The small cap rally may not be over yet

Apr 14, 2010

In this issue:
» Realty companies are at it, again!
» India to become a food basket for the world
» 9.5% GDP growth could be 'very problematic' for China
» India misses her power capacity target for the 3rd time
» ...and more!

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Just yesterday we wrote about why India could do without offering a red carpet welcome to Mr FII. But investors of his type who have set their eyes on the long term prospects of India are sure to be welcomed. Particularly, if they are of the caliber of global private equity investor Carlyle Group.

As per a business daily, US-based Carlyle Group has raised US$ 2.6 bn to invest in Asia. A third of this fund is likely to be invested in India. What really caught our attention was not the fact that US$ 0.8 bn would find its way into Indian equities. But that it would find its way into the shares of smaller Indian companies. Probably some listed and few unlisted ones as well. Carlyle has so far invested around US$ 950 m in India. Of which the biggest one was the US$ 700 m invested in mortgage financer HDFC. But going forward, the fund will look at smaller ticket investments of US$ 15 to 17 m each. The interest in Indian smallcaps is due to the lucrative returns offered by few of these companies at reasonable valuations. No wonder discerning investors like Carlyle Group are keen to spot the HDFCs in the making.

For retail investors, however, investing in good smallcaps is not as easy as it reads here. Indian smallcaps surely have a lot coming their way. But not every one of them is an HDFC or Infosys in the making. Thus, investors need to diligently train themselves to look for disciplined, conservatively run small businesses that can stand the test of time in the long run.

 Chart of the day
It is often said that you either take the destiny in your hands or be prepared to face its uncertain nature. The latter usually holds true for India's agriculture sector. Only 40% of India's farms are irrigated. Hence, not depending on monsoon rains is virtually out of the question. The end result? India's huge agricultural sector continues to be at the mercy of its uncertain monsoons. And this impacts not only Indian citizens but also dictates how prices of food grains move globally.

Sadly, even the track record of India's Meteorological Department (IMD) falls woefully short here. Today's chart of the day highlights this in ample measure. Projections by the IMD have differed significantly from how the monsoons actually played out in the past. And as per the Department's own admission, rain predictions are likely to remain a challenging task in the future as well. Thus, there remains a huge question mark over India's projected GDP growth of around 9%-10% in FY11. If only the powers that be take the destiny in their own hands. And make Indian farms more irrigable.

Data source: Reuters

Realty companies, which were saved by low interest rates last year, are again feeling the pinch of rising cost of funds. We are talking about the higher interest rates that banks may ask these companies to pay up in the future. As per The Economic Times, the RBI in its April 20 monetary policy meeting may make borrowing more expensive for builders. It may do so by asking banks to set aside more capital for loans to commercial real estate projects. A higher capital requirement will force banks to raise interest rate on such loans.

We believe this will be the right dose for realty companies. This is because despite being bailed out in bad times, they have become greedy yet again. They have artificially maintained high prices by hoarding properties despite demand being high. And now, as things have improved on the demand front, all the glib talk about 'affordable housing' has gone for a toss.

Anyways, while these companies will have to pay higher interest costs, our concern is that they will take no time to pass these to property buyers! Let us know your views on this.

Inflation in India has been persistently high for quite a few months now. And the reason for the same was poor monsoons which in turn hampered crop production. Little wonder then that food prices soared as supply lagged demand. Part of the problem could also be attributed to the poor standards of foodgrain storage in the country. But retailing giant in-the-making, Bharti Wal-Mart is not discouraged and has ambitious plans going ahead. The combine wants to source US$ 1 bn worth of goods from India and help the country become a food exporter, as reiterated by Scott Price, President and CEO of Wal-mart Asia in an interview with the Economic Times. It also intends to focus on a sophisticated retail market in India which will stress on food security and efficiency. The overall idea is to bring agriculture to global standards. This would then enable India to become a food basket for the world. But first India will have to focus on improving food security for its citizens. Only then it can think about catering to the global markets.

An admission of guilt from within China, finally! Economists and investors from around the world have been explicit in their skepticism about China's glamorous growth rates. But finally, an insider from within China recently offered a similar view. China's GDP saw a 10.7% growth in the December 2010 quarter. But the chairman of China Construction Bank recently opined that a GDP growth of 9.5% and above could prove 'very problematic' indeed. More specifically he has said that it will mean more duplication of construction, more excess capacity and a higher waste of capital.

At the root of this high growth rate was the Chinese government's stimulus package last year. It encouraged nothing short of a loan frenzy in the country. Chinese banks made US$1.4 trillion of loans in 2009, doubling the total of 2008. The result. An over-supply of money, dramatically increased liquidity, and an accompanying deterioration in the quality of lending. Thus, it would not be surprising to see the twin problems of asset bubbles and inflation as a fall out of all this. Now it seems like it is just a matter of time that the costs of all these activities catch up with China. We can just hope that this does not cause more instability to the global economy going forward. The probability remains high though.

Oil prices are now above the US$ 80 per barrel range and views on the current and future state of oil prices have been coming thick and fast. From producers of oil to consumers of oil. The reason is that oil prices can affect macro economic conditions like few other commodities can. Hence, it doesn't come as a surprise when the International Energy Agency warns that rising oil prices 'could stall OECD economic recovery'. OECD refers to the 30 rich economies of the Organisation for Economic Cooperation and Development. While high prices often self-regulate themselves by prompting higher supply and lower demand, they can sometimes get out of hand. Like they did during the last legs of the last price hike.

In our view, it is extremely difficult to predict exactly what is going to happen to oil prices over the next week or the next month. But one thing is certain - they are going to go up in the long term. There simply aren't any new large sources of supply in the last several years. But demand will keep on growing thanks to us here in India and China.

The latest data shows that in FY10 India missed her power generation capacity addition target for the third consecutive year of 11th five-year plan. As per the Central Electricity Authority, India added 9,600 MW of power generation capacity in this fiscal. Only two thirds of its target of 14,500 MW. The country had earlier slipped its revised capacity addition target by 23% during FY08. The figure doubled to 54% in FY09. And even this has now been crossed!

The world's second-fastest growing major economy after China thus has plenty of catch-up to do. It has set a target of adding 78, 700 MW of capacity during the latest plan period. It needs to add another 100 GW thereafter to fight frequent blackouts in cities and to electrify millions of rural households. We can only hope the supply shortfall in power capacity gets cleared soon and the deficits of this plan do not percolate heavily to the next.

Indian markets were closed today on account of Dr Ambedkar Jayanti. Other Asian markets closed largely in the positive with South Korea leading the gainers in Asia. European markets have also opened on a positive note.

 Today's investing mantra
"Investors should remember that excitement and expenses are their enemies." - Warren Buffett

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23 Responses to "The small cap rally may not be over yet"

ashok b

Apr 16, 2010

Buliders are making Merry, in badTimes Govt bails them out in name of affordable Housing they are Offering Flats at Super Bulit up,Selling Parking at Hefty sums. InName of Amenties Buliding GYMS, club house , play area and Charging for it. ******* the Middle class by Giving a **** of Product.


s suryaprakasam

Apr 16, 2010

Projections by the IMD have differed significantly from how the monsoons actually played out in the past:
There is nothing to feel ashamed in begging American or Europian Met Depts. to furnish their reliable data instead of depending on scale-wagers.



Apr 15, 2010

The dream of every Indian to have his own `makkan` after Roti and Kapada are taken care off, once the makkan is taken care off then if he is able to affort a surplus then they think of a bigger or a second makkan, hence there is always going to be good demand for affordable housing in this country bourging with a middle class equal to the population/buying capacity of whole of europe.
having said this I think the regulation in the price front should be such that it does not discourage fresh investment and at the same time does not take the gullible buyer for a ride - its high time we have a regulator like a SEBI for the real estate industry.




Apr 15, 2010

There is a strong indication that Reliance SEZ will do to housing, what it did to telecom. The 25000 acres plus land acquired for the SEZ with a 40% area allowed for non core activities..i.e housing, entertainment etc. will be used to launch an avalanche of houses in the range of Rs 9-12 Lakhs for 1200 sq ft houses with all the facilities which builders like DLF and UNITECh give. A top insider from the company, whose name I cant reveal , said that the Haryana Govt has been suitably 'mollified ' on this and they will be getting permission shortly for launching towers of 25-35 storeys each. This will revolutionize the market and cause a crash in the property prices near the nearby areas. This will in all likely happen around 2012.Their main objecctive is to debilitate DLF and UNITCH , who they feel are getting too big for their boots.



Apr 15, 2010

Is it that we cannot do anything on artificial price rise in real estate. Think we are at the mercy of builder lobby & politicians. They quote any price which they like and doesnt negotiate at all. Atleast govt should publish the count of property registrations done for city. This will give proper picture whether someone is really buying this high price homes.



Manoj Kumar

Apr 15, 2010

The kind of problem we are facing in the real estate sector shows that there is cartelisation, hoarding and whole lot of a gamut of problems. This sector calls for immediate and sweeping reforms. Firstly, the government's own agencies like 'city development authorities' are behaving like "for profit' business houses and on top of that these departments are neck-deep in corruption and are hand in glove with the big pocketed realtors. And both of them are out there for exploitation citizenry's genuine needs of housing (a need which besides having a roof on the head goes a little further ahead in providing a sense of security. There is a need of an independent regulator and protector of consumer interests like TRAI for telecom sector or SEBI for securities. Then there is the need of land reforms and softening of registration duties, modernisation of land records, transparency and some stimulus for competition.


Mahesh Soni

Apr 15, 2010

Your write up on disparity between the meteorological Deptt. prediction and actual rainfall is worth noting and IMD needs to improve the level of its forecasts.
However, another worrying thing on medium term basis appears to be constant decrease in average rainfall from 85 to present. This is more worry-some. If the trend continues, we have absolutely no other option but to go for afforestation, artificial recharge, building up small/medium size dams and above all avoid wasteful use of available resources.

Building up water resources for irrigation/power through construction of dams is getting very very difficult every day in view of the skewed policies of the environment ministry and, more worry-some, throwing spanner in the project by vested interests (like NGOs and other political groups). This needs to tackled urgently.


Chandrashekhar Vaidya

Apr 15, 2010

I think every business and businessman is keen on maximising earnings in the long term. We have seen industries including steel which did not entirely pass on to the customers the savings made from drop in input costs. So, it seems unfair to taint every real estate company with the same brush and accuse the industry of being greedy.
What should be questioned is the unfair practices followed by many developers including lack of transparency in area charged for vs area delivered for residential flats, role of black money and hobnobbing with politicians. A case in point is the large development at Powai on land reserved for small area flats which was developed as luxury flats and the 'fine' imposed for such flagrant violation of the basic condition brought down by politicial bosses.


Yatindra Kumar

Apr 15, 2010

Sure, your view is pragmatic.
there are two major aspects.
If a Realtor has to buy parcel of mland today and build, the finished product is certainly likely to be ery very high, depending upon the cost of the land plot which is subservient to factors like location, area development, access, availability of roads, drainage,power and so on and if the plot in those preferred or well provided localities is really available. It could cost nothing less than a 1000/- to almost 6 even 7000 a sft, state to state-town to town. add to that the cost of construction Cl B+ anywhere between Rs. 800/- to 1200/- psf; and/or Rs. 1200/- to almost 1800/- psf for cla A and A+. so, someone looking for this kind of housing must be prepared to pay min about 4000/- to nearly 6000/- psf on the average in a Tier B town like Pune/Bangalore which in reality are no longer Tier B; and that too, not really the very top of line.

Now is the case of the lucky Realtors.
These are the people who came from typical business class and had lots of foresight during the period of Late sixties till eighties when the lands were easily available at most sought after locations in towns of choice and the Middle Class was just about coming up.
These businessmen typically came from the background of established grocery merchants (assured returns capable for savings), distributors, property agents and; surprise of surprises; the brilliantly mechiavallena Members of the municipal Staffs dealing with lands, projects, approvals and so on, who cleverly partnered with the money Bags and cornered these lands in huge lots at prices as littl as even lesser than alakh an acre at the best.

These bright people are the ones minting money today and really have no reason to take the poor consumer for such a ride because their investments, even if ten times indexed and then interests etc applied, do not come up anywhere near to the kind ofprices they are charging.

In short a clear case of hoarding property in connivance of the officaldom at the State as well as municipal Levels.

Majority of the successful and effluent Realtors today are these.

But then, who is a poor consumer when our very dear and exalted Dhoti-topi-wala Leaders very much connive and support this lobby.

Days that a Lower Middle class Person buy a flat, are gone; last chance was around up to 2003 or even 04 or so, now the prices are 3-4 times of that level.

Lt. Col. Yatindra Kumar, Retd
Civil Engr
Management Consultant



Apr 14, 2010

Every one knows there is nexus between politician and real state companies. Any other business has margin/profit of 10 to 15% where as real state has 200%. I think goverment should drop any tax breaks if anyone is buying second house. taxes should be very high if anyone is buying second house. houses which cost more than 25 lakh should have tax rate of 50%.Everything will fall in line

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