»5 Minute Wrap Up by Equitymaster

On This Day - 28 JANUARY 2011
Are we too pessimistic about India?

In this issue:
» Soros thinks India's biggest problem is 'hot money'
» Indian banks to have cash problems?
» Small & mid caps shy away from equity markets
» Global managers gearing up for another global shock
» ...and more!!

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We all know how a few industry titans got together a few days back and shot off a letter to the Indian Government. Among other things, the letter talked about how these corporate heavyweights were at their wits end over complete breakdown of governance at all levels. In a rather interesting turn of events, this view has been questioned by another noted industrialist. Sunil Mittal, Chairman of the Bharti Group has opined that we Indians are becoming too negative about our own country. "India is a positive story today. It's growing at 9%. It is a trillion dollar economy. We need to keep our positivity intact", a leading daily quotes Mittal as saying.

Well, it is quite possible that Mr. Mittal is an ambitious and an optimistic gentleman and hence, seems to have overlooked some of the concerns plaguing India. It is also quite possible that the industrialists on the other side of debate are quite cautious and measured in their approaches and hence, the very same concerns bothered them greatly. As is evident, it is very difficult to arrive at an objective answer to this debate. There are very strong chances even our views are colored by how we think about things. How then should one approach the entire thing? To borrow the title from a recent book, we believe that we should be nothing but Rational Optimists. Too much negativity may not allow us to prepare solutions for the future whereas too much positivity may leave problems which are currently too small, too big to be tackled successfully in the future. And good governance is we believe one such issue. There is no doubt that this issue is being swept under the carpet by robust economic growth and strong demographics. But if not tackled at the right time, it could be the key reason behind India not realizing its full potential in the times to come.

Which side of the debate are you? Share your comments or post your views on our Facebook page.

 Chart of the day
The world is arguing over currencies. Everyday we read on how the US dollar and Euro are battling out on which one appreciates more. The US is busy blaming China for manipulating their currency. In the meanwhile, what has happened to our very own Indian rupee? Since its peak in March, the rupee has appreciated by nearly 12%. Today's chart of the day shows the trend in rupee dollar exchange rates since March 2009. Appreciation of the rupee against the dollar is particularly hurting companies which earn substantial amount of their revenues in US dollars like the IT companies. It translates to lower revenues in rupee terms. If the rupee continues to appreciate this way, these companies would be looking at tough times at least from the currency point of view. Let us hope for their sake, that this does not happen.

Data source: Trent

There is no denying the fact that a good portion of FII money that flows into Indian stocks is 'hot' money. FIIs are generally termed as fair weather friends - they come when times are good, and they move out when the tide turns. Their influence on Indian markets is such that a whiff of news on their intentions can make or mar the stock portfolios of Indian investors.

As we have seen over the past few months, FIIs have poured money into Indian stocks, thus taking the markets here nearly back to their previous highs. But this hot money can weigh heavy on India going forward. This is at least what the legendary hedge fund manager George Soros believes.

As per an interview with The Economic Times, Soros has said, "India has a very good dynamic among emerging markets and it also has domestically driven growth. But inflation is now an issue and hot money into India is very much a part of that issue. So that will weigh on India in a big way."

Soros' funds have been one among the FIIs into Indian markets in the past. His views thus ring an alarm bell about the intentions of foreign investors

Thanks to the recent volatility that has plagued the Indian stock markets, midcap and small cap companies have been at the receiving end. Many of them have seen stock prices fall much faster than that of its larger peers. Little wonder then that midcap and small cap companies are not too enthused about turning to the equity markets for raising funds for fear of their offers not getting the required response. The alternative course of action then seems to be debt. Many of these companies are finding debt the preferred route to meet their immediate fund requirements. This is through various instruments such as bonds, non-convertible bonds, commercial paper and fixed deposits. That said, smaller companies do not enjoy the kind of pricing that larger companies do. Thus, midcap and small cap companies more often than not will have to raise debt at higher rates. Plus, they will have to also generate sufficient cash flows to be able to repay this debt in the future. A difficult choice, indeed!

Meanwhile, the Indian markets are trading well below the dotted line, due to profit booking in the index heavyweights. All sector indices are trading in the red with consumer durable and realty stocks leading the loser pack. At the time of writing, India's benchmark index, the BSE-Sensex was trading lower by about 309 points or 1.7%. Mid-cap and Small cap stocks are trading weak as well. Most major Asian markets are trading on a negative note with Japan and Hong Kong ending lower by 1% each. Markets in China are however, witnessing buying interest.

The December quarter results for most banks have come in better than expected. Despite the scare of tight liquidity most entities seem to have locked in robust growth rates in loan book. For some this growth has been supported by accretion to low cost and term deposits. Others have resorted to borrowing from the RBI to facilitate balance sheet growth. However, it may help to keep the growth expectations from the sector tempered for the medium term. The RBI seems to be in no position to ease the liquidity scenario for the sector given the inflation risk. And deposit growth may come in only at higher costs. Thus banks will have to sacrifice growth for margins or vice versa in the near term. Having said that, the liquidity crunch in 2010 was also driven by telecom auctions and big ticket IPOs. In their absence day-today operations for banks may not be as difficult as it is made out to be.

Is the global economy on a recovery path? Is the worst over? We're not too sure. Several potential dangers are lurking around and waiting to send another global shock. Where the shock comes from could be anybody's guess. But we'll name some concern areas for you- Asset bubbles in emerging economies, soaring world commodity prices and the huge levels of state debts in Europe. These risks are plaguing business leaders too.

The global economic crash is still fresh in our collective memories. And one of the keystones on which the US built its "house of cards" has found its way into developing and emerging economies. What are we talking about? You may have guessed it. Cheap money it is! And given that we are bad history students, it is difficult not to repeat the mistakes of the past. Surging asset prices in emerging economies, especially China, remain quite a concern.

As if this was not enough, the jitters of rising commodity prices are being felt almost everywhere. Soaring food costs have already triggered fears of political unrest in some developing countries. And given the incredible pace of urbanization in emerging economies, the pressure on commodity prices will see little reprieve. So we prefer to keep our fingers crossed and to maintain our vigil. We're curious to see when and where the next crisis comes from.

 Today's investing mantra
"You are neither right nor wrong because the crowd disagrees with you. You are right because your data and reasoning are right." - Warren Buffett

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