Are you reading 'lies' in the name of economic data?

Dec 7, 2011

In this issue:
» Zero returns on US stocks over next 10 years!
» Millionaire farmers in barren Rajasthan
» FCCB problems continue to haunt India Inc.
» Income inequality doubles in 2 decades
» ...and more!
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Name any value investing genius, be it Buffett, Munger or Lynch, each has expressed his disapproval of exhaustive analysis of economic trends. Not that either of these men are oblivious to GDP (Gross Domestic Product) growth numbers, inflation or interest rates. But they do not find these worthy of occupying disproportionate man hours, especially when it comes to finding good stocks. But if the views of yet another stalwart, Jim Rogers, is anything to go by, reading economic data, especially that coming from most of the developed world, may be a waste of time altogether. That is because Rogers claims that most of them are 'lies'.

That the Chinese government is known to be extremely secretive about sensitive economic data is a well known fact. In fact economic data coming from the dragon nation are at best taken with a pinch of salt. But economies like the US are known to be not just transparent but also the most regular and frequent dispensers of economic numbers. Hence Rogers' claims about the US government faking inflation and unemployment data come as a shocker. Meanwhile, Rogers also suspects that the US' debt problems are far more disturbing than that of the Eurozone. Hence the sugar coated economic data may help in keeping markets buoyant for a temporary period. But eventually the numbers will show their true colour.

We believe that not just the US, Europe or China, but investors anywhere in the world cannot rely too much on short term economic buoyancy. Also taking into account the fact that we live in a cohesive economic world, stress in one part is bound to have some impact n others as well. Hence instead of focusing on the lies that show up in the name of economic data on pink papers every now and then, a diligent and exhaustive analysis of businesses, managements and valuations can help you build a safer long term portfolio.

Do you focus on short term economic data for stock investing? Let us know your comments or post them on our Facebook page. / Google+ page.

 Chart of the day
While it is a known fact that governments are amongst the biggest employers globally, some privately held entities like Walmart and Mc Donald's have also made a major contribution to job creation. While the US Department of Defense employs 1% of the nation's population, Indian Railways despite being one of the largest employers globally, has less than 0.5% of the country's population on its payrolls.

Data source: Economist

Bubble spotting specialist Jeremy Grantham is at it again. The man, who has painstakingly studied bubbles in most asset classes over the past century or so, has a rather freakish prediction to make. He has argued that it is highly unlikely that the US stocks will give positive returns over the next decade. In other words, an US equity investor looking to invest from a 10-year perspective will not make any return whatsoever. Now, that's scary isn't it? But what gives Grantham the confidence to make such a prediction? Well, his study on bubbles has led him to believe that it takes on an average around 14 years for any bubble to bust and return to its past trend. The reason the previous two stock market collapse of 2002 and 2009 recovered quickly was because of the aggressive monetary policy adopted by the US Fed. But with the US central bank running out of all ammunition now, there is very little chance the stock markets could be prevented from collapsing and entering a decade long bear market. Quite a strong argument we should say.

An American oil magnate had once said that "Formula of Success: Rise early, work hard, strike oil". This formula seems to have worked big time for the farmers in the Barmer district of Rajasthan. They did rise early and worked very hard to make a living on the barren, desert lands that they owned. But all that has changed as Cairn India struck oil in the region. To add to this are the huge deposits of lignite that JSW Energy has decided to mine from the area for their 1,080 MW power plant in the region. The two companies have jointly paid nearly Rs 100 m to each of the 750 farmers in the area for their land holdings. Most of the farmers have relocated to other areas and bought land parcels at cheaper rates to continue their livelihood of farming. And they are still left with huge corpuses of cash. This has now made the region one of the hot spots for consumer companies to focus on. The riches have attracted consumer goods manufacturers, auto companies as well as insurance agents by the dozens. This is something that all politicians who have objected to land acquisitions by companies on the ground that this would rob the farmers of their livelihood, should read. Land acquisition if done in a fair and square manner can actually be beneficial for both farmers as well as the companies. The only ones who don't benefit are the politicians because they are unable to create a political agenda through their hue and cry.

As if domestic problems weren't enough for our economy, a foreign problem is beginning to give Indian companies many a sleepless nights. The name of the problem is foreign currency convertible bonds which are, in short, referred to as FCCBs (Foreign Currency Convertible Bonds). First let's understand what the term means. FCCBs are bonds with the possibility of converting into equity if the share price of the company reaches a certain conversion price promised by the issuer before the maturity date. However, if the conversion price is not reached within the given time, the issuer has to treat the bonds as debt and redeem them. These FCCBs are traded on foreign stock exchanges. The price of the bond and the yield are inversely related to each other. Here yield is the cost the company has to pay for the debt. Now getting back to the problem, foreign investors have been offloading FCCBs of Indian companies. The reasons are the significant decline in the Indian stock markets, the steep depreciation in the rupee and the weakening economic outlook. So when these investors dump these bonds, their price falls. As a result, the yield or the cost to the company shoots up. This means that there is a bleak chance that the bond will get converted to equity. In that case, the company has to not only pay a higher interest (i.e. higher yield), but also redeem the bond at maturity (in simple words, paying back principal).

Now the worrisome part is that as many as 60 separate FCCB issues are due for redemption in the next 12 months as per a certain financial firm. And the redemption amount is a staggering US$ 7 bn. While most large caps would be relatively less affected due to their forex hedges, many small and mid cap companies are not well-protected and may face some serious issues in redeeming the bonds. Investors would do themselves good by scrutinising such companies well before investing in them.

The aviation industry in India that has long been saddled with huge debts and cash crisis could get some relief as the proposal that foreign fliers can acquire 26% stake in domestic aviation companies gets passed by finance ministry. However, the offer comes with a catch. This is because the as per new takeover code, on reaching a trigger of 25%, the acquirer will have to go for an open offer for another 26%. This could lead to the foreign fliers owning up a majority stake in the domestic airlines, thus defeating the purpose as far as interests of domestic airlines are concerned. While civil aviation ministry is pressing for a 24% cap to mop up cash resources without losing the majority stake, it might not be good enough to lure foreign investment. With such conflicting issues, we believe it will take longer before a final call is taken and till then the industry will have to keep its fingers crossed.

Income inequality in India is growing by the day. At present, the top 10% wage earners get 12 times more salary than the bottom 10%. This ratio was 6 times in 1990s. In the last two decades, India is the worst performer in terms of rising inequality among all emerging countries. The main reason for this rising income inequality is increase in the difference of wages earned by regular and contractual employees. Disparities in access to education and prevailing under employment are driving this difference. Among all emerging economies, India has the highest share of under employment. And the Indian government spends just 5% of the total Gross Domestic Products (GDP) on social protection schemes. This is all connected to our tax regime as well. India's tax collection is below 20% of its GDP, almost half of the developed economies. Hence Indian government must prioritize two things -tax reforms and access to education, if at all they want to curb the rising inequalities.

After starting off on a buoyant note, the indices in Indian stock markets managed to hold on to the momentum today backed by buying interest in technology, power and commodity stocks. At the time of writing, the BSE Sensex was trading higher by 153 points (up 0.9%). Indices across other key Asian markets also closed higher while Europe has opened on a positive note.

 Today's Investing Mantra
"The financial calculus that Charlie and I employ would never permit our trading a good night's sleep for a shot at a few extra percentage points of return. I've never believed in risking what my friends and family have and need in order to pursue what they don't have and don't need." - Warren Buffett

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6 Responses to "Are you reading 'lies' in the name of economic data?"

Adi Daruwalla

Dec 8, 2011

It is good that the farmers get (fair) and square money and work, and the companies buying lands dont cut corners. The saying goes If you want (fair) and square work, then dont cut corners. The politicians dont need to be middlemen and get cuts, they better break the log jam that is prevalant in parliament. Also after the farmers are paid fair and square there should be some rural financial advisory services that help them to reinvest in land and other financial instruments to secure their (farmers and their families) futures.


Apares Chaudhuri

Dec 8, 2011

The total situation is very confusing. Can't believe anybody, be it govt. or pundits.everyone is out to be-fool others. No one cares about others. The future looks doomed. Need of the time is a great social reformer,to help us out of this recalcitrant greedy world.



Dec 8, 2011

Income inequality will persist as long as the unions and staff associations in the organised sector be it banks, industrial establishments or the central and state governments relentlessly fight for more wages and the government is only too willing to pamper them to implement the politicians' plans for the next elections.
This will go on reducing the rich poor gap still further. The bottom ten per cent then will fight for its rights and a social unrest will breed civil disturbances. The government is not ruled by far sighted people. There is too much democracy in India as the past Malaysian Prime Minister Mahathir Mohamed has opined and the clamour of the vested interest groups will not allow progress of any kind. More is not better should be our motto as far as money is concerned otherwise India will also face debt problems like the other more developed nations sooner or later.


dev golchha

Dec 7, 2011

It was highly insightful to read your article named "Are you reading lies in ......economic data?"


Abhay Dixit

Dec 7, 2011

Chinese Economy is growing at breakneck speed for so many years. Why is the Chinese Market no going anywhere?

Should the GDP growth not reflect in market cap?


Tomas Estrada-Palma

Dec 7, 2011

No. I don't buy stocks at all. That would be like investing with the mafia.

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