Forget your money for the next 9 years

Feb 17, 2010

In this issue:
» Home prices to go higher in metros
» 2011 - the year of reckoning for US real estate
» India to compete China in oil assets' shopping
» Power sector misses targets yet again
» ...and more!!

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 Chart of the day
"Investors making purchases in an overheated market need to recognize that it may often take an extended period for the value of even an outstanding company to catch up with the price they paid." These words of Warren Buffett in Berkshire Hathaway's 1998 annual meeting seem to be having more relevance in the Indian markets today than ever before. The number of stocks in BSE 500 trading at absurd multiples to their earnings is at a decade high. Giving the benefit of doubt to companies for their depressed earnings in a single year, we checked the P/E multiple with the average earnings over the past three years. As today's chart shows, this exercise left us with 52 companies from the BSE 500 universe with P/E multiple of above 50 at the end of 2009. This is double the number of stocks with such absurd valuations in 2007 and 7 times that during the tech bubble in 2000.

The only advice we can give to investors who have made the mistake of buying into such stocks is - Forget your money for the next 9 years. This is because even if the company that you have invested in is in sound financial health and grows its earnings at a CAGR of 15% (historical growth rate of Indian companies), it will take nearly 9 years to return your principle. Of course, this calculation assumes that these stocks trade at a reasonable P/E multiple of 15x at the end of the nine year period. Till then, it would be essential to develop memory loss about the investment in the stock and potential returns from the same.

P/E multiple is for average earnings over past 3 years (BSE 500 universe)
Data source: CMIE

The RBI's move of signaling an uptick in interest rates brought a ray of hope to many potential home buyers. That of residential real estate prices cooling off from the current levels. But if the leading home financers and real estate players are to be believed, the hopes would be met with nothing but disappointment! The reason being demand for housing outstripping supply, particularly in the metros. While prices will continue to remain at a discount in the non-metro cities due to lack of connectivity and paucity of jobs in such areas, the metros may even fetch a higher premium. According to the institution that has the longest experience in housing finance in India, demand for affordable houses is all about job confidence. "The demand is primarily driven by job creation and job confidence. When any individual buys a home, he or she enters into a long-term payment obligation. Therefore, buyers need to have confidence of retaining their jobs," says Keki Mistry the MD of HDFC. While we agree with the logic, the ploy by realty companies to create an artificial demand - supply gap may not be in the interest of the companies and potential buyers in the long term.

If you thought real estate problems in the US are behind us now, we have some bad news for you. The threat of another blow up continues to loom large. Only this time, it is not going to be the residential real estate. We will have its close cousin, the commercial real estate getting into the act. As per reports, 2011 is going to be the year of reckoning for the commercial real estate in the US. Why 2011? Well, commercial real estate loans worth US$ 1.4 trillion are coming to the end of their terms between 2010 and 2014.

And nearly half of these loans are 'underwater'. In other words, the loans outstanding exceed the value of the property in every one out of the two loans. Thus, the risk of borrowers walking out on their loans and causing losses to banks is indeed on the higher side. And we all know what happens when the ability of banks to give out loans to households and other small businesses gets impaired because of losses from real estate. Whoever said we are going to see a swift economic recovery in the United States? The debt overhang in US real estate seems likely to haunt it for years to come.

It is a well documented fact that the global generics market is characterized by intense competition and at many times, brutal price erosion. India enjoys low cost advantage and the highest number of plants approved by the US FDA outside the US. As a result, investors are hopeful of big MNCs entering India with big buyout plans. After all, they too are looking to cash in on the generics story in light of their drying R&D pipelines and patent expiries. But this may not be the case if valuations of Indian companies appear too rich.

For instance, Daiichi paid an extremely generous price for a large stake in Ranbaxy. The Japanese company, infact, is yet to derive much value from the same. Therefore, investors should not have expectations of high priced buyouts in India. Rather, what they need to look at is how Indian generic drugmakers grow in the global generics market. This would depend on continuous launches of new products in the markets of US and Europe as more high value branded drugs lose patents. However, in the longer term, for any Indian player to have that extra edge, there will have to be focus on more niche products with limited competition and entry into newer markets.

The race for growth between the emerging giants - China and India- has often played out in the mineral rich fields of Africa and Latin America. The rapidly growing economies need huge quantities of crude oil. Much of that must come from beyond their shores. As a result, Chinese and Indian state owned companies have been acquiring assets and establishing their presence in oil rich regions. With one difference. While the Chinese government helps its companies with foreign exchange reserves, Indian companies get no such help.

A case in point is China's extension of a US$ 30 bn loan to CNPC, a state owned oil company. When Indian oil companies go abroad, they rely on their own resources. As per a leading business daily, the petroleum ministry has asked the finance ministry for access to foreign exchange reserves. We believe it is a step in the right direction. True, China has around US$ 2 trillion in reserves, compared with India's $279 bn. But Indian companies can't be expected to counter Chinese might on their own.

An interesting report from Investment Management Associates, a global research agency has termed China as the 'mother of all black swans'. For starters, 'black swan' is a theory from Nassim Nicholas Taleb to explain the existence and occurrence of high-impact, hard-to-predict, and rare events that are beyond the realm of normal expectations.

The author of the report, Vitaliy Katsenelson, has indicated that the Chinese government is simply 'making up' GDP figures. He suggests that the only thing really growing in China is the supply of paper money, the number of bad loans and 'bridge to nowhere' kind of projects.

Katsenelson also warns that China's future growth will be significantly lower as its key customers (US and Europe) are overleveraged and deleveraging. This is bound to leave significant overcapacity across several Chinese industries.

All of us are familiar with India's electricity woes. But one thing continues to strike us time and again. The higher the need for power in India, the more it seems to be denied that very commodity. An endless list of problems continues to plague the generation of power in the country. Not surprising then that financial year 2010 is on its way to be yet another year of missed targets for power generation capacity in India. Reports suggest that the country will see a capacity addition of only around 6,900 MW during the period, as against a target of 9,403 MW, a deficit of 17%. Hindrances in open access of transmission lines, the availability of coal, logistical problems, delays in the development of coal mines and slow power equipment capacity addition by BHEL are just some of the factors contributing to the mess that India's power sector really is.

Carrying on with the buoyancy witnessed in yesterday's trade, the Indian indices managed to move higher and sustain the momentum through most of the session today. The benchmark index, the BSE-Sensex was up by around 187 points (1.2%) at the time of writing, while its smaller peers, the BSE- Midcap and the BSE- Smallcap indices followed suit. They were up by around 0.8% and 0.7% respectively. Reports of higher GDP growth aided gains in stocks from the commodity, banking and capital goods sectors.

 Today's investing mantra
"It's true, of course, that, in the long run, the scoreboard for investment decisions is market price. But prices will be determined by future earnings. In investing, just as in baseball, to put runs on the scoreboard one must watch the playing field, not the scoreboard." - Warren Buffett

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11 Responses to "Forget your money for the next 9 years"


Feb 17, 2010

Truly the articles you give us are an eye opener sort of. The hidden truth is revealed for our benefit. I highly appreciate your efforts and hard work. I request to kindly lift the curtain from the names of those companies which u think are a risky investment option. It will be of great help to ignorant investors like us. thanks a lot.


pramod kothari

Feb 17, 2010

very intresting subject


kersi Pirojshah Mahudawala

Feb 17, 2010

It is absured to even think of purchasing 52 companies from the BSE 500 universe with P/E multiple of above 50 at the end of 2009.The investors should act very cautiously for those companies.



Feb 17, 2010

Please list out those 50 companies who are having 50P/E MULTIPLES so that all your readers can benefit.Also what is the ideal P/E multiples of companies in which we investors can investors.



Feb 17, 2010

It would be ideal you share the list. Is it up loaded in in your web site?


Vivek Kumar

Feb 17, 2010

Regarding your comment on forgetting the money.

Would it not be advisable to exit such investments,even at a loss, if you are looking at no appreciation for 9 years. There would be a better chance of recouping the capital if the same money is invested elsewhere, even in a FD.



Feb 17, 2010



K S Narayanan

Feb 17, 2010

Here is an interesting clipping from Bloomberg. Will India or other countries follow this example?-regards
Italy Tax Amnesty Draws EU60 Billion From Switzerland (Update1)
By Elisa Martinuzzi and Marco Bertacche

Feb. 17 (Bloomberg) -- Italy’s tax-evasion amnesty has drawn 60 billion euros ($82 billion) from Switzerland, accounting for the majority of collections from the measure.
Of the total from Switzerland, 25 billion euros consists of “physical repatriations” from the neighboring country and the remainder represents declarations, the Rome-based Bank of Italy said in a statement today.
Italians have brought back or declared about 85 billion euros in total, taking advantage of an amnesty that slashed government-imposed charges to as little as 5 percent and shielded individuals and businesses from prosecution. Prime Minister Silvio Berlusconi has said the amnesty will boost growth by injecting cash into the economy after the worst financial crisis in six decades.
The incentive for Italians has hurt Swiss banks including Credit Suisse Group AG, which said that about 15 billion Swiss francs ($14 billion) in client assets left through the amnesty in the fourth quarter. UBS AG said about 8.5 billion francs of net withdrawals from its wealth management and Swiss banking unit in 2009 were related to the Italian tax amnesty. Overall the amnesty affected 22.8 billion francs of UBS’s invested assets, the lender said on Feb. 9.
To contact the reporters on this story: Marco Bertacche at; Elisa Martinuzzi in Milan at
Last Updated: February 17, 2010 06:13 EST


Harry Rakhraj

Feb 17, 2010

From a skeptic receiving unsolicited mail, I've finally become a die-hard fan of your "The 5 Minute Wrapup." I've started looking forward to it. Way to go, guys!



Feb 17, 2010

It would ideal if the names of 52 companies (having more than 50 P/E multiple) are disclosed so that it would be easy for us re-balance the portfolio.

As regards to the "black swan" theory, i believe that the Internal consumption factor (in China) has not been considered while commenting about the Chineese Manufacturing Capacity.

Regards, SURESH

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