Time to revisit lessons from US housing bubble

Nov 4, 2010

In this issue:
» Indian govt's debt reduction plan
» India no more 'call centre for the world'
» Industrial growth skewed by gas pricing
» World's most profitable metro rail's IPO plans
» ...and more!!

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The number of advertisements and messages from builders offering to book apartments at a fraction of the cost has multiplied in the past few months. Eager to cash in on the rise in real estate prices, builders are trying their best to lock in buyers before a correction sets in. Profit hungry banks have done their bit in encouraging the builders' ploy. They are willing to fund 90-95% of a project with negligible contribution from the buyer.

Mr Deepak Parekh, Chairman of HDFC, has come out strongly against a scheme offering booking against 10% down-payment on property value. Such schemes are being run by builders within days of acquiring the plot. Mr Parekh suggests that it is impossible for builders to get all approvals for the projects overnight. And that this is a ploy together by banks and builders to mislead the buyers. We could not have agreed more.

The RBI too has taken note of the speculative interests of banks and warned them against taking in excessive risks. While most banks have an 85% loan to value policy, the recent attempts to sideline such policies has irked the central bank.

Given the flood of hot money in Indian real estate and with more expected to come in after the Fed's third stimulus plan, risks in Indian real estate market are at an all time high. Investors hoping to gain from speculative bids in such markets would do well to take lessons from their US counterparts who have badly burnt their fingers.

 Chart of the day
At a time when banks are contemplating whether to pass on the RBI's recent rate hike, not all enjoy similar pricing powers. PSU banks for instance have had a legacy of regulated pricing to comply with the government's mandates. As today's chart shows, when it comes to the maximum rate of interest that banks charge on the riskiest assets, private sector banks have the maximum pricing power. This is because they are free of government interference on pricing and cater to a much larger customer base as compared to the foreign banks.

Data source: RBI

Debt. This four letter word is indeed sending shivers down the spine of economies across the world. And why wouldn't it? If used beyond reasonable proportions, debt has the capacity to seriously impair economic growth for years to come. And this is exactly what happened with most of the developed world. They took an overdose of it and are now suffering from its after effects. It seems India has also tried to take a lesson or two from this entire episode of excess leverage.

As per a leading daily, the Government is serious about a debt reduction strategy that would seek to improve upon the target already in place. If were to talk about numbers, then the Government is planning to lower the level of debt liabilities as a percentage of GDP to 43% by FY15. This is about 2% lower than the target already in place. If the target is indeed achieved, then it would ensure that interest rates stay lower, which in turn will boost both consumption as well as investment demand and ensure that economic growth comes in higher than normal. What more, this could also mean higher stock markets.

India, at one time, held a huge advantage as far as BPO services are concerned. This was primarily due to the low cost advantage that it enjoyed. Not just that, Indians were also considered good speakers of the English language. But the country has now lost its edge to Philippines, especially for voice based customer support. It is in fact believed that Philippines is set to become the call centre capital of the world. What had made the latter an attractive destination is that it has a much stronger affinity with the Americans, attrition rates are much lower than that in India and there are more tax incentives. Plus, the firms in the West themselves want to de-risk their revenues and not depend entirely on India. For instance, of India's total BPO exports, nearly 45% comes from voice-based work. This is expected to be around US$ 5.6 bn this year. However, the Philippines BPO industry will post almost US$ 5.7 bn of pure voice-based revenues in 2010, thereby overtaking India. US controls 65% of the world outsourcing market. Naturally, this is an important market for those dabbling in the BPO space. Although it may not be possible to wrestle the top slot from Philippines anytime soon, India will have to seriously find a long term solution to ensure that it does not entirely lose its edge in the BPO space.

The petroleum and natural gas regulatory board recently introduced a new system of variable tariff for natural gas transmission. As part of this, it has stipulated a switch to a zonal tariff system. This provides for an incrementally higher tariff after every 300 km from the source of gas production. India has so far followed a uniform tariff system. In other words, all consumers drawing natural gas from a pipeline have so far been paying the same tariffs for consuming gas. Irrespective of their distance from the source of natural gas.

The change in policy may ostensibly seem as a progressive move. However, there is a substantive argument against such a change. Some contend that this may take away from India's imperative of having uniform industrial growth across the country. This is because gas based industries will start crowding their operations close to the sources of gas. Thus causing uneven development across the nation. All in all, it shows the kind of complexities that exist in formulating public policies. Especially for such a large country. All new policies need to be discussed threadbare before implementation.

There have been recent reports wherein China has clamped down on exports of rare-earth-metals to Japan. Rare earth metals are metals that are essential for a range of new technologies like flat screen televisions, hybrid cars, etc. China currently controls 95% of the world's known sources of rare earth minerals. In July 2010, it came up with a statement that it would reduce export of these minerals by 40% as compared to last year's levels. Acting proactively, the Indian government has decided to allocate resources to find alternative sources of rare earth minerals within the country. The government will actively look for these resources and will also research the most viable ways of extracting the minerals from the resources. We commend the government's decision. It is better to be safe than be sorry.

The IPO market is expected to get a boost from today's listing of Coal India. So, while the government has lined up IPOs and FPOs worth US$ 8-9 bn over the next few months, also looking to tap the equity markets is India's most profitable metro train operator DMRC (Delhi Metro Rail Corp.). As per the company's Chief, Mr. E. Sreedharan, DMRC could go for an IPO in a year's time. As per reports, DMRC operates the only profitable metro system in the world and earned a net profit margin of 12% last year. Now, to broad-base its revenue stream, the corporation is also bidding for metro projects in other Indian cities.

Buoyed by the Fed's US$ 600 bn monetary stimulus, Asian markets across the board have seen an upswing in today's trade. The BSE-Sensex was trading 347 points higher at the time of writing this. Stocks from the auto, commodity and banking sectors saw the maximum buying interest today. Select telecom and pharma stocks have been out of favour. The European markets have opened on a cautious note.

 Today's investing mantra
"We never want to count on the kindness of strangers in order to meet tomorrow's obligations. When forced to choose, I will not trade even a night's sleep for the chance of extra profits." - Warren Buffett

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3 Responses to "Time to revisit lessons from US housing bubble"


Nov 7, 2010

Leveraging for a sound business plan is good for both the entreprenuer as well as the economy, but leveraging for quick speculative gains is bereft with risk and most of the cases will result in a very bad experience for the individual/company concerned which they hope to better forget. The experience of coal india listing gain is far in between and cannot be taken as a general situation. Housing bubble in india may not occur for the simple reason that not many banks give more than 70 to 80% of the property value and that to after vetting the applicants ability to pay. There have been instances after the software slowdown that banks refused to grant loans to software professionals as done earlier during the boom without verification and they started vetting the applicants as they do to any other applicant, I think the cautious nature of the PSU banks has so far kept the Indian financial system in good stead when all over the world they were facing a near bankrupcy situation.


cp sharma

Nov 4, 2010

excellent analytical skills at work.fantastic to read but to be read with an opposite view too.by 2020a.d,India plans to reduce unemployment ratio of less than 2%.just think of the development.....any sectors


sunilkumar tejwani

Nov 4, 2010

sir, few days back during IPO of Coal India, you gave example of an HNI leveraging himself 10 times to invest in IPO. 1 Crore:10 crores. Assuming he got 4% allotment i.e. shares worth Rs.4000000/ i.e. 16326 shares at 245, after paying interest @ 18%P.A which most broking/finance companies charge for IPO funding, interest cost works out to Rs. 355000/ for 8 days. on the IPO listing day the price hovered between 305-345,assuming he sold at average price at 325, the gentleman made a gross profit of 1306000/ after making interest of 355000/ he still managed to take home 951000/ not a bad return on his investment of 1 crore.
in 10 days time return of 9.5%.

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