Will hedge funds win where minority investors lost?

Apr 4, 2012

In this issue:
» John Maynard Keynes' track record in stock picking
» After Manesar, Haridwar become the centre of labour unrest
» Chinese PSU banks to lose monopoly
» India, Brazil scale up on business confidence
» ...and more!

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Asking difficult questions at annual general meetings is something that few minority investors in India have had the privilege of. Postal ballot papers often do not reach them. Their opinions on mergers, acquisitions, fund raising, expansion plans etc are redundant. Thus, for long, minority investors in India have been at the mercy of the management's prudence in decision making. This does not just include individual investors. But relatively powerful financial institutions and mutual funds are also victims of management apathy. In many cases, unethical and imprudent managements did manage to erode shareholder wealth with their unwise decisions. But minority investors had few redressal options. They could at best complain to the regulator for compensation. However, it seems that the days of management high-handedness are over. Sooner or later they may have to get more responsible for the decisions and actions.

The latest case of the government arm twisting Coal India to sacrifice business interests for national interest is not a lone example. Several PSUs have had complete disregard of shareholder interest to suit the government's political motives. Private sector entities on the other hand have taken decisions to suit the promoters' greed or ego. However, the recent instances of foreign hedge funds opposing board decisions come as a welcome move. Not just Coal India, but also Zenith Infotech and drug maker Wockhardt have been the subject of hedge fund activism. That the foreign hedge funds bring with them some political clout adds to the pressure on company managements. Further their ability to influence overall FII investments in the country acts as an important bait. Widespread negativity amongst foreign investors, especially Foreign Institutional Investors (FIIs) could cause a huge pull back in Indian stock markets. This is something the government and company managements are well aware of.

Hence it seems that the fate of minority investors in India is now in the hands of handful hedge funds. The latter's success in teaching some lessons in corporate governance to the defaulters in India Inc could go a long way. If nothing, corporate India will at least not ignore the opinion of minority shareholders. Prudent decision making could also help more Indian companies become long term wealth creators. The RBI has succeeded in maintaining high levels of compliance amongst banks. Similarly, the Securities and Exchange Board of India (SEBI) would do well in supporting the cause of small investors. This could not just enhance investor faith but also improve investor participation in stock markets.

Do you think the hedge fund activism will improve corporate governance amongst India Inc? Let us know yourcommentsor post them on our Facebook page / Google+ page.

 Chart of the day
The extent to which global economic risks can impact the Indian economy is evident from the extent of global economic integration. As per data from the Reserve Bank of India (RBI), both India's trade balance and balance of payment (capital and current account) has increased manifold as a percentage of GDP over the past 4 decades. Since this is likely to increase, India will stand more exposed to global uncertainties.

Data source: RBI

Here's perhaps a thumping vindication of what we've been saying all along. That when it comes to investing, top down matters very little and it is bottom up stock picking that counts the most. Our confidence in this theory is derived from an event that happened back in the depression era. Apparently, John Maynard Keynes, the man who gave macroeconomics a whole new meaning, turned out to be a total disaster when it came to stock picking. A study reveals that he went nearly bankrupt trying to pick stocks based on his own macroeconomic insights. But did he give up? Certainly not. He turned his approach on its head and instead, started focusing more on fundamentals and followed in the footsteps of value investing. And boy did his performance turn around or what!

Between 1927 and 1946, his fund averaged 12% per year. An outstanding performance considering how bad the economic situation was back then. This even led Keynes to come out fully in support of value investing i.e. buying dollar for something like 75 cents and having the patience to ride out the bad days. Thus, if even the best macroeconomic mind out there found it hard to invest based on business cycles, it is better to stick to value investing we believe.

A monopoly is good to some extent as the company has the pricing power. But too much power can also be disastrous, particularly from the customers' point of view. This is the realization that has hit the Chinese government. The Chinese Premier has hinted that the government would look at breaking up the monopoly of the Chinese banks. Currently, the big 4 banks in China pretty much rule over the entire financial system. As a result, if anyone needs bank funding they have to go to either of these banks. Naturally since they have a monopoly, the banks refuse to lend to smaller borrowers as they are not as profitable as the larger borrowers. This forces most of the smaller borrowers to either suspend their capital expenditure plans. Or to turn to the grey market which has flourished in China. Both have severe economic consequences. Therefore reforms in the banking sector are the need of the hour for China.

FY12 is a year that Maruti will like to forget. Crippling strike at its plant in Manesar hampered production and thereby sales of the company. With the result that overall volumes sales declined for the full year. That matter has been put to rest. But the broader issue of maintaining cordial industrial relations across companies still needs to be addressed. Especially so since Haridwar has now emerged as the next destination where factory workers have gone on strike.

Two companies Satyam Auto and Rockman Industries, which supply auto parts to Hero Motocorp, have been at the receiving end as workers in their factories have demanded better wages. Interestingly, while at Maruti's plant, contract workers had staged protests, this time the permanent workers at the above mentioned two companies have gone on strike. The core point of dispute seems to be the minimum wage being doled out. Companies do not see any reason why they should pay more than the minimum wage fixed by the government. Workers in the meanwhile are disgruntled on seeing other workers from other regions earn more. What is more, data on industrial disputes do not match the ground reality. Figures show that the number of disputes has come down. However, the state administration agrees relations between employers and employees are not cordial. It is a tricky issue but one for which a good solution is needed if Manesar like scenarios are not to erupt in the future.

Indian investors may feel compelled to reconsider their optimism about the Indian economy. This is due to a series of external shocks as well as domestic problems that the country has been facing. But the results of the latest bi-annual Regus Business Confidence Index may have something to cheer about. In March 2012, India ranked second on business confidence with 143 points. Brazil stood first with 148 points. That's the point of view of 16,000 business managers and owners from 86 countries across the globe. There should be some truth to it, right? There is some evidence too. Indian companies reporting revenue growth have shot up to 69% as against just 52% six months ago. However, there has been some pressure on profitability. Companies reporting profit growth declined by 1% to 58%.

The global average for the index stood at 113. Germany and China occupied the third and fourth position with 132 and 130 points, respectively. Japan, with 82 points, is still recuperating from last year's disasters.

It has been a massive struggle this year for most companies to stay afloat. 13 interest rate hikes, a global slowdown and weak demand all took its toll on the economy. Not surprisingly, default rates of companies are at a ten year high according to rating agency, Crisil. The agency recorded 188 instances of default in financial year 2011-12, the highest it has seen. Textiles, steel, construction and engineering accounted for a bulk of Crisil's total downgrades. Power, aviation and real estate sectors also saw pressure. Telecom and services are probably the only sectors not having a bad run.

All this trouble also affected the banking sector. The industry has been in rough waters over the past year. As the economy has hit the brakes, banks credit growth slowed to 16%. Gross non-performing assets are expected to rise to 3-3.1% in FY12. Total bad loans crossed Rs 1 trillion mark at the end of December 2011. Cases of restructuring have also increased. The big question now is whether the RBI will soon go ahead and cut rates in light of a very obvious slowdown.

After opening in the negative, the indices in Indian stock markets failed to make inroads into the positive territory despite some sporadic buying interests. Stocks from commodity and energy sectors led by Jindal Steel and Gas Authority of India Limited (Gail) led the pack of losers. At the time of writing, the BSE Sensex was trading 97 points below the dotted line. The indices in other Asian markets closed mixed in today's trade. Those in Europe have opened lower.

 Today's investing mantra
"Managers thinking about accounting issues should never forget one of Abraham Lincoln's favorite riddles: 'How many legs does a dog have if you call his tail a leg?' The answer: 'Four, because calling a tail a leg does not make it a leg'." - Warren Buffett

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    3 Responses to "Will hedge funds win where minority investors lost?"


    Apr 5, 2012

    Yes, this will certainly help. The Institutions in the Country have been made totally ineffective. It is very difficult the people in power whether it be a Company management or the Govt. Even a small challenge to a govt. functionary can land you in trouble. Under the circumstances we need outside help.



    Apr 4, 2012

    Yes, Hedge funds questioning management decisions will definitely make the management do their homework and be more circumspect before taking arbitrary decisions in their own interests'. In fact, SEBI should also have mechanism wherein proposed management decisions are published;stakeholder response invited and addressed/resolved before the decisions are taken.regds investors aware

    Like (1)

    Sudhir Pande

    Apr 4, 2012

    It just shows how diffident and laid back Indians are. With a million strong Army we cannnot stand up to the Pakis and Chinese, because we lack courage and commitment. Similarly with such a well developed stock market and governing bodies and supposed rule of law, we are waiting on the side lines for foreign investors like TCI to fight our battles. Great country inhabited by cowards and 'chalta hai' kind.

    Like (2)
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