 3.27 3.15 01-01-2008 1.08 0.83 2.84 2.97 01-01-2009 1.94 1.74 2.15 3.15 01-01-2010 1.01 0.96 1.73 2.12 01-01-2011 0.81 0.82 1.40 1.23

Stocks 2012

2011-12-30T15:56:00.003+05:30

(My annual piece for the year end issue of the Dalal Street Journal)2012- A long year for stock markets2011 will go down as one of the most frustrating years for the Indian markets. It also is a year when the India story started to sound less than convincing, to global investors. It is also the year where the supply side constraints have kind of imposed a lingering consumer price inflation which is stubborn and the RBI has tried to hold it down with over a dozen interest rate hikes. Alas, the interest rate hikes seem to only have added fuel to the fire. A panic stricken RBI has freed interest rates on savings bank accounts leading to a free for all within banks to grab deposits. Liquidity has dried up so much that even SBI is offering near eight percent returns on deposits for just one week!The PIIGS problem in the Euro has awoken the world to the evils of living beyond one’s means. However a conclave of the wise men of the Central Banks of Europe and a few countries are putting up a brave front and offering to pump in more of the printed currency. Is this going to turn the markets around or is it a golden opportunity to exit? Reason supports the latter and hope supports the former. Now, Central Banks are resorting to window dressing! There is a fair chance that the world is heading to a kind of stagflation (with Central Banks printing more money and producers not producing more). It may take a long time to unwind, but looks like we are headed out there. Every country’s finances (barring maybe a China here and a Russia there) are in bad shape. Political survival worldwide seems to be the excuse for fiscal profligacy. Indian economy continues to grow on the back of strong consumer demand. Consumer still has his pockets full thanks to services growing at a decent clip and rural India enjoying the benefits of high farm produce prices. In addition, government freebies (whether it is NREGA from the Centre or other state sponsored freebies) give more thrust to consumer muscle. The banks have also joined the party, with auto loans being given at ridiculously low interest rates of six to eight percent when SME’s are paying over fifteen percent . Add to that the liquidity crunch and the weakness in capital markets, supply bottlenecks grow whilst demand continues to keep rising. A natural outcome is inflation. Over a dozen successive doses of misguided interest rate hikes by RBI has only fuelled inflation rather than taming it. Indian politics has done nothing to encourage investment, being hit by one successive accident after another. Commodity prices will remain soft so long as global economic growth is weak. Gold and silver continue to shine as excess money chases safer havens. The US dollar is the ‘last man standing’ when it comes to currency, thanks to the Euro tottering. In all this chaos, our stock markets have held up remarkably well, with valuations still in excess of fifteen times earnings (that will perhaps fall in the next year). Whilst a one year picture does not look very good, the Indian market show, if we measure it from the bottom of the Lehman crisis, is fantastic. Yes, traders have not had a good time and luck with market timing perhaps had more than its fair share in the way we measure our gains from investing.Fixed income instruments are offering interesting returns of eleven to twelve percent on AA rated paper. SBI is offering eight and a half percent returns on one week money! Short term money is as expensive if not more as long term money as companies postpone projects due to fund raising constraints. Perhaps, one to two year returns on these will beat stock market returns. For stock market returns to be good, we need falling interest rates. This gives us a great option to buy tradeable fixed income paper now and sell it when interest rates fall (will they fall significantly is a debatable issue).I will stay invested or add to Gold. Equities are yet to turn interesting. Perhaps a decline to BSE Sensex levels of around 14000 or so would make it more value investment than now. In the absence of long term leveraged options, trading in volatile markets is going to be tough. I will still remain invested in stocks of companies focused on domestic demand and having high (preferably over thirty percent per annum) Return on Equity (ROE). The upside seems capped for a couple of years at least. Fixed income returns at eleven or twelve percent per annum look all set to beat equity returns over the next couple of years. Unless of course we have a great fall and can then buy in.R. Balakrishnan(balakrishnanr@gmail.com)December 6th, 2011

Financial Planning-

2011-12-17T16:43:00.002+05:30

(An article in the Economic Times, by an 'expert' set me thinking... Financial Planning sure is complex.. The article went round in circles and ...)This article appears in the latest issue of MoneylifeFINANCIAL PLANNING OR ADVISE? CHOOSE CAREFULLY....Recently I was reading an article by an expert on ‘Financial Planning’. It was amazing and an eye opener for me. Apart from talking a lot of gas, his expert advice stunned me. In brief, he said that everyone must save one third, spend one third and the balance one third (all of “NET income”) can be used for meeting debt repayments. Suddenly it struck me. No wonder I can’t plan for myself. In all my years, I struggled with such a poor income that I had to foolishly spend almost ninety percent of my “NET” income on useless day to day things. Only if I had received this sound advice when I started my career? By now I would have been filthy rich. Whether I would have physically survived is a different issue, considering that most of my expenses were towards daily needs. Of course, if you earn enough just to make ends meet, you are of no use to anyone in the financial services industry, since you cannot generate enough money. I also did not have enough borrowings to meet the criterion of having to use ‘one third of my net income’ to be used for repayments of loans. I borrowed very late in life (since in my early days, I did not have enough of margin money to put up as my skin in the game). Also, to keep my expenses within one third, useful hints included “Keeping a limit on unavoidable expenses”, “negotiating”, “bargaining” etc., In “Negotiating” it included such day to day expenses like “room tariff’ in case of hotel bookings etc., The piece also included some hints on using online shopping. By inference, financial planning appears to be a tool for the very high income earner only. Spend restricted to one third of ‘Net’ monthly take home pay. Save at least one third of ‘net’ take home. Does it mean that in reality I save more than one third of my gross? Also, what about my personal situation? Does the one third rule hold good whether I am single, double, have kids, no kids, have house or not, ..? What if I cannot live within one third of my net salary? Does it mean that financial planning is not for me?I always think that if you have to ‘plan’ something with a calculator, it is not worth planning. Salaries and prices keep changing, needs keep changing. So, savings for me is actually a residue. If you earn enough, then you put away something regularly. Now we have a plethora of choices, so I make mine depending on my greed and stomach to take risks. Of course, I have goals. Those goals certainly depend on what I earn and what I can spare. I think one cannot have a goal and then work out the finances. Things have to move from the realm of possibilities to certainties. Only then will I aspire for something.Surely, if I do not save enough, no planner can help me reach a dream. A dream has to be within the boundaries of probabilities. Yes, maybe I may need help in choosing a reasonably good path to get there and a financial advisor may help.Should I make a distinction between the role of a financial planner and a financial advisor? I think it becomes absolutely necessary. My planner should not be compromised because he is also an authorised seller of some product and he gets a commission from that. It is essential that I pay my planner a decent sum so that I get good help with my finances, rather than rely on some “one third” nonsense that I read in the papers. A good financial planner will start with what I have, what I can expect to earn and save rather than ask me what I want and pre-decide what I should save. If he listens to me, prods me and guides me, he has done his work.I can always turn to an advisor for choosing a product or do it myself. In this way, I do not dilute the quality of advice my planner gives me. I think this is extremely important. I do not like those planners who offer ‘planning’ for a fee of nothing to a thousand rupees and then send me forms of mutual funds and insurance products or bonds etc., I want a planner who does not use a silly template and then classifies me as ‘moderate’ ‘aggressive’ or ‘foolish’. I want him to spend time with me, understanding what I have and what I need and giving me paths to choose. That would be the best thing a ‘planner’ can help me out with.I clearly think that the planner and advisor should be separate persons, in order to avoid any conflict of interest. It may be worth having an annual contract with an advisor, where we pay him an annual fee for spending some time with us, holding our hands in money matters and then guiding me. Here, I have to change my mindset about getting ‘free’ advice. The person, who gives me free advice, has no commitment and I cannot hold him responsible for anything. But one thing is clear to me. Financial planner and financial advisor are two separate persons, not from the same organisation and I need them both, perhaps.November 26th- 2011

Dark Age of India

2011-12-15T17:46:00.000+05:30

Free power to farmers- bankrupt the electricity boards-Power cuts in winter- Mera Bharat truly Mahaan!

The Hindu : Business / Economy : The coming Dark Age of India

Anil Ambani ‘ultimate owner' of offshore fund

2011-12-15T17:39:00.000+05:30

The Hindu : Business / Companies : Anil Ambani ‘ultimate owner' of offshore fund

The FM will not tell- Code of honour

2011-12-14T19:29:00.000+05:30

The government has the info and the FM won't tell. Birds of a feather flock together!!

The Hindu : News / National : Information on accounts abroad can’t be made public: Pranab

Buying the BEAR-

2011-11-27T18:30:00.001+05:30

(an edited version appeared in today's Asian Age/Deccan Chrnomicle)GETTING BULLISHI do not know if we are in a bear market in the ‘technical’ sense of the word. However, it does seem that people think so. In the last two to three years, post the Lehman crisis, retail participation in stock markets has been diminishing and there is a marked shift of new money to gold, fixed deposits, bonds etc., Stocks and real estate seem to have been pushed to the corner. We tend to ignore equity investing and resume only after the market appears visibly to be in a bull orbit. By then, we would have missed many opportunities.It is said that bear markets correct not only stock prices, but also attitudes and philosophies. People always want to ‘get rich’ NOW. Stock markets used to be the favourite place for attempting this. People are now looking for the next Holy Grail, having burnt fingers in real estate and stocks. The boom in silver followed by a sharp correction shook off a lot of hangers on. Gold has its faithful, but is more a repository for capital protection and an insurance against a shrinking economic globe.As Indians, in addition to the loss of any viable investment options (that can help us to ‘get rich quick”) we are also socked in the gut by inflation which hits us each time we open our wallet. Recognising that, the government has reduced the size of the new one rupee coin so much that you mistake it for a fifty paise coin. It is symbolic of the erosion in the purchasing power of the rupee over the last three years or so. So, having resigned ourselves to below inflation returns from bonds or fixed deposits, we have now turned our attention to our spending habits. We look at where we can cut or totally eliminate expenditure. We are either worried about preserving our money or, sadly, in many cases, reconciling ourselves to a diminished lifestyle. Many are also sceptical about “SIP” in equities, not having seen much return or simply because of the phase of investments they are in. On top it, the wall of worries is brick-lined with falling political and economic stability. Some people I talk to seem to be smug about the stock markets not having ‘bottomed’ yet. I wonder if these people hear someone ringing a bell at the bottom. Everyone seems to be an expert at timing the market. If you are one of those, then read no further. You know when to buy and when to sell and I am sure you are sitting with a pile of money to invest at the right moment.This is for those of us who want to build a ‘core’ portfolio of high quality equity shares for the long term. By long term I mean anything beyond ten years. Does it matter when you buy, if you are going to hold it for ten years? I think it does. For example, if I buy something at Rs.100 and it becomes Rs.1000 in ten years, it is great. I think it is even greater if I could buy it at Rs.60 or Rs.80. At Rs.80, I can buy 25% extra shares in the company as opposed to a price of Rs.100!! Similarly, if we measure the performance of mutual fund schemes from, say, 1996 to date, they have surely done better than the broad indices.So, let us not waste much time wondering whether the markets have bottomed out or if there is a long way to go. Maybe when this decade is over, the Sensex may still be at 22000 or so. We just have to check the prices of some quality stock like Hindustan Unilever or Cummins or Colgate etc a couple of years ago when the markets were at 21000 and today when the markets are at 16000. For example, Hindustan Unilever was Rs.214 when the Sensex was 20,325 in end January 2008. At the point of writing this, the Sensex is around 16,000 and Hindustan Unilever is around Rs.390. Do the math yourself. Please do not think that Hindustan Unilever is my top pick or that I own the stock. I am giving a couple of names of what I think are high quality stocks, with consistently high return on equity (ROE). I am sure that you can give me a list of stocks that have also destroyed wealth over time.The thing is that equities are the only asset class that can deliver long term value. Real estate or gold give far lower long term average returns. What happens in gold or real estate is that we see sudden spikes of sharp appreciation and very long periods of stagnation. If we take the long term averages (let me say thirty years as an example), stocks would definitely have given the best returns. In a bull market, we trade prices and our chances of success are fifty percent. In markets like these, we can actually ‘invest’ in stocks of companies we believe we like and will remain profitable over the next decade or more. Even if the economy grows at five percent and inflation remains at ten, there is every reason to believe that domestic spending grows at fifteen percent. Consequently, companies that cater to this demand should grow at this pace. Do not shy away from this asset class.R. Balakrishnan(balakrishnanr@gmail.com)November 22, 2011

Don’t shy away from investing in equities | Deccan Chronicle

2011-11-27T18:29:00.000+05:30

Don’t shy away from investing in equities | Deccan Chronicle

Company ShareholdersRobbed (CSR)

2011-11-26T21:34:00.001+05:30

C S R - Three dangerous alphabets in India. The recent move by the government to coerce companies to contribute compulsory amounts to vague charities in tne name of something called 'corporate social responsibility' a term created by parasitical elements in society.“Altruism is the doctrine which demands that man live for others and place others above self. “No man can live for another. He cannot share his spirit just as he cannot share his body. But the second-hander has used altruism as a weapon of expoloitation and reversed the base of mankind’s moral principles. Men have been taught every precept that destroys the creator. Men have been taught dependence as a virtue.The above passage is from Fountainhead, by Ayn Rand.A listed company belongs to thousands of shareholders. The government cannot pick the pockets of all of them by passing a law on CSR. Let each shareholder get the full payout and he will decide whether he wants to give to some parasite or not to give. It is his money and the government has no right over it.Taxes are already a burden on the efficient, that go to help the parasites in the name of altruism or social responsibiity, for which the person who pays any tax, gets nothing back from the government in return. Nothing more than what a person who pays no taxes, gets from the government. In fact, the person who pays no taxes, often gets more out of the system than the honest tax payer.CSR also has its other problems. Charity in Indian companies is used by owners and CEO's as a tool for personal reasons and nothing else. Often, you find the spouse of the promoter actively engaged in some charity, at the expense of the corporate shareholder. All that the promoter/CEO wants is coverage on page three or whatever as a lionheart. He may not lift a finger to help a dying employee, but will espouse the cause of saving some wild animals. I have seen companies force business associates to donate to the favourite charity embraced by the promoter/CEO. If the associate does not give, he gets not business! CSR will be grossly abused the the CEO/Promoter. CSR should not become law. It is daylight robbery of the shareholder whose pocket is picked by the government. I urge people to raise their voices on this issue. The government is trying to force the private sector to do things that it should be doing itself. There is income tax which is collected by the government by force of law. That is more than enough CSR. Why is agriculture income tax free? And there is no cap on agriculture income. Similarly, people who make money on the stock markets (genuine unearned income) get their money totally tax free and are not forced to give anything. The Indian shareholder gets another kick in his undersides through the evil of CSR.

Liquid Funds RIP??

2011-11-21T16:24:00.001+05:30

(Had written this piece for Moneylife, which got published today. Interestingly, SBI has fired the first big canon, with an 8.5 percent return on a daily basis, for deposits over a crore of rupees)For corporates, it marks the end of having to put money in liquid funds. And of course, it screws up bank balance sheets, since in addition to high interest rates, these deposits will attract statutory liquidity demands)The RBI will now become like the dog that ‘did not bark’ in the Sherlock Holmes story. Thirteen back to back nudges and inflation is still strong. And we have the funny situation where a car loan is cheaper than a personal loan which is cheaper than a farm loan. It seems that the banks know that farm loans generally run the risk of remaining ‘outstanding’ for times to come. The RBI has done another dangerous move by freeing up the interest rates on Savings Bank Deposits. In an earlier argument against this, I had said that the RBI should have in fact made this zero. Now, RBI has ensured a rat race amongst the banks, to fight for the savings bank moneys. This is great for the individual who keeps his money with banks in savings banks. Unlike in the past, we must now ‘shop’ with banks for higher and higher rates. Yes, the RBI has said that for identical amounts, the banks cannot differentiate in the interest rate offered. That does not mean that we cannot get extra freebies from the bank. We should club our accounts together and use it as a bargaining tool. In case they refuse higher interest rates, we can always bargain for some other freebie. Now we will also have to be more combative and watchful with banks. They will try to make up for the higher interest rate by imposing a charge for virtually everything. Perhaps, this is where we should be alert. It could mean imposing charges for anything- from number of cheque leaves to imposing charge on a visit to the branch for anything. Perhaps, they will also start delaying clearing credits in order to enjoy a ‘free float’ on our money. While it looks good for the depositor, what about the investor? Not very good, I think. They will perhaps put up a brave front and say that they will hike their lending rates also. But, wait. Why would any blue chip corporate borrow at usurious rates? Maybe they can borrow elsewhere. This would force the banks to extend credit at high rates to riskier customers. Generally, when interest rates are high (both ways) the net spread a bank makes is higher than when interest rates are in single digits. So, initially, it would seem as though the banks would make higher profits. However, my call is that the banks will be in a rat race to mop up deposits and end up paying high costs for the same. Lending will deteriorate in quality as the banks will seek to deploy the high cost funds and earn a spread on it. I would generally keep away from bank stocks for some more time, till RBI gets its act together. A high portion of Savings Bank and Current account deposits (CASA as is popularly known) gives some banks an edge. For instance, SBI and HDFC Bank have CASA deposits of nearly 48% of total deposits. Now, the interest costs for these two banks will rise much higher than for banks which have a lower proportion of CASA. What will be interesting is to see what happens if and when the liquidity in the domestic markets ease out. Today, tight liquidity has pushed up short term borrowing and lending rates so high that there is not much gap between the interest rates on a thirty day loan as opposed to a ten year loan! Liquid funds give returns almost in line with yields on ten year government securities! Once liquidity eases, will the return on liquid funds crash? Logically, they should. Then we will have the funny situation of savings bank returns beating liquid fund returns! And with banks being forced to pay interest on ‘daily’ balances, the savings banks should replace the liquid funds, for the individual investor. We need not go to liquid funds at all. It saves us the bother of filling forms for purchase and redemptions. Now, interest rates are going to play an important role in all financial advice. We are perhaps entering a phase where fixed returns are going to be more tempting than equity returns, as companies struggle to grow in the face of weak capital markets, flagging demand and high resources costs, combined with run-away wage costs.The RBI has set in motion a run up in interest rates that will benefit the saver in the short term. I only hope that the lending rates do not go so high that it kills borrowing and borrowers. For the PSU Banks, given their stupid system of evaluating themselves based on the size of deposits, the RBI has put them in to ‘interesting’ times. R. BalakrishnanOctober 26th, 2011 link to the moneylife article http://moneylife.in/article/regulations-high-cost-of-higher-interest/21578.html

EUROPIGS

2011-11-19T21:04:00.001+05:30

(Had written this for a friend's magazine about three weeks ago)When an individual borrows beyond his ability to repay, the impact is perhaps limited to the person who lent him the money. If a large number of individuals default to someone, it could set off a chain of defaults, especially if the lender in turn is not able to meet his commitments. So far, we are talking about localised problems. A solution can be found by the local bank regulator.However, what happens when a nation defaults on its sovereign debt? And the buyers of the debt (lenders) are banks and entities spread across the globe? And what if the borrowing nation is a part of the unique set up called “Euro”? Greece has just defaulted. Portugal, Italy, Spain etc are in queue. The lenders have been forced in to a ‘settlement’ where they have to forgo fifty percent of what they ought to collect from Greece. The balance has been ‘rescheduled’ and everyone hopes that Greece will be able to manage. Will Greece manage even this renewed promise? Looks tough, indeed. A nation that has spent money that it does not expect to have and where tax evasion is rampant, will find it difficult to generate any budget surplus. At best, they have bought some more time. If they cut down drastically on public spending or on public sector jobs, it would cost continuance for the existing government. Deficit budgets are addicting. Giving freebies to public, to win votes, looks like an easy option for those in power which is not strong or solid enough. The Euro, as a currency looks very shaky. One of the tenets of the countries joining the Euro was that each member country would have financial discipline ensuring budget deficits within a limit of three percent or so. In a world that is looking down the barrel of a recession, countries like Portugal, Greece, Italy and Spain (Collectively referred to as PIGS) have borrowed beyond their means. Domestic economies were on a bubble of real estate and now are facing problems of inflation, unemployment and very weak economic growth. Under such a situation, it is unlikely that fiscal discipline can be maintained unless public spending is curtailed. It is a Hobson’s choice. If governments spend, then fiscal discipline is shaken and if they curtail spending, domestic economy looks shaky. Presently, Greece has been ‘bailed out’ by other members of the Euro, like Germany and France. It is doubtful whether these countries can continue to support wayward fellow Euro nations. Economic consequences are but one aspect. The other scary fall out is one of return of ethnic boundaries, with the Germans wanting to have nothing to do with the defaulters and the German citizens opposing their government bailing out irresponsible fools who have spent recklessly. If that happens, it could lead to xenophobia, trade boycotts, manned borders etc., And surely it could mean a curtain call for the Euro as a currency. Sure, none of the 17 members want this to happen, but here we are dealing with fragile emotions and not long term thinking. The defaulter would nurse a grouse that he was bailed out at the cost of someone else monitoring his nation’s finances and that bailed out nations have lost their ‘economic independence’ to the Euro.For the nations that bail out their fellow members, the stakes are high. If PIGS default and shrink their economy, where will Germany and France find outlets for their produce? It is a vicious cycle. I produce more and sell to you. You borrow and prosper. When you cannot repay, it is up to me to see that you are still able to have money to buy my goods. Therefore, I have to bail you out, otherwise I also suffer. Wonderful, isn’t it?One big outcome that can happen is a global contraction due to fear of breaching economic discipline. People with money will not take risks. Risk capital will become scarce. If further bail outs are called for and do not happen, there could be a banking collapse. If there is a bail out, then there could be contraction because of forced budget constraints. Neither option looks good.The Euro crisis is far from over. No one knows how it will play out. Side shows could be strengthening of the dollar and gold relative to the Euro. The one ‘X’ factor in this drama could be China. Sitting on a pile of money, they can step in to the aid of the Euro defaulters with stiff trade demands. This would hasten Chinese economic growth. China now faces the problems of the rich. To keep prosperity growing, you got to help the poor so that they can spend it on you.For India, it is not a good development. It would mean shrinkage of availability of risk capital. If global trade shrinks, it could dent the rising export growth. As the Chinese say, we are headed towards ‘interesting’ times.

SEBI vs. MUTUAL FUNDS

2011-11-15T22:10:00.001+05:30

http://www.business-standard.com/india/news/investment-advisors-rap-draft-sebi-regulation/455133/SEBI has taken on the mandate from the Insurance industry to kill the mutual fund industry. The investment advisors are soft targets and the regulator screws them.

Hastinapur in Argentina!!

2011-11-05T09:21:00.004+05:30

This is amazing.....http://latinamericanaffairs.blogspot.com/2011/06/hastinapurcity-of-wisdom-in-argentina.html

2011-10-30T11:00:00.000+05:30

(This is from today's Deccan Chronicle / Asian Age)FIGHTING INFLATIONProtect returns from inflationOct 30, 2011 - By R. Balakrishnan. ..The government is finally admitting that inflation is a problem that is likely to stay with us for some time and that it expects relief only by 2013. But the government also chooses to tell us that the ‘real’ interest rate is ‘positive’. Yes, if we believe that inflation is less than the post-tax interest return of around seven to eight per cent, we get on most fixed income (fixed deposits, bonds etc) options. For the individual investor, inflation is a post-tax impact. Hence, I will knock off the tax component of the interest income. At this juncture, the RBI has completed its 13th consecutive fiddling with upping interest rates. This would erode the value of my existing investments in fixed income paper. There is also a possibility that if inflation stabilises somewhat, there would be a hike in diesel prices, which would once again lead to an all round price hike. So, there is a constant fear of having to pay higher prices for the same goods. At the same time, investment confidence seems to be lower. This means that output may not grow much. Are we poised to enter a period of ‘stagflation’? Stagflation means rising prices with no growth in supply. This is scary. Suddenly, I find that there is no ‘real’ return but actually a painful erosion of wealth that is taking place. My daily expenses are galloping at a rate higher than the return I can get from fixed income investing. The broad market indices seem to be faring even worse. I keep reading about how quality US stocks are available with a dividend yield of five to six per cent. I do not see any Nifty or Sensex stock giving me that kind of a return, yet. So, should I put my money in to global stocks? The temptation is high. Global stocks would mean that I also take on the risks of the strength and weakness of the Indian rupee. Presently, the Indian rupee is at a low point. How low will it go? I think that as the world economy slips, the relative strength of the rupee should be higher. In other words, I am likely to get fewer rupees for a dollar. Will the global stocks appreciate enough for me to get a return that sufficiently protects the rupee return? The government does permit an annual limit of $200,000 per individual to be invested in any global market. This is a substantial limit (almost a `1 crore per head). Yes, gold has given positive returns, but how far will it go? Yes, gold and equities ought to have an inverse relationship. If economies do well, we would like to own equities and enjoy the growth. So I do not have to ‘run away’ to buy gold. Of course, there are many other commodities like copper or silver where also one can invest. So many worries are due to uncertainties caused by global economic turmoil, Indian economic slowdown and inflation. In the domestic markets, I will stick to companies which have high consumer driven growth. Consumer non-durables and couple of private sector banks that do not have the PSU culture and have consistent grow-th, clean balance sheets and low level of problem loans. In fact, even some of the large NBFCs look good. Unfortunately, we cannot have a play on food prices due to absence of producing companies in the listed place. That would be the place where I want my money to be. Depleting res-ources, increasing activism and rising prices are a potent combination for sharp gains.

THE DAY OF THE PIGS

2011-10-29T19:58:00.001+05:30

The Greek can continue their wayward ways. The write off of half the sovereign debt is proof that the world want's to pretend that all is well.Lend the Greek more money. They can buy more stuff produced in China and elsewhere. If you call their bluff, make them default, then their buying could grind to a halt. Not very good.How wonderful! Mortgage finance all over again. Lend so that they can buy. Lend more and they buy still more. Finally when they cannot repay, write off some. The balance? Well, we will reschedule it for tomorrow. Now, there is clear hope for the other PIGS that they can continue with their wanton borrowing and not worry about default. No one is going to take them to the poorhouse. So what does it matter whether the credit rating is C or D? Investment bankers in search of bonuses ensure that sovereign paper can be placed with some sucker or the other. You hold my hand, I hold yours and we play ring-a-ring-a-roses. Germany is worried. To Euro or not to Euro? How long will they continue to pay for the excesses of their euro brothers? UK is breathing easy. No PIGS to bail out. Of course, their bankers will want to get in to a piece of the action. The famed "City" paychecks have got thinner. Play East India Company all over again.China is watching and wondering. How long can they keep their riches to themselves? If their buyers go bankrupt, what happens to the factories that keep shipping goods under every label? Publicly they say that they will lend only to Germany. But, if Italian paper or Spanish paper comes floating around, with everyone having had their fill, it is a Hobson's choice. Banks who bought the lovely Euro paper, now find that they will need a Basel III and IV to bring capital adequacy to the levels which the Japanese originally wanted (zero). The funny regulations will make you take a hit if there is a default. But, if you take a forced hair cut (there ought to be a better term for a 50% robbery) then the accounting rules let you remain healthy. If you have terminal cancer, all will be well if we change it's name to 'flu'. That is what the banks are doing.John Maynard Keynes had famously said : "If I own you a pound, I have a problem: but if I own you a million, YOU have a problem". India has a big lesson to learn. Default is fashionable and in fact if we default, we get better terms from the world. There is no need to pledge gold with someone to meet some stupid financial commitment. After all, the investment banker who made money when he arranged for the loan, is now looking for another fee when he restructures the loan. And if we default, we can cut our external debt by half! Think about it.Greek have a new anthem. Courtesy Bobby McFerrin- "Don't worry, Be Happy..."

Selling a college

2011-10-25T21:31:00.000+05:30

A business house was faced with a dilemma of whether to keep its business or give it up to the bankers who were ready to hang it. The business house also used to run an engineering college with high capitation fees. The sick unit was being eyed by a rogue politician. Finally, the businessman 'sold' his college at ten years estimated capitation fee to the politician. The politician got a college. The businessman retained his 'sick' unit, squared off his loans cheap and is trying to revive the company.And all of them lived happily, except the bankers who wrote off debts and now have to give new debts that will again go bad. Thus, the cycle of business goes on.One fine day, the college administration will change for the worse. The reputation of the college would take a beating. Unless of course, the politician realises that running a good college is more important than the business of politics, which is ephemeral.Students and faculty are on tenterhooks , wondering if the reputation of the college may be negatively impacted.Let us wait and watch.

Of SBI and other PSU's

2011-10-25T17:30:00.002+05:30

(This is from the latest issue of Moneylife. Was written before the downgrade of SBI )If I own one hundred percent of a company, it is completely my prerogative to what I please with the company I own. However, the moment I invite someone else to become a part owner, then I have no right to do anything that does not enhance shareholder value (in other words, there is no right to do any act which results in the shareholder suffering a loss in value). We have our PSU Banks, where the main shareholder / promoter continuously and consistently destroy value. Right from appointment of a CEO to forced lending money to sectors from which there is no hope of recovery, the main shareholder has been abusing the other shareholders who have foolishly piled on board. I call them foolish, because their expectation that the government will get out of business, is a long way from happening.Of course, investors and brokers say that ultimately privatisation will happen. So, buy it today in anticipation of freedom tomorrow. My thoughts are the opposite. Let freedom happen. Then we can take a call. No one really knows the health of the PSU banks. Each time there is a problem, the RBI bails them out by changing the accounting standards. Investments are categorised in to nebulous buckets called “Hold to Maturity”, “Available for Sale” etc., If there is a valuation problem, it is simply re-labelled. Norms for recognition of bad debts keep changing. Loan re-scheduling is common. Banks like SBI do not recognise pension liability, and instead account for it as and when paid! And our wonderful members of the Institute of Chartered Accountants sign the balance sheets of banks without any qualifications! Their job is to make a comment if there is divergence with generally accepted accounting practices. They cannot keep quiet if there is a deviation and not comment simply because the RBI permits it. The auditors have been appointed to opine if the books are true and in conformity with accounting standards. The rules of the RBI are merely a labelling exercise for the banks. Our RBI thinks that by changing the name of the disease, the state of health is changed! I am also amazed at how a bank like SBI with its few thousands of branches gets audited at all. And to top it all, SBI has a list of auditors, most of whom are not known (whether they have the size and skill sets to audit a bank is another question) who come together and one auditor signs everything! The audit process at SBI should surely be amazing.We all know that SBI owns a few subsidiaries. From the schedule, I can neither make out the number of shares that SBI holds or the value/cost of its investments in different subsidiaries. Banks do not give a list of the investments they hold. Apart from the SLR investments, the banks have a lot of investments that are lumped together in one line. So, how does an analyst make sense of it at all? Automation and technology have made visits to the banks redundant. In this, the private sector banks have clearly taken the lead and they have also learnt to do what it takes to keep the affluent customer happy. Private Banks have dedicated relationship managers, who are there to help you out with virtually anything to do with your account. Many private banks also help out by sending people to your home / office if the relationship is commercially significant.Here is where a bank like State Bank of India has no hope. It will be left with the poor un-remunerative customers in the big cities. The cream of the affluent are unlikely to give the bank a look see unless there are compelling circumstances. Of course, the fact that the government of India uses SBI as its main bank enables SBI to be the largest bank without any effort or a business strategy. All PSU’s, state and central treasuries keep SBI in the pink of health by keeping large balances in the current account. This is evidenced by the high CASA (Current Account and Savings Account Balances that carry no to low interest as opposed to fixed deposits) of nearly 50% that SBI enjoys. It also shows the incompetency of the PSU’s and government departments in keeping money idle and enriching the bank. Private sector today does not keep money idle. They keep money in liquid funds, even if the surplus cash is for a couple of days at a time. So, here we have inefficient government machinery feeding the inefficient banks. In addition, SBI is always at the forefront of any politically inspired financial giveaways, which no self respecting private sector bank would do. Any bank which has issued shares to the public has no right to give away anything for free. We always see SBI at the forefront of all political drama when it comes to loan waivers or opening of branches in unviable locations. The interesting thing that is going to happen is of the merger of the subsidiary banks. Logically, one would expect a huge amount of cost savings, reduction in headcount as well as selling of surplus real estate. It is not happened yet and given that SBI is a bank that even has a union of ‘officers’ it is unlikely to materialise. So, the large ‘hidden’ values are not getting unlocked at all. The bank continues as inefficiently as ever. It is only because of freebies in the form of high CASA, assured government business etc, the Return on Equity (probably the only measure of how shareholder money is used) is in double digits, though below the large and efficient private banks.The other thing that I look at is the “executive” pay at the PSU Banks. If someone is good, why should he work for that pay? Is he driven by a sense of public service? It is time that the pay for senior executives is on par with private sector. In the absence of parity, I am afraid that either an idiot will run the bank or the corrupt will. This factor is compounded by the presence of unions (including unions for officers” – the management team!) which will not allow one officer to jump ahead of another. I have worked in nationalised banks and have friends who still work. There is a set of people who work hard but cannot make any decisions. There is set of people who shirk work and don’t care a damn about anything and the management of the bank cannot do a damn about them. Then there is a set that lines their own pockets by selling out to businessmen who see corruption as an easy way out. Of course, the CEO is subject to all kinds of political pressures in lending decisions. None of the PSU banks have a long term strategy for business and the CEO generally gets appointed at the fag end of his career. His decision making would be screwed up. If he is honest, he is worried about his pensions and will play it safe. If he is corrupt, then he will go berserk and lend to all kinds of sectors. He simply will not be allowed to execute a ten year vision plan. In short, is it worth investing in to the shares of the PSU outfits, simply in the hope of their being unshackled? R Balakrishnan

Insights in to the global economic outlook

2011-10-24T18:24:00.000+05:30

A must read article.

Mineweb.com - The world's premier mining and mining investment website OECD figures suggest dismal price outlook for copper - INDEPENDENT VIEWPOINT | Mineweb

Shattered Accounting

2011-10-15T21:19:00.000+05:30

(This was published in the latest issue of Moneylife)There is a body called the “Institute of Chartered Accountants of India” (ICA). It is supposed to set standards for fair accounting, transparency in communication of financials to anyone who reads an audited annual report, apart from being obliged to make written comments on any aspect that they find unreasonable or not satisfactorily explained. In law, they are supposed to be appointed by the shareholders. In practice, it is the promoter who appoints and at every AGM there is a routine resolution that is approved by the shareholders. The shareholder is not given any information about the audit firm, its capabilities or its size. The shareholder in reality, has no control or clue about who his auditor his. Over the years, there has been total laxity and dilution in accounting standards in India, in the guise of ‘conforming’ to International Standards. I have been analysing balance sheets over time and I can see the disclosure standards falling dramatically.Let me start with subsidiary companies. In the past, the annual report would have the full accounts, with schedules, of the subsidiary companies. Today, it is missing. If the company is somewhat liberal, it may put up the subsidiary companies’ accounts on its websites. This presumes that every shareholder has internet access. However, unless you sit down with a detailed paper report in your hand, the net does not allow one for a friendly read or enable you to move from page to page, quickly. Companies have abused the internet to upload accounts in various formats that are difficult to read and engage in cross references. Now, one understands that there is a move to make reporting in one uniform language, but it seems unlikely that things will get any better. Why not continue with the practice? I see that the companies have managed to lobby the government, in the garb of ‘green’ movement and move to electronic delivery of annual reports. I do hope that this will not be mandatory. I still love the old fashioned printed annual report.To tell you what the disclosure standards have come down to, let me take the annual report of Reliance Industries Limited, one of the most widely followed companies in India. I read from the P&L account that the sales for the year 2010-11 were Rs.248641 crores. However, what product/s the company sold cannot be fathomed from the accounts. There is no schedule that gives the break-down of the sales. Of course one schedule gives “production meant for sale” listing different products and quantities, but no value. Whether it was sold and what it contributed, the accounts do not tell me. Same is the case with purchases. Manufacturing & other expenses were Rs.211823 crores. The explanatory schedule gives one line saying “Raw Material Consumed” Rs.193234 crores! Wonder what it was? The language used is in the singular, so it must be one mighty raw material indeed! A small item of Rs.68 lakh of lease rent is detailed in this schedule but something that is ninety percent, is dismissed in one line!If I go to the balance sheet, it is very impressive indeed. Net worth of Rs.151548 crores! The net block of fixed assets is slightly larger than this. Investments made by the company is Rs.37,651 crore. If I go to the “Consolidated” accounts, this figure drops to Rs.21596 crores. I see that the company has listed 142 ‘related parties’! It will take expert scanning and working to fathom out how much money is invested in any associate, what stake the company has etc., Also, different year end dates for many subsidiaries / associates add to the chaos. There are three pages in small print which give ‘financial information’ of 120 subsidiaries! The print size bothers me and I give up on the balance sheet. I am sure that RIL discloses everything to the research analysts or on its websites. But the fact of the matter is that in 200 plus pages, the financial disclosures that are mandatory, are not enough to tell you what the company does.This is so different from the past, when there would be detailed schedules from which one could work out the unit costs, unit realisations etc., Today, in the name of saving on postage, printing etc, reporting standards have gone to the dogs. About accounting standards, the less said the better. Companies are allowed to follow different standards if they go to a court of law. Even if they do, it should be the job of ICA to qualify and quantify the issue. They rarely do.The balance sheet of Tata Steel also throws up an interesting thing in so far as accounting standards are considered. The notes to the accounts (page 160 of the annual report) show an ingenious accounting of the interest on ‘perpetual ‘debentures. “c) The Company has raised Rs 1,500 crores through the issue of Hybrid Perpetual Securities in March 2011. These securities are perpetual in nature with no maturity or redemption and are callable only at the option of the Company. The Distribution on the securities, which may be deferred at the option of the Company under certain circumstances, is set at 11.80% p.a., with a step up provision if the securities are not called after 10 years. As these securities are perpetual in nature and ranked senior only to share capital of the Company, these are not classiﬁed as ‘debt’ and the distribution on such securities amounting to Rs 4.54 crores (net of tax) not considered in ‘Net Finance Charges’.”When the company has an option to repay at the end of ten years, how can it not be considered as not debt for the first ten years? Or is the company so sure of its abilities that it assumes the entire amount to be never repaid? And how can the interest on that not be classified as something else? The company distorts its financial cover ratios if it does not include the amount under interest. Who knows? Maybe after ten years, the entire debt can be converted in to ‘other income’!The other thing that is happening in the name of ‘green’ or ‘eco friendliness’ is the emailing of balance sheets. This is a retrograde move. Unless I have a printed annual report, it is impossible for me to analyse a balance sheet. I would have to take a printout of the soft copies in any case. And the companies do print fancy and glossy annual reports for giving to the fund managers and the media. The above are two broad examples of what our disclosure standards are coming to. Balance sheets are getting difficult to read and understand. This is surely not the road to increased transparency. The ICA seems to be on a mission to help promoters to bring in opacity in the only formal communication that is made to the shareholders. And to think that under law, it is the shareholders who appoint the auditors! I would urge that SEBI look in to the accounting (sub)standards that are currently being followed with regard to listed companies. The ICA ought not to be trusted to bring transparency in reporting. R BalakrishnanSeptember 16th, 2011

The Colour of Money

2011-10-13T21:35:00.001+05:30

(GREAT NEWS: WROTE THIS YESTERDAY. TODAY'S PAPER REPORTS THAT PROPERTY SALES THROUGH POWER OF ATTORNEY NOT VALID.MUST LOOK AT FINE PRINT)WITH A LITTLE HELP FROM THE TAXMAN..The government rules are cleverly drafted with the support of lobbyists who ensure that black money generation and storage is not disturbed. Gold has been a traditional place to park one’s unaccounted money. Gold, diamonds and other items of jewellery have been the eternal favourites of anyone searching for a way to dispose of the bundles of cash. Apart from money under the pillow not earning anything, cash is also unwieldy. Of course, one can buy land, finished property etc., Land can be easily bought under a Power of Attorney from the seller and never registered. It can change hands several times before it is finally registered. This is a convenient way to park black money. It is not too difficult to keep the document in safe custody with a lawyer (hopefully the lawyer will not diddle your successors out of it, should you cease to be) and ensure that the taxman does not get his hands on it. And land is a ‘state’ subject. It is unlikely that any state government will make Powers of Attorney invalid beyond a time limit when it comes to land dealings. If the tax authorities want, they can plug this loophole simply by saying that the last registered name continues to be the owner for all purposes and that powers of attorneys for land sales are not valid without the attorney holder being registered as the legal owner for all purposes.Most of us today find it difficult to invest even a rupee without a PAN card issued by the tax department. The tax authorities require you to have a PAN card reference if you invest more than fifty thousand rupees in mutual funds. Till May 2011, there was no requirement for anyone to show a PAN card for buying gold or jewellery. One could do the entire transaction in cash. Some jewellers would ask for some name/address and you could write anything there. He was more interested in completing the sale rather than finding out about who you were. And dealing in cash had its advantages. No taxes or levies. No income tax on profits that the seller made. If the tax department ever tried to match the gold purchases with the invoiced sales and tax reference numbers, the results would be interesting. If you hold any gold or jewellery, you are supposed to pay wealth tax on it, subject to some exemptions. Wealth tax is wonderful. If you have any assets (gold, jewellery, automobiles, second or third homes etc) in excess of Rs.30 lakh, the government gets one percent of the excess over 30 lakh because you are ‘rich’. Of course, financial assets (stocks, shares, mutual funds etc are exempt from this).Of course your accountants know more than fifty ways to leave your taxman (with apologies to Paul Simon). You can always get ‘gifts’ from friends and relatives on various occasions and if you have some overseas so much the better. You could even ‘buy’ a prize winning lottery ticket! Now, the tax department has cracked the whip. It says that if you purchase jewellery or gold for more than rupees five lakhs (500,000 Rs) in one go, the seller must have a copy of the PAN card of the buyer. The wordings are very clever. It (Sec 114B of Income Tax Rules)says Every person shall quote his permanent account number in all documents pertaining to the transactions specified below, namely (many things are listed) and the operative one here is:payment to a dealer,— (i) of an amount of five lakh rupees or more at any one time; or (ii) against a bill for an amount of five lakh rupees or more, for purchase of bullion or jewellery:The other thing is that you can buy it in CASH. So, if more than five lakh, if possible you could split it in to convenient amounts. Indian gold imports in this fiscal could be anything between 800 and 1000 tonnes. At $ 53,000 per kg, 800 tonnes would be 2,12,000 crores!! This is almost 18% of the total budget of the government or more than one thirds of the tax receipts!! I do not have figures of diamonds, gems etc. Add those and it could be some mind boggling sums. How much of this is money that has evaded the taxman? Less than half? More than half? CASH as a medium of exchange is encouraged by the taxman. The only limitation is that if you have a business expenditure that is more than Rs.20,000 and in cash, it is not allowed as a business expenditure, unless there is a valid explanation. So, there is no bar on CASH SALES by anyone. So, one must compliment our tax authorities for leaving enough room for tax evasion. It also shows that they are serious about black money. Can we ask for more encouragement? We must also give thanks to bodies like the Institute of Chartered Accountants who help prepare draft legislations, the lawyers who ensure loopholes and above all, the politicians who ensure a way out of all difficulties. After all, who wants to pay tax? R. BalakrishnanOctober 13th, 2011

GOLD

2011-10-02T12:06:00.001+05:30

(Published in Asian Age / Deccan Chronicle on 2nd October 2011)
In gold the world trusts

Oct 02, 2011 - By R. Balakrishnan

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Gold rose 58 times from $19 in 1900 to touch $1,110 in 2010, while the Dow Jones Industrial Average jumped 172 times from $61 in 1900 to $10,500 in 2010.

Today, gold and real estate have become essentials in every investor’s asset creation. But is there a danger that these two asset classes could turn out to be the biggest bubbles in the long run? We all presume that we will be the smart fellow and will bail out before the others. However, mass following, inflation and the action of governments such as constant bail outs and subsidies ensures that these assets keep inflating in value. It is likely that lack of faith in the sovereign as well as inflationary pressures and crowd behaviour could keep these assets on the high for times to come.
Gold is a metal, which has no intrinsic use or value, but it has become a synonym for wealth due to purely emotional or sentimental reasons. In the frenzy of speculative hoarding, it has virtually become a self fulfilling prophecy. If we take the pure extraction cost, it is well under $400 per ounce. However, it has become a store of value and is driven by factors such as the strength of the dollar, the degree of likelihood of an alternative to the dollar as a “safe haven”, the fetish of Indian and Chinese households for the yellow metal and the speculative forces of hedge funds and commodity funds.
The one thing to note is that gold does not follow any predictive valuation model. It is perception and a function of demand, supply, fear, greed and hype. In dollar terms, gold gave negative returns from 1980 to 2006! The quantum leap has come only post 2006.
For Indians, there were some positive returns as the rupee consistently weakened during the entire period. Gold was used primarily as jewellery and as a store of unaccounted money.
A year ago, gold was trading at under $1,300 an ounce. Now it is around $1,700, after breaching $1,800 per ounce and it is now looking volatile. Can it fall further? The key to that lies in whether the global money managers believe in what the US is doing. If faith flows back to the dollar, gold will get sold off or vice versa.
Faith in the US government is perhaps the most important factor that will influence future gold prices. Most governments that have huge trade balances have invested bulk of their surplus money in bonds issued by the US government. The day this faith cracks, there will be a dumping of these bonds, a run on the dollar and a mad rush to gold. Perhaps, there is not enough physical gold in the world to accommodate all the surplus money and hence the governments may not dump the dollar for gold in one go.
For Indians, gold prices are also determined by the exchange rate of the Indian rupee. If global prices of gold fall by five per cent and the Indian rupee depreciate by five per cent, the rupee price of gold will not show any change. So the price of gold in the Indian markets is also a function of the Indian rupee!
Indian demand for gold is a significant price driver for gold. Today, India and China account for nearly 60 per cent of gold demand! An important factor to note is that in spite of the rapid price rise in the last 12 months, the Indian hunger for gold has not declined. In fact, demand for physical gold has also increased due to investment buying through the ETF route.
To sum up, gold has become an important alternative investment thanks to the recklessness of governments. Lack of trust in third parties, perhaps makes gold a good friend. The higher is the mistrust in governments, the higher the payoff in gold and vice versa. Should you continue investing in it? That is your call, depending on how you assess the economic situation and your own investment strategy.

Bonds-Caution in investing

2011-09-14T11:57:00.001+05:30

(Recent article in Moneylife)

Indian companies are very quick to catch on to any fund raising window that opens. Just when a couple of bond issues hit the retail market and mopped up money, we have a virtual queue of finance companies lining up one issue after another. The fact that they are raising money simply because the market is conducive is borne out by the fact that they announce an issue size of three to four hundred crores, with a right to retain hundred percent oversubscription! This is as vague as one can get about using money. The standard excuse the finance companies offer is that there is business and if I get more money, I will write more business.
We do not know whether the company is geared to disburse all the money it raises. We also do not know at any point, how much the company has borrowed. We have a dated balance sheet with us. In addition to raising money through public offerings, the finance companies constantly tap the ‘private placement’ market for debt. So, the investor does not know how much money the company has raised.
The other important thing is that borrowing money from public has never been easier. I can bet that no investor knows what his money is going to be used for. There was a subsidiary of India Infoline which raised money through this NCD route. Wonder how many knew that the money was for a subsidiary, let alone know what the money is going to be used for? Maybe the offer document had details, but no retail investor has the skill and ready access to an offer document. The finance companies are happily taking advantage of easy money.
I am reminded of the eighties, when there was a craze to invest in fixed deposits of leasing companies, thanks to high interest rates and the fancy incentives paid to investors and intermediaries. The prime lure was the promised rate of return and not the credit quality. I think the same herd mentality is on display and at some point in the not too distant future, there will be some default.
All of these finance companies have to continually keep raising more and more money to keep growing. Their appetite seems to be unlimited. In fact, I look at the reported asset size of some finance companies that have grown at a furious pace and start worrying. Do these companies have the systems and processes in place? Do they have a proper understanding of their customer segment? It is one thing to be a specialist lender in one region of India and another to replicate it on a pan India basis.
This easy access to public money will make some finance companies take unreasonable risks, so that they can deploy the money. With their pockets hot, they will hire in a hurry to cater to ‘growth’, pay unnecessarily high salaries and dilute lending processes and standards. Ultimately, these companies will have to keep hitting the markets on a continuous basis, to keep the cycle intact.
Many of the lending is to the retail segment. Lending against gold is the latest ‘flavour of the day’. Things look fine so long as gold prices keep rising. There are also stories of officials in a bank that took the pledged gold of the clients and sold them off. This can easily happen in finance companies, where they give enormous discretion to their branches and advertise “loan in 15 minutes” etc., Risks will multiply with rapidly increasing headcount.
Ok. We are investing only in those companies that have a good credit rating. Well, for rating agencies, retail lending in India is a new experience. There is not enough of a track record or credit check available, to come to any definite or indicative conclusions about lending. Look what happened to the ‘micro’ finance companies. Data was robust, default rates low. All was well so long as the reach and size was small. No sooner did the resources grow, that the microfinance companies started taking high risks to deploy the money. Multiple companies lent to the same set of borrowers. Ultimately, defaults were the logical outcome of this kind of reckless lending, political interference notwithstanding. Political interference only helped the borrower to default without fear. Otherwise, he required to borrow from Ram to pay Ravi and keep the hat going around. Credit ratings can change over time. Remember, ratings are valid till they are changed. There is no assurance that the credit rating will be unchanged over the life of the debenture or bond.
More important, the bonds are going to give this kind of interest rates for maybe another year. After that, the interest rates should come down. However, your money is stuck till maturity. Secondary markets will not be easy and price discovery will not always be easy. So, if you invest in bonds, be careful. Spend ten minutes trying to understand the issuer’s business.
And a request to SEBI. All these issuers are advertising “First come, first served”. This hustles a lot of investors in to issuing a cheque first and think later. Please keep the issue open for a fixed period and ensure a pro-rata allotment when there is extra subscription. And please make the offer document make a mention of what the business of the company is and what is the borrowing that the company has done post the last annual accounts.
Please read the fine print. Do not take risks that you take on a equity share investment for a limited upside and high downside possibilities.

A recent piece on Income Funds_ Asian Age/Deccan Chronicle

2011-09-05T19:17:00.000+05:30

http://www.deccanchronicle.com/channels/business/personal-finance/returns-income-funds-likely-vary-226

Beyond Jan Lokpal..

2011-08-30T12:21:00.000+05:30

Anna Hazare has brought corruption in to the limelight. For those who do not follow the details, Anna’s present ‘fight’ is only against those who are found guilty or corruption, from the CENTRAL government and the elected representatives. And believe me, this is not the largest source of corruption in India. The Jan Lokpal as proposed by Anna Hazare, is still some time away from seeing the light of day. Whether it would do so in the form as desired by Anna, is a highly debatable issue. There is too much opposition from the elected representatives, to make it effective.
The biggest beneficiaries of corruption in India have been the businessmen. Wherever there is political dispensation to get licenses and permits, the graft is tremendous. Some are central government level and some are state government level.
Everyone in government position extracts his ‘rent’. So much so that even public sector employees across the board are party to this. It is generally a question of ‘degree’ of corruption and never one of ‘principle’. Of course, there would be some honest people, but they are the exceptions who prove the rule.
The next logical move should be the one to introduce the “Lokayukta” in all the states. Karnataka is one strong reason why this bill will be resisted tooth and nail by every state government politician. Already, tamilnadu politicians are talking about the Lokayukta amounting to ‘interference’ in authority of the ‘elected’ representative of the hapless ‘people’. And we have state government politicians who have made so much money that they are the envy of the central government cadre.
Then we come to the so called ‘petty’ corruption which impacts our daily lives. This is a cancer that has affected India and can never be removed, Anna or no Anna. This is the bribes that are demanded by government employees for doing their work. Whether it is a ration card issuance or a passport or a driving license, corruption is the ‘speed’ money that we will continue to pay. The processes are so designed that most people will give up before they start and pay a bribe to get things ‘done’.
If we think that the Anna campaign means something for us, think again.
What is needed is changes in law that will make corruption punishable. And in India, the rich get away with anything. Power and position ensure preferential treatment. A minister is treated with kid gloves. He might have defalcated zillions of rupees. A pickpocket will be subjected to third degree. Unless a minimum punishment, of say, twenty years of Rigorous Imprisonment, combined with confiscation of all wealth of the person and his immediate family, is prescribed, corruption will flourish in India. Shed no tears. The present Indian entrepreneur is also happy with paying the bribes. He evades taxes, duties and has multiple overseas assets that he has stolen from the shareholders. He needs the system to be corrupt so that he can make progress. In a country where there is no private capital and a fetish for control, corruption is the grease that moves the wheel of progress.
Bribe on...

Razor's Edge- To buy or not to buy

2011-08-19T18:03:00.000+05:30

http://moneylife.in/article/heres-how-you-can-time-your-equity-investments-after-the-market-crash/19066.html

A piece on the markets.

Manmohan Singh- A parallax view

2011-08-01T14:21:00.003+05:30

All of us love to trash Manmohan Singh. Weakest PM, gutless etc.,

One thing strikes me. All of us seem to want him out. We have not thought about the subsequent possibilities. Then maybe we will get Rahul G or Pranab. One is a family member and the other a family loyalist.
Today, Manmohan Singh appears to be quiet and infirm. Think. He is letting the Supreme Court function without fear or favour and it is possible that this wave of judidicial activism could clean up a lot of things. If either Rahul or Pranab were out there, would they have let this go on? Would they not have bamboozled their way through and let corruption continue unabated?
Let us give (to borrow a cricketing phrase)'the benefit of doubt' to Manmohan Singh. Perhaps, in today's muddied water, he is the one paddling beneath the waters.

Warren Buffett buying Indian companies??

2011-08-01T13:52:00.001+05:30

( I had written this piece more than a year ago, for a personal finance magazine)

As far as I am concerned, the Warren Buffet Graham Dodd School of investment is a complete education in stock picking. Having seen the Indian markets over the last few years, the one thought that comes to mind is that if WB were operating in the Indian markets today, he would perhaps find it difficult to find companies. However, if you take a cycle of twenty years, he would have found many opportunities to buy. WB is associated with ‘value’ investing. India is a ‘growth’ story. ‘Growth’ means buying in at prices that a ‘value’ investor may not buy.
If I look at WB/GD for inspiration, the key takeaway is the relevance of Return on Equity in conjunction with the ‘Margin of Safety’. If one uses these two financial measures, today’s markets are unlikely to throw up any investment worthy candidates. It is simply because our markets are today in an orbit that is being justified by the growth potential as well as the fact that when most of the world comprises of blind people, the one-eyed are looked upon with awe.
If I look at some of the key qualitative attributes that WB/GD has listed out as pre-requisites for being included in the short list, the following things stand out:
i) Find companies that have strong entry barriers and strengths that enable predictability of earnings. One of the examples in the WB domain is Coca Cola. In India, I have not come across an Indian company that has this attribute. It is only some of the multinationals operating in India that has this attribute. Clearly, India is not a business pioneer even in its homeland, forget globally. Companies like a L&T / HDFC come close, but one will have to search hard to find many more;
ii) Management quality: Here again, most Indian companies suffer due to management being a family affair. Father passes it to son and so on. The best person for the job is not chosen. So, here again, the list of Indian companies is rather small.;
iii) Forever companies: WB says that he would like to stay invested in a company forever. Here most Indian companies fail the test. Where are the Century’s / Nirlons’/ Mafatlals/Singhanias of the yesteryears? They were the blue chips then. Again, one has to stay content with an HDFC or most of the MNC’s who will be there a hundred years from today. You cannot bet on the longevity of an Indian company or management or family. Their capacity to surprise is immense.
Apart from the key differences, the other issue is a WB approach may simply fail because we have two classes of shareholders, whose returns are different. The promoter shareholder gets his returns from many sources whereas the non promoter shareholder gets incidental benefits. Corporate governance and capital market regulations notwithstanding, the promoter only lets you see what he wants to let you see.
SO, to gain from a WB approach, we need to have the ability to understand the management and take a call on what the odds are of riding his coat tails. The other most important thing, to my mind, is that we have to learn when to sell. The volatility in our markets (illiquid and shallow by characteristic) gives great opportunities. I like to make a shortlist of companies that I like and put against them, prices that I am comfortable paying. And then wait. Surely, in a person’s investment life span, anything from three to five opportunities will come. And the returns will be great. Much better than market returns if I may say so. One must not have the compulsion to invest everything in one go, like a fund manager.

A happy ending- Schooling and beyond

2011-07-28T13:03:00.002+05:30

Tuesday, my son joined the IIT, Chennai. It was a satisfying moment for us. The new batch size was around 800 odd students. The students were from all over the country, with arrivals from Andhra Pradesh perhaps being the single largest chunk. Being the first day of ‘orientation’, almost all the children were accompanied by one or both parents.
I noticed something interesting. Almost without exception, every parent seemed to be from a modest middle class background. The cars in the parking lot of IIT were few (perhaps local Chennai crowd) and most had come by train to Chennai and then by autorickshaw / call taxi to IIT. For 800 odd families, there were less than a 100 cars!
My mind went back to the day my children were admitted at Bombay Scottish School. I felt like a fish out of water. Almost every parent was from the upper echelons of society, working in a foreign bank or a multinational company or a businessman or a rich politician. There was no ‘smell’ of ‘middle class’ and I felt oddly out of place. Most of the parent crowd seemed to know / recognise each other. I was perhaps sticking out like a sore thumb.
Conclusion?
A school like Bombay Scottish attracts the rich and famous and merit is not a driver. The parents of the children who study at Bombay Scottish have already ‘made it’. The children here will probably end up going to colleges abroad and life has already been set up for them. A place like IIT attracts the best of talent. And it those students who get admitted to the IIT are going to ‘make it’. Their parents have perhaps struggled with life and sacrificed a lot to get their kids through the grind. They have shifted all their dreams to their children.

Am I making a 'sweeping' conclusion? I see this rich school poor school syndrome happening again and again. My children left Bombay Scottish in 1999 and the last ten years happened in Chennai. They went to a school names PS Senior Secondary School and my son shifted to a school called Padma Seshadri in 11th standard. The reason for the shift was that the earlier school hated students going to any classes for so called 'entrance' exams. My daughter finished her schooling at PS Senior and is currently doing her Law at ILS Law College Pune. She again had a choice of going to one of the National Law Schools, but opted for ILS Pune.

RBI vs India Inc

2011-07-28T12:46:00.001+05:30

THE DEBASEMENT OF THE RUPEE

Inflation is perhaps the biggest destroyer of wealth. Imagine if I had put aside a sum of Rs.100 ten years ago and earned around 7% p.a. as a return. Today, I would be having around Rs.200/-. Ten years ago, I could buy dal at under Rs.30/- a kg/- or buy a litre of petrol at under Rs.25/-. Today, the Dal is close to 100/- a kg and petrol is over 60/- a litre and climbing. Of course, vegetable and food prices have more than tripled in this time. In essence, what I saved ten years ago, is today worth less than half. Half has been destroyed because I did not spend it. More important, my assumptions of ten years ago, that what I put aside would suffice for me today, have gone terribly wrong. If I cannot earn additional income (Ten years ago, my plan was to stop having to go to work at this stage in my life, presuming that my savings were enough) I have to scale down my expectations or sell off some other assets.
Inflation is not going to stop. To me, the biggest damage has been done with the increase in the interest rate on the Savings bank deposit, by the RBI. It virtually amounts to the regulator giving up on inflation. I would, in their place, have reduced the savings deposit rate to zero! Till a few years ago, savings bank balances beyond one lakh rupees would not earn interest on the excess. Today, banks pay interest on everything. The result of this move by RBI is for people to create a higher benchmark in terms of expectation of returns. If the savings rate had been brought down to zero, not many (barring some vested interest groups) would have protested. At the same time, it would have had the magical effect of lowering people’s expectations. Today, the Savings Bank interest rate has become a kind of a low point of expectation. Naturally, to park money anywhere else, we need higher returns. If the savings interest rate was zero, our expectation of return from other instruments or avenues would have been lower.
Similarly, the RBI has hiked interest rates across the board. Now we are seeing ten year instruments being floated with yields of 12% p.a. and above! It is not as if the banks are flush with money and the RBI will reduce credit offtake due to this move. In fact, the banks do not have enough money to lend. And a company will not stop borrowing for its regular needs simply because the interest rate has gone up by a couple of percentage points. In fact, due to lack of additional supplies coming on, in most industries the competition is minimal. This gives the companies to pass on the increased interest rate to the buyer. Inflation gets worse due to this vicious cycle.
What will get impacted is capital expenditure. Large projects will get postponed due to the high interest rates.
In this environment, the villain of the piece is retail lending. It continues to grow unabated. A couple of percentage increase in interest rates has not deterred spending. Durables and automobile industries are growing at record rates. Most of this growth is on account of credit purchases. Of course, it does help these industries, but these goods are virtually immune to price hikes in today’s environment of unfettered ambition and consumerism. Banks are continuing to grow this portfolio unmindful of credit quality. The race for market share and the gambler like urge to keep growing the ‘book’ has diverted focus to size rather than quality. Many banks and lenders have outsourced even the critical function of origination of loans to third parties. Obviously, this will result in mounting bad debts. I am seeing consumer portfolios that have gone bad, being sold at ten percent or lower of the outstanding value to other banks or asset reconstruction companies. Consumer activism and a benign regulatory attitude to defaulters have made it very easy for the individual to default and not impact his lifestyle in any way. Smart borrowers are using this aspect to run up loans, negotiate them after deliberate default and continue. I do not think that the credit bureau scores will have much impact in the near term, so long as it is used only as a pricing tool rather than a denial of credit mechanism.
Credit is a useful mechanism to bring buyers and sellers together. However, when buyers are more than the sellers, credit will only serve as a tool to push prices up. As the old saying goes, when credit has to be ‘sold’ it will end up as a bad debt.
This cycle will have its conclusion either by supply catching up with demand or by prices going up to an extent that at some point buyers will vanish / reduce dramatically. Supply does not look like it is going to catch up in a hurry. The most likely thing seems to be that we will go through a phase of rising prices. To me, this is a scary situation. We will see apparent prosperity, without increase in number of jobs. We will see fixed income earners (pensioners/retired persons) struggle to make ends meet. Income disparities will rise to record levels not seen before. Rising interest rates cannot benefit all. Only to those with continuing inflow of money, will rising interest rates be of gain. If I have already locked in my money, I cannot take advantage of rising interest rates. Even if I go through the mutual fund rate, I will not gain. As interest rates rise, we will see the prices of assets fall.
So, what do we do? One assumption I would like to make is that the RBI will stop its misguided driving up of interest rates sooner rather than later. I will accept that inflation in India is going to have a run rate of eight to ten percent per annum given the fact that our combined state central fiscal deficit will remain in double digits and the base savings rate having been raised to four percent. I will preserve my assets in as much short term assets as possible. I will wait for a stock market correction to add to my equities portfolio. What extent? Maybe another twenty percent fall from here or the same levels two years down the road (assuming that profit growth would still be around 15% p.a). Postpone most of my durable purchases and push back the buying of my second home. Put some more money in to Gold ETF’s. Follow the Shakespearean dictum of ‘Neither a lender nor a borrower be”. I would look out for fixed deposits / bonds to park some of my money. Liquid funds are back in fashion, with decent returns. I will avoid Income funds for now; till I am sure that the RBI is done with jacking up the interest rates.
What I have outlined is perhaps a pessimistic outlook. However, if I can be prepared for this, I can only have positive surprises. I am still not so pessimistic that we will go all the way to hyperinflation or a severe bout of stagflation. I bank on the domestic entrepreneurs to fight their way out of this, rather than expect the government of India to do anything constructive. The politicians are busy fighting their survival battles and economics, unfortunately has no place in that.

Reel Estate

2011-07-15T14:51:00.001+05:30

REEL ESTATE.. OUT OF FLAVOUR

Everyone seems to be of the opinion that the real estate prices in the metro cities is likely to correct downwards significantly. This is also borne out by many large projects (esp in cities like Chennai) that kicked off in 2007-08 madness, getting delayed in execution. In fact at Chennai, I see many projects still selling at prices below what they were launched at, apart from changes in plans that involve change in usage, cutting corners with regard to facilities etc.
The interesting dichotomy I see is with regard to the size and scale of the projects. In metro cities, the large projects tend to be on the fringes of the city or in ‘new’ growth areas, due to availability of large land pieces. Within the city, the supply of new housing stock is rather limited and the demand strong. So we have a situation where prices in the heart of many cities, for small projects, have risen dramatically. At the same time, prices have slumped in most large projects. Of course, when I mean slumped, it is still not juicy or attractive enough to become bargains, yet.
So what is holding up the prices? I see unsold stock, incomplete projects and steady prices. In 2007-08, most of the demand that came in was of a speculative nature, where hot money chased quick and easy returns. Book a flat at the ground breaking ceremony time at base price. As progress happens, the prices start to rise. Sell it off before completion and enjoy full profits with less than full investment. The banks and housing finance companies also contributed to this speculative frenzy by giving loans of 100% or more (some banks gave on furniture also!).
The 2008-09 crises saw hot money rushing for the exit. Prices fell, especially in the large projects in outlying areas. Projects got delayed, reshaped and prices stagnated. Many overpriced projects had to correct prices in a big way.
Now (two years since the stagnation) there still does not seem to be much recovery in prices. Projects still take time to sell out. Inflation in two years has been high, which means that the costs of construction have. So, the days of superprofits for the builders are coming down. I recall balance sheets of companies like DLF showing net profits of over 70% of sale value! It still has to come down to reasonable levels.
For the investors, this means that real estate stocks are untouchable yet. Many of the real estate companies are raising money through privately placed paper at high interest rates. Some companies are trying to reschedule their obligations. The debt on the balance sheet of most real estate companies is still at uncomfortable levels.
We also had a phase of euphoria with almost every real estate company projecting huge returns on “SEZ” development. Most now want to give back the land or change the use to something else! Unless there is corruption, it is unlikely that the usage would be allowed to be changed from “SEZ” to ‘commercial’. So, I would keep away from the SEZ dreamers for a few more years.
The shares of most companies still seem to be holding on (of course far away from the stratospheric levels of 2008-09). And given the lack of transparency and periodic bad news from one company or the other in the sector (Unitech and the 2G scam for instance) investors have no reason to put money in shares in this sector. Despite that, prices have not crashed nor have institutional investors ditched this sector totally.
The one inference I draw from all this is that there still is some serious money that is backing this sector. Is it legitimate money or money that has found its way through devious routes that is holding up this sector? To me the biggest risk this sector has is a fear or feeling of instability in the political environment. A scare from that direction can perhaps bring about a real slump in the sector.
As regards land, prices fell and then gradually recovered. Yes, large deals are not happening, but small investments in land continue to happen. Given the reducing retail participation in stocks, there is a diversion of money to real estate and precious metals. Tier two cities are witnessing firm to rising land prices.
The other interesting perspective is on the rentals. Commercial properties across most large cities have seen a steep decline in rentals. At the same time, an oversupply situation seems to be correcting itself with the withdrawal of a lot of projects. This perhaps implies stable rental situations. The one interesting fall out is that the newer properties command significantly higher rentals. Apart from offering better infrastructure, the new properties have a very large hidden premium. The carpet area to built-up ratio in new projects is significantly less. Regulators are continuing to play footsie with the builders by refusing to mandate uniform standards in measurement standards for real estate.
I would watch out and an eye on companies that are able to hold on to commercial properties and earn rentals from that. This seems to be a good strategy. Apart from that, I would also like to revisit companies with low to zero debt and with low profit margins. These are the companies that will do well when the next boom in real estate happens. As regards timing, difficult to take a call as to when we would see a revival in this sector. But this is one sector (if we can exclude the governance issues) where there could be value picks.

R. Balakrishnan
(balakrishnanr@gmail.com)
May 27th, 2011

(This was published in the 14th July issue of Moneylife)

Inflated economy, debased currency

2011-07-13T12:43:00.001+05:30

(This appeared in a recent issue of Moneylife. )

THE DEBASEMENT OF THE RUPEE

Inflation is perhaps the biggest destroyer of wealth. Imagine if I had put aside a sum of Rs.100 ten years ago and earned around 7% p.a. as a return. Today, I would be having around Rs.200/-. Ten years ago, I could buy dal at under Rs.30/- a kg/- or buy a litre of petrol at under Rs.25/-. Today, the Dal is close to 100/- a kg and petrol is over 60/- a litre and climbing. Of course, vegetable and food prices have more than tripled in this time. In essence, what I saved ten years ago, is today worth less than half. Half has been destroyed because I did not spend it. More important, my assumptions of ten years ago, that what I put aside would suffice for me today, have gone terribly wrong. If I cannot earn additional income (Ten years ago, my plan was to stop having to go to work at this stage in my life, presuming that my savings were enough) I have to scale down my expectations or sell off some other assets.
Inflation is not going to stop. To me, the biggest damage has been done with the increase in the interest rate on the Savings bank deposit, by the RBI. It virtually amounts to the regulator giving up on inflation. I would, in their place, have reduced the savings deposit rate to zero! Till a few years ago, savings bank balances beyond one lakh rupees would not earn interest on the excess. Today, banks pay interest on everything. The result of this move by RBI is for people to create a higher benchmark in terms of expectation of returns. If the savings rate had been brought down to zero, not many (barring some vested interest groups) would have protested. At the same time, it would have had the magical effect of lowering people’s expectations. Today, the Savings Bank interest rate has become a kind of a low point of expectation. Naturally, to park money anywhere else, we need higher returns. If the savings interest rate was zero, our expectation of return from other instruments or avenues would have been lower.
Similarly, the RBI has hiked interest rates across the board. Now we are seeing ten year instruments being floated with yields of 12% p.a. and above! It is not as if the banks are flush with money and the RBI will reduce credit offtake due to this move. In fact, the banks do not have enough money to lend. And a company will not stop borrowing for its regular needs simply because the interest rate has gone up by a couple of percentage points. In fact, due to lack of additional supplies coming on, in most industries the competition is minimal. This gives the companies to pass on the increased interest rate to the buyer. Inflation gets worse due to this vicious cycle.
What will get impacted is capital expenditure. Large projects will get postponed due to the high interest rates.
In this environment, the villain of the piece is retail lending. It continues to grow unabated. A couple of percentage increase in interest rates has not deterred spending. Durables and automobile industries are growing at record rates. Most of this growth is on account of credit purchases. Of course, it does help these industries, but these goods are virtually immune to price hikes in today’s environment of unfettered ambition and consumerism. Banks are continuing to grow this portfolio unmindful of credit quality. The race for market share and the gambler like urge to keep growing the ‘book’ has diverted focus to size rather than quality. Many banks and lenders have outsourced even the critical function of origination of loans to third parties. Obviously, this will result in mounting bad debts. I am seeing consumer portfolios that have gone bad, being sold at ten percent or lower of the outstanding value to other banks or asset reconstruction companies. Consumer activism and a benign regulatory attitude to defaulters have made it very easy for the individual to default and not impact his lifestyle in any way. Smart borrowers are using this aspect to run up loans, negotiate them after deliberate default and continue. I do not think that the credit bureau scores will have much impact in the near term, so long as it is used only as a pricing tool rather than a denial of credit mechanism.
Credit is a useful mechanism to bring buyers and sellers together. However, when buyers are more than the sellers, credit will only serve as a tool to push prices up. As the old saying goes, when credit has to be ‘sold’ it will end up as a bad debt.
This cycle will have its conclusion either by supply catching up with demand or by prices going up to an extent that at some point buyers will vanish / reduce dramatically. Supply does not look like it is going to catch up in a hurry. The most likely thing seems to be that we will go through a phase of rising prices. To me, this is a scary situation. We will see apparent prosperity, without increase in number of jobs. We will see fixed income earners (pensioners/retired persons) struggle to make ends meet. Income disparities will rise to record levels not seen before. Rising interest rates cannot benefit all. Only to those with continuing inflow of money, will rising interest rates be of gain. If I have already locked in my money, I cannot take advantage of rising interest rates. Even if I go through the mutual fund rate, I will not gain. As interest rates rise, we will see the prices of assets fall.
So, what do we do? One assumption I would like to make is that the RBI will stop its misguided driving up of interest rates sooner rather than later. I will accept that inflation in India is going to have a run rate of eight to ten percent per annum given the fact that our combined state central fiscal deficit will remain in double digits and the base savings rate having been raised to four percent. I will preserve my assets in as much short term assets as possible. I will wait for a stock market correction to add to my equities portfolio. What extent? Maybe another twenty percent fall from here or the same levels two years down the road (assuming that profit growth would still be around 15% p.a). Postpone most of my durable purchases and push back the buying of my second home. Put some more money in to Gold ETF’s. Follow the Shakespearean dictum of ‘Neither a lender nor a borrower be”. I would look out for fixed deposits / bonds to park some of my money. Liquid funds are back in fashion, with decent returns. I will avoid Income funds for now; till I am sure that the RBI is done with jacking up the interest rates.
What I have outlined is perhaps a pessimistic outlook. However, if I can be prepared for this, I can only have positive surprises. I am still not so pessimistic that we will go all the way to hyperinflation or a severe bout of stagflation. I bank on the domestic entrepreneurs to fight their way out of this, rather than expect the government of India to do anything constructive. The politicians are busy fighting their survival battles and economics, unfortunately has no place in that.

TO BUY OR NOT TO BUY

2011-06-18T12:50:00.001+05:30

( This appeared in a recent issue of Moneylife)

Our stock markets seem to have stuck in a range. It neither breaches the 20 thousand mark on the BSE Sensex convincingly nor falls low enough to make buying attractive. Corporate results being announced for the full year ended March 2011 seem to be in line with market expectations. Negative voices, expressing concern on the valuations as well as the possibility of more attractive opportunities elsewhere, do not seem to have dampened the cash coming in to our markets.
Valuations are rich, pricing in growth in earnings of over twenty-five percent year after year. Inflation is sticky and refuses to come down. Gold, silver, crude and global stocks are all moving up. Some metals have lost lustre, but overall, the mood is without any caution.
As I write this, there is news out that Mr KV Kamath is taking over as Chairman of Infosys. This company deserves a relook for reasons other than valuation. This decade would perhaps see the exit of its original team of founders and no dominant shareholder. Someone large enough could perhaps make a takeover attempt on it. I would like to keep an eye out for companies where families are likely to sell out. Mergers and takeovers are not possible in the Indian context unless there is a willing seller. Or else look for companies like an Infosys or a L&T where there is no dominant ownership.
The other thing that is likely to keep valuations in check is the Central Bank’s actions that would make borrowing unreasonably expensive. Instead of attacking inflation from the supply side (a long term solution rather than a quick fix one) the Central Bank is trying to make borrowing more expensive. This is precisely the wrong thing to do. This will make capital spending more expensive and lead to postponement of projects. Sectors like construction will get hit badly. So, the Central Bank will contribute its bit in keeping profit growth down for many Indian companies.
FMCG and MNC companies continue to do exceedingly well. They are likely to do better, but stocks in this pack are not exactly cheap. Capital goods and labour intensive sectors are seeing pressure on their operating margins as increasing wage costs become a concern. Service sectors like banking and IT are facing a shortage of competent people and are managing to add headcount by compromising on quality of people.
All in all, there is reason to believe that things look ok, but no runaway upside is visible.
So, what can cause a downslide in our markets? Clearly fundamentals do not matter, given the fact that our markets are driven by the inflow / outflow of FII money. Political crises and corruption clearly do not worry the institutional investor. Otherwise how else does one explain the fact that stocks of companies, whose key executives have been put behind bars, continue to trade at not so cheap valuations? It is clearly an indicator that the market participants do not think much of governance issues.
Gold and silver continue to defy gravity and head in to bubble territories. The excess currency supply in the world and the weakness in the global economy are making people run away to gold and silver. The global economy seems to show some signs of recovery, but the withdrawal of stimuli would surely dent global growth. On top of that, the rating agencies are threatening to downgrade US and Japan. Food inflation is clearly a global concern. US is facing the twin issues of jobless growth and a declining currency.
In all these worries, the global stock markets are strong. Clearly a case of excess money in the world that is trying to find havens of safety and some money chasing higher returns from riskier markets like India or Brazil.
So, logic and reason seem to be clearly not a driving factor for the global equity markets. It seems more like a case of too much money going around and no one wanting to miss a party if it happens. Everyone is willing to pitch tent and wait it out.
In such a context, where global money flows in to our markets are robust, a significant downside may not happen. Many investors seem to be wanting a significant downside, so that it becomes a buying opportunity. The markets seem to be testing them. The BSE Sensex seems to get stuck in a groove, refusing to decisively cross 20 thousand. At the same time, it falls by a couple of thousand points in a couple of weeks, then recovers back to the 19 thousand plus level! This market is surely not good for domestic mutual funds, which would underperform in this kind of a market, due to sitting on cash and not having conviction to be fully invested at these valuations. Mid cap funds have had their own roller coaster ride, with steep falls followed by sharp recoveries.
In this market, the best is to keep new money away from the equity markets. Fixed income still offers around nine to nine and a half percent yield. That takes care of a near 2000 point rise in the BSE Sensex over one year. Sure, does not satisfy greed and perhaps may not beat inflation, but could help to save on any significant downside if the FII’s ( some of it could be Indian money illegally routed through the FII route) decide to take a powder.

IDR- An idea too soon for India

2011-06-18T12:48:00.001+05:30

Standard Chartered Bank had issued the first 'Indian Depository Receipts'. Given the capital controls, it is clearly too soon. Typically, arbitrageurs got in and tried to bully the regulator. A debate on both sides was published by Business Standard, a bus newspaper. For once, I was happy to take the side of the regulator.
Here it is

http://www.business-standard.com/india/news/is-sebi-killingidr-market/439080/

Investors prefer Bonds

2011-06-11T08:49:00.001+05:30

(This appeared in the recent issue of Moneylife)

Investors are facing a dilemma. The capital markets are perhaps going through a kind of ennui. Perhaps Rip Van Winkle will go to sleep, wake up, find the markets at the same level and carry on without even realising that a couple of decades have gone missing.
Investment in equities, according to all experts, would give an annualised fifteen percent return over the long term. This is on the premise that our economy would sustain a growth rate of eight to ten percent year on year and inflation would be under around five to six percent per annum. The unfortunate aspect of this is that timing matters. For each investor, what matters is the time he puts his money and the time he cashes in his chips. This can take your returns from zero to fifty, depending on your luck, and the timing of your investments. Of course, one can theoretically smoothen it out with regular investments etc., The fact of the matter is that each one of us wakes up at different times in our lives and money for investment gets ear marked, at different stages in each one’s lives. Someone may start at thirty and someone at fifty. And many never start.
Inflation continues to be a bugbear and will likely stay at near double digits in the foreseeable future. Much as our RBI tries, its policies make no dent in inflation. Perhaps RBI actions are adding to inflation. Whatever be the case, the fact is that inflation with economic growth is better than no inflation and no growth.
These monetary policy measures have thrown up an investment opportunity. We are bombarded with SMS and mails about bank FD’s that are offering ten to eleven percent annual interest. Most offer these for a year or two. The hope is that interest rates at some point would start cooling off. If they don’t then we are headed towards very interesting times (also called as ‘stagflation’ or stagnating growth with rising prices). I would like to believe the former.
In these times, we are seeing some companies raise money through long term bonds (five to ten years or more duration) and some very aggressive instruments. For instance, Tata Steel raised nearly Rs.1500 cr by way of ‘perpetual’ bonds. In essence, it means no repayment ever, unless the company is wound up. The bonds carry a ‘coupon’ interest rate of 11.80% p.a, payable every six months. Tata Steel has also put in a clause ( a ‘call’ option) which enables them to repay (at their instance alone) at the end of ten years the principal in full. In case they choose not to repay at the end of ten years, the interest rate gets automatically revised to 14.80% p.a!!
Alas, the company did not make a retail issue. It placed all the bonds with insurance companies, funds, banks and other wholesale merchants. The bond is listed on the exchanges and is ‘traded’ on the exchanges (BSE, I think). So, now one has to pay a price of anything between Rs.107 or thereabouts (a premium of Rs.7/-) to buy it. Even after paying this premium, it works out to a yield of 11% p.a. if one assumes a ten year repayment. If there is no repayment, the simple yield would be 11.80 on every 107 (or whatever price one pays) .
This compares very well with FD’s or FMP’s. In fact, if I am bullish on India, surely interest rates would come off. So, I am getting a great opportunity to lock in to a high yield for ten years! And I would sincerely pray that at the end of the tenth year, the company gets in to some problems which would make repayment impossible and the bond gets in to the 14.80% percent interest. Today, when I put money in FD or FMP, the duration is short (one to three years) and after that the returns may not be so attractive. Currently, the FMP enjoys a tax arbitrage, which would vanish post end June 2011.
I have give the example of Tata Steel bonds due to its attractive features. There are other instruments with varying yields available. The sad thing about these bonds are its lack of pricing transparency. Stocks have abandoned the concept of ‘market lots’, but bonds continue to have ‘minimum’ trade sizes. The Tata Steel bonds are traded in single deal sizes of five lakh rupee face value of bonds.
It is imperative that the regulators remove these stupid ‘ticket’ size considerations for the debt instruments. Only then will the debt markets expand. So would awareness. Today, the entire debt market is like a ‘black’ box.
The other interesting thing is that there is no TDS on the interest that would come to the investor in bonds. These are in demat form, so easier to manage also.
Once interest rates start to move up, the prices of these bonds would go up. So, after a year, if the interest rates go down by half a percent, the price of the bond would go up by nearly three rupees (in the Tata Steel example). So over a one year period, you would have got a return of nearly fourteen to fifteen percent! Of course, the risk is that the prices can go down further if the interest rates keep rising. In which case, one continues to enjoy the interest rate on the instrument.
The instrument like that of a Tata Steel would be a bad one if at the end of ten year (at the tenth anniversary of the bonds) the economy is in such a bad shape that interest rates go up to 18 or 20 percent per annum. So, best not to put everything in these kind of instruments, but a fair part of one’s portfolio that is earmarked for low risk, predictable return portfolio.

GENTLEMEN PREFER BONDS

2011-06-11T08:46:00.000+05:30

(A piece I had written for an investor magazine)

The economic outlook seems cloudy. Not so cloudy that we are in the dumps, but just the fact that double digit growth in GDP now looks like a tough ask. Everyone seems to be now on a seven to eight percent band for the immediate couple of years. What this means is that our equity markets are likely to remain range-bound for longer than we think. Whilst we could see some extreme volatility in the near term based on funds flows from the FII universe, the upside seems to be kind of capped.
Of the many worries, interest rate worry seems to be one that is dampening corporate profit growth. We are seeing a large number of companies offering rates in excess of eleven percent per annum for long dated borrowings. To me, this is perhaps a good opportunity. I look at it this way. The corporate is raising money at over eleven percent for ten years. In essence, it gives me a great opportunity to lock in some money at this kind of a rate. Of course, I will go wrong if inflation and interest rates keep rising significantly. Is that likely? Perhaps there would be one more round of misguided interest rate hike by the Reserve Bank of India. After that there has to be a lull and hopefully a decline in interest rates. This lowering or falling in interest rates will not happen only if we see economic growth of India slipping dramatically over the next few years. I think that India will grow at over seven percent, irrespective of politics. About double digits, I am not sure. If this has to happen, we need lower interest rates.
So, coming back to these bonds and other long dated debt instruments, it is great to put in some money at this juncture. There is a twofold gain here:

i) If interest rates remain high, equity is going to be in the dumps. We lock in a sure and reasonably attractive yield on the debt instrument (above 11% p.a. for ten years or so, without any re-investment risk);
ii) If interest rates fall, then the values of the papers we buy now increase. For instance, in a ten year bond, a quarter percent decline in interest rates would mean a capital appreciation of over one rupee in the debt paper that we buy today. (When interest rates fall, the price of bonds go up and vice versa)
I think debt may be the best place over the next six months to a year, for investors.
Bonds are better in one another way. Many of us are used to the Fixed Maturity Plans (FMP) of the mutual funds. Post June 30th, the change in the tax regime will rob the tax attractiveness of FMP. Bonds would be better. The other thing is that in most of the bonds, there is no tax deducted at source (TDS), which helps with a better cash flow.
Bank deposits are also attractive, but give a lower return than bonds. Another thing is that we cannot get to lock in the rate of interest for ten years in bank deposits.
Whilst talking about bonds, many people will tell you that it is ‘secured’. This means absolutely nothing so far as timely repayment is concerned. We have hardly seen a company having any assets left, when it comes to a stage of default. Rather, let us remain focused on the quality of paper we buy. Good names and a high credit rating are important whilst buying bonds, unless one is comfortable with a higher risk. The key is to be focused on risk, since a bond could be for ten years, and in ten years, a lot can happen.
The bonds can be held in demat form, which makes it easier to handle. Interest is generally payable at half yearly intervals.
Bonds are generally listed and tradable. There is a secondary market for this. In an emergency, one can always sell it through the secondary market. And unlike equity, the price changes in the bonds are not extreme. A full one percentage change in interest rate would equate to a change of around five rupees, on a ten year bond with a coupon of eleven percent. So, the risk to capital is modest, should one have to exit before maturity.
There will be many papers available and it would be good to pick up some in the next two to three months. For, when the interest rates start moving down, the yields on these bonds will start to fall, correspondingly.

Mis Selling- Screwing the Rich and Useless

2011-05-19T12:46:00.001+05:30

(Standard Chtd bank - In Chennai edition of ET, the news of a 200 cr mis selling and the corporate ad on ethical selling appeared on the same day!!)

From Standard Chtd website:
Principles & Values
Our Principles
Leading by example to be the right partner for its stakeholders, the Group is committed to building a sustainable business over the long term that is trusted worldwide for upholding high standards of corporate governance, social responsibility, environmental protection and employee diversity. It employs over 75,000 people, nearly half of whom are women, The Group's employees are of 125 nationalities, of which about 70 are represented among senior management.
What we stand for
Strategic intent
• To be the world's best international bank
• Leading the way in Asia, Africa and the Middle East
Brand promise
• Here for good
Values
• Courageous
• Responsive
• International
• Creative
• Trustworthy
Approach
• Participation
Focusing on attractive, growing markets where we can leverage our relationships and expertise
• Competitive positioning
Combining global capability, deep local knowledge and creativity to outperform our competitors
• Management Discipline
Continuously improving the way we work, balancing the pursuit of growth with firm control of costs and risks
Commitment to stakeholders
• Customers
Passionate about our customers' success, delighting them with the quality of our service
• Our People
Helping our people to grow, enabling individuals to make a difference and teams to win
• Communities
Trusted and caring, dedicated to making a difference
• Investors
A distinctive investment delivering outstanding performance and superior returns
• Regulators
Exemplary governance and ethics wherever we are

Stanchart officers dupe 200 cr from clients
Agencies

Posted: Saturday, Apr 30, 2011 at 2028 hrs IST
Tags: StanChart | Standard Chartered Bank | Oldest Foreign Bank

Mumbai: In yet another banking fraud at the hands of greedy relationship managers of the foreign banks, some employees of StanChart are believed to have duped a few wealthy clients.
According to reports, a few relationship managers at Standard Chartered Bank's private banking business here have mis-sold debt securities to some of its private banking clients with a promise to buy them back at higher returns something which is not possible under the existing regulations.
This comes close on the heels of nearly Rs 460-crore Citi fraud wherein a duplicitous offer of higher returns by one of its relationship manager came to light in December last year at the American bank's Gurgaon branch.
When contacted an official spokesperson of StanChart said the media report had sensationalised the issue and the amount reported was grossly incorrect.
"This is a small matter involving just four clients and we working with them on a quick resolution," he said but declined to give further details.
However, sources in the bank said the issue involves three relationship managers, one of whom has already been shown the door while an internal probe is underway on the other two.
The sources further said that in fact there is no investor who has lost money as they are publicly traded bonds and investors can recover their money by selling them.
On the question of the impact of this incident on the bank's reputation and possible regulatory clamp down on private wealth management banking, the sources said, "this involves only four people and not three employees and a systemic issue."
According to a report, Rs 150-200 crore of such debentures were sold by StanChart's relationship managers to their private banking and wealth management clients, which quoted two people in the wealth management industry.
The multinational Standard Chartered is the largest and oldest foreign bank in the country, and India is the largest profit centre for the bank, according to its latest audited reports.
The report also said that the bank itself funded some of the duped investors of the fake debentures.

(UN)Cleartrip.com - Picking your pockets with a smile

2011-05-18T12:46:00.001+05:30

Cleartrip- On the way down, it is clear

Even though I had a not very good experience once with Cleartrip, I still try and use their airline ticket booking facilities.
Today, an interesting thing happened. I was trying to book four return tickets Chennai Kolkata. It is a tedious process and after filling in the names of passengers etc I was on the way to make the payment through the internet gateway through net banking.
Just at that moment, my mobile phone rang. It was someone from Cleartrip. He asked me if I was ok and whether there are any hitches in the payment mechanism or the site etc.. I asked him if he expected me to have one, since he butted in before I could complete the process. Then he said that instead of paying through debit to my account, I should try and use the HDFC bank credit card. And he said that it would give me a 50% discount on the ‘base’ fare.
I got angry, because in the space of talking to me, he had already delayed my payment and the site said that I would have to enter all over again. And secondly, I knew from past that the base fares were as close to zero as possible.
I asked the person to quantify the discount. He put me on hold and came back saying that if I had not used the card for a Cleartrip discount in the month, I would be entitled to a grand discount of eight rupees! It was one rupee per ticket!! This got me really pissed off and I asked him about why he did this to me, without even bothering to check the fact that whilst 50% sounds great, the real amount is small. And he virtually stopped me half way and screwed up my efforts.
Eventually, I used the details from Cleartrip and went direct to the airlines web site and completed my bookings. In the bargain, I got a total lower fare of around Rs.800/- as opposed to the total fare I was on the way to pay Cleartrip.
And another piss off that these guys (including some airlines) is that they load on a travel insurance option by default. You have to be careful to exclude it. Otherwise they add it as a default and pick your pockets almost without consent! This is unethical and unlawful, though they will get away with the fine print.
Take care whilst dealing with these kind of internet brokers and make sure that you do your homework. Whilst one is willing to pay them for a service, these kind of experiences leave a bad taste in the mouth.

R. Balakrishnan
May 18th, 2011-05-18

Financial care of your kids

2011-05-18T10:57:00.001+05:30

(This appears in a recent edition of Moneylife titled "No Child's play")

It bothers me when I see so many “children’s“ plans being floated by insurance companies. They lure you with sentimental but irrational and illogical advertisements. There are no real life examples and all of them promise you that if you enrol in their schemes, your children’s education is fully provided for.
In essence, each of them are ULIP’s, packaged with sentiment to lure you to a false sense of comfort. This play to your sentiments and the efficiency of the product is poor. The returns are not very high either and you would be better off with a mutual fund. I also see financial planners invariably include a dollop of ULIP’s in developing a financial plan for a child.
To me, ULIP is a product that should not exist. It is a very expensive way to save. The insurance cover that a ULIP provides is chickenfeed and not worth it at all. Ask yourself. Does a child need to be covered by insurance? Assuming something happens to the child, does it leave behind anyone who is financially dependent on it? So, get it in to your head that THE LAST THING A CHILD NEEDS IS TO BE COVERED BY INSURANCE. Yes, maybe the parent needs to be covered with ample life insurance, if he/she does not have enough money saved to provide for the child.
A simple invest of Rs.5,000 per month, will grow to around Rs.17 lakh at the end of 25 years, assuming a return of 8% p.a. This return is available, with zero risk, from a PPF account. Look at the power of compound interest. If the return were to be 15% p.a., the same investment would amount to a little over Rs.71 lakh! Now, if you get rid of the thought of insurance / ULIP out of your mind, we can look at where to park the money, where what returns can be got and what would be the tax implications. The first two things you have to firmly get in to your head is NOT TO PUT MONEY IN TO ANY INSURANCE OR ULIP for a child.
Why no ULIPs? Let me explain. The periodic amount you pay under ULIP’s is NOT fully invested. Of that, some part is deducted towards insurance (if insurance is provided), some towards ‘policy administration’ expenses, some towards ‘Fund Management Charge’. In addition, there COULD be charges such as “Surrender charges”, “Rider premium charges” etc., In effect, the minimum amount that will NOT be invested, out of your cheque, will be far in excess of 2.25%. Why 2.25%? Well, that is the typical maximum a mutual fund scheme can charge under ALL heads out of your investments. In effect, what you give to a mutual fund, you can be sure that at least 97.75% (for schemes that have a minimum corpus of Rs.400 crore) is invested. So, more of your money earns something.

Now, the key question is as to whether the fund management skills of the insurance companies are so fabulous that they earn a return that is so high (as compared to a mutual fund investment manager) that the net result is more money. To me, it is a no-brainer. I think both the persons are inter-changeable in terms of skills. And returns in the market place bear it out. So, I do not see any compelling reason for choosing an insurance company fund manager over a mutual fund industry person.
You have to provide for a child till he/she is at least 25 years of age. This is today’s minimum. Unfortunately, we do not let our children work after graduation and take care of their own post graduate studies.

The child will need money for regular schooling and the first lumpsum would perhaps come when the child enrols for graduation (I always wonder why the Americans call this as ‘undergraduate studies’?) and for post graduation. I assume that you will have sufficient money to enrol the child in a school of your preference and affordability and pay the tuition and related fees up to completion of the schooling.
Of course, the other expense Indian parents would like to provide for is for the marriage. With the Indian families still equating a marriage with frivolous pomp and giving, it is an expensive affair. And human nature being what it is, there is a compulsive tendency to show off. Alas, even the children get caught in to the spending trap and put pressure on their parents to spend more and more. So, saving for a marriage of a child (esp a girl child, since parents want to provide for jewellery also) is an open-ended thing. Whatever you save will be short. Given the poor state of the Indian education system and the intense level of competition, most children have to opt for ‘paid’ seats in private colleges. This number is unpredictable. Rather, we have to take in to what money we have and try to find an institution that would fit the bill.
In effect, the numbers are open-ended. Of course one can reasonably estimate present education costs. If we assume an annual increase of ten percent, it would mean a doubling of the requirement every ten years. At best, we can get a number which can be a goal, which has to be continuously re-set, depending on the costs of education, the likelihood of educational loans availability, the talent of the child etc.,
Instead of giving you concrete plans, let me give you a choice of two or three instruments that will help you to save for your children’s tomorrow. But keep one thing in mind. First, save for your retirement. Only after that, provide for the children (however cruel it sounds, it is more logical and ensures that you do not depend on your child by becoming a guest with them, in today’s world). Of course, you may have to sacrifice some of your own needs, but do not lose sight of it. Often, it may mean skipping some eating out or a holiday, to ensure that you can do so when you do not earn.
The first thing would be to start a PPF account in the name of the child, preferably in age one itself. Put in the maximum of Rs.70,000/- each year. This will start at the bottom of the returns table (hopefully) giving an annualised tax free return of 8%. The account is for 15 years and can be extended five years at a time thereafter. Initially, one of the parent can be a guardian and once the child attains majority, the account would be in his/her name.
Now, it is best to look at some equity mutual fund SIP’s. These should be reasonably expected to give a return of around 15% p.a. This has the highest risk on paper, but a SIP over 25 years minimises the risk of cycles in a very big way. I would recommend a mix of Index ETF and a couple of large diversified equity funds.
If you desire to have a stock of gold at the end of 20 years or so, without breaking in to a sweat, I would urge you to buy the Gold ETF’s. No physical storage, no making charges loss (surely fashions change), no wastage losses etc., You are locking in to actual gold at various prices over 20 years. At the time you want to buy jewellery, just sell of the ETF (long term capital gains, no taxes) and use the money to buy jewellery. The way inflation and nations are headed, gold may turn out be a great investment.
The third investment I would suggest, if you can, is to buy a plot of land for your child. Maybe in a tier two or three city, in a gated community. This will be a great gift to give your child. The house you live in can be used by you for doing a reverse mortgage and enjoy you sunset years.
If you still have money left over, then maybe you can look at direct equities through the SIP route. You can make a list of two to five bluechip stocks and keep buying them regularly. Choose companies that will be in business for long. Avoid second generation companies because they will be very likely to split in the next couple of decades. Perhaps, you could buy global shares also. Each year, you are allowed to use up to US $ 200,000 for investments overseas.
The basic thing is to realise that money is fungible. Many people advocate earmarking each saving for a particular expenditure or commitment. That is not realistic, because at the maturity point, one does not know the market cycles.

How to cheat a banker?

2011-05-06T19:52:00.001+05:30

Wockhardt Ltd is being pulled in to winding up (or winding down??) by the group of lenders who foolishly put money in to FCCB (Foreign Currency Convertible Bond) issued by the company. Whilst I have nothing for or against the company, the issue is a far bigger one. And our High Courts have promptly granted a ‘stay’ on the winding up order! Strange are the ways our legal system works.
The Indian banking system has long been taken for a ride by Indian businessmen who have siphoned off money from the banks. At some stage, either the banks write off the loans or there is a “one time settlement” (famously known at OTS) where the bankers sacrifice virtually all and get nothing in return. Often, I have seen that in OTS, there is a stipulation that the promoter bring in a large amount of money. Does anyone bother to find out how or where from the promoter is managing to bring this money? If he can bring it in now, why did he not do it earlier? Surely, it is the best indication that he cares a fig for the people who lend money to a company.
The Parel belt at Bombay is a stark reminder of the promoters’ chicanery and the pliant bankers. And now we have what is called as the “Asset Reconstruction Companies” (ARC) which give this a stamp of legitimacy and help the bank executive to evade scrutiny.
Let us see how the scam operates.
One basic requirement for banks to take control of a borrower is for 75 percent of the lenders (those who have lent against security only please) to sell their loans to an ARC. In turn, the ARC will try and find a buyer. That is how the system is supposed to work. In reality, what happens is different. A loan has to be sold at a low price by the bank to an ARC, for the deal to make sense. Here, grease can come in to play. Logically the banker would like to sell the loan at the best possible value to minimise his losses. However, the system is such that a single lender cannot influence anything unless 75% of the secured lenders act in concert. For this the ARC is essential. Under normal circumstances, a bank chairman would be scared to sell an asset far below book value. However, when the sale is to an ARC, it passes scrutiny! So, it is an easy matter to get a bank to sell a loan to an ARC. The borrower makes his round of the banks and makes sure that the banks sell the loans to the ARC at the lowest possible price.
Once the ARC gets hold of 75% of the loans to a company, it is virtually in control of the company. The ARC can dismember the company, strip assets or sell it off in one go to whomsoever it chooses. So, the logical expectation is that once the ARC has got hold of the assets of a company, it would make efforts to sell it to the highest bidder through a public auction. In real life, it is sold back to the promoter at a price which will give a decent return to the ARC. The ARC’s board is happy. The promoter is happy because he has just escaped a huge liability. The original lenders have lost a pile, but who cares? Now, with the loans gone, the unit can suddenly become viable and the promoter rolls in money. Alternatively, the promoter, having got back his company for a song, can now sell off the real estate or develop it and make his money. The banking system (generally the PSU sector) has lost many assets through this route and no one is wiser. Bank executives have made money, the ARC guys have made money, and the promoter has made money. The only loser is the taxpayer, who keeps bailing out the PSU banks time and again as the capital gets eroded due to regular write downs of loans which are not bad, but said to be bad. Recently, a co made a IPO. It was once a defunct co which went in to BIFR after defaulting in a big way. The original promoter bought it at a bargain price in collusion with someone else, including an ARC. The bankers lost money in a big way. The promoter had enough money to buy out the co from the ARC! No one asked him how .
No one seems to care that under typical OTS schemes, the promoter is asked to bring in substantial amounts of money as ‘his share’ in reviving the company. Does anyone bother to find out where the money comes in from? If he had this money in the first place, why did he not put it in to the company?
Why do companies that ‘come out’ through OTS not share their prosperity with the lenders who sacrificed so much? Why the bankers cannot write off the loans, but to the extent of write offs, take equity shares at par, for free? After all, they have sacrificed far more than the promoter.
Also, when it comes to ARC’s, have we seen ads in mainline papers about entire company on the block? The only thing one sees are of houses / plots of lands that are seized and auctioned. Why cannot whole companies be auctioned? Surely it would get a far higher price.
And the bankers should take the lead in this. Not the bank chairmen, but the banking system, through a fiat. After all, when a bank sells a loan to an ARC, it does not get any money. It generally ends up with a ‘participation’ in the loan, in the form of an investment paper. It is rare that an ARC buys out an industrial loan by paying full cash. It would be best if the law mandates that the selling bank cannot invest in the assets it sells off. In fact, it should be a clean sale. Otherwise, the ARC’s are merely a facilitator (for a fee) to window dress the loan books of the banks. Today, there are multiple ARC’s. It should be easy for banks to put up their ‘loans for sale’ on a single website and the various ARC’s can then bid for it. This way, the banks get the best price for the loan.
Secondly, the banks should get something out of it in case the co revives and then does well. The best way would be for the banks to automatically get ten percent or so voting shares free and at par (which itself is a huge premium) or warrants that will enable them to buy shares at par. This will help the banking system in some way. Why should a defaulter get exonerated and then live to tell the tale? Surely, the lenders’ sacrifice is far greater than the promoters, in almost all Indian companies.
Of course, not everything that the ARC does is like the above. The above is just an example of how the ARC structure provides a ready conduit for the crooked promoters.
Going back to Wockhardt, it is time that the lenders taught a lesson. Let the co go in to liquidation or else, the remaining creditors who are so generous, can also first pay off the entire FCCB holders in full and then grant indulgence to the company. In many cases, the promoters are so smart that they leave nothing of value in the company. Real estate is often held in family companies and the listed company pays a fat deposit and a huge rental.
I would be glad to see the day when companies are genuinely ‘sold’ by the ARC’s. That is the best way to put back some integrity in to the banking system, which is now the handmaiden of businessmen and politicians.

OF LIFE INSURANCE AND SUNSET YEARS

2011-05-06T19:35:00.003+05:30

(this appears in a recent issue of Moneylife)

How much are we willing to pay as a charge, in order to provide for our family? What is it that we really want, is something fatal were to happen to us? How much of a role does money play in this? These are difficult to quantify, I guess. Of course, there are many possibilities of calculating numbers to come to some conclusion.
First, if something were to happen to me, whether money is needed or not depends on whether I have financial dependants. If I do not have anyone whose day to day living is materially impacted, there is no pressing need for me to leave behind a source of income. However, if I do have someone who is dependant, then I have to make sure that I provide for the people who depend on me, as if I was around. To calculate this is a tough ask, since it involves future needs, aspirations etc of the surviving dependants. We all easily understand this as the need for a life cover or life insurance.
As we progress in life, our aspirations tend to normally go higher. Similarly, our income levels also tend to go up with time. At the same time, with each passing year, our need to provide a cushion for our dependants should decrease under normal circumstances (with more savings and commitments on children getting nearer to extinction) . So, if we do well in life, we would hopefully reach a stage, where our dependants are financially secure. For example, if one gets married at 30, has children in three to five years, by the time the person is 55, he would have provided for most of the needs of the children. He may also have had some savings / investments that take care of needs. So, with age, given normal earning cycles, the need for life insurance should decline and at some point, it should be zero. Of course, we can always argue that why not leave behind as much wealth as possible.
The issue here then boils down to two key things:
i) I need a life cover up to some stage in life; and
ii) I need to accumulate wealth and leave behind as much wealth as I can.
Often, we tend to mix up both our goals. For example, we are willing to pay a fixed amount every year to cover the loss of our vehicles or to meet any major unforeseen medical expenses (hospitalisation, surgery etc). We are even willing to pay an annual premium to insure our home and property. However, when it comes to life insurance, we think very differently. In all the cases other than life, we are willing to treat the amount spent on insurance as expenditure. We do not look at the returns etc., We look at the value covered and the lowest possible outgo.
Life insurance is no different. Why do we mix up investment in this? We get taken in when the seller of insurance tells us “ If you want a pure term policy, fine with me. However, if you want some money back, why do you not look at...?”
One interesting product to buy for life insurance is a ‘return of money’ policy. In other words, a definite sum of money is paid to the nominee/legal heirs on death of the insured. This can be a low premium product, fixed cover, no participation, riders etc., This is an interesting policy in today’s times. It is very likely that as we grow old, we will be left to fend for ourselves. By choice, we may not want to impose on our children, leave aside the fact that we may be inconvenient for them. In such a case, perhaps the best option is a genuine ‘Reverse Mortgage’ on the home we own and soon to become worthless as we near our expiry dates. A pure ‘Reverse Mortgage’ would be one where the lender or the provider of the mortgage takes a fixed call, without recourse. In other words, he takes all the risk of the market price in future. This is perfect because it makes sure that we consume our assets in our lifetime and do not leave a mess for our heirs.
In the same context, if we had a life policy with a definite payout only on death, we could perhaps sell the policy. In an article (more than a year or two ago) I had mentioned about how such a policy could be a great thing for a secondary market buyer. Imagine that I am near about 80 and have an insurance policy with a sure payout of Rs.50 lakh, on my death. I can sell it to someone for Rs.40 lakh or so. The buyer will look at two things- How long I could live and the return on his investment. The longer I live, the lower his returns. And I will get some money in my lifetime out of this policy! This should be a tradable policy.

Financial advice: Investor blame thyself - Moneylife Personal Finance site and magazine

2011-04-08T20:00:00.000+05:30

Financial advice: Investor blame thyself - Moneylife Personal Finance site and magazine

Adventures in midcap spaces..

2011-04-05T11:49:00.001+05:30

(A slightly shorter version in today's Business Standard)

FROM MIDCAP TO MUDCAP

Recently, SEBI has identified a list of around 2000 companies, which have been identified as “illiquid” stocks. It is a mix of good, bad and great companies. All of them would fall under either “mid cap” or ‘small cap’ stocks and are generally the focus of attention from media, analysts and punters. In good times, the prices of these stocks exhibit a strong upward move. Alas, when selling comes, the bottom seems to fall out of these stocks. Many of them can lose ninety percent of their price! And these kind of wild movements are possible without significant change in the underlying company fundamentals. Most investors prefer this universe since this is where they find their multi-baggers. One can hardly find one from the NIFTY or the SENSEX companies, which are over researched and widely tracked.
This is clearly a structural issue. The FII’s and the domestic institutions are engaged in playing the large caps and the small caps are at the mercy of price fixers and manipulators. The breadth of participation has been gradually thinning, as the retail numbers of investors in secondary markets keep declining. It is very evident that our markets are driven by the FII’s and not by anyone else. Their buying and selling has been the prime engine behind our markets. So, our market is a kind of a one-way street. If the FII’s are selling, the market dips fast and vice versa. The large cap stocks do not fall as hard as the small counters, which seem to generally hit circuits in either direction.
Over the last five odd quarters, the FII buying has helped the markets to recover from its lows of sub 10,000. Suddenly, at some point the euphoria of India seems to have hit a blimp. Our inflation is clearly a structural one and unless the supply is improved, it will persist. So, a tempering of growth plus a slowdown in corporate earnings means that the FII’s have perhaps taken a pause. The Indian market needs buyers every day. On days a buyer does not come, the market falls. We simply do not have a category other than the FII’s and some insurance money that comes in by the selling of ULIP’s.
Small and medium sized companies are a minefield for the investor. Unless there is active pumping and dumping, I cannot fathom why most stocks from this bucket should have any investor interest at all. Clearly, the risks are very high. However, one can see opportunities if willing to take high risks. Interestingly, one can see that most MNC counters held on in this corrective downward movement (which may not be over). Most mid cap companies have huge management risks and personally, this is the real speculative component of the market. No one can bet which promoter will show how much profit any given year. If the investors have a compulsion to buy mid cap stocks, it is safer to put it in to a mid cap fund. Even in mid caps, it is still a play on growth and not on value. Prices have not fallen to that extent. Do not get taken in by steep price falls and assume that past high prices will happen again. You have time to do your homework.
The prime movers of the midcap stocks are the fund managers, who identify these stocks and actively invest and trade in them to generate returns above the benchmark. In a bull market this strategy works, given the poor liquidity of the mid cap counters. This is because supply comes from sources close to the promoter or from domestic institutions. The counters by themselves have poor trading volumes. So, once a fund buys a block, then an active follow up by buying on the market will keep the prices stable to high. Since there is not much retail participation, the downside is kind of protected in a rising market. In a falling market, the fund manager tries to lock in to his profits and tries to dump the mid cap stocks. Alas, the only class of buyers have turned sellers. The stock prices fall steeply. Retail investors who got in to these stocks, get hit badly.
This universe is a high risk high reward universe. If you are lucky to get in just before the institutional investor gets in, you can get a great return. On the other hand, when the institutional guys get out, the prices of midcap shares crash. This could be a buying opportunity, but the timing is difficult to catch. Buying here means having to wait it out till the next round of bullish buyers get back in to the market.

HONESTY PAYS- FAR LESS THAN DISHONESTY..

2011-03-27T09:42:00.001+05:30

India is not new to scams. However, this round of scams, starting from the Hassan Ali hawala scam, the Common “Wealth” Games rip off, the burial of the Bofors case to the 2G scam has demonstrated that we Indians are deserving of the rank of the ‘top ten’ in corruption, worldwide.
What is interesting is that none of this has taken anyone by surprise, least of all the foreign investors, which include those institutions that raise a hue and cry about ‘corporate governance’, transparency and integrity. Now Libya is proof that all an ‘investor’ cares about is his own interest. Libya’s Gadaffi regime was tolerated and nurtured by the same set of foreigners who now want to topple him. We saw what happened at Iran, Afghanistan etc. All of this is proof that investment and transparency do not go hand in hand.
If the foreign investors were true about practicing what they preached, they should have exited our markets lock, stock and barrel. However, we do not have to worry about it. So long as markets are around, investors will be around. Investment and corporate governance have nothing to do with each other, so long as the company leaves enough on the table for the investor. Only when a company does a wholesale fraud like Enron or Satyam, do investors exit. Not even the dent on the reputation of a house like Tatas (courtesy the Radia tapes) has mattered to the institutional investor. We are a very tolerant nation, with absolute faith in our honourable Prime Minister. It does not matter to us if the government is unwilling to pressurise a willing Switzerland to disclose details of Indian money stashed out there. Every man on the street is aware of this and does not care a damn about whose money is stashed where. We know that all leaders from all parties are corrupt. It is not a matter of concern to us. We are very confident that anything can be done in this country, if there is enough ‘motivation’.
As I write this, there is a worry about whether this UPA government will last its full course. However, the stock markets do not seem to worry about it. What is probably bringing a lull in the market is the damp budget, tricky fiscal deficit numbers and inflation which seems to be beyond the control of monetary policy.
Indian companies have a way of surviving. Real estate companies flout the law. They finally pay a penalty and ‘compound’ offences. In fact, SEBI has been at the forefront. Most offences seem to get ‘compounded’ with the offender neither admitting nor denying guilt. This is integrity, American Style. Just go to the website of SEBI and check it out. After going through this, it is clear that for all offences in India, there is a ‘price to pay’, much like a menu in a hotel. Only thing is that the price is not printed and payments may be to more than one person/s.
So, do not worry about corruption or 2 G impacting investment.
If we take the 2 G scam, names being thrown about include a host of listed and unlisted companies in the telecom / real estate sector. Some companies have seen their share price dip sharply. It is perhaps best to keep away for the time being. Maybe they could be bargain buys if the assets they have on their books can be taken at face value. Maybe the scam will pass over. The risk in this assumption lies in the fact that some of these companies may be asked to pay fines that are huge. Will it happen? It would mean a wide range of companies coughing up money which ought to have been collected by the government. It is a tough call, legally as well as politically.
If I am an investor and have money to spare (clearly money that I do not mind losing in full), I would be willing to place some bets on the tainted companies. Apart from having money to burn, I also need a tremendous quantum of patience. It may take years and years to resolve. And this money is clearly a bet on the possibility that corruption is ok and does not matter. If that is true, I have a few multi baggers on hand.
Bets anyone?

The Hindu : News / The India Cables : REVEALED: THE INDIA CABLES FROM WIKILEAKS

2011-03-17T22:01:00.000+05:30

The Hindu : News / The India Cables : REVEALED: THE INDIA CABLES FROM WIKILEAKS

Since this is from Wikileaks, people may read it. It only confirms the image of India as nothing more than a banana republic, run by tyrants who come to power and then use the power to loot the state.
Inspite of all this, if the foreigner wants to be in India, it shows the conquest of money over morals.

Independent financial advisors: Dependent independents - Moneylife Personal Finance site and magazine

2011-03-16T11:21:00.000+05:30

Strange reactions from readers. Most happen to be IFA's who have taken umbrage. However, no one seems to have gotten the point. Must be a badly
written piece/

Independent financial advisors: Dependent independents - Moneylife Personal Finance site and magazine

Of Financial Advise and advisors

2011-02-25T21:33:00.001+05:30

Of late, I have noticed a marked animosity from self styled “Independent Financial Analysts” or IFA’s in response to my writings about them. Most of them are angry and upset because I have written about my perception of what they sell to investors. Let me put the record straight. I AM AGAINST ANYONE WHO CALLS HIMSELF AN ‘IFA’ AND IS A SELLER OF A PRODUCT, WHETHER IT BE A MUTUAL FUND OR AN INSURANCE POLICY. I can excuse or tolerate a mutual fund, but there is absolutely no excuse for an IFA being an insurance peddler. Advice and selling are two distinct activities, totally unrelated.
The answer is simple. In the case of mutual funds, the IFA at least hawks competing products, if not all the products. The IFA who is a seller of products cannot be objective. When selling mutual funds, he is going to avoid some mutual funds on grounds other than performance. The moment subjectivity comes in, the IFA ceases to be ‘independent’. If it is insurance, then the IFA is like a blind person. The ridiculously high commission, forces the IFA to sell investment products which are in EVERY respect inferior to a mutual fund investment. I have yet to come across an investment product that is superior to a combination of a pure term policy and a mutual fund investment. So, if an IFA becomes a broker of an insurance company, he ceases to be an ‘independent’ advisor.
The other thing I dislike is dealing with ‘individual’ agents who do sell advice. There is no guarantee that I can get continuing service. I may move cities or he may. Or he may simply lose interest in the business and do something else. I have been at the receiving end of having foolishly succumbed to a couple of insurance conmen. In my early working days, a LIC agent sold me an endowment policy on the basis of the tax deductions available. After the second year, he lost interest in me, since I did not want to buy anything else from him. And having paid two years premium, I foolishly assumed that it was sensible to continue paying premiums. I had to do everything myself. If the LIC reminder reached me, I was lucky. Changing houses, cities etc, I somewhere lost track. Then after a stage when I started having time on hand, I had to go to LIC, work out the economics and revive the policy. I tried tracing the bloody agent, but he was untraceable.
Somewhere in 2001, I had (for business relationship reasons) to buy a policy from Metlife India. The first two years, the agent came home to collect the premium cheque. After that, I have no option but to do it myself. I wrote to Metlife to appoint another agent or at least give me back the amount that the agent was being paid on an annual basis as ‘trail’ commission. Metlife did not respond. I marked a copy to IRDA. No reply from them either! So, if you buy a policy from an agent, there is no guarantee of continuing service.
On the other hand, I make some investments through my banker. Over the last few years, the ‘relationship’ manager has changed several times. However, service from the banker has never suffered. Whoever is in place has picked up the threads and continues to give me service. Hence, ALWAYS DEAL WITH AN INSTITUTIONAL AGENT, if you want continuity in service.
Now, let us discuss the quality of advice. For advice alone, it is worth going to IFA’s. However, the customer has to learn to pay for advice. It is strange that we never negotiate or think twice about paying a doctor or a lawyer for advice. We pay the lawyer for advice and then go to the chemist for buying the medicine. So, we should be ready to pay the IFA or an advisor for advice on managing money. Buying should be done elsewhere. This will ensure that the quality of advice is not diluted. Since you have denied the agent any other avenue for making money, he will be focused on doing the best for you.
The other alternative for you is to do all the work yourself. And then go to an institution for buying the product. Often, what happens is that we let ourselves in for a ride by not planning out the entire spectrum, but looking at each thing discretely, as and when we feel like. We go by the last thing that we have heard.
Now, it is likely that in a few months, with a new SEBI chief, who has been a part of the mutual fund industry for some time, things will change. Maybe entry load for investments through agents or brokers would be rightfully restored. Hopefully, the NFO rip-offs will not be restored. Maybe we will have qualified persons to manage our money. Maybe PMS Managers would be subjected to full disclosures. But, none of these are going to impact what an IFA can or cannot deliver. An investor is still faced with the same choice.

Corruption in India

2011-02-15T20:32:00.001+05:30

Watch this thought provoking video :

http://www.youtube.com/watch?v=lMSatkxO_r0

If the link does not work, just search for "Corruption in India 2010 & Before

FUDGET 2011-12. Expectations anyone?

2011-02-15T20:26:00.000+05:30

(February 28th is the creative accounting day. New terms are invented and fine print gets a new meaning. All of this is courtesy the annual budget that is presented on this day every year)
I have enough money to last me the rest of my life, unless I buy something."
— Jackie Mason

Once upon a time, the stock markets used to wait with bated breath for the budget, every year. The british tradition of five pm budget was carried forward for a very long time, till a finance minister remembered that we were no longer a part of the British Empire.
Till 1991 or so, budgets used to be a sad thing. Every year, we had to anticipate where the customs or excise would be raised. We rarely saw broad fall in any tariffs. So, there would be more of relief rallies in sectors where the anticipated hikes in tariffs did not materialise.
After 1991, it has come down to anticipating where the good things in life will happen. We now tend to look more for generic changes across the board rather than for one particular sector or company which has lobbied (in whatever way) for and got something that will help it or hurt its competition. Those still happen, but to a far lesser extent than the past. One often wonders after finding out that some obscure provision has been changed to benefit just one company. But, Indian politicians being what they are, this will not go. To take advantage of this, one has to have inside information, which in these cases would be mostly the promoter, his family and related circles.
Now, the budget is becoming more and more of a non-event as far as the stock markets are concerned. Now, there is anticipation built upon the following areas, in general:
i) Drop in income tax rates;
ii) Drop in peak import tariffs;
iii) Drop in VAT rates;
iv) Tax breaks on housing loans, education etc.,
v) Removal or modification in subsidies;
vi) Increased budget on education etc
Reforms outside the budget are more likely to impact corporate India. The budget can only bring forth so much. Given the fact that the government is a hotchpotch of different parties, full- fledged reform is ruled out. The Congress party has always pretended to be Socialist, so we will have terms like ‘aam aadmi’ dominating the budget. As is said, “The fortune is at the bottom of the pyramid”, in more ways than one, includes collection of votes.
The budget is a presentation of the nation’s profit and loss and balance sheet on an annual basis. The one big difference is that we NEVER get an audited actual. Perhaps the nation’s wise men have realised that an audit means nothing. The budget virtually tells you the ‘state of the nation’ at a point of time in history. Political compulsions, nearness of elections (both state and central) and a new found desire to please the global financial community seem to be the main drive behind the budgets of recent years. The budget has also undergone some clever nomenclature changes, to present a better picture of financial health than it actually is. For instance, the fiscal deficit now has a new component called ‘primary’ deficit.
At the end of the day, what really matters is the sources and uses of money. The sustainable sources are tax revenues alone. What we see is that we use a majority of non-recurring revenue to present a picture that is removed from truth. What happens is that when revenue falls short of expenditure (which has been India’s story since independence, the government resorts to ‘borrowing’. This means that the government pushes in to circulation, money which is not backed by anything. So, it results in inflation. To this central government budget, we have to add the fiscal waywardness of the Indian states (alas, we are creating more and more of them, with disastrous financial implications). The net result is that we have a fiscal deficit of over ten percent of our total expenditure, which is mind numbing. Indirectly, the annual budget has a recipe for ten percent inflation. What saves us somewhat is the money that the foreigners bring in by way of direct or portfolio investments. Add to that the remittances that the Non Resident Indian sends, our finances appear to be healthier than what they really are.
For instance, in 2010-11, the government will take credit of the revenue from the auction of the 3G Licenses. Strictly speaking, it is like selling the family jewels to meet monthly expenses.
Indian fiscal situation has been out of control for a long time. It is not expected to get any better so long as we have a weak Central government, which is surviving at the mercy of wayward regional parties. These regional parties compound the national problem by adding their own doses of free television sets, one rupee a kilo rice and so many other wasteful schemes, to stay in power. Add to that the perceived ‘farmer’ lobby which results in heavy subsidies on fuel, fertilizers, electricity etc., there is no way that India can ever balance its budget.
So, if you see, at the end of the day, the budget is becoming more and more of a non-event so far as the investor is concerned. Of course, we will have the usual suspects (fertiliser, railway machinery suppliers, irrigation, education etc) where there will be a build up of hope. The Railway budget is another anomaly which exists in India. There is no rationale behind a separate budget for the Railways. It is time that it is a part of the national budget. The only thing one can see from a separate railway budget is the poor return on money that the nation gets and unnecessarily creates a power lobby of its own.
So, as far as investment goes, it is best to ignore the budget and carry on with bottom up investment themes. The budget may provide momentary hopes and agonies for the momentum traders. Naturally, there will be expectations that get built in. I have normally seen that the higher the expectation, the lower is the post budget returns from the market and vice versa. This is simply because the stock markets are comprised of expectations.
The budgets are not likely to offer any structural solutions. Let us see if there is one big bang on taxation. It is time that we live with tax rates that are fixed for life. And the other foolish expectation is whether a centralised sales tax (GST) gets in to play quickly. Most important, let us hope and pray that the Finance Minister does not introduce a new ‘Voluntary Disclosure Scheme’ to bail out the crooks who deserve to be hung). For more reforms, wait for a government with spine and majority.

Spoof of identity - Moneylife Personal Finance site and magazine

2011-02-14T21:45:00.000+05:30

Spoof of identity - Moneylife Personal Finance site and magazine

Spoof of identity
February 14, 2011 11:52 AM |
R Balakrishnan

How many details do statutory authorities need to establish an identity? Going by the current scenario, the list is unending... And soon we will all be confronted with another ‘Useless Identity Document’

A few years back, I started a systematic investment plan (SIP) for my children. My permanent account number (PAN) card, some address proof, etc, was all that was required. Now, my son is nearing 18 years of age. The money that is lying in his mutual fund account gets orphaned on this date. It can be many days before he can utilise it and I as the guardian have no control over it now! A few months ago, the registrar of the mutual fund wrote to me seeking the details of the bank account I planned to open for my son; his signature duly attested by a banker; his PAN card and his address proof.

There is a need to submit ‘proof of old bank details’ which is marked with an asterisk. The asterisk explains that it should be a cancelled original cheque leaf (with the name and account number)/bank passbook or bank account statement (certified by the bank manager)/letter from the bank for the new bank account/passbook. The PAN card is a tough hurdle. I did apply for a PAN card for my son a couple of years back, but the agency for the card issuance refused to supply one. Their logic was strange: a PAN card is not normally issued to a minor. This was nonsense, considering that my Marwari and Gujarati friends create income-tax files for newborns and pump income in their names from age one so that they can build ‘capital’ in a tax-efficient way. Finally, after a slanging match, they issued a PAN card for my son, with no photograph and with my signature!

Now, there will be a long wait. I have to get a PAN card issued for my son. And I cannot start the process until my son is 18 years old. Then, I will have to have another battle with my banker. He will want ‘address proof’ for my son. I have been a nomad for most of my life and this is a tough ask. Luckily, not having full-time employment has its advantages. I spent many man-days and got a ration card with the address where I am residing currently. Using that as the base, I managed to get passports for my children. The bank issue is sorted out, hopefully. This whole process can take quite some time. In the meanwhile, the money is frozen. I also do not understand about the ‘proof of old bank details’. At that point in time, none was asked for. Everything was linked to my account. The account was sold to me by HDFC Bank through their ‘Relationship Manager’, who is no longer with the organisation. So, no service from them, while the Bank will continue to amass the trail commission on these instruments. This sure beats working for the Government of India.

The Securities and Exchange Board of India (SEBI) and the Association of Mutual Funds in India (AMFI) have carried the know your customer (KYC) norms to ridiculous extremes. If one has a bank account, why bother with anything else? SEBI supervises the stock exchanges, home to the most manipulative trade practices. SEBI also ‘compounds’ offences with some token fines. None of the vanishing companies has been caught—or punished—so far. According to reports, indicted players like Ketan Parekh are supposed to be operating merrily. The regulator is behaving like the dog that chases the moving car. Once it catches up with the car, the dog does not know what to do.

These KYC norms are impractical and are meant to harass the mutual fund industry and investors. The insurance industry does not seem to care for these norms. All that the Life Insurance Corporation of India wanted from my son was a bank-attested specimen signature and a nomination form. Soon, we will all be confronted with another ‘Useless Identity Document’. The Unique Identification (UID) project would have been great if it were a single requirement. But it is yet another requirement. As I said, I have been a nomad. When I switch residence, I will have to communicate these amended details to a dozen or more places! Maybe there is scope for a broker to offer his/her services for effecting ‘change of addresses’. With mobility of jobs being so high, there surely is a huge market for such a service.

A nice political blog

2011-02-11T19:51:00.001+05:30

http://blogs.hindustantimes.com/singly-political

A nice blog, with good political insights. Go through the archives, for many things will fall in to place.

Retail tales

2011-01-21T14:42:00.005+05:30

Read this story about the erstwhile UTI Ventures (now called Ascent Capital)'writing off' and investment in KOUTONS RETAIL.

http://www.livemint.com/2011/01/20215647/Ascent-Capital-exits-from-Kout.html?atype=tp

In informal circles, Koutons was considered to be one of the better retail plays, much like Vishal Retail was talked of as a focused and aware player. Both have fallen. This is the third large failure. The first to fall was SUBHIKSHA which had some high profile investors.Of course, the TVS Group had given up this sector after a very early try in 1990 or so.
Organised retail chains find it difficult to battle the local stores, which have upgraded themselves, have low costs, low rents and labour costs that are half or less.
Of course, there are scalable models like Star Bazar (do not know about their profitability). Real estate is one business. Retailing is another. Understanding both is key.
Clearly, the dice is loaded against the retail sector from an investment perspective. The rents kill. On top of that, Vishal and Koutons also had to face the problem of having their own brand in ready to wear garments. This is a foolish business to get in to, since the inventory risks are very high, given that both the retail cos did not have any brand worth a recall.
I am also amazed at the venture capitalists who put in money.
Or, maybe, the promoters are laughing their way to the banks (swiss or not, it does not matter).
A clear message that retail focused on the Bottom of the Pyramid (India's pyramid bottom is ninety percent of the population) is a dicey call.

THE YEAR THAT IS WILL BE THE YEAR THAT WAS....

2011-01-18T08:20:00.000+05:30

(This appeared in the recent issue of MoneyLife)

The sun shone, having no alternative, on the nothing new. —Samuel Beckett, Murphy (1938)

By the time you read this, you may have read umpteen articles on ‘where to invest in 2011”. Of course, each one is a forward looking piece and the equity markets could promise anything from a modest fifteen percent return (for the year) to usual homilies like “equities are best for the long term “. None of us bother to read what we read last year this time and how much of the oracles’ prophecies came true. I am also guilty of indulging in star gazing and it is fun to carve out a slice in time and predict what the markets will do. There is a fifty percent probability that we are right. Of course, where we can all go horribly wrong is in our picking of stocks, sectors etc.,
The best way is not to look at the change in the calendar as anything spectacular. In the life of a company, dates come and go. If a company is doing well, its earnings grow and shareholders remain happy.
As we step in to 2011, we are more informed. We now know that our country is amongst the most corrupt nations in the world. No party is free of guilt, with each one having abused power for personal gains. The most dirt can be found where there is a ‘discretion’ given (often, taken) by an individual for dispensing favours. Corporate India is perhaps the source of all guilt. From the days of licensing to using corporate riches for personal gains, Corporate India has been treated like a punching bag by the captains of industry. I think in case of corporate and political India, it is safe to assume “Guilty until proven innocent”.
Domestic economy is on a tear so far as prices and demand goes. The key question is whether the rising prices will impact demand? Supply bottlenecks will take time to get resolved. Investments in infrastructure are happening, but at a pace that is snail like. The government is using capital receipts (sale of shares, sale of licenses etc) to fill revenue deficits, which is a disastrous thing. The current account deficit (imports minus exports) is running at nearly six billion dollars every month! This gap is getting narrowed by capital market inflows. Again, a structurally weak filler.
Domestic inflation, driven by high demand, slow catch up of supply is also driving the rupee down. 2011 is ominous. If the global economy recovers, India will face a problem of high prices in crude and commodities. This will weaken our rupee further. Global protectionism will also contract the margins of export oriented service industries.
So, the investment theme does not change at all, as far as I am concerned. Let us continue to do what we do, with more focus. Look out for value to preserve our wealth and look for growth to place our bets on higher return opportunities.
If the global economy is going to recover, I will perhaps make one big change in my investment strategy. I will look for some India based multi nationals that have made a base in India for some global products. And another thing to evaluate is whether one should invest in equities overseas. Of course, most of the global markets are at two year highs, but then the pump priming which the world has done, has resulted in almost all the money coming to the equity markets. Entities like Citibank have used the hiatus to revamp business, write down old sins and planning a return to old times. So, global stocks may actually head much higher if the world recovers. Maybe some of it is in the price already. Global interest rates are still soft and till consumer confidence (which is abysmally low worldwide and pump primed by monopoly money) is back, we cannot call it a recovery.
Yes, we will be closer to another election. Politics is getting murky day by day and with all parties being of the same shade, there is unlikely to be any difference irrespective of which one is in power. What is sad is that each political party is busy throwing apparent ‘freebies’ at the populace and in the process destroying the fiscal discipline for good. The combined fiscal deficit of the states and the centre is in double digits. And it is very likely that we may see one more state added to the Indian map by creating more division. All this will shift focus from growth and development. 2010 was the year of scandals and 2011 will be spent in cursing politicians and fixers. In all this hue and cry, companies will continue to make money. Inflation will be a constant worry. Hopefully, business will not be throttled by regulatory seizure.

SELLERS KEEPERS, BUYERS WEEPERS

2011-01-18T08:15:00.000+05:30

(This appeared in the recent issue of MoneyLife)

My mutual fund distributor friend is very disturbed. He has carefully nurtured clients who are regular investors in to mutual funds. My friend has an insurance distribution business, but does not sell insurance investment products. Of late, he is extremely upset.
What is happening is that his customers are being poached by the insurance agents. The clients used to regularly invest moneys in Fixed Maturity Plans of mutual funds. Now, a few of them have used the money meant for that, to invest into ‘Single Premium” insurance (investment) product, which has a ‘guaranteed’ return. The effective returns work out to around four or five percent per annum! My friend tries to explain this to the clients, but in vain. The client has been bamboozled in to a five year insurance cover. The client has also not been told that there is a very high probability that any returns he gets from a single premium product would be subjected to income tax.
My friend explained the dynamics to me. Apparently, these single premium products are being sold by the come lately Certified Financial Planners masquerading as “Independent Financial Advisors”. The old insurance agents do not push this product since traditional ULIP’s give them a fatter income.
The insurance companies have been pushing their case with the IFA’s in the following manner:
“If you put the money in to mutual fund FMP’s your earnings are going to be not more than 0.40 percent per annum on the amount invested. And each year, you will have to live with the vagaries of the market, the customers’ preferences at varying point etc. Assuming you are able to convince the customer each year, you will make a total of two percent over five years. In other words, from a fifty lakh customer, you will make a lakh of rupees over five years. You have to live with the fund house performance, follow up each year and the other routine headaches.
Instead, you sell our single premium product. Firstly, there is a ‘guaranteed’ return. Your first effort is in convincing the client. Once you do that, look at what you make. You get a first year commission of around two to three percent and an annual commission of two percent. So, you make a total of at least twelve percent! In other words, you will make six lakh rupees! And once you have taken the cheque out of the customer, you can forget him. No servicing, no worrying about NAV, no after sales service. In fact, once he has given you the cheque, you do not even have to take his calls, unless he has more money to invest.
So now, you decide which you want to push.”
This argument is solid. The agent sees the light of the day. Where is a lakh of rupees as compared to ten or twelve lakh rupees?
Single premium products are absolutely useless. In the past, I remember having put money in to products like Bima Nivesh of LIC simply because it was a nine to ten percent post tax return. Now, unless the premium is not over twenty percent of amount insured, the tax man is going to chase you. And no one gives this out as a risk. All the agent says is ‘tax benefits” as per law. This is highly ambiguous and will easily fool someone. And insurance agents, being what they are, will shove in their body if you give them an inch.
If an IFA has to be a genuine one, there cannot be any product in insurance other than a Term Policy that will be sold. All the other products are investment products, which pick the pockets of an investor. And for Term policies, you get a fantastic price if you go online and take it directly, without an agent. Of course, the agent will scare you. He will say that in case of a claim, there will be no one to help you. Think. It is very likely that you may live longer than the agent. And in any case, after a few years, the agent vanishes. You have to, in any case, run to make the payment yourself. I had a running exchange of mails with Metlife telling them to send an agent to give service. I told them that I am unhappy with the agent and to stop paying his commission. No use. For them, the agent is God. The agent stopped servicing me inspite of reminders and requests. In spite of this, Metlife continues to pay commission (I presume) to the agent. In no other profession (maybe some government jobs are like this) can you earn without doing anything for it. What a shame!

Fixing share prices- Mumbai Ishtyle

2011-01-04T21:48:00.001+05:30

(This appeared in the recent issue of Moneylife)

In the recent fall in prices of small and mid cap stocks, we all have a big lesson to learn. A friend of mine sent me a list that had the names, prices etc of around 350 stocks that had touched their 52 week lows. I glanced through the list to see if there is anything interesting in them.
My first reaction was that this list had a major proportion of stocks that were ‘operated’. What are the typical characteristics? For one, they have limited retail interest. Less than fifty thousand shareholders are typical of most Indian companies. And average retail holding tends to be a hundred to five hundred shares. There is no reason for the stock to churn up large volumes on the bourses, unless there is a clear manipulative activity which gives an illusion of liquidity and also is part of a larger exercise by the promoters to rig the price. Why do the promoters rig prices? One reason is to keep trading and making money on the ‘unofficial’ promoter holdings. The other reason is to create an illusion of liquidity as well as pushing the prices higher, with a view to enable a ‘Qualified Institutional Placement’ with Institutional investors.
For most Indian companies with low market cap (say less than Rs.500 crore) there is hardly any institutional demand. And surely, the retail shareholders hardly trade their holding every day. Most retail investors tend to either hold on for long or sell on listing.
To create an illusion, the promoter approaches a few ‘operators’. Many times, some broking houses approach companies saying that they will ensure ‘interest’ in the company stock by writing research reports, road shows etc. Once all arrangements are in place, there are a few entities which will keep buying and selling the shares on a daily basis. Most of them will have a ‘Loan Against Shares’ facility from a NBFC. There can be up to twenty or more corporate entities involved in this activity. Essentially, circular trading happens in a way that it creates an impression of volumes as well as help to move the price up. A few stray retail investors participate. In a vicious market, they are like the victims of stray bullets!
The one classic symptom which most of these stocks displayed was their getting locked on the lower circuit for several days in a row. This can happen when the operator ceases his activity. The recent cessation was perhaps due to some of them getting scared of regulatory action or the NBFC’s pulling the plug. Regulators can easily catch these operators if they want to. The trail is open enough. The other sign is the percentage of ‘deliveries’ to the total traded volume. In these kinds of counters, it is rare that anyone other than an operator would indulge in ‘intra day’ activity. The first smell of suspicion is the breakdown of the volumes traded. The lower the delivery volumes in these small stocks, the greater are the probability of manipulative trading.
The other is to look at the pattern of ‘block’ trades. Most times, you will see names of a few investment companies repeating. If you track the data on a yearly basis, some names seem to be present in a group of stocks. Whilst it may not be conclusive evidence, it surely smells.
Look at the number of shareholders. Look at the institutional investors’ breadth. Domestic institutional investor presence is easily ‘bought’ by many promoters through brokers who ‘fix’ the fund managers. If you look at the list of investments of most domestic institutions, it would have such obscure companies, that you cannot but doubt the integrity of the institution.
So, what did the list tell me? Yes. If one wants to be focused on integrity and transparency, the universe of listed stock shrinks by as much as ninety to ninety five percent. The second thing is one has to keep track of operators if you want to get in to the second rung companies. In the small companies, the main issue is also that without an ‘operator’ it would be almost impossible to buy and sell shares.
I have gradually seen promoters using the operator route to make money on the side and when they are able to ramp up the prices to very high levels, even by their own yardsticks, they sell part of their holdings. Then over time, they bring the prices down and then use the QIP route to allot themselves warrants to shore up the holding.
So, if I have to take a chance, I will perhaps make a list of five or ten of these companies and place a few bets. These bets would hinge on whether and how soon the concerned promoters get back to action. Of course, you can exercise some extra checks by looking at numbers (often pointless because when the promoter can rig share prices, he can rig anything) and taking a view on whether the stock is such that sooner or later one can find an institutional buyer.
This is the cycle that most Indian stocks go through. Understand it and gain from it.

Portfolio Damagement Schemes and distributors

2010-12-30T15:48:00.001+05:30

(This appeared in www.moneylife.in)

A big fund house recently announced the redemption of a three year real estate PMS scheme. The investors were happy as they got back a total of one hundred and three percent of the money they invested. Yes, a pathetic return, but the investors were happy to see their principal back. Of course, it is more psychological than logical. In real terms, probably each investor lost around thirty percent of his principal, if inflation or purchasing power is factored in! Not a very prudential investment.
Several interesting takeaways from this:
i) Though the scheme collected money in 2007 (property prices even today are around fifty percent higher than that period), the investment must have been so bad that the net return to the investor is so pathetic. Or it is likely that the fund manager/s has done sweetheart deals with investee companies and made good money on the side;
ii) There would have been some investment costs (brokerage, due diligence etc);
iii) The distributor made a total of around five percent upfront, when he sold the scheme to the investor; and
iv) The AMC or the investment manager charged a three percent entry load and an annual management fee of two percent. Totally, the AMC made around nine percent of which five percent was given to the distributor. In effect, the AMC made four, the distributor five and the investor three! All the investment was of the investor. So, for the distributor and the investment manager, the return is infinite and for the investor, it is less than one percent per annum!
Alas, even today PMS schemes continue to lure investors.
The latest among the PMS schemes are the ‘debt’ PMS schemes, with return promises of around twenty percent per annum for three to five years. The collected money is lent to investment companies belonging to industrialists who in turn pledge their holdings in listed companies. The money is used by the investment companies to either buy more shares or to manipulate the share prices. Not all the investment companies are actually disclosed to be promoter entities as per the official records. And since there are no investment limits etc on PMS schemes, often, the entire pool of money is lent to one entity! This is nothing but backdoor money lending!
For selling these funds, the distributor can get two to five percent commission, upfront.
I happened to see a PMS account statement of a gentleman who had invested money in to a scheme focused on ‘consumption’ theme. In one year since investment, the person was down eleven percent, in spite of keeping cash balance of close to 45%! In the same period, the sensex has given a positive return of twenty percent! I found the arithmetic difficult to digest. My guess is that what I saw was just the snapshot of the statement date. Perhaps there has been active churning and trading which would have eaten away most of the money. Investors never seem to learn!
It is rare that PMS schemes give returns higher than the mutual funds. In spite of that, people with too much money, seem to get easily conned by the sales folk who push the PMS schemes at them because the selling commission is much higher than a mutual fund. It is time SEBI raised the minimum ticket size for PMS to at least a few crores of rupees. Then, it is a case of the rich putting their money knowingly. Today, people with less than even a crore of investment portfolio, are being lured in to PMS. Of course, they too do not deserve any sympathy, but greed is a normal human tendency and if the regulator can curb it somewhat, the investor who keeps away from such rotten schemes, would be protected.

2011- change is nothing. stock markets rule ok

2010-12-30T15:40:00.002+05:30

2011 - Crystal Ball
(This was written for the Dalal Street Journal)

Returns
P/E Open Close
25.53 Jan-08 20,325.27
12.16 Dec-08 9,647.31 -52.54%

12.21 Jan-09 9,720.55
21.82 Dec-09 17,464.81 79.67%

21.99 Jan-10 17,473.45
22.85 dec 6 2010 19,981.31 14.35%
(Above numbers are based on the BSE Sensex)

The above table is self explanatory. Indian markets have given fantastic returns, unless you were caught with your money in the markets through 2008. If you have done that, hopefully you have bounced back. It is likely that if you were caught in fancy ‘growth’ stocks and still deep in the red.
From my experience of equities, I can clearly see that ‘value’ stocks have delivered superior returns as opposed to ‘growth’ chases. You have only to look at multinational stocks like HUL, Colgate, Castrol, Cummins etc to realise this. Many Indian ‘growth’ stocks have given nothing but heartaches. Perhaps you were lucky to catch an Infosys early, but it is more likely that you may have the ilk of Ispat in your portfolio.
The charm that the MNC companies offer us is that they seem to be in dull businesses. But in a country where domestic demand is going up in leaps and bounds, their businesses benefit enormously. Most of the companies I named enjoy incredible return on shareholder funds. They enjoy their share of India’s economic growth as well as stay focused on what they do.
Our economy has kind of moved on to a seven to nine percent growth despite the government’s utter paralyses in terms of doing anything proactive (other than individuals taking a toll for putting a rubber stamp). And for the righteous ones, who think that corruption and scams will matter, do not worry. Dishonesty is a way of life in India and merely because it is out in the print does not amount to a new discovery. Ignore it.
Industrial growth can be as high as fifteen percent, if supply catches up. In many areas, including service sectors, there is a clear shortage of skilled manpower. Rising wages are eating in to profitability as well as adding to inflationary pressures. I think that profit growth is going to be a party pooper. Inflation should continue at nine to ten percent in official terms, whilst on the ground inflation will be closer to twenty. This alone should keep some profit on the table for companies.
One worry is whether the last quarter will see some dip in rural spending as farm output is getting impacted by capricious weather in most parts of India. This is something that can upset the consumption story.
In this backdrop, I would like to look at keeping my money in to sectors like banking (private banks), pharmaceuticals, engineering and FMCG. Oil and petroleum can be looked at, but the sector has limited investment possibilities. Regulated sectors (fertilizers /sugar etc ) continue to remain politically threatened sectors and usual speculation around pre budget time could provide some quick bucks. With all the controversies surrounding telecom, it would be good to pick up market leaders at declines. The trouble is that one does not know which of these companies would be the next ‘discovery’ in a scam.
The government’s selling off of capital assets (shares in PSU) and treating the proceeds as revenue, will help to dress up the shoddy fiscal position. Analysts will shift focus from Trade deficit (increasing at nearly six billion dollars a month) to Current Account deficit (buffeted by capital market inflows) and say that ‘All Is Well’. The main plank for the bullishness is continuing foreign inflows in to this market. At some point, if they wake up and think that India is not all that hot or that some other global economies offer better opportunity, the flows will thin.
2011 is going to be a year of uncertain returns in this market. Whilst I do not see a market collapse (primarily due to corporate earnings rather than macro economics), earnings growth beyond fifteen percent or so is clearly not on. So, valuations are rich and stock picking is going to be key.
Gold and silver seem to be on a tear and so long as Europe and America continue to wallow in printed money, the gold run would continue. Perhaps gold and silver would give higher returns. If you ask me about whether they are at fair value, the answer is a resounding “NO”. Clearly, our stocks represent better value than the precious metals. The metal prices merely reflect the fear on global currencies.
One possibility is of regulatory whiplash which can bog down investments. These could be accompanied by exposure of accounting frauds also. 2011 is going to be a bumpy ride in the face of rich valuations, decent economy and strong funds flows.

R. Balakrishnan
December 7th, 2010.

Trust betrayed-

2010-12-15T22:13:00.000+05:30

Today, the television channel, Headlines Today (belonging to the India Today group) had an expose on the Tata Group. In brief, land that belonged to Voltas, with a market value of Rs.250 crores was sold / transferred at Rs.25 cr to nominees of the Karunanidhi family (the family that rules the state of Tamil Nadu and is an important ally of the Congress ). According to the channel, this was the consideration paid to ensure that the Telecom portfolio was NOT given to Dayanidhi Maran.
In the same news capsule, there is mention of a shell co which links the Anil Ambani group, Swan Telecom, ETISALAT, ETASTAR and the DMK ruling family!
To all of those who have been saying that I am very negative and pessimistic, what more do you expect?
If Voltas has done it, Ratan Tata stands totally stripped of his high moral stance. That was supposed to be the last bastion of trust.
Now, let us turn to the important question. If the land deal is true, Voltas shareholders have been screwed. Voltas shares are held by institutional investors also. This is a fit case to sue the Board and recover the difference. The Board has gifted away the property of the shareholders.
This is also a lesson to those who invest based on ‘asset’ values in Indian companies. The benefits rarely come to the shareholders.
Even if the Tatas restore the property to Voltas (a high probability due to the political stench that is happening), the Board of Voltas has to go. They have no bloody business being there or on any other Board of any Company. In fact there is a fit argument for suing them for breach of trust. This shows that the Boards are dummies and the promoters can do what they want. Look at the names on the Board:

Name Designation
Ishaat Hussain
Chairman / Chair Person
Nasser Munjee
Director
N N Tata
Director
N D Khurody
Director
Nani Javeri
Director

Sanjay Johri
Managing Director
S N Menon
Director
Ravi Kant
Director
Jimmy S Bilimoria
Director

How independent are any of the names above? Is any one of them fit to be trusted, if the land deal has been struck?
This is a fit case for SEBI, Co Law Board and shareholders to act upon.

Hero Honda

2010-12-15T16:00:00.003+05:30

Hero Honda Motors is a respected company.
Honda Motors, the Japanese technology and name provider, is exiting the joint venture.
The press reports indicate that the Japanese partner will sell its stake to the Indian promoter (or his nominee, I suspect). The interesting thing is that the papers report that the Jap is selling the stake that is currently valued at nearly two billion dollars, at around one billion dollars.
So, is this a windfall to the promoters? And in the process, the 'other' sucker shareholders get the middle finger?
Fairness would have it that the shares could be offered to the other shareholders as a rights at some price. Alternatively, Honda should dump its shares in the market at the best possible price. Surely, Honda Motors is a listed co and they too would have some shareholder accountability?
Or is it that the exit is as per some pre agreed formula of yesteryears which was put on paper when the JV was formed? In this case, no one will cry.
Hero Honda is a valuable company with an amazing track record.
The Munjals have some explaining to do on how the deal is being put through.
If the media reports that they are picking it up at well below market price is true, it is only fair that the rewards be shared. The media reports also say that this bought out stake will be placed with PE investors.
Why go through this convoluted route? A simple rights issue would be the perfect thing to do.
Will the Indian media (which gets huge advertising revenues from Hero group) keep mum?

SCANDAL A DAY KEEPS NO ONE AWAKE

2010-12-15T15:24:00.001+05:30

(This article appears in the latest issue of Moneylife- 'What me worry about corruption")

SCANDAL A DAY KEEPS NO ONE AWAKE

Another scam, another scandal. The sun again rises on nothing new, in India.
The one good thing the bribe exposure did was to show how shallow our stock markets are. It also shows the risks in the markets. Under normal circumstances, if one were to believe all the corporate governance speeches and talks that the foreign investors make, they should have totally ditched Indian markets. The fact that they choose to remain, shows that money and respect for ethics are two different things. Being unethical is no bar to making money. Tolerance is everything.
The breaking of the scandal perhaps gave the markets a good excuse to correct. Stocks of companies that had risen for no apparent reason fell with a thud. One hardly saw a good quality stock price take a big tumble. Yes, our markets need continuous doses of ‘grease’ to keep going. Most promoters and money managers fall in to the honey trap and create an environment which creates a make believe world of ‘all is well’. I am reasonably sure that this scandal will blow over. In fact the first two to three days have seen an enormous number of market participants appearing in the media and making light of the scandal. Corruption is accepted as a way of life. Getting caught does create some hiccups. Look back at 1991. So many got away scot-free, some got divine retribution and a few got punished. History will repeat itself.
Yes, we can question that the actual impact of the scandal on a LIC Housing or a Bank of India does not appear to be damaging. Most analysts came back saying that either the amounts are small or that the loan book is still healthy, so ‘what me worry’? This will be the sales pitch to ensure that these stock prices will recover sooner rather than later.
To me, the bigger issue is the management culture in the PSU’s. It is common knowledge that graft and grease take various forms and shapes in the public sector undertakings. I am not, for a moment, saying that only the public sector is greasy. Private sector is often more greasy. Unfortunately, the public sector also has the ownership in hands of a government which should not be in commerce. It uses the public sector as a part of its ‘currying favours’ kit. The private sector promoters, on the other hand, treat the companies as their personal properties and use the money first for self, then for family and residual is for all ‘other’ shareholders. In the private sector, personal ambition often creates a lot of incidental value for the other shareholders. On the other hand, the PSU bosses are not unduly worried about share prices. For them, wealth is what can be taken away from the company. In the private sector, the promoter is happy when the share prices rise. This is the big difference.
What keeps people invested in public sector companies? Is it a hope that someday, the government will exit the board room like they did in IPCL or BALCO or Modern Bakeries? Or is it a blind evaluation of published figures? Perhaps it is a combination of both. One fund manager friend mentioned that he prefers public sectors simply because the government will always stand by it. Look at the banks, he said. Some of the new gen private banks have vanished. But the dull public sector banks are still around, after having got several doses of oxygen.
Somewhere, there is also the fact that if we take the recent scandal, the private sector intermediary company share price is far less likely to recover than LIC Housing’s share price. Investors will not care unless it turns out that the company is filled with dud assets. The scandal will be taken as a small dent in the share price and in fact I know of some investors who have bought in to these shares when it fell sharply. So, the world of investors really gives a damn about corporate governance or honesty.
The real estate sector has also taken a hit. Here again, the take is that perhaps for a small time, the companies will find it tough to get loans. This will pass. They will find new intermediaries. This sector has never been known for its transparency, but still attracted the cream of foreign investors. It hardly matters whether they are straight or fit in to the shadow of a corkscrew. So long as they have land, can sell houses and offices, investors will flock to it.
So, don’t worry. Grease and graft changes nothing. It may change a few equations here and there, but the investment universe feeds on it.

Lenders weepers, borrowers keepers....

2010-12-13T20:08:00.001+05:30

Shortage of money should never come in the way of fulfilment of your basest desires. The RBI encourages you to do so. In the past, if you borrow from banks, there was a fear that some goons may come and harass you for repayment. They made it very difficult for you to miss EMI’s etc., Do not worry. All is now well, with the RBI having come to the rescue of people who love to live their life with OPM (Other People’s Money).
Well, the first part starts with getting money. Make sure that you approach as many banks as possible simultaneously. So long as you do not have a bad record as a past baggage, then no problems. Hit every bank for the maximum possible. Does not matter if the EMI’s total to more than you are ever likely to make in a month.
There is no way the banks know what you are going to borrow. If you have a job, it is fine. You can have a salary certificate. If not, go to the nearest printing press and get some done. Reference checks should be another breeze. Have a couple of prepaid mobile sim cards. Now with multiple sim cards in one phone, you can give one number as the referee’s so that when there is an attempt at verification, you can take care of it yourself. Verification is generally done by third parties, who are paid per completed verification, so play them along. It is rare that they will take a second or third attempt to complete the form. The third party will have targets from the lending bank, so they are very happy to complete the paperwork as soon as possible. They pay their employees ‘per case’ so the system works in your favour.
Having got the loan, now forget it. In order to make it easy, here are some tips:
i) Leave your house just around seven am and return just after seven pm. This way, your stay at home is peaceful. A recovery agent cannot come in to your house between seven pm and am;
ii) When there is a call for you, and it seems like it is the recovery agent, give them a bogus name. They cannot talk to anyone other than the borrower about the loan;
iii) If you are in a pooja, they cannot interrupt. This will come in handy;
iv) Even if the recovery agent calls you, you can put him off. He cannot call you more than once a day;
v) Per chance, if the agent finds you at home during ‘permitted hours’ organise an impromptu function or pooja. The agent cannot now bother you or enter your house. So, if he knocks, and you are foolishly caught unawares, tell him that there is a pooja going on and he can come next day after calling you;
vi) In case you have a vehicle pledged to them, do not worry. They have to give you a notice of repossession, give you time and then only they do it. Offer severe resistance physically whilst they come for repossession. They cannot retort since their code prohibits them from doing so. Alternately, keep some banned substance in the vehicle, which you can then pin on the agents;
vii) Even if they repossess your vehicle, they have to auction it to the highest bidder. You can always lodge a complaint with the consumer courts that they have not done their job diligently and that you could have got a higher price is a good plank to fight the lender. Who knows, you may get an out of court settlement offer;
viii) Inspite of all this, if the recovery agent manages to collar you, do not get intimidated. Tell him that you do not agree with the numbers given by him. Once this is settled, then till him that you will talk directly to the bank. If he still does not listen, tell him that you will lodge a complaint for harassment with RBI and the lending bank. It will be his word against yours and typically, courts will tend to support the ‘innocent’ and hapless borrower;
ix) Banks have been told to go to Lok Adalats for amounts up to Rs.10 lakh. Try and cross this limit. This will make sure that the matter goes to a court of law;
x) Once it goes to court, go to the bank and plead for a settlement. It is very likely that you may be able to settle for anything between thirty to fifty percent of your loan. You can keep this handy by placing a FD for around twenty percent of the loan you take, with a separate bank. This gives you the freedom to blow up eighty percent of the loan!
The Indian banking system is wonderful and is tailor made for defaults. So far, this privilege was available only to large borrowers (textile mills, steel mills etc) who could merrily default and thumb their nose at the banks. Now, there is a level playing field. Even if you are small, you can still default. If large borrowers and farmers can, so can you. Ditch Shakespeare (Neither a lender nor a borrower be...etc). Borrow and enjoy.
As regards the lenders.. God help them. The best way is to keep the legs crossed and not open the loan books to individuals for ‘personal’ loans, stock market loans, housing loans etc., In the US, even the distressed housing loans have become an issue, with the banks being virtually stalled from repossession!
(The central bankers and the media treat the borrowing scum with misplaced sympathy. This is the sole reason that crooks and criminals are able to siphon public money. If I had a choice, I would make sure that defaulters lose at least one limb and have a tattoo on their forehead. Defaulters are thieves who steal and should be shunned and boycotted by all decent human beings.)

Birla and their skills in managing money

2010-11-26T23:22:00.001+05:30

Read this article.

http://business.in.com/article/boardroom/what-really-happened-at-aditya-birla-money/19472/1

It is scary to think that groups like this would get a banking license.

With my palms open..

2010-11-24T18:36:00.000+05:30

The news of a scandal involving LIC Housing Finance and some PSU banks is noteworthy. Why? No one is surprised, but what is surprising is that some arrests have been made. An obscure financial services co which suddenly shot in to the limelight with a huge fund raising, has apparently been the go between or the ‘arranger’.
Corruption in public sector is a given thing. Given the salary scales, there is no other reason why someone should work in those organisations (yeah, there are exceptions, you say, but they only go to prove the rule). Corruption in money lending is universal. When one sits at a desk with powers to hand out loans, the temptation is huge. Even private sector is not immune. In the private sector, corruption takes many forms. It could be personal gratification (money, women etc). I know of a private lender, who is innovative. He gives loans to builders in return for giving flats to friends, family, associates and employees at ridiculously low rates. And the lender makes sure that he always sides with a few people and deny loans to competition. So, here, can you point a finger? Especially if the organisation does not have to write off any loans? No one can establish the loss of revenue. That is beyond the realm of audits.
In all cities, there are ‘fixers’ who arrange loans from PSU banks at a price. They could be accounting firms, financial service brokers or just an individual with a suitcase. In fact I cannot imagine a single area of the financial services industry where corruption does not exist. Some fund managers take all kinds of gratification to invest in dubious securities. Or they take it to invest in good companies at high prices. I know of many fund managers whose lifestyle and assets are far beyond what they earn as salaries and bonuses.
The financial services industry (lending, borrowing, broking) is as filthy as it gets. In the seventies, grease was used to get loans from financial institutions. Private sector executives would take money to hand out mandates on investment banking. Some ‘clean’ broking houses would use ingenious routes to generate cash and pay the executives.
Corruption is a way of life in India. Nothing will change it. It has become a part of the blood stream. And believe me- it is higher than ever before. We have a PM who is universally recognised as a clean man. I think his reign has witnessed the highest level of corruption in independent India.
Live with it. Accept it. It is all around you. Right from the moment you pay a bloody tip to an attendant in a five star toilet who holds out his palm to you after giving you a paper towel to your paying capitation fee for a college admission for your kid, you do not escape the web of corruption. You start by paying ‘speed’ money to get a birth certificate and end with your kin paying it for getting your death certificate.

Promoters are Not like you and me. They have special rights...

2010-11-18T21:32:00.001+05:30

"ALL ANIMALS ARE EQUAL, BUT SOME ARE MORE EQUAL THAN OTHERS"
- George Orwell, Animal Farm
So long as a promoter does not invite others to be shareholders in his company,
He can legally and morally do what he wants with the company. There is no one to whom he is answerable. The moment his company has other shareholders, he can no longer have the right to do his bidding. He has to have the consent of other shareholders for most actions that impact the shareholders as a universe. This is the spirit and letter of the law. In real life, though, this receives scant attention from the promoters. They use the company as their personal fiefdom. When it comes to raising fresh capital, the law states that there is a right of refusal to all the shareholders. In other words, if I am a shareholder, I cannot be denied a right to subscribe (as proportionately as possible) to any shares / warrants or such instrument.
However, the law has been perverted by the businessman. They introduced an obnoxious amendment to the law which permits issuance of shares on a ‘selective’ basis. This could be in the form of a private placement with an institutional investor(s), or to a collaborator, or to the promoters. In each case, to deny the general shareholder, a ‘special’ resolution needs to be passed. This means that seventy five percent of shareholders present at a shareholder meeting have to agree to this. In India, this is easier done than said. Not many attend meetings. And institutional shareholders always side the promoters. Mutual funds do not generally vote. So, it is a simple thing for a promoter to do what he chooses.
To me the most obnoxious practice by a promoter is the subject of ‘preferential’ warrants to himself. He has only to pay 25% of the conversion price and has 18 months to make the balance payment, at a time of his convenience. This provision is the one used by promoters to abuse the markets and the shareholders. First they ramp up the stock prices, and then sell their holdings. Then they screw up the performance, drop the share price and then issue warrants to themselves. This is like a ‘merry go round’. This is the one clause that SEBI has to get rid of. I also wonder where is it that promoters get the money to subscribe to these shares and warrants. In some cases, I would not be surprised if it is through money skimmed off the company through some devious means.
Why should a promoter not pick up shares from the secondary market instead of issuing warrants to himself? SEBI permits the promoter to do so. With such a window available, I do not see any rationale for issuance of warrants to promoters.
One argument that some promoters put forth is that when new shares are issued to themselves, the company gets the money. If the company really needs the money, surely a ‘rights’ issue is possible? And when ordinary people are buying shares from the market by paying spot cash, why should a promoter have the luxury of getting extended credit for buying shares? The legal system has been in league with the promoters and will perhaps continue to be such forever.
I also wonder when promoters decide to acquire a company or a football team or a cricket team or buy a personal aircraft with the shareholders’ money. These kinds of acts are the clearest indications that they give a damn for the other shareholders. And in no time we see kith and kin in action, burning shareholder money for some unrelated activities like ‘art’ shows, ‘social’ initiatives etc., If a promoter wants to fly in a private aircraft, let him do so with his own money. In this age of instant communication where is the need for intensive travel? As a shareholder, I am perfectly content to see the CEO travelling economy or business class. A co paid aircraft is used by family members, friends and political contacts.
Corporate governance is a fashionable term that does not exist in the real world. Same is the case with Corporate Social Responsibility (CSR). It is fashionable to devote two pages in the Annual Report to CSR and half a sentence to explain the losses borne by the company. Perhaps if the CSR were eschewed, the losses would have been smaller. And in matters of CSR, you always see the beaming faces of the friends and family members of the promoter on page three. I invest in a company for dividends and capital appreciation. No fund manager or investor gives a share a higher price because of CSR. So, let the promoter give me the money and let me decide whether I want to be charitable and if so I will choose the path I wonder how is it that CSR related expenses are permitted by the tax authorities as legally deductible ‘business expenses’?
The whole world is happy to build this facade of CSR, corporate governance etc to assuage their guilt. And the media is a willing partner.

Paying your money manager

2010-11-03T20:16:00.001+05:30

This article was written for Moneylife magazine (http://moneylife.in/article/81/10646.html)

PAYMENT FOR PERFORMANCE? IS IT A MYTH?

Fund managers are a revered kind. There are too few of them (excluding the millions of self styled investment experts) and the good ones do not like to be seen or heard. When the term ‘fund manager’ is used, what image does one form? An expert, who knows everything about every stock, every company and also knows which stock will go up or down including when. He is Warren Buffett and George Soros rolled in to one. Long term investment is the philosophy without missing a single short term play.
There are over thirty five fund houses, a dozen odd insurance companies and a few hundred licensed portfolio managers. In addition, we have thousands of ‘investment advisors’. In addition, we have a few more thousands of ‘technical’ analysts, who look at prices as they move tick by tick and forecast the likely outcomes over the next instant to a few months.
So, what is it that we expect when we give money to a fund manager? When we put money in a mutual fund, we are either choosing a ‘star’ fund manager or putting our faith in the fund house, without bothering about who the fund manager is. Whilst the statutory warning does say ‘past is no indicator of the future’, we do lay a high emphasis on track record. The second issue is one of paying fees to the fund manager. The industry structure is such that the payment does not seem to reflect performance. We pay fixed fees (in case of mutual fund industry) whether the fund house performance is in the top ten or the bottom ten. Often we are hustled in to a decision without getting sufficient time for analyses or thought. In case of portfolio management schemes, the situation is even worse. The manager takes a fee plus a share in your gains based on a ‘hurdle’ rate, which can be even a single digit number. In many cases, even if the PMS Manager delivers returns far below the market, you may have to pay him a ‘bonus’ for beating the hurdle rate! And in some cases, the PMS Manager may first lose a large part of your money (taking only his fixed fee for this splendid performance) and then when he recoups the losses, he may actually end up earning a bonus! It is a funny industry.
Let us now look at what is it that we should be expecting from a fund manager? To me, the first task that I expect from a fund manager is that he should be able to give me a higher than market return, to earn any fee at all from me. If I can buy an ETF and get market returns, the fund manager has to first clear this hurdle to earn anything at all. Otherwise, he has no business to be called a ‘fund’ manager. And, in a falling market, his expertise should enable me to preserve capital as far as possible. If he says that he lost only twenty percent of the money when the market fell twenty one, does he deserve a fee? Probably yes, but I would be reluctant to pay. If the expert cannot tell me when to get out, he is not an expert.
I see many fund managers who say that it is their ‘mandate’ to stay invested. I have an issue with this. A fund manager can miss some or most of a run up, if he is able to articulate that he is not comfortable investing at those levels. Surely, no one comes in expecting the moon. Of course, if there are such people, I have no truck with them. Greedy people do not deserve any sympathy or explanations.
So, what is it that I expect from a fund manager? There are many possibilities:
i) To give me a ‘better’ than market return. I am willing to go along with the ups and downs of the market. I am focused on the long term. So, to take any fee from me, the manager has to deliver better than market return’
ii) To give me a return ‘better’ than the most obvious fixed income return. For instance, I want a better return than a bank fixed deposit or a company deposit. Here, my interest is in preserving capital, but the returns are important to me. The investment is treated as an ‘earning’ member of my financial family. I know that there is a ‘theoretical’ risk of my losing some money, but think that it will not happen to me. Typical investments could include Fixed Maturity Plans (if I am very conservative) and Monthly Income Plans (Am a little ambitious);
iii) To give me a ‘decent’ return. I am not too bothered about beating the market, but am willing to give it to any manager who can deliver, say, twenty or thirty percent per annum. Here, my faith is more on charts and figures, with a ‘stop loss’ discipline (stop loss sounds good to me, but I know that in Indian markets, the stop loss limits are only a figure of speech). Here I am willing to pay a negotiated fee plus an incentive if the manager meets my goals;
iv) To absolutely ‘preserve’ my capital. Zero risk tolerance, because I need the money soon. Instead of it being idle, I want it to earn something. A fixed deposit is a good choice, but liquidity and tax is not very friendly. So, I choose a ‘liquid’ fund. No FMP for me, because exit in between would normally have a penalty; and
v) I am a compulsive gambler. I want the benefit of leverage. So, I give my money to a ‘derivatives’ fund manager, who can multiply my money manifold. Hopefully, give me double every time I check my portfolio. Here, I know that I run the risk of losing my entire stake. If it is going to bother me, I should not be here.
So, there are fund managers for every need. Should all of them be paid uniformly, irrespective of performance as well as meeting goals? In any case, if a fund manager does not generate excess returns over any passive investment, he should not be called a ‘fund’ manager. In fact, any fund manager who gives a return worse than the market, deserves to enter the Hall of Shame and be called a ‘Fund Damager’.
The regulator has already taken the first steps on the ridiculous fee levels being charged under Portfolio Management Schemes. Hopefully, it will also prescribe some qualifications required for someone to manage funds. We are probably the only market in the world where a distributor needs to pass an exam and absolutely no qualifications required for someone to become a fund manager. Fund houses that care about their image and investors generally put in good fund managers in place. I cannot say that same thing for many mutual funds as well as for Portfolio Managers. And another thing that bothers me is the number of schemes that a single individual manages. If I have to manage several schemes with different objectives, I cannot do justice to all. Someone is bound to suffer. This can be clearly seen that if you see the performance track every quarter, the top ten keep churning. Consistency suffers. And once a fund house loses its predictability, marketing becomes a seasonal affair. Marketing pushes the fund only when the rankings look good.

Understanding econoMISTs- Gobbledygook

2010-10-28T17:38:00.001+05:30

About inflation, commodities and effective substitutes, and proteins
October 28, 2010 05:27 PM |
R Balakrishnan

An article in The Wall Street Journal a couple of days ago, left me all mixed about some everyday issues

I guess one of the most essential things for someone who is always in the glare of the media, is to be articulate. Often you have to say something which sends the reader into a tizzy. For fear of sounding stupid, the reader does not ask anything.
Today, I stumbled upon an article titled, "RBI: India Experiencing Structural Food Price Shock", in The Wall Street Journal. (You can access the report at http://online.wsj.com/article/SB10001424052702303467
004575575421547641584.html .) The article reports on a speech by Reserve Bank of India governor Subir Gokarn. Each of the quotes is worth reproducing. I am not an economist, so to me the sentences were high octane economics. Here goes:

"Persistent price increases in commodities for which there are no effective substitutes, with other things remaining equal, will raise the potential rate of inflation over a period of time," Mr Gokarn said in a speech.

I tried to break down the sentence at different places and still ended up as confused as ever. Does this mean that when the price of something goes up, inflation happens? Or does it mean that inflation happens only when prices of commodities, of those that have no effective substitutes, go up? (Wonder what the term 'effective' substitute' means?) One brilliant sentence and the readers can enter into a debate about the meaning, context and the impact. I think what it means is that when price rises, inflation happens. Wait. Maybe it means that when prices rise, the 'rate' of inflation will go up. One thing, though, was clear. Inflation is here to stay. The only thing to wonder is why and what makes it happen. Part of the answer is in the explanation given. Inflation is because of 'persistent' price increases.

This sentence followed immediately:

"This means that actual inflation or interest rates would be higher than they would be in the absence of such increases."

The sentence is far more profound. One thought that there is more than one kind of inflation. One is 'actual' inflation referred to in this statement. The second part though should defeat a layman like me. That if the prices do not increase, the inflation or interest rates could be lower. I hope I got it right. Or, does it mean that because of prices rising, inflation is higher than what it could be without such increases? Well, I am all at sea.

The next quote is something out of this world:

"Increasing demand for protein appears to be an inevitable consequence of rising affluence. The affordability and availability of protein is an important indicator of an equitable and sustainable development with implications for both nutritional balance and macroeconomic stability," Mr Gokarn said. A powerful supply response to all sources of protein is needed, he added.

The first half is clear to me. As we Indians get richer, we want more proteins. This includes our dals and perhaps chicken. (You see, in Chennai, most shops selling chicken have the word 'protein' in their name). The next part of the sentence was a Eureka moment for me. The more of dals and chickens I have, the more prosperous my nation is! And the gentleman has drawn another interesting relationship. That affordability is not enough by itself. One should be able to lay hands on it also. And how much of dal and chicken we can have and access tells the story of how healthy we are (nutritional balance?) and how healthy our economy is (macroeconomic stability)! What deep linkages.

So, the solution lies in making available more dal and chicken to all. Sure it is not enough by itself, but proteins are an important indicator. Since I do not eat chicken regularly, I must eat more dals. That is a sign of my growth. And of course I stay healthy and the nation also remains stable.

I never knew that economics, inflation, chicken, dal and proteins were so closely linked and that they are key determinants of social and national development. And as the gentleman says, we need a powerful 'supply' response. We need a national campaign to grow more dals and hatch more eggs.

IPO's and errors in documents

2010-10-22T10:04:00.002+05:30

http://www.livemint.com/2010/10/21234204/CIL-collects-235-trillion-Se.html

The above article is from "Mint" newspaper about the recent IPO of Coal India.
Moneylife also has an article on this. (www.moneylife.in)

There are big arguments about errors being made in the Red Herring Prosepectus / Offer Documents that are being prepared. The surprising thing is that someone actually spotted the error ( kudos to the Regulator for having spotted these).
The argument is about whether the error is serious enough to warrant SEBI offering an exit option to the investors.

I think, SEBI is right. In fact, there were two earlier IPO's where such things happened. SEBI is being consistent.
To me, the following are the points to look at:

i) The Investment bankers (merchant bankers who advice the issuer and take care of all documentation) are getting away scot free. They are the ones who are directly responsible for errors;
ii)One practical point in favour of SEBI keeping quiet, is that no one actually reads the DRHP or the offer document.IPO's are sold on hype, grey market premium and the aggression (both official and otherwise) of the lead manager. Institutional investors usually do not bother much about going through the details.So, if there is an error in the DRHP, it hardly matters. The fund manager who invests, just looks at the 'flip' gains that he can make;
ii) SEBI never punishes the investment banker. This is exacerbated by the recent import of 'compounding' from the US of A. This implies that there is a tariff card for wrong doing. The investment banker has merely to estimate the likely compounding tariff vis a vis the potential gain. Compounding expenses today have become a part of the Business Plan of intermediaries. They can screw up, mislead investors and /or hide the truth, without worry. No one is going to threaten their existence;
iii) Investment bankers are hiring poor quality people. This is because they want to show off. They tend to hire from the "B" schools, whose products have no patience for the details. All of them are potential CEO material and are excellent at hustling or putting together a concept paper. In the olden days, the document verification, data input in offer documents etc used to be seen with a critical eye, by old timers who could smell mistakes;
iv) The so called 'exit' option supposed to be offered by the issuer of the IPO is hardly seen. Why cannot SEBI insist that this exit option be announced prominently, in each and every publication/media where the IPO offer was splashed? Also, it should be a distinct ad and not hidden somewhere in a jungle of print.

Fairness is required in this industry. Alas, no one wants it and no one is bothered by it. Even the issuers are not concerned, I think.

Mutual Funds - All weather harbour

2010-10-19T16:19:00.001+05:30

INVESTMENT THROUGH THE MUTUAL FUND ROUTE- STILL A GOOD BET

I met quite a few investors over the last couple of weeks. Clearly, there is discomfort in equities at these levels. Whilst they are not too worried about the growth of the economy, there is a feeling that the markets have run ahead of the fundamentals. There is a reluctance to put additional money in to the broad market and most of the HNI’s I know have been switching out to other avenues. Some are going in to MIP’s (having some comfort in the fact that the schemes generally cap exposure to equities and will keep booking profits in order to do so in a rising market), being happy with the returns. Whilst MIP’s will not deliver chart busting returns, they do generally give better returns than a bank deposit, with tax advantages that mutual funds enjoy. Here, one has to be careful, since just around half a dozen of them have given ten percent or more returns in the last twelve months. You also have some of them delivering sub five percent returns.
Some are shifting to income funds. The general view is that interest rates are close to peaking and will start to correct. The problem with Income funds in India is that these funds need the benefit of timing. Without that element in your favour, the returns are generally pathetic. One year returns on long term debt funds have ranged from SUB ONE PERCENT (!) to around nine percent. Not a very encouraging sign. Here, one has to time the entry and after getting a near double digit return. If you stretch it to three years, about half a dozen have returned near ten percent annualised, with the vast majority being under five percent. Not very encouraging and indicates that even the fixed income fund managers are unable to match bank deposit returns.
From my long term experience I have found that diversified equity funds tend to deliver the best returns if you take a perspective of three years and more. Not every fund in the category, but definitely the top ten. Here I do not find much difference between a mid cap and a large cap. Yes, over a short term period there are divergences, but over a longer term it tends to even out. Even sector funds (with the notable exception of banking sector, which seems to be on a roll now) are no different. So, it is not much use choosing between different types of funds. With almost all funds in any one category having similar or same stocks, diversification does not happen.
To me, the biggest disappointment has been the ELSS category. In the initial days, the thought was that ELSS funds will outperform, because the fund manager will not face redemption pressures and could plan a longer term investment strategy. Alas, churn seems to be a better reward, unless one opines that the fund managers do not think long term. Or is it simply that the ELSS schemes tend to be a small percentage of the overall AUM with fund houses and that they neglect it? Whatever be the reason, the ELSS funds have delivered almost five percent lower annualised returns over three years, as opposed to the diversified funds! The lower returns have virtually nullified the effects of any tax saved on that count. As a long term strategy, it seems best to avoid the ELSS category.
I do not like the Gilt funds category. This is because these schemes are either used by PF’s or institutional investors. More important, with the underlying assets trading in market lots of 5 crores, there is an inbuilt inefficiency. In the old days, the banks used to park money in gilt funds for speculating on the movement of interest rates on the ten year bonds. In 2004, spectacular returns were had, when the interest rates on 10 year paper fell from eight percent to sub five percent. However, if you take a longer term frame (three or five years) the returns are a decent ten to fifteen percent per annum for the three and five year periods respectively. However, the corpus is not large enough to warrant a general endorsement of this category. As a class, it has done better than Income funds. From the safety point of view, I would certainly rank the gilt funds higher. So far, our Income funds have not taken any blows (except in the early years, when one of the AMC’s took it upon itself to bail out the investors by buying a defaulted paper from the fund), the risk remains.
Some of the HNI friends seem to of the view that of the different sector funds, the Infrastructure sector funds are lagging behind and are putting money there. The expectation is that this sector will do well, with real estate stabilising etc etc.,
The lesson I have learnt is that it pays to remain invested for a long term. Churn does not benefit the investor. Perfect timing of every move is not possible. One bad move is all it takes to wipe out a lot of hard work that has been put in. I do believe that the mutual funds have done a decent job in India and for those who do not have the knowhow to do their own homework they offer the best avenue. I would keep away from PMS because of their tax inefficiency.

The IPO swindle

2010-10-18T09:30:00.002+05:30

Please read this report that came in DNA newspaper on 11th October:

http://www.dnaindia.com/money/report_va-tech-wabag-offers-ipo-investors-pullout-option_1450812
Enam Securities and IDFC Deutsche Equities (India) were the book running lead managers to the issue.
ICICI Prudential, Birla MF, AIG Global, Canara Robeco, Kotak Mahindra MF, Morgan Stanley MF, Goldman Sachs, Axis MF, HSBC MF, Sundaram BNP Paribas MF and ICICI Lombard GIC as anchor investors.

Looks like merchant bankers will go to any lengths to cheat public. Also shows the shoddy nature of work done by the company and the investment bankers.Also a great reflection on the quality of people churned out by the colleges (IIM's ??)who cannot analyse or even present a balance sheet number!
These kind of investment bankers should be banned for life.
Apparently the co offered an option for investors to pull out. I do not recall seeing any ads. Wonder whether you did.
The right thing would have been for full refund, barring the investment bankers for at least five to ten years and tell the co to file papers with a new banker.
But, commerce prevails over justice to the small investor.
The funny thing is also the due diligence done by the anchor investors! When they put in other people’s money, this is the care they show. Wonder whether there is much more to this issue than meets the eye.
Of course, the media kept quiet either because they were not aware or because they did not want to upset the investment bankers.

Foreclosures gone wild MarketWatch First Take - MarketWatch

2010-10-10T21:03:00.000+05:30

Foreclosures gone wild MarketWatch First Take - MarketWatch

This is always the case. India or US, I guess it makes no difference. Harvard did this study. It is people from institutions like theirs, that have designed the process, written complicated laws and generally prescribed documentation of forty pages, where four would suffice.
But, to me, the more important thing is the indulgence being shown to individual defaulters. Virtually the world is looking at 'small borrowers' vs lenders as a "David vs Goliath" story. Media sympathy seems (wrongly) with the small guy.
Maybe it is one way of levelling things. The big corporations swindle billions of taxpayers money from the banks in single deals. Guess the small guy is entitled to piece of the action!

BULL's PEAK?

2010-10-10T19:53:00.001+05:30

(Recently published in Moneylife magazine)

Some people seem to think there's no trouble just because it hasn't happened yet. If you jump out the window at the 42nd floor and you're still doing fine as you pass the 27th floor, that doesn't mean you don't have a serious problem. I would want to address the problem right now." - Charlie Munger

Our markets continue to be on a tear. The flood of FII money, with more than thirty billion dollars having come in the last twenty months, has been the main driver. Domestic flows have been small and on its own could not have provided the legs for this rally.
Foreigners across the globe want to be invested in Indian markets, because our bumbling efforts to get any kind of decent share in global trade have suddenly become a virtue! For foreign investors the routes are limited to using either the registered FII route or the ETF route. The ADR stock of Indian companies is lower than that of Chinese companies, so the money flow is severe. Also, China does not allow FII moneys like we do.
As the indices keep shooting up, the first fear is of 2008 happening all over again. I was talking to a friend and he said that these are the ‘bull’ factors for the markets:
i) Our economy will grow at 8% plus, irrespective of global conditions. (this may be true in the short term alone. In the long term, if the global economy does not recover, Indian growth will slow down as retaliatory/protectionary measures set in);
ii) The forward earnings multiples today are lower than what they were in 2008. One estimate says that the BSE Sensex, at 19500 is trading just at 15 times 2011-12 earnings. I think the earnings growth keeps getting revised upwards by brokers as the markets keep going higher. The advance tax numbers to September 2010 show only a 13% rise in advance tax numbers for the top 100 companies. This means that the earnings growth is under 15% or else the numbers are getting fudged;
iii) The long terms story is that as Indian economy keeps growing, over the next ten years, in each industry sector, we will have two to four giant players (for inst RIL, BHEL, SBI, HLL) who will be global size and if you look at their profile ten years from today, you are getting them cheap today. Foreigners have realised this and are piling on to the front line stocks. This is a logical argument, but it is like buying 2015 earnings now. What if in 2015 the earnings have not caught up? Upside from here seems to be absent;
iv) The US dollar is set to weaken and hence the foreign investors would also like to invest in Indian equities which not only have a good story, but strengthening of the Indian rupee will also contribute to a higher return on investment. Looks logical, but with India running a trade deficit in excess of US$ 10 billion per month and inflation upwards of 8%, the rupee has no legs. It is only the capricious capital flows that are propping up the rupee. Also, the regulators have a defeatist approach to Indian exports and will not let the rupee strengthen;
v) The general argument is that whilst valuations are a bit aggressive, this time the downside seems small because the fundamentals are strong. This argument does not hold water. Fundamentals are markets do not go hand in hand for any length of time. Markets remain overvalued for long time and remain undervalued only for short periods. This is simply because there is too much money in the world which due to the global meltdown, gets no return and has turned to markets like India in their greed for higher return. Our markets can tank below the 2008 levels if the FII flows were to reverse. When I tell this, I am a loner in the room. No one wishes to believe or accept that if the FII’s pull out, say twenty billion or so dollars over a fortnight, we will reach that kind of a level. Of course, what will prompt them to do that seems to hold the key. Let me say, I am less in disagreement with this than most other bull arguments;
vi) Real estate sector is yet to recover. If you look at the index, it is just around five stocks (SBI, HDFC, L&T, ITC, HDFC Bank) that have contributed to the rise. Hence, the markets have a long way to go, as other stocks also participate in this bull run. I find this argument full of holes. After a long time, I see that the sensex does not have a single stock with one digit P/E multiple. Even cyclical stocks like Hindalco trade at near twenty multiples. In fact, it is difficult to find any value buy in this market. You have to bet on high growth. Many will falter, some will achieve. It is a tightrope of expectations, where one stumble can happen anytime. Talking about real estate, the stocks are trading at anywhere between thirty to fifty times earnings. Finance sector is now trading at over four times book value!

Without being alarmist, I would definitely advise people to take a pause and then proceed. Interest rates are still high and may go higher, even though the policy makers seem to indicate that they have run out of ammunition to halt inflation. They have now taken recourse to changing the method for calculating inflation. Wonder when they will realise that it is not money supply which is the cause for this inflation but the simple fact that there is a supply shortfall. I was at a friend’s office that has an agency arrangement for motor vehicle spares. Most spares have a waiting period! Demand has gone up due to reckless credit expansion and the service industry job creation that has thrown easy money at so many people with virtually no skills. Every company I talk to is scared about the quality of labour they get and the high attrition rates. These are definite pointers to inflation being a real scourge.
The other factor to look out for is the slowing down in the pace of deposit growth at banks. This will lead to an increase in deposit rates, as banks use it as a tool to attract a larger market share of deposits. Our banks still worry about deposits size rather than profitability.
State and central governments are throwing freebies after freebies at the populace as many states enter in to an election phase from next year. The combined fiscal deficit of state and centre continues in double digits. A onetime bonanza from the 3G auction is being wrongly accounted to show a lower deficit. It is like selling family wealth to meet the food bill.
A record IPO flow is going the hit the markets in the balance of this year. I have not seen so much aggressive pricing even in 2007-08. Add to this the fancy pricing for exotically labelled sectors like microfinance. This is a right brew that usually points to a peaking in the bull story. Promoters have stopped issuing shares to themselves at these prices, rather choosing to dilute. They have all tanked up their personal treasuries with warrants issued to themselves during the fall in 2008. Now they are primed to dump it on the investors.
I also see a big range of upward revision in earnings forecasts, which seem dubious and smells more like a ‘sell’ side attempt to justify higher prices. When the markets were near 10K, I saw at least three in ten were ‘sell’ recommendations from brokers and research analysts. At 20K, the ‘sell’ reports are missing altogether from the brokers. This is perhaps a good indicator of where the markets are headed.
Take care. The markets are slippery.

R. Balakrishnan
(balakrishnanr@gmail.com)
September, 18th, 2010

IIT Coaching Classes and the present education system

2010-10-04T15:05:00.003+05:30

In one of my earlier writings (http://frustrationsamalgamated.blogspot.com/2010/07/coaching-classes-iits-commercially.html) I had moaned about the problems facing the IIT's in the matter of finding teaching staff, due to their being poached by the private classes. I had suggested doing away with the entrance exams in the present form, in order to contain this malaise.
Alas, this has to be done sooner than I thought.
See this article:
http://timesofindia.indiatimes.com/india/New-IITs-hit-by-teacher-shortage/articleshow/6680577.cms

The problem continues. Solution lies not just in opening new IIT's but also finding teachers for them. And reforming the tenth to twelfth standard education to make sure that there is just one standard to measure it. State Boards must go. One national standard is a must. Only then can the IIT's be liberated from the clutches of the coaching classes. Today, many state boards have made a mockery of education by having lax standards.

Ayodhya- Fodder for the media & some thoughts

2010-09-29T21:55:00.004+05:30

Tomorrow is the expected date of a judgement on the Ayodhya dispute. Sure, there are strong possibilities that it may get deferred yet again (the Congress wants this as a live issue)or if there is a decision, the losing side will go to the Supreme Court. My blood boils at the media for focusing with so much intensity on an issue that is best forgotten. They are the ones fanning the flames of communalism.

I am a Hindu by birth. I am comfortable with the freedom that Hinduism has given me. I do not need any self appointed guardian for my faith. The Vishwa Hindu Parishad (and its proxy, the BJP) think that they are the self appointed guardians of all Hindus. They could not be more mistaken. The Hindu is not so weak that he needs rabble rousers to be his guardians. To a Hindu it does not matter whether he goes to a temple or not. He is as comfortable in worshipping a Ganesha as he is in worshipping Sai Baba of Shirdi. He is equally comfortable in not doing any worship. Just because he is not following a ritual does not mean that he is an atheist. To him atheism is a fall out of what the preachers of the faith have turned the religion in to.
As a Hindu, I do not need a VHP or a BJP to tell me what is faith. What they tell me about faith is not faith at all. Faith is not following some idol or God or demi God. Faith is not found inside a temple, church or mosque. To me, all these symbols are mere edifices of some one’s belief or a vested interest. Apart from an archaeological interest, I find no spirits in these places. And in each of these places, whether it is a Tirupati or a Kalighat or Jagannath Puri, the gatekeepers of those Gods make sure that even an agnostic will surely get converted to an atheist. In Tamil Nadu, I have seen a humungous number of people who have ‘converted’ from Hinduism to Christianity or Islam. Today, when I meet someone with the name of Srinivasan, I cannot take it for granted that he is a Hindu. These conversions are purely driven by economic considerations and the failure of institutions like VHP to do anything positive for the Hindus.
Organisations like VHP / BJP have not anything for the Hindu they claim to represent. I have also seen Christian (there are about fifty different church branches- with most having adopted Hindu rituals in order to keep the new convert involved) leaders siphon away wealth in crores, but at least most of these convertors have given some money or a school admission to the convert. It is a different story that after conversion, they extract their pound of flesh. Conversions in India is a big business and I will not dwell on it here.
The other interesting role is that of the Congress party. Right from the days of P J Nehru, appeasement of muslims has been fashionable. In the name of ‘secularism’ the Congress has always turned a blind eye to the Hindu. The Congress does not want the Ayodhya issue to be resolved since it is a permanent tool to bash the BJP. The day the dispute is resolved, Congress has no grounds to talk about any shortcomings in the BJP which they themselves do not possess. They are stupid not to have accepted a 'compromise' to have a temple and a mosque side by side.
The BJP is plain stupid. Self styled leaders like Advani think that their rabid styles get votes. Sadly, guys like this have done zilch to do anything for the betterment of the Hindu. They also fall in to the trap of opening their stupid mouths in the media with nothing positive to demonstrate. They are sliding down a banister with splinters pointing up.
Finally, the media in India is probably the worst in the world. Today, when people care a damn about Ayodhya (frankly, I did not know anything about the dispute in so much depth but for the media noise in the last two weeks or so) they keep throwing images of demolition of the Babri masjid. And by having daily debates anchored by their rabble rousing and obnoxious anchors. They publish and announce messages of ‘peace’ but make sure that there will be trouble tomorrow, by raising tempers and fanning the flame of communalism in the name of secularism.

MICROFINANCE- The New new thing.

2010-09-23T16:30:00.002+05:30

(This article appears in Moneylife Magazine)

FOR I DID DREAM OF MONEYBAGS TONIGHT ......SHYLOCK in “The Merchant of Venice”

Microfinance is the new buzzword. In the name of ‘financial inclusion’ no one has bothered to either regulate them or decipher them. The first IPO was a roaring success with all making money. Hopefully all the forthcoming IPO’s from this sector will also help all stakeholders to make money.
Microfinance is not an easily scalable business. Being small is a virtue in this industry. This is because the lending has to deal with groups of borrowers whose characteristics change from region to region. In its simplest form, it involves lending small amounts (usually around ten thousand rupees) to each borrower in a group of four to five people, and make each one of them responsible collectively and individually. ThLis works fine when the needs are small and genuine. Moral suasion helps. The typical lending is for ten to eleven months, with weekly repayments. All is in cash. Some lenders have used this model to push compulsory insurance products at the borrowers and reap the benefits of the high commission that the insurance company pays. The lending rates typically vary from thirty to fifty percent per annum and the insurance commission is the icing on the cake.
In the early days, most microfinance companies started off with a lot of social fervour and with grants from multilateral agencies that support the cause of upliftment of the poor. Most companies started off as ‘not for profit’ companies. Gradually, the realisation that a listing is good, made these companies buy shell companies that had NBFC licenses and then merge the business in to them. In the process, the founders and the staff rewarded themselves with more than market salaries and huge stock options (mostly with zero outlay). The founding NGO’s took their money and so will the private equity investors who grabbed this opportunity.
I would urge those who are interested in this subject, to go through the papers written by Prof M S Sriram of IIM Ahmedabad, who holds a key position in the area of Microfinance. He has documented some very interesting case studies about the beginnings of the microfinance companies, which gives us a good insight in to a few of the promoters and professionals of the high profile industry. I found the paper titled “A Paper on Commercialisation of Microfinance in India” particularly fascinating. This paper documents how the professionals who started off with a ‘not for profit’ motive ultimately get back to making money, forgetting the start up vision.
I do not see this business as a scalable model. It is tough to scale up a business when it involves dealing with people (remember, the borrowers are of the highest risk category, with no wherewithal and unable to get credit from the banking system) across different regions, religions, castes and communities.
It is unlikely that microfinance companies will help to significantly replace the traditional moneylender. Maybe they would bring down the interest rates a wee bit, but not substantially. Given the ticket size and the collection costs, I do not see any lending below, say, thirty percent per annum being economically viable. Yes, if they sacrifice on employee costs, they can, but then why would anyone do this?
The other big factor is the ease with which the companies raise money. Having a large amount of lendable resources is the biggest threat. I think geographical scaling is not possible. The next risk they will take is of increasing the ticket size. I hear of the limit being raised from ten to twenty-five thousand. This is extremely high risk. Already, if you go through the offer document of the recently listed SKS Micro, the fact that frauds do happen is indicated. When ticket sizes are small, the number of frauds will be lower. Since it is an element of the business model to hire people at different locations, without much training or financial scrutiny, employee frauds are bound to keep going up. Credit standards also would get diluted (if not already happening).
The other big issue is one of regulatory imposts. Today, the microfinance companies operate in a vacuum, with total freedom. They do not have to disclose the rates of lending etc to the borrower. Once they start doing all this, there is bound to be social and moral pressure to lower the rate. For some time they will pretend to do so, by creating some fancy structures and selling other products like insurance etc to protect yields. However, I do not see this as a sustainable thing. Also, as the problems of collections start mounting, employee turnover is bound to increase exponentially. The capital market welcome to SKS micro will push up employee costs as each one who wants to hit the capital market will try and poach anyone with prior experience.
In the eighties, we used to have a lot of NBFC’s that went in to consumer finance. Today they are shuttered down and dead. Will microfinance companies give them company in the graveyard?

Expected Returns

2010-09-12T19:09:00.000+05:30

Expected Returns

Buy, Sell or Hold???

2010-09-06T20:29:00.001+05:30

(This piece appears in Moneylife magazine)

The Joys of Uncertainty
It is interesting to see the big debate on our markets in the context of ‘expected’ doom that is being forecast for the American markets. And just to put it in perspective, the doom prediction is also a forecast from someone who sees a monster pattern in the charts, so it adds credibility to people who believe in charts and Ouija boards. Since the investment world is not a rational one, I guess these kind of forecasters are perhaps more relevant once you run out of fundamental reasons to support a cause.
Our markets are perhaps under the spell of an ancient Chinese blessing (May you live in interesting times). Otherwise, how does one explain the following factors?
i) The markets are a near two year high;
ii) The P/E multiple is almost at 22 times;
iii) There are no value stocks available ( Am not talking about finding obscure companies with micro market capitalisation);
iv) Earnings growth continues to be strong with the June quarter results being quite strong with profit growth of over twenty percent;
v) Dividend yields (though Indian promoters hate to give money to non promoter shareholders) just above one percent;
vi) Price to Book Value is upward of four times (this is not relevant to India, since most companies stated asset costs are divergent with real costs due to funny accounting, over invoicing and inconsistent depreciation policies);
vii) Interest rates showing an upward bias, with ten year yields nearing eight percent and corporate borrowing rates going up;
viii) Gold prices are at record highs;
ix) Inflation on the ground abating, but price levels still at very high levels across commodities, food products, fuel and every other thing;
x) Central government finances are better than last year, but if you exclude the realisation of sale of family silver (the 3G network) not very comforting;
xi) Middle class buying continues unabated thanks to easy money and supply bottlenecks;
xii) Moneyflow in to Indian markets continues to be good and if there is a global crises, the amounts invested are an insignificant part of global wealth and will not run away;
xiii) Analysts, Economists, Planning Commission members, government mouthpieces and non traditional forecasters are all of the view that India will grow rapidly, irrespective of what happens to the world;
xiv) India, China, Russia etc are countries where the future of the world is etc;
xv) Buy recommendations from analysts, brokers outnumber sell recommendations by more than 20 to 1;
xvi) Corporate action (mergers etc) is strong;
xvii) IPO’s are back in fashion, with fads like microfinance queuing up;
xviii) Real estate markets are recovering all over India;
I can add to this list with a few more good things.
So, the only conclusion I can draw is that we are ‘buying’ in to optimism. Optimism- that growth is forever and should be easily above twenty percent. We do not care about the rest of the world.
We will slowly see bad news coming. What shape will it take? Protectionism (like raising visa fees, imposing quotas) from slow growing economies is surely one of them. The other could be in the form of inflation in double digits continuing for a few more years. Do not trust government numbers on this. Keep track of daily living prices, rents etc.,
But, the argument goes that even if bad news were to descend on our economy, the liquidity will not be impacted. This is simply because we are different. Ours is the land of hope. So, money managers world over will not disturb their assets in India, for fear of missing out if something were to happen. Also, the government may announce more positive things like permitting FDI somewhere, removing controls somewhere etc., So, we will have ‘good news’ flow coming in, that would stop the foreigners from taking away their money from our markets and may prompt them to hike their stakes in India. The FII’s have a total AUM of nearly ten lakh crores of rupees, with around fifteen percent coming in through Participatory Notes. They are the ones to decide the future direction of this market.
From the domestic side, the much hated ULIP is the biggest (perhaps the only) incremental investor in Indian markets. Retail investors are yet to make their direct presence felt, a sure sign that we are yet to reach the top.
So what does one do? Wait, sell or buy? This is a good time to sell and if I take the next ten years as the horizon, we should get same or lower prices at some points in time. One possibility is that the markets may remain in the range of 15,000 to 19,000 for the next few years, waiting for earnings to catch up. Of course, a surge in liquidity can lead to a blow out on the upside and if the markets touch anything like 21000 in the next twelve months; it may be a great selling opportunity.
If you are a long term investor (i.e. one who does not ‘need’ to sell) then keep your good quality stocks and dump the dubious ones or those that have become grossly overpriced in relation to their earnings.
The key dilemma is what to do with fresh money? My call is to keep it in some fixed income instrument and wait for better times. Ultimately, either price has to wait for earnings to catch up or correct in order to align with the earnings. Of course, if I take the last ten years as an example, the markets remain overvalued for a long period and good buying opportunities came just about twice.

The Gods that Fail

2010-08-30T21:21:00.001+05:30

SEBI, the ‘regulator’ of the Indian capital markets, is truly a bull in a China shop. Chronicles of regulators worldwide would rival Cervantes’ Don Quixote. The regulator thinks that it is engaged in ‘investor’ protection. Action that is focused on investor protection ends up having a totally bizarre result. To protect the ‘investors’ from the mutual fund sales man, it took several steps, which have had the unintended (?) impact of hammering a nail in to the coffin of the yet to mature mutual fund industry. When the noise became unbearable, SEBI tried to take on the Insurance industry which was merrily run by proxies of the insurance salesmen. Regulators tend to see windmills as giant enemies.
SEBI has never been able to pre-empt any white collar crime in India. Its investigation and prosecution has been the stuff that comedies are made of. The Harshad Mehta scam, after everything was handed to it on a platter, is testimony to its prosecution abilities. The Gods got tired of waiting for action from the regulator and pulled Harshad below. Innumerable acts (rulings) of SEBI were overturned by its tribunal.
Suddenly, SEBI discovered ‘compounding’. A full import from the US of A. Compounding has now become a planned expenditure for brokers, bankers and other players who now have a way to evaluate the costs and benefits of breaking a law. And compounding has enabled AMC’s, brokers, investment bankers, companies and other regulated entities to break the law with impunity and not carry any scars! When punishment for an act is merely a fine, it is no longer a sin. There is merely a price at which it is right. Going through the website of SEBI and reading the compounding done so far, is scary. The hallowed names all have contributed to the bottom line of SEBI. Of course, the IRDA (the agency that ‘regulates’ the insurance industry) has also picked this practice up. Recently, it slapped a ‘penalty’ of a miserable half a million rupees on an insurance company that submitted one product for approval, but sold something else altogether!
Now SEBI is chasing the likes of Bennett Coleman (Times of India, Economic Times, ET Now etc). These media companies have been selling ad and PR space in exchange for equity in many companies. Naturally, to protect their investments, the media ensures that the investee companies are plugged and negative news blanked out. Yes, it is a scam, but who can say it is legally wrong? The media company is not bound by any law. They are unlisted entities. They do not legally mislead anyone. On what basis can SEBI regulate this? SEBI clearly is caught with its pants down. Crime does pay.
World over, it is the business interests that write the rules. Regulators are there merely because it seems logical. No country in the world can actually claim that regulators stopped or saved an investor. Sometimes, public pressure and legal compulsions do force the regulator to do some good. Given a choice, the regulator is merely a spectator. I remember going to meet the Deputy Governor of RBI, once upon a time. My boss and I were worried about what the leasing and hire purchase companies were up to. It was obvious to everyone that there is a tragedy in the making. Public deposits were being accepted in gross violations of all norms. Fancy accounting had inflated the networth of all the NBFC’s. Credit quality was slipping. NBFC’s were paying six to ten percent commission to get one year deposits at the then ceiling rate of 14% p.a.! We discussed all this. Then the honourable gentleman said that the RBI can act only if someone ‘brings it to our attention’. We were stunned! He wanted us to put in a written complaint so that the government could act! I lost my temper and told the gentleman, that right outside the main RBI building, there were cloth banners announcing incentives of six percent on the one year deposit by a NBFC. The gentleman was getting uncomfortable and we were pissed off with him. True to his form, the Dy Governor did precisely nothing.
How many people have lost money with time shares and plantation companies? Has the regulator been able to do anything at all?
Regulation of financial markets is a charade. You have only yourself to blame if you get trapped in the web of deceit that is continuously being spun by the players. Caveat Emptor!

Of Mutual Funds, PMS schemes and the seller

2010-08-25T23:05:00.001+05:30

There is a lot of shout that mutual funds are not able to increase their assets. The answer is simple. They are not paying the salesman enough money. Investor preferences have absolutely NOTHING to do with money not coming in to equities. Investors have no clue about where to put their money and need some push. Pushed hard enough, they will put money in to fixed deposits of companies with no credit rating or low credit rating, dubious real estate PMS schemes or plantation schemes. They need just one nudge from the distributor and they will do it. The retail and the HNI investor are the ideal clients for any smooth talking sales guys.
Just last week, one foreign bank raised over Rs.1,000 crores (Yes, a thousand crores) for a PMS scheme. At the same time, ‘experts’ are saying that mutual fund inflows have dried up due to market valuations getting stretched and equally other inane reasoning.
I went a little behind the curtains to see what the distributor got. He got a four percent up front commission for selling this PMS. The PMS itself had a very simple structure. An upfront annualised management fee of two percent, and exit load of two and a half percent if redeemed within twelve months and a profit share if the returns crossed two digits! There was no link to the market performance. If the market returns were thirty percent and the PMS delivered twenty, the PMS Manager still got an incentive. It is typical of most PMS structures. And of course the return is measured before tax and not after tax. Recently, I saw a PMS, where the value of a five lakh investment had gone up by Rs.1.45 lakh, but all of it was short term gains. Removing 30% tax, the gain shrunk to under one lakh rupees. The PMS Manager also deducted his incentive on the gross gain (around Rs.0.29 lakh). The investor was left with around Rs.0.85 lakh! The more interesting part was that the money was invested three years ago. The value, after tax and incentives etc is today below Rs.5 lakh, which was the original investment. If one takes the churn in to account, the broking firm has made a handsome return. The investors got totally screwed.
Why I am giving the example is that the said investor again put money in to the PMS of the foreign bank that I mentioned above.
So, if we look at it, the investor is a fool and no amount of reading or counselling makes a difference to the guy. All that matters to him is a slick distributor making a sexy power point presentation and perhaps treating him to a drink or attacking some other weakness of his. The distributor knows this and attacks. In any case, neither the investor nor the distributor understands the product. What the distributor knows is that by selling this he makes four percent up front. So, he sells this. For the investor, it is ‘long term’ investing advised by an ‘expert’.
So, as I see it, it is the distributor who is key to expansion of any market. By taking him on, SEBI has killed the reach of the mutual fund industry. No mutual fund can build a distribution system of its own and survive, given the paltry amount that is available to meet expenses. To top it, we are seeing a toothless and mindless agency like AMFI trying to dob the distributor with a ninefold increase in ‘registration’ fee. I do not know why a distributor has to have a registration with AMFI, which is only a trade body of mutual funds. Their inability to do anything meaningful has been demonstrated by the fact that even the test they used to hold for distributors, was a sham and the same has now been transferred to an agency of SEBI. In this context, why should AMFI have any nexus with the distributors? In fact, I would urge the distributors to simply ignore AMFI and have their own trade body. AMFI is irrelevant for the distributor. Of course, SEBI is trying to push AMFI in to the corner by making it a ‘Self Regulatory Organisation” or a SRO. I do not know if that is any answer to expanding the market or any use for the distributors.
If I were a distributor, I would simply not sell a mutual fund product. I can sell PMS or insurance and make my living.

Cleartrip- Caveat Emptor.. Caution

2010-07-30T10:17:00.001+05:30

Cleartrip.com NOTHING CLEAR ABOUT IT

Greed does not pay. Sadly, I found this to be true whilst attempting to book an airline ticket through an online portal called “Cleartrip.com”.
I had used this service in the past, but once had an experience of the money having been debited and then the ticket not coming through and since then I had discontinued their services.
Alas, I was lured by an offer of one free ticket for each ticket booked and had a go.
Late evening, around 715 pm or so, I filled out all the details for a Chennai to Pune flight by Kingfisher airlines. It showed a fare of around 3857/-. No sooner had I pressed ‘submit’ (or the equivalent of wanting to conclude the transaction) that I got an SMS saying that my bank account has been debited ( I had used netbanking facility of my banker) with the said amount. I started to smile on having successfully navigated yet another net based transaction (you see, the BSNL internet connectivity is such that it keeps going off, so to complete an online transaction, it is an achievement for me). Alas, my smile froze. A message flashed online that the transaction ‘failed’. I had no clue of what happened. I checked my bank account. Yes, the amount had been debited.
So, I presumed that there is some glitch and called a customer support number of Cleartrip. I was a bit disturbed since I did not have any reference number. The lady who attended to my call resolved that by checking with my email id. Luckily, I was a ‘registered’ user and hence I had logged in with that id. So, it was easy to trace and she gave me a Cleartrip ID number. She said that the ticket was not issued due to some ‘link’ not working!! I tried to probe further, but got no farther.
She told me that my money would be ‘reversed’ immediately and that I could call in half an hour to check about the fate of my ticket etc.,
Alas, after an hour I could not get through in spite of several tries and so I kept it for the next morning.
Next morning, I checked my Cleartrip account to see if any ticket had been issued. None. I checked my bank account to see if the amount was credited. No. Cleartrip was still holding on to the money for a ‘failed’ transaction!
I called them up and once again was given a spin as to why the bloody thing did not work out.
Now, I got on to the website of Kingfisher directly and booked the ticket. Surprise! The fare was lower though they did not give any buy one get one free.
Is Cleartrip justified in doing what it did to me? It is very clear that they did not give me service that they promised. And the fact that in spite of taking my money, they could not deliver is proof that they did not have any valid arrangement with the airline.
Cleartrip is clearly not my cup of tea. Henceforth, it is the airline website or a physical travel agent. Online travel brokers/agents are high risk and we have no control over the transaction. Take care, folks. Cleartrip is out. I have no clue about other such brokers and I have no intention of finding out either.

These kind of bucket shops should learn from the railways website called irctc.co.in which I use very regularly for train tickets and in over two years of continuous use, I have no complaints.

Mutual Fund Industry- RIP

2010-07-28T21:21:00.001+05:30

FOR WHOM THE BELLS TOLL...

The regulator seems to be on a single minded mission to pull the shutters on the mutual fund industry, in its zeal to make things easier for the investor. Now, with no margins left to pay the seller, mutual funds will remain an anglicised urban product. Insurance (thanks to the timely action by IRDA) will be the product that will continue to be sold across the length and breadth of the country. Insurance industry will regain its place under the sun. In its battle with the mutual fund industry for a share of the wallet of the public, it found a great ally in the government of India.
The mutual fund industry, alas, missed its first decade by total dependence on the distributor fraternity and instead focusing on the AUM rat race. Of course, AMFI was effectively used to push through regulations that helped protect the big boys.
Most of the mutual fund sponsors also own insurance companies. This prevented the mutual fund industry from actively taking on the insurance industry. The sponsor was threatened when SEBI tried to put brakes on the ULIP sales. Fortunately, IRDA had enough clout with the government to ensure legislative protection and sanctity to push ULIP’s to people at large.
Some cosmetic changes will be made in the ULIP’s, but it is unlikely that the insurance industry will scale down the commissions significantly. The investor will continue to get opportunities to invest in ULIP’s as before. Most Advisors, who were selling both mutual funds and insurance, will focus only on insurance products. Those were not selling insurance before, will invent reasons to structure life savings around insurance.
The clout of the insurance industry can be seen in the fact that LIC has been permitted to issue bonds that would qualify as “Infrastructure Bonds”! Maybe it will also get extended to other private insurers. Why not? If you look at the fact that in 2009-10, ULIP collections amounted to over one lakh crore rupees, the insurance industry is extremely important to keep the financial markets going. The investors in insurance paying a little more commissions do not matter in the importance of things. Millions of insurance agents would not be able to feed their families if the government had not passed the legislation that kept SEBI away from the insurance companies. So, let us not complain about insurance being an inefficient way to invest. As opposed to it, the mutual fund industry collected less than ten thousand crore rupees in 2009-10.
It is the insurance industry that helps bail out stock markets and the governments use it to bail out PSU issues of stocks and debts. The mutual fund industry does not help out the government in times of need. Naturally, it is the insurance industry that needs to be given full protection as it is an important building block in the nation’s finances.
Now, AMFI is apparently getting rebirth as a Self Regulatory Organisation (SRO). Many years ago, this proposal was roundly put to bed by its members. Now, the players have no option but to seize this opportunity and use it to protect the industry. One hopes that it does not succumb to ridiculous proposals like insisting on minimum capital etc. I hope that the smaller mutual funds get to have their say in the new avatar of AMFI. Maybe we will see a change in the board composition, which has been dominated by a few large players on the basis that since they represent a larger AUM base, they represent more investors! I have never seen AMFI being anything other than a trade lobby, so the platform was more used to create entry barriers and nuisance to smaller players.
In this whole context, what about the investor? Well, who gives them a damn! They can buy what their friendly broker tells them. SEBI will try and make mutual funds more and more attractive for them, but will put it out of their reach as mutual funds will no longer be able to spend big money in reaching out to them. If I take the cost of servicing a SIP investor of one thousand rupees a month, the costs far outweigh the money that can be made out of them. The small investor is a drain on the mutual fund industry. Even in the days of entry loads, upfront commissions etc, the focus was on large ticket investors. Now, surely the fund houses have strong financial reasons to ensure that the small investor is kept away from their books.
Of course, for the small investor, the other door of insurance is open. It is being made more transparent and ‘better’. Instead of debiting the first year commission in one go, they will spread it over the ‘life’ of the instrument. And you had to save through ULIP’s only for three years as the minimum. Now it is five years.
Investor protection, RIP.

In Gold we trust...

2010-07-26T18:56:00.001+05:30

(This was written for a personal finance magazine)

Gold has always fascinated Indians. India was an amalgam of many princely states, till the British united us finally in 1947. Perhaps, the absence of one currency and the instability as each ruler was overthrown by another is the reason why gold became the Indians’ store of value.
Classic investment reasons for investing in gold include:
i) To beat inflation’
ii) To protect against a weak dollar;
iii) Safe haven in times of economic and political turmoil;
iv) For portfolio diversification; etc
Investing in gold has been a painful journey. I will just give you some dates and prices:
1968 Jan $ 35.20
1969 Jan $ 42.30
1974 Jan $129.19
1979 Jan $227.27
1989 Jan $404.01
1999 Jan $287.07
2009 Jan $858.69
2010 Jan $1117.97
(Above are average prices in US dollars per ounce for the month).
The journey looks smooth, does it not? What I have not told you here is that there was a kind of rush in end 1979 and beginning 1980. In Jan 1980, the price of gold had shot to near $850 an ounce and then there was a painful decline to $280 or so by 1985. Then the price climbed to over $500 in early 1988! By end 1999 it had gone down again to near $260 or so! It is only after 1999, that there has been a steady uptick in gold prices. Of course, the steadily falling Indian rupee in the first six decades of Independent India bumped the returns for the early Indian investor.
So, all those who advocate gold investments will only give you data from 1999 or later. Before that, you could have lost a fortune betting on gold.
So, do not buy the argument that gold is a failsafe or fool proof investment. Timing is all. If you look at it dispassionately, gold as a metal has very limited use. It is only a ‘perceived’ value. The cost of mining gold varies from country to country, but is generally around US $ 300 or so per ounce. So, in today’s markets, the producers of gold are reaping a bumper bonanza. What keeps the price high? It is perhaps a beautifully managed (manipulated?) price by the World Gold Council. Demand and supply are both artificial. Demand in India (the largest private hoarder of gold) is around 700 tonnes or nearly one fifth of world demand.
Now, you do not have to buy physical gold. Buying physical gold is the worst way to invest in gold. If at all one has to buy gold, the best way is to go in through the Gold ETF (Exchange Traded Funds). These trade at real time prices and there is no opaqueness about them. You are saved the bother of worries on quality, storage etc., Never buy jewellery for investments. You lose a fortune in making charges and a high probability of getting cheated on purity.
Even though India is the largest consumer of gold, gold prices are still designated in US dollars. Hence, how our rupee will behave has a great bearing on gold prices. My belief is that over time, if our economy continues to grow at twice or thrice the pace at which the US is growing, there is no reason why the Indian rupee should not keep getting progressively stronger? In fact, this is the biggest risk that gold investment carries. In ten years, the Indian rupee should logically be closer to thirty rupees to the dollar than forty. In such a case, if the gold price stagnates at current levels, as an investment, we end up losing money.
To me, the basic call one has to take is whether you are bullish or bearish on India. If you are bullish on India, relative to the US of A, over the next ten years, then gold cannot be such a great investment. Equities will be a far superior bet. The counter argument to this is that if there is a crisis in US of A, the dollar will collapse and gold prices will shoot through the roof as the world looks to gold as a reserve currency. With the crisis in Europe, it is unlikely that the Euro will ever replace the US dollar, so there is a fair chance that some people will park some of their money in gold. The other factor is that the World Gold Council will at some point not be able to regulate supply and the high prices will lure miners to produce more gold and bring the prices down.
On balance, if there are uncertainties about the global situation, gold may turn out to be a decent investment. This also depends to a great deal on how the World Gold Council controls the supply. If some central bank decides to come and sell a few hundred tonnes of gold, that will create a drop in prices.
In short, whilst gold has given spectacular returns since 1999, there is no guarantee that it will continue to do so. However, in times of fear and uncertainty, gold has its proponents. The other thing is whether you look at investing in gold as just another investment. Most Indians never sell gold if they buy. In such a case, it hardly matters what price you pay and what returns you get. One decent way to go about would be to go ahead with a SIP in gold ETF. The only loss out of that would be the annual management fee and the expenses that the AMC will charge you. A small price to pay as compared to owning physical gold.

Insurance and the Art of Lying

2010-07-20T20:24:00.001+05:30

Will you walk into my parlour?"
Said the spider to the fly;
"'Tis the prettiest little parlour
That ever you did spy.
The way into my parlour
Is up a winding stair;
And I have many curious things
To show you when you're there."
"Oh, no, no," said the little fly;
"To ask me is in vain;
For who goes up your winding stair
Can ne'er come down again
I keep getting text messages on my phone (I have registered in the “Do Not Call” Registry Long ago) offering me really tempting investment products. Two days ago, I got one, which reads as under:
Sender: +917667396014
“BAJAJ ALLIANZ: DEPOSIT 8800/Yr or 5000/ Half Yr for 3 Yr July 20, Get FREE SPOT 1gm GOLD COIN, Approximately 52800 at 5 Yr, FREE PENSION PLAN, SAVE TAX. CAL: 9840150809”
The arithmetic is very interesting. The return is close to 36% p.a.! Bajaj Allianz must be a fantastic money manager.
Of course, I am a born sceptic. So, I will pass this offer. Alas, no one in the mutual fund industry promises me this return. I do not get any text messages from any mutual fund agent promising me this kind of returns. Other than Bajaj Allianz, I also get similar messages with almost identical numbers citing LIC. The moment I can spare this amount, I am going to invest in a Bajaj Allianz product. In addition, I will get a gold coin! I wonder if I have to pay any tax on it or would I be asked to pay up on account of TDS?
I also wondered at the other fantastic thing. I could either pay 8800 every year or 5000 every half year, with the same end result! So, the investment option has to be fantastic.
With this kind of return assured by Bajaj Allianz, surely other insurance companies cannot be far behind. Then why are they protesting about offering a guarantee of a piddly four and a half percent annual return on pension products? Then a thought struck me. Maybe they want to have a guaranteed rate that is much higher, given that the offer to me was at a handsome thirty six odd percent.
I also think that in my younger days these insurance products were not around at all. Here I have HDFC Standard Life promising me that I can be an independent person in my old age, if they take care of my money. I wonder how they can do so, given that they have been around for less than ten years. But then, I think, it is only an advertisement and if there was anything funny, IRDA would not have permitted it. In my days, LIC would only give guaranteed returns of around eight to nine percent post tax. Now, all of them have moved to much higher numbers, though these kind of text messages (Insurance is the subject matter of solicitation) give me hope that they can give me great returns.
Each day, the phone brings forth text messages that promise me the riches. Stocks that will multiply in price, insurance products that give me usurious returns and many freebies like gold coins etc., I have resisted so far because of age, lack of surplus money to gamble and my innate scepticism. Wonder how many people respond to the messages and enjoy these returns.
It would be nice if any of our readers can tell me if I should give my money to the agent who sent me the text message. And wonder if either Bajaj Allianz or IRDA can confirm the numbers, so that I can also join the elite club that can make so much returns? In case the numbers are not okay, will IRDA step in and do something? I do not expect the insurance company to do anything, because their job is to sell.

Corporate Defaults- Hiding the truth

2010-07-16T14:51:00.001+05:30

See this article (http://www.business-standard.com/india/news/firms-shy-awayconverting-fccbs-into-equity/398541/) in the Business Standard. It talks about Indian companies that had raised convertibles at fancy prices and are now looking down the barrel. In the first place, at the point of placement itself, the pricing for most did look ridiculous, casting doubts on the analytical abilities and/or integrity of the investing entities.
Now, the hour of reckoning is at hand. It is in the interests of both to keep the charade going. If the investor were to press for repayment, most companies would have to face liquidation proceedings. And in a liquidiation proceeding, India is notoriously slow. The courts and the legal authorities will tend to favour the domestic companies due to the promoters clout. The legal system will stand thoroughly exposed. In India, it is impossible to recover money. If you have to recover any money, you need cooperation of the promoter. Of course, there are other lenders too, but all can be ‘handled’ by the promoters in case of need. We have only to look at the convenient mechanism called “Asset Reconstruction Companies” which have been used as a conduit by the promoters to cheat on debt, legally. The opacity of these ARC’s will get bust soon.
Here, the role of rating agencies comes in to question. Why are they still keeping quiet? It is obvious even to a mathematically challenged person that most of these companies can never hope to repay. Conversion is also not on, given the huge gap between the market price and the strike price. And, a rating should only focus on the assumption that debt has to be repaid. Otherwise, the rating is only a speculation based on a random event of conversion. If there is restructuring of the instrument, it is akin to a default. In such a case, the rating needs to be pushed to the last slot, indicating that the company is in default. That is what honest credit rating is all about.
In fact, each and every company on the list is worth watching. Maybe about ten percent of the companies will be able to generate money to repay. But, if you have to reschedule, you are junk. Alas, the banking system in India will not look at them as such. Some of them are marquee names, with tremendous clout in the banking system. They will be ‘prime’ borrowers. The bankers simply have to keep pumping in more money in to these companies, in the interest of protecting their own balance sheets. In the event of a default, these companies can put the whole banking system in to danger. Perhaps, there lies the answer. These banks will leave no stone unturned to ensure that these companies health status remains unimpaired, even if they have to pump in more money by helping them to pay of the FCCB’s and pump in local loans. The leverage of most of these companies is alarming and they all look like big default candidates.
The credit rating agencies are smug. They know that the system will bail them out, so ratings will not be changed. After all, there is no difference between a BBB and a AAA unless there is a default! Statistically, they will be on par.

Public Speaking- Montek Singh, Karan Thapar etc

2010-07-12T20:30:00.002+05:30

Mr Karan Thapar (A TV anchor) hosts a show cloned from "Hard Talk",the no holds barred BBC show.
The show manages to get famous and infamous names and in most cases, the anchor manages to rile the guest with his questioning style rather than the questions itself. Anywas, the show is either hated or liked, with no in betweens.

A recent one with Mr Montek Singh Ahluwalia was fun. Mr Thapar trying to catch the many utterances of the erudite gentleman (who is also a key functionary of the Planning Commission ). Mr Ahluwalia is adept at extricating himself. When questioned about the government's commitment to complete 7500 kms of roads in the current fiscal, Mr Ahluwalia said the commitment is " only to contract 7500 kms of roads".
So, someone is lying. The populace thinks it will get 7500 kms of roads. The planning commission gentleman (who will have no say in the road contracts, thanks to the not so friendly relations with Mr Kamal Nath, who is the minister who will try and lay roads)has made his comment on an area of which he has no clue or control on.
And the show went on with both gentlemen displaying their command of queen's english.
This is the stuff that the intellectual page three talk about in India and the planning commission gentleman lives to write another plan..

Mutual Fun- No longer fun

2010-07-12T20:24:00.001+05:30

(This appears in the recent issue of Moneylife Magazine)

Everyone is hammer and tongs at the mutual fund industry. Going by the noise, one would think that the Asset Management Companies make a pile of money. A reading of the annual accounts of the AMC’s will tell you otherwise.
SEBI is akin to the religious zealot who is so focused on the rituals that the object of worship is forgotten. The regulator is on a zealous overdrive to bring ‘transparency’ in to the industry. What the regulator does not realise is that the mutual fund economics in India are pathetic and designed such that the AMC will end up chasing the bulk investor. The small investor has become the ‘holy cow’ for the regulator.
As per SEBI rules, a Fund (or the scheme) is permitted to charge a maximum of 2.50 percent of the Assets Under Management for any scheme. There is a sliding scale where the 2.50 percent drops down to 2 percent depending on the size. This is for equity assets. For debt assets, the scale is lower by one half of a percent.
Let us, keep the number at 2.50 percent for the sake of convenience. 2.50 percent is the maximum permitted. This is to cover the following expenses:
i) Selling commission to the distributor;
ii) Selling expenses;
iii) Expenses on R&T :
iv) Fees to Trustees;
v) Audit fees;
vi) Communication to investors;
vii) Fees to SEBI; and
viii) A management fee to the AMC.
The management fee is typically kept in a range between 0.50 to 1.00 percent of the AUM. From this management fee, the AMC has to meet its entire costs of managing the scheme (salaries, investment management costs, office costs, rents, branch expenses, communication costs, legal expenses etc). There is also a huge burden of ‘compliance’ costs that an AMC bears. All employees are on the payroll of the AMC. I leave it to you to do the numbers.
Do not fall in to the trap of calculating full fees on Liquid Funds and FMP assets. Here the total costs will be limited by competition to between 0.10 percent to 0.50 percent and are more like show piece numbers to display size.
In this context, let me take the case of this strange animal called the ‘small investor’. Let us say he puts in Rs.10,000/- in an equity fund. Out of this, the fund will deduct Rs.250 over a 12 month period as the maximum fees. Of this 250, anything from Rs.100 to Rs.150 will go to the distributor or seller who solicited the amount. So, there is a balance of 100 to 150 to cover expenses and pay management fee! For a 10,000 rupee investor, the mailing costs, transaction processing costs itself would take away anything up to Rs.50/-. These kinds of costs are the same irrespective of the size. Thus, an AMC has no business to actively chase kinds of investors. If they are doing this, I think it is in the hope that at some point there will be so many that they can break even. My feel is that on each incremental ‘small’ investor, an AMC can only lose money, unless he is a ‘direct’ acquisition with zero selling costs, opts for full electronic delivery of reports etc.
In the past, the AMC would charge an entry load of 2% (Rs.200 on the 10,000/-) and pass it to the distributor. Now SEBI has closed that. In addition, SEBI has prohibited AMC’s from paying upfront commissions. This is in fact a ‘restrictive’ trade practice. If the AMC is sticking to the legal limit of expenses, why should SEBI worry? AMC’s will have to fund the upfront from the AMC and when they get the management fees, they will hopefully recoup this. That is what will happen.
Is there a way out of this imbroglio? I think SEBI should stick to the following:
i) No entry loads on ‘direct’ investments by investors;
ii) Entry loads of up to 2 percent on those who come thru an intermediary.
This is the immediate need if the mutual fund industry has to achieve any kind of penetration. LIC was able to get in to small villages and towns only because the agents got their 40 percent commissions on the first year premium and a minimum of 5 percent of subsequent premiums. Mutual funds and Insurance products are things that have to be ‘SOLD” and are not needs for anyone. So, if something has to be sold, someone has to be paid. That is economics.

Coaching Classes & the IIT's- A commercially convenient co-existence

2010-07-10T09:59:00.001+05:30

The Business of IIT Education
July 07, 2010 05:08 PM |
R Balakrishnan

It’s time to push the ‘coaching-class’ industry out of existence

"It is important that students bring a certain ragamuffin, barefoot, irreverence to their studies; they are not here to worship what is known, but to question it."
- J Bronowski, The Ascent of Man

Our education system has been a source of endless debate. We point to a few successful Indians who came out of Indian Institutes of Technology (IITs) and proclaim that our IITs are the best in the world. However, based on personal experience, I can vouch that our education system is in bad shape. Those who hope to get into the hallowed portals of the IITs (a couple of them figure among the top 100 engineering colleges in the world) go through living hell. Around six lakh youngsters take the entrance test. Of these, around 12,000 can get in. This covers all seats, including those in the new additional colleges, caste-based seats, etc. Of course, if you want the course of your choice, you have to finish within the top few hundred! Heartbreak for 99% of the aspirants, as they end up in some lowly college; many cough up huge capitation fees for 'merit' seats!

The educational qualification needed to get into these colleges is passing the 12th standard. So, is it not logical to presume that, in any entrance test for these colleges, the questions should be based on what is taught up to the 12th standard? Instead, students are bombarded with literature, advertisements and hoardings from educational coaching factories which specialise in imparting the skills required to crack the entrance examinations. In fact, cities like Kota (in Rajasthan) have perfected it to a high level. A couple of coaching classes also run schools.

From standard 11 or earlier, aspiring engineers join the factory. School hours are truncated to ensure time availability for the IIT entrance exam coaching. Given that most of the students admitted to these coaching classes (most of them have 'entrance' tests!) have cleared an intellectual hurdle, they do well in the 11th and 12th standard without too much effort. Of course, the 11th standard examination is an 'internal' exam, so it is even easier.

But if one cannot afford to join a 'coaching class' for the IIT entrance exam, getting a seat in one of these institutes is only a remote possibility. What's more, the coaching fees far exceed the fees for the entire engineering course at any of the IITs! These 'factories' do not come cheap. The cost can be anywhere from fifty thousand rupees to a couple of lakhs for a two-year coaching stint. Long hours, stress from peers as well as from others is an integral part of life. Every year, these classes boast of how many students from their 'factory' cleared the entrance tests with high ranks. Many students do not join full-time, but participate in some event or mock competition organised by these classes.

The key to the success of these classes is their faculty. Since they charge high fees, they tend to poach on experienced hands from the IITs at salaries that are multiples of what IITs pay them. In the process, the IITs lose good-quality staff.

Of course, many of the coaching classes have managed to make impressive PowerPoint presentations of their 'business' and raise money at fancy pricing from (ad)venture capitalists. What they present is scalability of their business which, in real life, is not possible. Many classes run because of the individuals manning them. Hence, it is not possible to replicate them on a commercial scale.

Against this backdrop, I like what Kapil Sibal is doing. Hopefully, he is bringing sanctity into the system and doing away with the coaching classes. By giving weightage to the 12th standard exams, he is rightfully pushing the coaching-class industry out of existence. A combination of 12th standard marks combined with an aptitude test focused on basic science/mathematics should suffice as 'entrance' exams for engineering colleges. If Mr Sibal also focuses on improving the infrastructure and the teaching staff emoluments at the IITs, there is no reason for the existence of coaching classes.

Yet, it is debatable whether this will improve the quality of output produced by the IITs. I think it will not make it any worse. In any case, most IIT graduates seem to be taking up an MBA course and not doing anything that their IIT degree equipped them to do. If one looks at the global engineering scene, countries like China, Taiwan, Singapore and Korea are far ahead of us. And the best of the Indian students tend to land up in the USA.

The immediate fallout I can visualise is on the coaching-classes business, which seems headed down. I only hope that Mr Sibal does not leave deliberate room for their ilk to survive. In any case, with the advent of electronic teaching methods, the business of mass education cannot remain profitable for long. Dealing with government schools (which are the customers for many businesses) is neither easy nor straight. Also, accounting profits need not translate into surplus cash flow, looking at the way the education business companies keep raising money.

A Class Apart

2010-06-29T12:33:00.000+05:30

(Published in Moneylife.in today)
At most seminars on stock markets I am struck by the fact that investor expectations always seem to border on greed. An interactive session on broader issues degenerates into stock specific questions. However, a recent seminar I was privileged to address was a refreshing change. The crowd had a large number of active stock market players and this was a gathering of what I would term as ‘wealthy’ people. All of them (barring the organisers, who were dressed in suits) were in casual daily attire. Clearly, comfort was more important than appearance.
Almost all of them were very well settled in life and were constantly on the lookout for more opportunities. Everyone in the crowd (which was more than five hundred strong) had spare cash to invest. They had substantial wealth in real estate, gold, diamonds, fixed income investments and shares. A few of them had chosen the mutual fund route as an additional avenue, but not as a first choice. They all seemed to prefer direct investment in to equities. Most of the questions did venture into stock specific questions, but they were more to do with provoking the men on the dais who included a couple of ‘talking heads’ on business channels.
The older among the crowd had seen ups and downs in the market, so they were more casual about losing money in stocks. Many of them had large core holdings in frontline stocks and a good mix of stocks that bordered on the speculative. Yes, they were all businessmen, from the trading community. Some of them had also put money in to the market through the Portfolio Management Schemes and had mixed reactions to the route.
I did a straw poll of the audience and found that none of them had ever entrusted their wealth to a financial planner or a ‘wealth manager’. Their view was that their financial assets are secrets which they do not wish to discuss with others. They were also upset by the fact that some of the private bankers sent their representatives to discuss financial investment opportunities with them. They were upset by the fact that someone in the bank, other than the branch manager or the relationship manager is privy to their financial data. They have learnt how to avoid these pests through some hard talking with their banks and a few of them have gone to the extent of just keeping an account alive with the bank in question, whilst moving most of the money to other banks.
A large majority of them were in to mid caps. Here their approach was well defined. They focused on industries they had good knowledge about. For instance, a steel trader would look at his customers and their financial behaviour, their off take of material etc would be a good base for him. There were a couple of people who focused very sharply on acquisition targets. In the latter case, the guys knew that they were placing bets on something other than company performance.
Most of them spend a couple of hours or so every day to devote to their portfolio. They talk to more than one broker, get his views and keep track of his views. They have a list of favourite brokers as well as ‘contra’ indicators (brokers whose views have consistently been wrong).
So, far, what is remarkable about them? Does it sound like a typical market participant? Well. One thing was noticeable. Almost each one of them stayed away from derivatives. They had no problem losing money in their stocks but none wanted to. In fact a younger member responded that derivative trading was stressful and after having lost money (in his words “three days positive, fourth day wipe out”) decided that it was not for him. He also said that it needed more study of the market and a need to be constantly monitoring the screen.
For me the gathering was revealing. Here was a group of people, for whom equity is another asset class and not the only one. None of them seemed to be unduly worried or impacted by the volatility in the market. And more important, they got in with a preparedness that they could lose their money. In fact, one of them was a late entrant in to equities, having got in at the peak of 2008, but still active and working his way through 2009 and 2010 to recoup all of his losses and emerge in positive territory.
The interesting thing was that someone tried to explain to them the merits of “Systemic Investment” in equities. They brushed it aside, saying that it may have its merits for someone who keeps worrying about wealth. For them, equities were clearly beyond asset allocation. It was one more way to try and experiment with money. Equities were not their first line of defence in their wealth basket. They entered the asset class only after exhausting other avenues.
Well, we may choose to disagree with their approach on the grounds of it not being the optimum strategy to ‘maximise’ wealth, but they are a class apart, who do not need to keep score. As someone said, if you have to count your assets, you are not rich enough!

R. Balakrishnan
(balakrishnanr@gmail.com)
May 31, 2010

The Terminator Comes to Wall Street

2010-06-26T21:58:00.000+05:30

The Terminator Comes to Wall Street

Warren Buffett in India- What If?

2010-06-25T19:21:00.002+05:30

As far as I am concerned, the Warren Buffet Graham Dodd School of investment is a complete education in stock picking. Having seen the Indian markets over the last few years, the one thought that comes to mind is that if WB were operating in the Indian markets today, he would perhaps find it difficult to find companies. However, if you take a cycle of twenty years, he would have found many opportunities to buy. WB is associated with ‘value’ investing. India is a ‘growth’ story. ‘Growth’ means buying in at prices that a ‘value’ investor may not buy.
If I look at WB/GD for inspiration, the key takeaway is the relevance of Return on Equity in conjunction with the ‘Margin of Safety’. If one uses these two financial measures, today’s markets are unlikely to throw up any investment worthy candidates. It is simply because our markets are today in an orbit that is being justified by the growth potential as well as the fact that when most of the world comprises of blind people, the one-eyed are looked upon with awe.
If I look at some of the key qualitative attributes that WB/GD has listed out as pre-requisites for being included in the short list, the following things stand out:
i) Find companies that have strong entry barriers and strengths that enable predictability of earnings. One of the examples in the WB domain is Coca Cola. In India, I have not come across an Indian company that has this attribute. It is only some of the multinationals operating in India that has this attribute. Clearly, India is not a business pioneer even in its homeland, forget globally. Companies like a L&T / HDFC come close, but one will have to search hard to find many more;
ii) Management quality: Here again, most Indian companies suffer due to management being a family affair. Father passes it to son and so on. The best person for the job is not chosen. So, here again, the list of Indian companies is rather small.;
iii) Forever companies: WB says that he would like to stay invested in a company forever. Here most Indian companies fail the test. Where are the Century’s / Nirlons’/ Mafatlals/Singhanias of the yesteryears? They were the blue chips then. Again, one has to stay content with an HDFC or most of the MNC’s who will be there a hundred years from today. You cannot bet on the longevity of an Indian company or management or family. Their capacity to surprise is immense.
Apart from the key differences, the other issue is a WB approach may simply fail because we have two classes of shareholders, whose returns are different. The promoter shareholder gets his returns from many sources whereas the non promoter shareholder gets incidental benefits. Corporate governance and capital market regulations notwithstanding, the promoter only lets you see what he wants to let you see.
SO, to gain from a WB approach, we need to have the ability to understand the management and take a call on what the odds are of riding his coat tails. The other most important thing, to my mind, is that we have to learn when to sell. The volatility in our markets (illiquid and shallow by characteristic) gives great opportunities. I like to make a shortlist of companies that I like and put against them, prices that I am comfortable paying. And then wait. Surely, in a person’s investment life span, anything from three to five opportunities will come. And the returns will be great. Much better than market returns if I may say so. One must not have the compulsion to invest everything in one go, like a fund manager.

(R. Balakrishnan)
(balakrishnanr@gmail.com)
May 24th, 2010

(The above article was published in the June 2010 issue of "Wealth Insight", an excellent personal finance magazine published by my friend, Dhirendra Kumar)

Insider Trading- HDFC MFund in spotlight

2010-06-23T10:06:00.000+05:30

(This incidence, involving the transgressions of a dealer with the high profile HDFC Mutual Fund, proves the old adage “Wall Street writes its own rules”. It also shows the dishonesty of the Indian media when it comes to covering news)

Insider trading is not uncommon. Almost every fund manager at some point has indulged in it. Often it could be for the fund he manages. In some cases, there are rogues who abuse their position for personal gains. SEBI has done well to document a case where a dealer of HDFC mutual fund (unfortunately, the fund with perhaps the highest level of trust in the public eye) has been caught in the act of ‘front’ running. ( See http://www.indianexpress.com/news/sebi-bars-hdfc-amc-exec-three-others-from-market/635317/0 for the story. Order copy can be had from SEBI website)
SEBI has ordered the Trustees of the HDFC Mutual Fund to conduct an inquiry in to this and ascertain whether such dubious practices were in continuance later and also to beef up the internal controls etc., Pending completion of the enquiry, SEBI order advises that:
“” i) HDFC Asset Management Company Limited shall not utilize the services of Mr. Nilesh Kapadia (the dealer in question) for the trading activities done on behalf of HDFC Asset Management Company Limited and shall institute an internal inquiry to be conducted by the trustees of HDFC Mutual Fund in the matter; and
ii) Mr. Nilesh Kapadia and HDFC Asset Management Company Limited shall jointly deposit the estimated losses identified so far as per Annexure-A of this order, to the Trustees of HDFC Mutual Fund. This amount shall be held by the Trustees in an account segregated for this purpose, till further orders by Securities and Exchange Board of India in this matter. “”

In the beginning of the order, there is a statement that reads as under:
“However, no apparent connections were noted by the stock exchanges. The preliminary findings of SEBI in respect of the said references are given in the following paragraphs. “
I leave it to the reader to figure out why SEBI is so circumspect. On going through the order, it is obvious that there is foul play and the parties who have actually indulged in front running, have links with the accused dealer. See the latter part of the order which reads as under:
“The investigation conducted so far in the matter had revealed 38 instances over 24 scrip days spread across BSE and NSE during April to July 2007. In these instances, Mr. Rajiv Ramniklal Sanghvi/Mr. Chandrakant P. Mehta/Mrs. Dipti Paras Mehta were placing buy/sell orders ahead of substantial buy/sell orders of HDFC AMC. The buy/sell by the abovementioned persons were successively followed by the buy/sell by HDFC AMC till finally, the aforesaid persons could square off their trades within the same trading session, substantially against the orders of HDFC AMC that were still coming in. In the investigated instances, the volumes accumulated by the said individuals were also found to be significantly large. Thus, the instances apparently represented front running. In the 38 instances mentioned in the following tables, Mr. Rajiv Ramniklal Sanghvi, Mr. Chandrakant P. Mehta and Mrs. Dipti P. Mehta have made substantial intra day profits by front running the orders of HDFC AMC. “
In spite of the above, there is hesitation to make a guilty pronouncement!

The incidents documented by SEBI happened in 2007! The amount of gain they have calculated to the gentleman in question is around Rs.23 million.

Some things about the order stare you in the face:

i) The amounts were with reference to three years ago. Surely, the question of interest and penalty seems to have been forgotten by SEB (One thought is that hopefully, SEBI will do something once the Trustees submit their report to SEBI)I;
ii) The deals narrated in the SEBI order relate to a three month period in 2007. Does it mean that the dealer became honest after this?
iii) The SEBI order merely asks the AMC to conduct an ‘inquiry”! Technically, the dealer can get away scot free! All he has to do is to pay up some amount! He can continue to work with the AMC in some other capacity.
iv) The front running done here is far more crooked than plain and simple insider trading. The guy had the wherewithal to transfer the gains on the illicit trades by screwing the fund investors;
v) Why is not SEBI forcing a full inquiry by an independent audit firm (rather than leave it to the Trustees) in to the fund’s entire history when the said gentleman was in the same position? Everyone knows that the Trustees do not have detailed knowledge about the working and most of them are there because of the name and prestige attached to being on a panel for HDFC family?;

To my mind, this seems like a serious case of fraud and needs to be probed further. HDFC Fund has to come out in to the open and make the outcome of the inquiry public. Disgorgement of the gain has to be done, at some cost.

Another thing is that this incident clearly shows the absence of checks and balances at the fund house. These are incidents that normal prudence ought to have immediately. Every fund house has a recording system and if the compliance officer had only bothered, this would have been caught.
I also wonder why there is no penalty levied on either the dealer or the fund house.
This incident proves several things:

i) HDFC as a fund house has good clout with the media. Few newspapers carried this and the TV channels, which normally go to town with any frivolous news, remained quiet;
ii) If there is no punishment, then there is no deterrent to this crime. That, to me is the biggest failure of the legal system, when it comes to things financia;
iii) SEBI is being very indulgent in this case.

The broker and the banker

2010-06-08T21:27:00.002+05:30

Once upon a time, a bank started a life insurance venture. The bank was astute in its cost management and accordingly, it outsourced marketing (for some region/s)of the life insurance to a known broker. The understanding was that the broker would be reimbursed cost plus a percentage to cover him for providing the 'cover'.
All was well. One fine day, a few employees left the broker. And went and told the banker that whilst they were reimbursing the broker for over a thousand 'employees', in reality there were fewer than half the number.
The banker got annoyed and then went to check the facts. Alas. The broker was billing for twice the actual manpower deployed! And the broker was a clever fellow. The excess billing was not passed on to the broking entity, which also happened to be a listed company. He quietly put the difference in his own pocket.
Of course, the arrangement was disontinued. The banker, however was in a dilemma. To lose face or not ? He preferred to remain quiet and continued a 'broking' arrangement with the broker.
Our broker was a street smart guy. He knew his goose was cooked. But, being a responsible promoter of a listed broking entity, he promptly terminated the services of the entire gang that was selling the insurance policies. He informed them that henceforth, they could keep ninety percent of the commissions earned on the policies sold by them. However, the company would not pay them a fixed salary. The broker was kind enough to offer the use of office premises, computers etc to the group of 'ex' employees.
Now, the bank pretends that the incident never happened. The broker goes about his business as usual, looking for the next banker to con.
So much for corporate governance..

Free Float.. The fumble of the Regulator..

2010-06-07T21:24:00.001+05:30

Indian capital markets have always been a joke. Anyone can list. All you need is a business plan or a friendly merchant banker. And you start with a ten percent dilution at stage one and after a few years, the promoter holding can be zero. No one will know. Our stock exchanges have absolutely no gate-keeping, with regulators generally not having a clue about anything. It is a travesty that companies like NMDC/MMTC are given the status of ‘listed’ companies, with a handful of shareholders. Our stock exchanges are a great place for raising venture capital and have been the principal reason that venture capitalists find it tough to get decent deals in India. Anyone can list at any price on the stock exchanges. And the processes are designed to hide things from the investors and also make sure that the investor never gets time to read anything about an IPO. Hence, one fails to understand why the FM wants to tinker with the stock markets? Surely, the stock markets are supposed to serve the interests of the issuers and the bankers. The investors do not mind manipulated prices nor do they care a fig about it.
Our octogenarian Finance Minister mentions that the move to increase public shareholding to 25% will deter price manipulation. There, he is mistaken. Any share price can be manipulated, if one has enough money. There are many listed companies which on paper have more than 25% holding with ‘non-promoters’ and included in ‘public’ category, but in reality happen to have benami holdings which are included in the public category. So, this move, in no way will put an end to manipulation of share prices.
The latest dictat of having a 25% holding is one more joke. It is a rule that cannot be complied with and if a company or promoter does not want to comply with it, SEBI cannot do a damn about it. Yes, they can threaten to not give permits to new entrants, but soon they will relax these, with several catches. The first demand will come from the PSU undertakings. When the regulator does not understand what the markets are all about, he is but a tool in the hands of industry and investment bankers. After having debased the concept of ‘listing’ it does not make any sense to put in new entry barriers. After you have given permission to companies to list with minimal free float, SEBI cannot deny the continuance of listing by executive action.
I would rather urge a carrot and stick policy to encourage broader public participation in businesses. For instance, one or more of the following steps could have been looked at:
i) Shifting of companies with less than 25% public holding to the OTC exchange. This will preserve some sanctity for a stock exchange ( this will also give some life to the OTC exchange);
ii) To start with, ensure that stocks where the public holding is below 25%, cannot be traded in F&O;
iii) Deny inclusion of such illiquid stocks in to any sort of Index;
iv) Increase the fees payable to the exchanges/regulator by such companies;
v) Restrict trade in these stocks on cash basis only.
vi) Permit open market sale of promoter holdings through block deals, with institutional buyers (in fact this is the typical route that has been used by many promoters to dump their shares);
vii) Instead of 25% non public, a better thing would be to insist on a minimum of 100,000 shareholders with a minimum holding of 1000 shares each, for permission to be listed on the main board of an exchange. Otherwise, the OTC is always there for the illiquid companies. In fact, I recall that the NYSE used to have this criterion.;
viii) Have a higher rate of taxation for companies that do not have 25% non-promoter holding. However controversial it sounds, it is the only way to ensure compliance. Once this is done, suddenly promoters will cease to worry about market timings for dilution of equity;

The idea is that these companies are encouraged to dilute. SEBI is foolish in prescribing a 5% per year dose of dilution. That simply will not work. A promoter will sell only when he gets a price that he is happy with. Market conditions do not remain stable for any length of period. Hence, you cannot force disgorgement.
An interesting fall out will be what happens where the promoter has gone in for increasing his shareholding and reduced free float. Similarly companies have gone in for buy back and reduced the free float. Many MNC’s have gone in for buyback with a view to delist. How can a regulator force them to disgorge once again?
The other fall out will be the argument of experts that the markets cannot absorb so much. It will nail the argument that India has a vibrant investor community, when the truth is that it is a shrinking universe. Listing has become a joke with the permission of this anachronism called ‘QIP’ issuances, warrants to promoters, preferential issues etc.,
It is interesting that the regulators find a way of cutting their own noses to spite their faces, time and again!

Throw the dice... Let the stocks roll

2010-06-06T21:26:00.000+05:30

PLAYING THE MARKETS..

The corporate scorecard for the year ended March 2010 passed off uneventfully. No surprises on the upside. Coming out of a bad year, results were along expected lines. If there were any pockets of disappointment, it was, for me, the public sector units. Across industries, the PSU units showed some tiredness in their performance. It is unlikely that they can do anything spectacular, given the fact that making profits itself is seen to be a kind of ‘mission accomplished’ for the PSU’s. The other takeaway as far as I am concerned is the worry that most of India’s engineering giants are running out of steam. In spite of bulging order books, execution seems to be fumbling. One last worry is the high rates of attrition in the services sector. Whether banking or IT, the attrition rates are getting higher.
I met with a few companies in the IT sector as well as the finance sector. It is a challenge for them to hold on to people long enough, especially at the entry and middle levels. A friend of mine runs a head hunting firm focused on senior hiring. The main driver for change is money (no surprises). But what was sickening was the chase. Mediocre quality rules the roost and has highly inflated egos, apart from expecting fancy salaries. At the entry level, it is clear. A couple of thousand rupees more per month is reason enough for change. In one IT co, they worry after every pay day. Some employees simply do not turn up. They are not bothered about any letter of release or certificates! Here, I do not blame the employees. The employers are the root cause. In difficult times, they let go of people. An easier option would have been to let go of few seniors who are superfluous and take an across the board pay cut. Instead of that, they sacked youngsters, who now give it back to them likewise. And I also see madness returning in the hiring area. Start up cos and cos planning their IPO’s or fund raising want to adorn their payrolls with names. In this hurry, they are willing to pay fancy ‘sign on’ bonuses and ridiculous salaries. Of course, the people joining realise what is happening and they take advantage of the need (greed) of these companies. Net net, I am seeing unsustainable cost structures getting built in the services industries. The senior fellow wants to pay a fancy salary to the junior, simply because it ensures that he will get a higher salary! The biggest take away from the recently ended fiscal year is not in the balance sheet, but will make itself felt in the profits in the years to come.
The other thing that, to me, is worrying is the failure of companies to add to supply. Not much spending on capital expenditure, not many new facilities coming up, infrastructure not getting the desirable momentum portends difficult times ahead. Add to this domestic inflation which is quite stubborn, I find it difficult to see the road ahead for most of the large companies. At some stage, supply will come in and normalise the profits. The present levels of profits are clearly not a sustainable thing. Companies will have to give up on the bottom line when the top line accelerates. Add to this, in sectors like FMCG,competition from unorganised sector, local and regional players is very evident from looking at the stagnation in businesses of companies like HLL ‘s They seem to be enjoying growthless profits.
And the moment the markets get better, companies are in a mad rush to increase the supply of equity. And regulator relaxes the rules to create more illiquid stocks.
These are the times when I feel that our markets lack an instrument where one can go short on a stock over an extended period. In the old badla system, one could do this. Alas, today there are no derivatives which will let you short a stock over a long period. The monthly or quarterly rollover system is no substitute for the old system. And this brings me to a point that was raised by a good friend, Nalin Moniz (he runs a PMS company) in response to an article of mine on evaluation of PMS. He maintained that when one cannot short a stock effectively, it is not fair to insist on absolute returns. The stock market is structurally skewed in favour of the bulls.
So, to make money in the stock markets, one has to get lucky in the minefield of small cap companies. The other thing is to keep money handy and pray for a decent fall in the market (say by around thirty or forty percent from here) and then buy. Timing is everything in today’s markets, where there is too much money chasing limited investment options. The good thing is that this money exhibits a herd mentality. If they all panic together, it gives a good buying opportunity.

CAREless ratings, selling and screwing the investor

2010-05-29T12:28:00.004+05:30

Shriram Transport came out with an issue of loan, which sold like hot cakes, due to a high coupon. Every bank sold it aggressively, hiding facts.

THE RATING IN QUESTION
I got a marketing mailer from my bank broker for subscribing to a NCD of Shriram Transport Finance. Going through the mailer, a few things were very disturbing. It is more to do with how things are marketed and a point of view on a rating agency.
“
o The secured portion of NCD issue is rated “AA+” and unsecured portion of NCD is rated “AA” by CARE. STFC will create appropriate security in favour of the Debenture Trustee for the secured NCD holders on the assets to ensure 100% asset cover for the secured NCDs. “
The above is an extract from a bank that markets a NCD of Shriram Transport Finance. I do not have the time nor patience to read through a 511 page offer document. Also, I am not sure I will understand it. Going thru the offer document I find that the issue has two rating agencies. Below is an extract:
The Secured NCDs proposed to be issued under this Issue have been rated ‘CARE AA+’ by CARE for an amount of upto Rs. 50,000 lacs and ‘AA/Stable’ by CRISIL for an amount of upto Rs. 50,000 Lacs vide their letters dated April 19, 2010 and April 27, 2010, respectively and the Unsecured NCDs proposed to be issued under this Issue have been rated ‘CARE AA’ by CARE for an amount of upto Rs. 50,000 Lacs and ‘AA/Stable’ by CRISIL for an amount of upto Rs. 50,000 Lacs vide their letters dated April 19, 2010 and April 27, 2010, respectively.

The bank that is marketing the issue is strangely (and unethically) silent on the second rating, which is identical for both the secured and unsecured one. (See below for my views on this)
Below is an extract from the company website:
Our products (pre-owned and new) offerings to Small truck Owners (STOs) and First time user (FTUs) includes:

MAIN PRODUCTS:
Commercial Vehicle Finance
Passenger Commercial Vehicle Finance
Multi Utility Vehicle Finance
Three wheeler Finance
Tractor Finance
Construction Equipment Finance
OTHER PRODUCTS:
Tyre Loan
Engine Replacement Loan
Working Capital Loan
Co-Branded Credit Card
Freight bill discounting

The ‘security’ is going to be from the above asset class, presumably. And the security is ‘to be created’ out of the moneys that will be lent in future from the money raised! And security cover will be 100 percent! Wonder whether 100 percent is based on loan amount or on asset value? Nothing is clear, unless one bothers to get the offer document or the rating rationale.
Given the nature of security, I am stunned by a rating differential in the ‘secured’ vis a vis the ‘unsecured’ portion! Wonder what the rating agency saw? The security is absolutely useless in ensuring any timeliness of payment which is what the rating agency opinion is supposed to convey. It is apparent that a higher rating has been engineered to make the asset eligible to be bought by mutual funds, trusts, provident funds etc.,
In any case, whilst lending against a truck or some such vehicle, the lender will of course have a charge on the vehicle. If he does not, he should not be in business. So, if the cover is just going to be 100 percent, i.e. the best case is that every rupee of the NCD used for lending is backed by a rupee of loan (which should have more than a rupee worth of asset backing it). Where is the question of ‘unsecured’ money, unless it is not going to be used for lending?
And, in a credit rating, ‘security’ has no impact on a credit rating unless there is a financial escrow linked to it. Here, there does not seem to be any. Under these circumstances, how can there be two ratings for the same business? I am ignorant about this, but maybe CARE has some logic behind the split ratings.
Rating agencies ought to best understand that in India, ‘secured’ is a meaningless term. The corporate default graveyard is full of such corpses. “Secured” is a myth foisted on innocent people. Yes, it will have a meaning if a specific loan is secured by an asset that is exclusive to that loan and is readily saleable (like a commercial building or freehold land and NOT plant and machinery).
Investors can take advantage here. To me, secured or unsecured, makes no difference. If at all I have to invest in this paper, I will choose the unsecured one as it would give a higher return. If there is going to be a default, both will default.

Wall Street's Fortune Teller

2010-05-16T21:41:00.001+05:30

No one on Wall Street has been as prescient about the economic crisis as Nouriel Roubini. He talks with Tunku Varadarajan about his new book, Crisis Economics, why Goldman Sachs is wrong, and the future of England.

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