Another sign of an emerging market bubble

Aug 31, 2010

In this issue:
» Which country enjoys the most visa free travel?
» High profile hedge funds are taking it slow
» Economic crash seems imminent in China
» Global M&As have seen a rise this quarter
» ...and more!!

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Over the years, imbalances in the global economy have steadily intensified. This has been on account of the Western world consuming more. And the emerging markets choosing to save instead. And so today, while the developed world is mired in debts and deficits, the emerging nations have more surpluses than they can handle. Interestingly, demographics have also played an important role in determining imbalances. Take the case of the age group 35-69. People in this group are labeled as 'prime savers'. This is because they have the tendency to save more than they spend.

Now, the latest Goldman Sachs economics paper has cited that there has been a rise in the prime-age savers globally. This has led to what has been called a 'savings glut'. This has exerted downward pressure on interest rates in the last 20 years. For the developed markets, the share of prime savers is expected to peak much earlier (around 2016). For the emerging markets, this peak could occur sometime in 2032. But what it basically means is that with the savings glut becoming larger, real interest rates globally could remain low for some time to come.

Countries across the world have had a bitter dose of the ill effects of low interest rates. The global financial crisis is a perfect example of the 'irrational exuberance' that was fuelled by a low interest rate regime in the developed world. If surplus savings remain a feature marking the emerging markets for some time in the future, does that mean that we could see huge bubble forming, this time in the emerging economies? Certainly a scenario one cannot easily dismiss.

 Chart of the day
Rise in visa fees for working in the US has become a contentious issue with Indians especially in the IT sector. Not just that, while China and India may have slowly increased their clout in the global economy, there are certain privileges that they still do not enjoy. Take the case of countries which enjoy the most visa travel around the world. As today's chart of the day shows, Britain takes the cake as it does not require visas for around 166 countries. In stark contrast, there are hardly any countries for which Indians do not require visas.

Data Source: The Economist

A lot of business models have fallen by the wayside in the aftermath of the global financial crisis. The hedge fund industry is certainly vying to be one of those. Economist reports how a couple of high profile hedge funds are all but effectively shutting shop. Indeed, investors in hedge funds are getting increasingly nervous. They are no longer willing to accept that their investments remain covered in mystery. The Bernie Madoff scam and the subpar returns from hedge funds in the past couple of years have only added more fuel to the fire. Besides, the authorities also seem to be hot on their trails. Stricter regulation and increased oversight is going to be the order of the day.

There were two things that made hedge funds more appealing than the normal run of the mill financial institutions. These were lax regulations and above average returns. As discussed above, both these advantages have gotten diluted to a great extent post the crisis. And so has been the appeal for hedge funds. Thus, is the hedge fund industry, as we knew it, on its death bed? Well, only time will tell.

"Fed will print and print and print until the final crisis." These are the words of Marc Faber, also known as Dr. Doom. Faber is of the view that the US Federal Reserve will create a big crisis by continuing to print dollars. This is given that the Fed is underestimating the weakness of the US economy. And when asked if the Fed policy is driven by concerns about deflation above all, Faber said, "They are very bad forecasters of economic events."

These days tons of newsprint is devoted to the possibility of economic crash in China. But nothing that we read until today was as grave as that highlighted in an article by Moneynews. The article brings forth the lopsided growth in the dragon economy. Millions of saleable houses, billions in trade surplus and trillions in forex reserves are not exactly reasons for China to be elated about. For the saleable houses (65 m to be precise) may find no buyers for years. The billions of dollars in trade surplus were achieved keeping the input costs artificially low. It therefore runs a huge risk of hyperinflation. The US$ 2.45 trillion of forex reserves were accumulated by buying dollars to hold down the Chinese Yuan. Poor fate of the US economy and the dollar can therefore ruin China's prospects as well. China is trying to undo some of these mistakes. But the fear is that it may already be too late. Thus the world's largest (US) and second largest (China) economies may be going in the same direction.

India is reeling under the pressure of high prices. Inflation has remained in double digits for a while now and has been a worrisome factor for policy makers. However, the impact of these rising prices has not been uniform in the country. A leading daily reported that the impact of rising prices has been the worst in the top food grain producing states of the country. The reason: the Government's decision to pay more to farmers for their produce. This works as a double whammy on inflation. On one hand it leads to higher prices as price paid for the grains is higher. On the other hand it also increases the disposable income in the hands of the farmers which lead to higher prices as well. As a result the leading food grain producing states like West Bengal, Punjab and Haryana have inflation rates closer to 20%. It is interesting to know that the government has decided to 'control' inflation, particularly food inflation, by raising the cost of producing that food. Sounds like a perfect oxymoron to us.

One of the benefits of a stock market crash is that valuable companies are available at affordable prices. It makes sense for investors to buy during such times. For the same reason it makes sense for companies to execute their acquisition plans. For this reason, it was widely predicted that the crash during the financial meltdown would lead to a wave of M&A activity. But it didn't quite happen. All that seems to be changing now. As the Economist reports, this quarter will probably see more M&A than any since the crash. Already, Hewlett-Packard has offered to buy 3Par, a data-storage firm.

Intel has just spent US$7.7 bn to buy McAfee, an antivirus-software firm. BHP Billiton has made an offer to PotashCorp, a firm that mines potash. In our view, as long as the acquisition adds value to the company, M&A is fine. Unfortunately, that doesn't seem to be the case. A key reason for the current M&A wave is that companies in the US and Europe built up stockpiles of cash during the crisis. Out of fear. if they don't spend them now, investors will demand payouts - higher dividends or share buy-backs.

After opening below breakeven, markets have continued to languish in the red. The BSE-Sensex was trading 156 points lower at the time of writing this, with declines across the board. Stocks from the FMCG space were the only ones trading flat. Realty and consumer durables stocks saw heavy declines. Sentiments were negative in the rest of Asia, with all major markets in the red. Japan was the top loser, down 3.5%.

 Today's investing mantra
"While enthusiasm may be necessary for great accomplishments elsewhere, on Wall Street it almost invariably leads to disaster." - Benjamin Graham

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5 Responses to "Another sign of an emerging market bubble"


Sep 4, 2010

lot to improve bt if early improve it gd


Pravin Patel

Aug 31, 2010

It is Dr. Nouriel Roubilni who is called Dr. Doom and not Marc Faber.



Aug 31, 2010

to good but not best.....



Aug 31, 2010

Indian IT industry is just making a big puss just for fees is just a miniscule percentage of the my opinion..any way this small increase will be charged to the client..

Regarding Visa for indians to enter most of the countries in the world ,it is a creation of Indian Govt..Though many countries are willing to relax ,indian Bureaucrat does not want that..A case in point is Canada.(some years back Indians did not require a visa to enter Canada..One may say many things but thereality is Indian Govt. itself wants restrictions for indians to travel...



Aug 31, 2010

your note says that a key reason for the current M&A is that companies built up stockpiles of cash during the crisis. Question is where did the cash come from? couldn't be from business operations obviously, as economic activity was markedly lower. So was the cash from liquidating investments or cashing out from the markets ? if in two years during the downturn they could build so much of cash, are they capable of doing many times better during the good times? Just curious!

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