'A wakeup call for India'

Jun 2, 2010

In this issue:
» Commodity players beware of China
» Will the bull market resume?
» India achieves some success in reigning fiscal deficit
» Lower crude prices relieve India's subsidy burden
» ...and more!!

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Most experts endorsing Indian growth story cite her savings rate of nearly 40% of GDP. Many believe that the US citizens could take some learning from Indian savings. Bill Bonner, the author of The Daily Reckoning is one of them. However noted economist and chief of Morgan Stanley Asia, Stephen Roach, has some stark opinions on this. Roach believes that it is too early for Indians to celebrate! In an article published by Economic Times, Roach has in fact given India a wake-up call. He believes that despite relatively stable economic prospects, India could be in for rude shocks. That is unless the economy concentrates on sustaining its savings and diversifying its exports.

Roach explains that the crisis of FY09 should serve an eye opener for India. No doubt, India is relatively resilient to global shocks. However, the economy's exports remain largely concentrated to Europe. A debt crisis in that region could therefore spell trouble for the Indian economy as well. Also, post crisis aftershocks could also hurt Indian economy if not dealt proactively. Here he primarily refers to a high fiscal deficit and a lower savings rate that could threaten India's investment led growth.

We believe that Roach's comments are well placed as well as well timed. Domestic consumption and high savings are the basic premise for long term investment in India. Investors would therefore do well to keep a close tab on these.

 Chart of the day

Data source: RBI, Economist, HDFC

These days we come across quite a few articles on the property bubble in-the - making in China. The rising prices of real estate in Indian metros are also a concern. However, the fact remains that Indians and Chinese are far less leveraged than their peers in the US and Europe. Take mortgage loans for instance. As today's chart shows, the proportion of mortgage loans to GDP in the US and UK dwarf that of India and China in FY10. Agreed the penetration of credit in the emerging economies is far lesser than in the developed world. However, it will be quite some time before mortgage crisis in the developed world transpires to the East.

It is time commodity companies like Rio Tinto and BHP Billiton take lessons on competitive advantage from none other than Michael Porter. Because they seem to be under a delusion. The delusions that they have the pricing power and hence, arm twist someone like China to buy their wares at high prices.

Their bargaining power is huge alright, but the bargaining power of the dragon nation is not very small either. It can easily throw billions of dollars at countries rich in natural resources and thus, get from them what it couldn't from iron ore companies at far lower prices. And this could be true for other natural resources like oil, copper and aluminium as well. Thus, while Chinese demand could well swell up the bottomline of commodity companies, the willingness of the dragon nation to increase supply, could also work against them. As a leading daily puts it, not all Chinese cash boosts commodities. And companies that depend on China for their growth could be realizing this the hard way.

"Buy stocks now because volatile market will skyrocket," runs a headline in a leading international financial website. The topic of discussion is Blackrock's view of the US markets that have been very volatile off late. Blackrock, as you know, is a leading global fund house managing US$ 3.4 trillion across several asset classes including stocks and bonds.

The fund house in fact sees two scenarios as possible. First is the global meltdown, with the Greek crisis morphing into a 'Lehman II' like situation? And the second is a quick resumption of the bull market that took the US markets up last year.

We see Blackrock's first view of a global meltdown as more realistic. Given the way the Greek crisis seems to be spreading across other European countries, this stands as a highly probable scenario. And mind you, India won't remain insulated from this fall-off. Of course there will be a price action ('correction' in simple terms). But we believe that such an event will provide investors here with one more opportunity (after March 2009) to get hooked on to good quality stocks at lower prices.

There seems to be a lot working in favour of the Indian economy these days. The latest in the offing is early arrival of monsoon. But before that the fiscal deficit number for FY10 has already brought in some relief. Fiscal deficit data for FY10 has come in lower than budget estimate, albeit marginally. At 6.6% of GDP, the fiscal deficit is a shade lower than the projected figure of 6.7% of GDP. The key to this cut back has been lower government spending on rural employment.

Given the stress the richest economies are going through, there is no getting away from the need to rein in India's fiscal deficit. Agreed, we cannot do it abruptly. Especially, given that the economy is yet to recover fully. But we need to make a beginning. However, we are not sure that rural employment is the best place to crack the whip. Oil, fertiliser and food subsidies are the most obvious examples of fiscal folly. Numerous expert committees have repeatedly shown how the subsidies do not benefit the poor. On the contrary, they lead to sub-optimal use of resources. However, they continue to find a reasonable place in the budget year after year.

One of the unintended benefits of the sovereign debt crisis in Europe is the effect it is having on commodity prices. Metal prices have been trending downwards in the past several week and so is the price of crude oil. In fact, crude oil prices have fallen by US$ 15 a barrel, which stands the Indian government in good stead as it tries to cut the worrisome fiscal deficit. It will also help usher in fuel price deregulation without an immediate political backlash. Earlier this fiscal, the average price of the Indian crude basket was US$ 83 per barrel. Now it works out to around US$ 70 a barrel. Sure, this is a welcome relief for the government. But in our view, the question remains what will the government do when crude price eventually spikes upwards. Something we believe they will over the long term.

Indian banks these days earn the envy of global banks. And why not? At a time when global banks are strapped for liquidity, their Indian counterparts are well capitalized. Also, at a time when banking profits are associated with trading, Indian banks are lending profitably. However, a closer look at numbers will tell you that all is not well with Indian banks. The numbers are reminiscent of the previous rate hike cycle. The overall asset quality of Indian banks has started deteriorating. The Indian entities endured a long and painful exercise of cleaning up their asset quality. However, they are once again facing problems sustaining the same.

The latest RBI data shows that the Indian banking system's gross and net NPAs have risen by 50% YoY and 25% YoY respectively. This certainly is a cause for concern. Banks can distort their NPA proportion by growing assets aggressively. But unless they check the quality of growth, their profits are sure to get eroded.

After a very volatile session, Indian indices have barely managed to stay in the positive today backed by gains in auto and IT stocks. Indian markets along with China are in fact amongst the few gainers in Asia today. The BSE-Sensex was trading nearly 86 points (0.5%) higher at the time of writing. European markets have opened on a weak note.

 Today's investing mantra
"The line separating investment and speculation, which is never bright and clear, becomes blurred still further when most market participants have recently enjoyed triumphs. Nothing sedates rationality like large doses of effortless money." - Warren Buffett

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5 Responses to "'A wakeup call for India'"

Manoj Mukhi

Jun 4, 2010

Inspite of all the experts advising our finance ministres to remove the subsidy , our politicians are not doing it because they get votes for showing the poor people that they are working for them & they get notes by diverting part of the money into their swiss bank accounts.Today there is a headline article in ET where our FM says that he will not commit to remove the subsidies.Very Smart.Mind you the Subsidy Bill is more than 1Lac Crore.(I dont Know how many zeros are in it.). Inspite of all the this our agri growth is still 0.7%. Loop sided developments then creates a problem like Naxals & Terror etc. I am sure we will have to pay a very heavy price for this wasteful expense in future.



Jun 2, 2010

I agree with Mr. Sampath, of not finding the paragraph mentioned in the headings.



Jun 2, 2010

i realy appreciate this newsletter. i am very eager to read this as soon as reaches my box i also have the same view of mr sampath



Jun 2, 2010

The assset quality of indian banks is not what appears to be. in fact the hidden NPA's of these banks is much more than what has been shown. there is a premium on concealment.the bank is able to show a prfit of rs. 25 on every 100rupees of npa concealed.one can have an idea about the npa from a simple figure.the govt of india has shelled out 80000 crore as write off in farm loan waiver .most of which were NPA's.but this amount was more than the the total npas of the banking system.what about npas in other sectors.no body is bothered about the asset coverage ratio of the advance of indian banks. if thorough scrutiny of the advances is carried out at least 25%of the advances will be under water.



Jun 2, 2010

I appreciate this News letter for the good content. I could not avoid reading this as soon as it reaches my mail box. Must read for the people who don't have time to Business News papaers.

One improvement point;

Pl provide sub heading for each paragraph to match the 5 headings you provide at the top.

The paragraph i want to read immediately after opening the mail is 'Will the bull market resume?' which i'm finding difficult to search out from various paragraphs.


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