Is this asset class ripe enough to crash?

Jul 7, 2011

In this issue:
» Developed nations are highly indebted
» Sensex to touch 22,000 by the end of 2011?
» Extending Subbarao's term is logical
» India's fuel subsidy bill rises further
» ...and more!
----------------------------- A Good Time To Sell Bad Stocks -----------------------------

It's never too late to get rid of 'bad stocks'.

After all, you never know how bad a market crash could get.

But what are these 'bad stocks'? How do you identify them?

For answers to these questions, and more,click here to read on...


What goes up at a dizzying pace has to come down at some point. And that seems true for commodities as well. After softening in 2009 as a result of the global financial crisis, commodity prices enjoyed a meteoric rise. This was due to a number of factors, chief among them being the strong recovery exhibited by emerging economies such as India and China. So robust has been the appetite for growth that this translated into huge demand for commodities and metals thereby driving up prices as well. Not just that, speculators and investors joined the bandwagon too in anticipation of a prolonged bull run in commodities.

But the sustainability of this strong run in commodities is now being questioned. In this regard, investor and author Gary Shilling is of the view that commodities are not only about to end their bull run but are going to come crashing down. And one of the main reasons for this has been attributed to the likely slowdown in China. Indeed, the Chinese economy is battling inflation and its government has been raising interest rates to tackle the same. This is bound to have some negative impact on demand as well as profitability of companies. At the end of the day, there is only so much that China can consume. And as its economy enters the cooling phase, it will no longer needs as much oil, base metals and other commodities.

For India, meltdown in commodity prices would certainly be a big boon for India Inc. India, too is grappling with high inflation. The central bank's rate hiking measures have begun to weigh heavy on the profitability of companies. In such a scenario, high input prices have further compounded woes and a softening on this front will certainly be a welcome relief for companies. But while it seems that a fall in global commodity prices is inevitable, when that will happen is anybody's guess.

Do you think that commodity prices are likely to crash anytime soon? Share with us or post your comments on our Facebook page.

 Chart of the day
Debt in developed countries have assumed gargantuan proportions post the global financial crisis. As today's chart of the day shows, Japan, US and some European countries had a very high percentage of gross government debt in 2010. And while cutting this debt down is the obvious solution, actually implementing the same may not be that easy. Take the case of Japan for instance. Debt will have to reduce by around 30% for the debt to GDP ratio to come down to around 60% of GDP by 2026. Indeed, the outlook for these nations looks quite grim.

Data Source: The Economist

"Sensex will touch 22,100 by end of 2011". This is a statement made by Nomura Asia, a leading investment bank. Nomura's top officials opine that Indian companies are global in their operations and focus. As a result, they stand to benefit hugely from the global recovery. This in turn would boost the companies' performance. And all that would give an upward push to the stock prices and eventually the stock markets. Reading such news articles is bound to boost investor confidence. But we would advise investors to turn cautious when such bold announcements are made. These create a general euphoria that leads to sharp incline in stock prices. But most of the times, the price increase is just due to the herd mentality of the stock market players. It is in no way justified by improved company fundamentals. And we all know what happens when the euphoria wanes away. Stock prices correct sharply when that happens. So it is better for investors not to get carried away in the flow. It is better to identify fundamentally sound companies and keep buying them at attractive valuations. That is the only way to maximize returns in the long term.

India owes a lot to its key financial regulators - the RBI and the SEBI. Especially at a time when global markets are in a state of turmoil and the Indian government is trying to salvage its graft stained reputation. The regulators have been at their best trying to protect the economy from the maladies in the West. Balancing growth and inflation, keeping a close watch on capital inflows and streamlining investments have been at the top of their minds. These have ensured that despite the near term headwind of high commodity prices and lower growth, the future is not all bleak for India. The RBI in particular deserves a mention for being the key reason for India resilience to economic shocks. While the attempts to rein in inflation may not have been very successful, the proactive nature of RBI's warnings to Indian banks on risk exposure can hardly be bettered. In such a scenario, allowing the RBI governor Dr Subbarao an extension of his tenure over 3 years seems to be the most logical thing to do.

In India, a vast majority of domestic savings are held in bank fixed deposits. This is considered a safe investment. But, over time it is expected that individuals will discover that holding money in mutual funds is beneficial, and will help them multiply their money over the long term. More than 20 years back, UTI funds were the only available mutual funds. But, now there are hundreds of different schemes to choose from.

Now, while Indians trust their friendly neighborhood bankers, are mutual fund managers to be trusted? What strikes us as a surprising fact is that while one needs a certification by SEBI to 'distribute' mutual funds, no qualification per-say is needed in order to 'manage' one. So how important is a fund manager in the scheme of things? Most big mutual funds have various processes in place in terms of an army of analysts, and researchers. Some passive funds, just benchmark their investments to a certain index or benchmark. These are thus more dependent on IT and software systems. But, there are funds which are actively managed, and where your hard earned money lies at the mercy of the fund manager. He can decide his allocation to various sectors, when to buy and sell stocks, and what kind of stocks to invest in. Stock picking does require certain skills and qualities. Maybe some guidelines like minimum experience in the money management field, or some certified training will help ensure that your money is in safe hands.

Well, this news is nothing new. The country's fuel subsidy bill has risen again. Despite the recent fuel price hikes, India is expected to incur an additional under recovery worth Rs 300 bn over and above the budgeted amount for FY12. The subsidy given in the budget was peanuts as compared to the huge expenses seen in the past and has already been exhausted before the end of second quarter itself. An amount of Rs 250-300 bn is likely to be offered in monsoon session of Parliament that commences on August 1. The relief offered assumes oil prices below US$ 100 a barrel which is unrealistic. This is also not commensurate with the paltry relief of Rs 50 bn on account of the recent fuel price hikes.

Hence, we will not be surprised to see another round of price hikes for fuels. However, this will only raise inflation and hurt growth rate of the economy. But the other option is no good. Leaving fuel prices unchanged will shoot India's fiscal budget deficit well beyond the targeted 4.6% and lead to higher debt. A higher fiscal deficit will push inflation anyhow.

So, is there a way out of this catch 22 situation? While the main culprit, crude oil prices, remain beyond India's control, we believe the best that the Indian Government can do is to be realistic about the subsidy grants. While uncertainty in the oil prices will stay, it can at least announce a clear subsidy sharing mechanism so that the stakeholders can plan accordingly. This will only help the Government in its alternative disinvestment plan to control the deficit.

The Indian stock markets have been trading strong throughout trade today. At the time of writing, the benchmark BSE Sensex was up by 209 points (1.1%). All sectoral indices were trading in the green led by FMCG and Capital Goods. Asian stock markets were trading mixed with Indonesia and South Korea leading the gains. However, China and Taiwan were the major losers. Europe has opened the day in the positive.

 Today's investing mantra
"The primary test of managerial economic performance is the achievement of a high earnings rate on equity capital employed (without undue leverage, accounting gimmickry, etc.) and not the achievement of consistent gains in earnings per share." - Warren Buffett

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9 Responses to "Is this asset class ripe enough to crash?"

deepak sheth

Jul 7, 2011

take it as a gift of modern trading tools and technicals which often lacks sanity if not lunacy the financialisation of co mmodities and ETF route of investments has attracted lot of non serious players in commodity arena which not only distorts the price mechanism but plays havoc by creating artificial levels of valuations and pushing out the serious players and evaluators out of the market mechanism for an extended long period thereby harming the society at large and prevent people from any valueaddition to their skills of pricediscovery . so one may better stop forecasting any rise or fall in commodity prices and be a spectator to the modern pricediscovers


Agnel Pereira

Jul 7, 2011

The so called experts talking about a crash in commodities are day dreaming! They dont really know the ground level revolution taking place in India and China and how many multi millionaires these countries are creating. Just see how these countries' stocks are faring. Just see how quickly Gold and Silver came back. These experts are also not aware that the commodities that they are talking about are:
Not abundantly available;
Once purchased, are rarely resold (except for traders and speculators) and for oil, are consumed and finished;
India and China's obsession for Gold is unimaginable - in India alone, no festivity or a marriage is complete without a heavy investment in Gold;
So there could be some price corrections from time to time (10-15%), but the track of their prices is upward for a long term without any doubt.



Jul 7, 2011

I dont have anything to say adverse to your reco to extend RBI Governor Dr Subbarao's tenure. Infact his continuity will offer prolonged stability, instead of an induced short term nervousness, irrespective of likely policy leanings or status quo of a new Governor.

Yet, your portrayal, crediting Dr Subbarao for policy wisdom which is an envy even amongst other central banks (notably of developed economies & notoriously Alan Greenspan the Central banker who drove the Fed & US down the tube!) is, I think, misplaced. All credit should go to Dr YV Reddy, for steering India away from the abyss created by Greenspan for not just US, but for the whole world to fall.

No doubt, as a trusted lieutenant, Dr Subbarao stays the course charted by Dr Reddy (and I am sure, Dr Subbarao as an understudy, also played a role in authoring the RBI policies thru those difficult years of DR Reddy's tenure!).

Hope, the blue turbaned Dr is not compelled to bring in a politician like SM Krishna (in the name of fresh air, outside wisdom et al, euphemism for Coalition Dharma - take a look at the umpteen thoroughly unfit MOSs around the place, to ruin RBI's hard earned respect & stability & deny India Inc an opportunity to recover without pain thru the high inflation, high interest rate & high input cost regime.



Jul 7, 2011

It will not crack down.Slightly come down.This is the thing which never ripe nor remain too green to bite.


sastry tejomurty

Jul 7, 2011

About your advice to invest in Mutual funds instead of keeping money in Fixed deposits, I beg to defer. I had the bitter experience of investing in several well reputed fundswhich gave me huge negative returns. What irks me most is while the Asset mangers collect fixed fees ( entry, exit, annual etc.,) they are not obliged to be accountable in anyway to the investor, while they make a packe( by way of huge pay, bonuses etc to the extent of even Rs 1 Cr.). I tried even private eqiuty investment ( 25 lakhs ) Even that was a miseable failure. The problem seems to be that these asset managers do gambling with a semblance of eductaed guess work and create huge hype regarding their abilities. Indian stocks are volatile beacuse of foreign investments, and fundamentals and logic does not work.



Jul 7, 2011

Eq . Master Team,
Your above quesion reminds me to respond with an apt analogy as under ::

In the good olden daysof yore (in the absence of the latest laser SURGERY to remove cataract OF THE EYEs ??)
the Eye surgeon after detailed examination will advise the patient to come after some time as it is " not ripe enough " to be operated upon ??

Similarly the asset class(commodities)are not yet
" ripe enough" to be operated upon (to cure them from the disease/illness) of the impending CRASH ??

I hasten to conclude !!


shome suvra

Jul 7, 2011

The commodity price index of India to be followed.


Nandan Shah

Jul 7, 2011

China plans to build 36 million affordable homes over five years. Will it not require commodities?


anupam garg

Jul 7, 2011

oh sure, sensex will touch 22k...somethin like this was gonna happen by the end of last yr as well na...wht happened to those reports which predicted of a gr8 correction after tht false hope i kept aside my money with patience, hopin correction will come...but now even my parents r troubled by my plans & logic, as the mkt keeps movin up.

i submitted em a watchlist of 32 stocks (which i thought wld never go up) but 26 of em matched, rather surpassed the expected returns...m being asked 2 engage myself, the concern of family is logical...i somehow managed to buy time till end of july claimin tht a correction will happen...come august, my money's association with the watchlist is certain coz even i don't wanna lose out on the rally...the herd may b goin in the wrong direction, but i dont hav a choice, rather m forcibly left with none...May Nomura b right!!

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