Tuesday, January 31, 2006

To invest in equities or not ? Listen to these smart investors.

Seven of India's most known smart investors came together to discuss the prospects for Indian stock markets in 2006. The annual roundtable conference was organised by Capitalideasonline. The transcript of the conference was available in today's edition of Smart Investor (Business Standard).

The summary of the discussion is -
  • Markets (more specifically the benchmark indices - BSE Sensex and NSE Nifty) to end lower this year, but not too low.
  • Easy and large returns are a thing of the past.
  • 2006 to be a stock picker's market.
  • Instead of looking at companies undertaking investments, one should look at companies that will execute these investments.
Read the entire transcript here. I was a tad disappointed with the extremely macro nature of the entire discussion. At one point, one may feel as if a host of opinions (ones that we read in the newspapers almost daily) were delivered on a single platform. Nevertheless, I think it is worth atleast one read.

Saturday, January 28, 2006

Economists react to the slower GDP growth in the US

The US economy (as measured by real GDP) grew by 1.1 per cent in the December 2005 quarter, the slowest in over three years. Here is what economists in the US have to say.

Is this a conundrum ?

The RBI recently raised the repo rate (from 6.25% to 6.5%) and the reverse-repo rate (from 5.25% to 5.5 %). The reasons behind the move are better explained here. This is I think the third such hike in the last one year.

However, the hike in repo rates poses a difficult question in my mind - why is the bank rate (at 6 %) lower than the repo rate (6.5%) ? Does it mean that borrowing for a shorter term (via a repo transaction) from RBI will be more expensive than borrowing over a period that is greater than say 1 day (via the traditional bank rate) ?

Isn't the yield curve still positive in India ?

For those who do not understand what is a repo rate or reverse-repo rate -

Bank rate, sometimes also referred as rediscount rate, is the rate of interest which a central bank charges for loans and advances made available to commercial banks and other financial intermediaries. Changes in bank rate is widely used as a tool by the central banks to control the money supply. Current rate - 6%.

Repurchase agreements (Repos) are financial instruments used in the money markets. A more accurate and descriptive term is Sale and Repurchase Agreement, since what transpires is sale of securities now for cash by the bank to the RBI, with the promise made by the bank to the RBI of repurchasing those securities later (with the bank paying the requisite implicit interest to the RBI at the time of repurchase - the implicit interest rate is known as the repo rate). Current rate - 6.5%.

A Reverse Repo
is a transaction in which the bank lends money to the RBI (which is why the reverse repo rate is lower than the repo rate) against securities put up by the RBI. Current rate - 5.5%.

Will a slower US economy result in sustained FII inflows into emerging markets like India ?

The US economy (as measured by growth in real GDP) grew by 1.1 per cent in the December 2005 quarter, the slowest in the last three years. The slower growth poses a few difficult questions ?

1. Is the US economy headed towards a recession ?
2. Will the US Federal Reserve do a U-turn on its interest rate policy ?
3. If yes, then will foreign portfolio investments continue to flow into the emerging markets (like India) ?
4. And, if FII's continue to pour money into Indian equity markets then where are the markets headed (12,000 + ) ?

I am no expert on international economics and clearly have no _exact_ answer to the first three questions. But, after reading a few articles in the recent past, it does seem that the US economy is indeed headed towards a slowdown (though not as slow as the Dec'05 quarter) and that the US federal reserve is likely to halt its interest raising spree.

Now assuming that the first two assumptions (or rather faint conclusions) are right, then will they result in a sustained flow of foreign money into emerging markets (more specifically India) ? The answer is yes.

This is because, not only do Indian markets offer better economic fundamentals, but also offer great arbitrage opportunities. Here is a simple one:

1. Yield on a 10-year note in the US - 4.5%
2. Yield on a 10-year Gsec in Indian market - 7.5%

A straightforward difference of 300 basis points. Further, periods during which FII flow of money remained strong, the INR witnessed a significant appreciation. The last 3 years were no different. The INR appreciated from over Rs.48-to-a-USD to Rs.44-to-a-USD.

Result - Avg. annual appreciation of 2.4%.

Now for the investing opportunity for a typical US investor -

Option A

Invest USD 10,000 in the US in a 10-yr note for one year.
Return - USD 450
RoI - 4.5%

Option B
Invest USD 10,000 in the Indian mkt in a 10-yr note for one year.

- Converting USD 10,000 into INR @ 44.2 = INR 442,000
- Invest the same in a 10-yr Gsec @ 7.5% for one year.
- Capital at the end of one year - 442,000 + (7.5% of 442,000) = INR 475,150
- INR-to-a-dollar at the end of the year = 43.12
(assuming a 2 per cent appreciation in the INR)
- Capital in USD at the end of one year - (475,150/43.12) = USD 11,019.25.

Return - USD 1,019.25
RoI - 10.19 %

Excess returns from Option B (ie. investing in Indian markets) over Option A - 5.69 %

Given that the return seems almost double of what a typical investor in the US market gets, India definitely seems more attractive. The downside to this strategy would be a sharp depreciation in INR (which seems highly unlikely given the current strength of FII inflows). Ofcourse, if the FII inflows themselves were to stop then maybe this opportunity will not yield much.

The example stated above is the simplest of all and involves debt markets. The same principle will also hold true in case of equity markets. Returns of over 10-12 per cent in 2006, plus a currency appreciation of around 2-3 per cent should see FII's getting a healthy 12-15 per cent return for 2006. Not bad considering that last three years have produced returns in excess of 30-40 per cent per annum.

However, the larger questions remain - will FII inflows sustain in 2006 ? If yes, then would Indian markets keep doing what they have been over the past 2-3 years - head North (12,000 +) ?

Sunday, January 22, 2006

Learn about stock markets without investing in them !

While I was surfing the net I found this amazing game, that is a must for any finance starter. It is called the "Wallstreet Raider" by a company called Roninsoft. It a simulation game on stock markets and the field of investment banking. A free shareware version of this software is available here.

Following are the features which I liked the most -

1. Allows to analyze companies, although not a very exhaustive analysis.

2. Allows to analyze the sectors and how they are expected to do in the near future.

3. Lets you take companies private (LBO's, MBO's, hostile takeovers. Even greenmailing is allowed).

4. One can also list his/her company, after taking it private for a few years. This is typically what happens in a leveraged buyout.

5. The software also lets you sell assets/restructure assets/buy new assets.....etcetera.

It has everything in it to excite a finance starter and is also very addictive. The shareware version allows you to play it only for two financial years, but if one does well (which means make more money) than it allows an extension of another three years. The fully-paid version will let you play for 30 odd years. A must for any starter in finance and stock markets.

A drawback: The stocks listed in this game belong to the US markets which means one cannot really relate to the companies in this software. But, nevertheless, it is worth playing.

A tangent thought -

In a country that boasts of a great number of software professionals why is it that we do not produce a world class IT product (that can be a game, a software like word or excel, or for that matter an operating system). C'mon Mr.Murthy and gang, use those humongous free reserves that are lying in your balance sheets and give us a world class IT product that we can be proud of ? Atleast, make a beginning .... ?

Tuesday, January 17, 2006

Few "cigar butts" and some growth stories

In the last two years, Indian stock markets have galloped ahead, infact much ahead than those in the West. Only a handful of emerging markets outpeformed India in these two years. However, performance of Indian markets has been rather muted since the beginning of 2006. Infact, it has been one of the only two emerging markets to have recorded a decline, the other being Sri Lanka. click here to see the MSCI indices for developed and emerging markets

At a P/E ratio of 18 times, current valuations aren't too cheap either. click to read what funds are saying

So what does one do as an investor. My idea is to remain invested in the stock markets. Rising investments (both by the corporate sector and the public sector companies) , rising salaries, flow of portfolio money from international investors, healthy GDP growth (even though it is showing signs of a slow down, with lower IIP growth in recent months), are some of the few reasons to remain invested in equities in India. Besides, today there aren't too many countries that are growing at our pace. With the little reading that I've done in recent times, Brazil and Russia seem to be more attractive than India (purely on a valuation basis). On the east, Japan seems to be waking up to the world of portfolio investments after ages.

But, all in all India seems to be the place to stay invested in 2006. A search of news.google.com suggested the same. click here to see the results of the search

Now, the question is when and in what companies ?

Q1. When ?
Ans - After the Union Budget. Buying before the UB has been one of the worst investment ideas in recent times. More often that not investors have lost money while investing in the so-called "Pre-Budget" rally. The concept of such a rally is really misleading, as expectations (rational or otherwise) are built-in stock prices most of the times. Obviously, all of them cannot be met and are never met. End result- a post UB fall in stock prices. I am not suggesting that this will be the case this year too. But, if the p(getting a stock 15-20% cheaper) > 50%, why not wait.

Q2. Where to invest ?
Ans - Nifty and Nifty Junior companies should be forgotten by now, with an odd exception of oil and a few power companies and yes, MTNL. Most of the stocks in the Nifty and the NJ are trading at high P/E ratios. They are insane in cases of HLL, ITC, IT stocks, and construction stocks like L&T. Not much room to go up there. It is markets like these that are difficult to make money in, investing in 2004 and 2005 was as easy as solving a simple algebra equation (2+2=4). And I am not joking here. If someone wants to try, just randomly pick 20 stocks from BSE and see the returns on these stocks (clubbed as a portfolio) over the last 2-3 years, the result that is most likely will be an outperformance of the benchmark indices, BSE Sensex and NSE Nifty.

So, the real fun begins now. This year will be a stock picker's market. And, being a student of Graham and Buffet, - I have found a few. These are a mix of value stocks (cigar butts, as dear Mr. Munger would've called them) and a few growth stocks.

They are -

Growth stocks -

Man Industries and PSL - Both these companies are in the business of making SAW (submerged arc-welded) pipes). With new investments in the crude oil exploration and transporation taking place, not just in India but across the globe, these companies will do very well in the coming 4-5 quarters.

Twenty First Century Printers - A small packaging company that caters to all the top names in the domestic FMCG industry. Concluded capacity expansion plans in Nov'05. Expected to record robust y-o-y growth in the coming quarters.

Value stocks -

Tinplate Company of India - Annual cash profit Rs.70 crore plus, current mcap - Rs.240 crore. The co. has turned around in the last one year. Trading at a modest p/e ratio of around 5-6 times.

Subros - Manufactures and supplies air conditioning systems to big car manufacturers in India (Maruti and Telco). Is a market leader. Currently undertaking expansion plans. Modest p/e - 8-9 times, mcap - Rs.200 odd crore, annual sales > Rs.500 crore. Healthy dividend payout.

MIRC Electronics - Owner of the famous "Onida" brand of TV. Trading at a p/e ratio of a mere 7-8 times. Small amounts of debt. The consumer durable industry expected to do well, on the back of rising income levels (both in rural markets and urban towns).

Please note these are investments that I have made for myself and they are not intended as an advice. Although, the title of the blog says - "Graham to Livermore, I want to be all", I am still light years away from becoming like either of the two.

Happy investing/stock picking 2006.

Sunday, January 01, 2006

Where to invest in 2006 ?

First of all, I would like to wish everyone a Very Happy New Year. May this new year bring you loads of success and happiness.

The new years party was great. But, it was very tiring as well. So i was lazing around (rather sleeping) for most of the day. By evening, i thought i was too bored to be sleeping. After 10 mins walk, i thought let me find out - whats in store for 2006 ? Where does one invest - equities, commodities or bonds ?

I personally do not invest in commodites or bonds. So it will be equities for me. I thought, let me see what the world thinks ? But it is next to impossible to figure what the world thinks, so i thought lets see if i can get something on Google.

After wondering for a while, i decided to do the following. Search in news.google.com. I did three studies -

1. What to invest in ?
a). equities, b).commodities or c).bonds.

Result - Commodities (with a Bull/Bear ratio - 3.5 times).

2. If commodities, then which ones ?

Result - Aluminium (Bull/Bear ratio - 7.0 times), Cotton (6.7 times) and Silver (5.5 times).

3. If one has to invest in equities, then which countries ?

Result - India (Bull/Bear ratio - 6.1 times), Europe (6.01 times) and Korea (5.9 times).

These are my predictions after looking at the data from Google news search. The method used here was fairly simple - search for news items with the following search words - asset/country + bullish/bearish.

The sample for equities would look something like equities + bullish and equities + bearish. The bull to bear ratio is based on the number of news items that contained the respective search words. So typically an article which contained any of these two words at a time would be qualified as a view.

Following are the output tables -

(% returns data was sourced from www.msci.com)