Will stocks outperform bonds?

Oct 28, 2011

In this issue:
» Stalled infra projects on the rise
» Will the global economy reach its growth limit by 2012?
» What's the recent Eurozone deal really all about?
» How have the Ambanis fared over the last one year?
» ...and more!
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While economists around the world are worrying about the fate of the global economy, renowned author of Gloom, Boom and Doom newsletter, Mark Faber, has made a bold prediction. According to him, stocks are set to beat bonds over the next decade.

His argument, which pertains to the US economy, is not difficult to understand. When there is too much money in the system, it tends to pump up prices of riskier assets. In his words, "When you print money, everything goes up at different times, different asset classes." The interesting part here is that the US economy may actually not do well during this period. In fact, the after-effects of past excesses will inflict a lot of pain on both businesses and consumers.

Unfortunately, the US Fed has only made things worse by postponing pain by recklessly printing money under the garb of the more sophisticated term 'quantitative easing'. Two rounds of money printing have taken place so far and a third round seems pretty much in the offing. With interest rates kept close to zero and sovereign default risks on the rise, putting money in government bonds may not be a great idea after all.

Though Mr Faber's remarks are concerning the US economy, there is an important lesson for Indian investors as well. Let us elaborate our point. The inflationary concerns at home coupled with uncertainty and chaos in the global economy have scared retail investors out of stocks and into safer options like bonds and fixed deposits. At the face of it, returns on these instruments may seem lucrative given that nominal returns are hovering close to double digits. But if you account for the high inflation, your real returns may actually be negative.

At such a time, investing in fundamentally sound stocks that have pricing power would prove to be a lot more rewarding than bonds in the long term.

Do you think stocks will outperform bonds over the next decade? Share your comments with us or post your views on our Facebook page.

 Chart of the day
Simple economics suggests that rising interest rates would tend to hinder capital investments. The maxim seems to be manifesting itself in the Indian macroeconomic context. Today's chart of the day shows that the quantum of infrastructure projects being stalled in Indian have been steadily rising over the last one year, very much in tandem with rising interest rates. But rising interest rates is not the only factor to be blamed. A host of other factors such as land acquisition problems, lack of environmental clearances and shortage of critical resources are keeping investors at bay.

Data source: www.livemint.com

A small prediction to begin with. Come 2012 and the global economy will run into a potentially huge wall. In other words, the limits to global economic growth could be reached as early as next year. This may sound like a prophecy of Nostradamusque proportions. The only difference being that this one is based on some solid scientific grounds. You see, way back in 1972, a book called 'Limits to Growth' came out and foretold that on account of a rapidly growing population and finite resource supplies, the global economy could come crashing down somewhere between the year 2010 and 2075.

So far so good but what makes us think that the day of financial reckoning could come as early as next year? Well, it has to do with the various weak links in the global economic chain currently, waiting to snap in unison and real fast at that. Examples that come to mind are high oil prices, US Government debt limit, Euro crisis and the Chinese debt problem. It could even be the conflict between need for greater resources and pollution issues. This list by no means ends here. A lot of other factors can also upset the applecart, thus highlighting the vulnerabilities in the system right now. What makes matters worse is the fact that the book did not take into account debt issues and also the impact that high price of one resource like oil could have on demand for another resource. Thus, the doomsday draws closer and threatens to snowball even more if these factors are taken into account. Clearly, it looks like a dangerous world out there.

The global stock markets have cheered the latest Eurozone deal. But what exactly is this deal? The Eurozone leaders negotiated hard with the creditors to Greece, result being that the creditors decided to take a massive hit to the tune of nearly 50% of the face value of their Greek debt. This means that the Greek debt has been lowered, at least in book value, thanks to the benevolent creditors who have agreed to take a massive loss on it. So this would mean that the creditors, mostly banks, would become bankrupt? Not really. The Eurozone has given them a lifeline in the form of a huge bailout of Euro 106 bn. This would be used to recapitalise and thus strengthen the banking system in the zone. And last but not the least, a Euro 1 trillion firewall has been created to ensure that such a crisis does not get repeated in the financially vulnerable countries like Italy. The result- everyone is happy. The banks, the Greeks, the Eurozone and by the looks of it the global investor community. But what will happen next? Greece still owes a huge amount of money. Unless they learn to live within their own means and cut back on the expenditure, it is doubtful that they would ever be able to repay the debt. But they needn't worry. The 'Euro' obsessed Eurozone leaders will simply bail them out.

Corruption scandals and the lukewarm growth in profitability have seen Indian investors lose a whopping Rs 17 trillion of their wealth since last Diwali. As per Forbes, global slowdown has eroded 20% of the total value of the country's 100 wealthiest in the last one year. However, there has been a stark contrast as far as the performance of two Ambani brothers is concerned. While Mukesh Ambani retained his top spot with a net worth of US$ 22.6 bn, his brother Anil Ambani, was the biggest loser seeing his net worth erode to US$5.9 bn. That's a staggering fall of US$7.4 bn in a year. As far as the overall list is concerned, it may be noted that out of the 85 alumni from last year's list, approximately 66 saw their net worth drop this year. It would be interesting to see how Samvat 2068 pans out for Indian stock markets in general. With the interest rate cycle nearing its peak and global sentiments improving after the recent European bailout, we might see some fresh names on this list next year.

Funding constraints have been one of the many hurdles for India's infrastructure dreams. However, private sector and foreign funds have been amongst the biggest contributors to infrastructure projects over the past few years. The Eastern Dedicated Freight Corridor is a critical project that can ease India's logistical problems. It will help faster and more efficient movement of raw materials and finished goods between the northern and eastern parts of India. At a time when liquidity cost in the domestic economy are nearly at its peak, the U$ 975 m loan from World Bank for the rail corridor project could not have been better timed.

The Indian Railways urgently needs to add freight routes to meet the growing freight traffic in India. Given the cost efficiency of rail transport, the freight traffic is projected to increase by more than 7% annually. Dedicated freight corridors (DFC) will not only meet this growing freight demand, but also decongest the already saturated rail network. We hope that sectors like cement that have been a victim of logistical bottlenecks really benefit from a timely execution of this project.

In the meanwhile, the Indian stock markets were trading firm throughout the trading session so far. Positive global cues from the recently held EU meet resulted in all the sectors registering handsome gains led by metal and realty stocks. At the time of writing, the benchmark BSE Sensex was up by 215 points (2.9%). Among other markets, Asian stock markets reported gains. Europe too, opened on a positive note.

 Today's investing mantra
"The key to making money in stocks is not to get scared out of them." - Peter Lynch

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2 Responses to "Will stocks outperform bonds?"


Oct 28, 2011

It may be possible that for a short period (may be a year or so)the bonds out perform stocks, but in long run and cumulatively for a decade stocks will outperform. Absolutely no doubt about that.



Oct 28, 2011

It is highly acceptable thoughts that investing in equity is always gives better returns. But the question is right stock at right time and right price. I agree that no one is operate the market but participate in the operation of the market. It is true that investing in dept for a long time investment gives more or less same return as equity in addition to safety and secure.

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