»5 Minute Wrap Up by Equitymaster

On This Day - 16 SEPTEMBER 2008
Morgan Stanley next?

In this issue:
» Financial crisis deepens
» Heightening job loss fears
» No respite for the rupee
» China lowers interest rates
» ...and more!

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  Financial crisis deepens
The scenario for financial institutions is getting murkier. A year has now passed since the unraveling of the credit crisis and there seems to be no end to the multitude of write-downs and bailouts. The ones having to weather the storm and literally drowning are investment banks. The last weekend saw a flurry of activity with investment banking heavyweights Merrill Lynch and Lehman Brothers frantically scouring for partners to help them survive and tide the crisis. While Merrill Lynch will be bought out by Bank of America for US$ 50 bn, Lehman Brothers on the contrary has not been so lucky and is headed towards bankruptcy. AIG is also seeking a funding of a gargantuan US$ 40 bn.

A deadly cocktail of risk taking investment bankers floored by 'fast bucks' and unabashed investments in highly risky and bad mortgage assets have now bought these institutions down on their knees causing them to literally run around with a begging bowl. These developments come at a time when the developed nations in particular are already sinking into a recession. When this crisis will end is anybody's guess.

  • Also read - Once in a century crisis

      Is it Morgan Stanley next?
    John J. Jansen has spent 30 years dealing in bonds at the Reserve Bank of New York as well as large primary dealerships. He has witnessed earlier crisis like the crash on 'Black Monday' in October 1987 and the collapse of the hedge fund Long Term Capital Management. He thinks the on going crisis is different from the earlier ones, which were related to a specific firm.

    The present crisis has been a series of rolling crisis. Any period of calm is followed by new causalities. In fact, the period of calm is getting shorter. There was barely a week's gap between the take over of Fannie Mae and Freddie Mac and the Lehman bankruptcy. Mr. Jansen believes that the next casualty of the ongoing credit crisis could be Morgan Stanley. He also thinks that this crisis will come to an ugly end with a sharp contraction in lending activity. However, commercial bankers like JP Morgan and Citibank will fare better than the investment banks on account of a more stable funding from their retail customers.

      Job loss fears rear their ugly head...
    It is that time of the year when dining table discussions on Wall Street begin to include the topic bonus in them, a year end event that makes the investment banking industry one of the most sought after for job aspirants. However, at this day and time nothing could be more anachronous than the very mention of the word bonus. With one of the biggest financial crisis staring the US economy hard in the face, forget bonuses, employees would be more than happy to see their monthly salaries getting deposited on time. Get deposited they might but don't be surprised to see a drastically reduced version of the same.

    This is because as per the International Herald Tribune, the capitulation of Lehman Brothers and Merrill Lynch is likely to exacerbate the oversupply situation that is prevailing in the US financial services sector. It has to be noted that the sector has already shed more than 100,000 jobs this year and with the demise of these two banks, 50,000 more employees will have to be added to that list.

    And the tremors are not restricted to the US alone. The overseas offices of these firms like the one in India are already witnessing exodus of some key executives. For years, the employees at these places had become the envy of their peers for their lavish lifestyles and extravagant pay packets. Going by the damage done, the return of the envy looks unlikely any time soon.

      ...but salaries to increase next year
    There could be light at the end of the dark tunnel. The slowdown in economic growth both globally and in India, it seems, is not expected to hurt salary figures. On the contrary, according to a report prepared by HR Business Solutions, a Hong Kong based firm and published in the Economic Times, salaries in India are expected to increase by 16% in 2009, one of the highest in the Asia-Pacific region, driven by strong economic growth and pressure on employers due to soaring inflation.

    Basing its findings on four economic factors namely GDP growth, inflation, unemployment, demand for manpower and pay hike trends in the past, the report further expects the country's economy to clock a growth of 7% to 8%. More importantly, given that inflation has been raging above 12%, employers are expected to come under pressure to raise salaries. A healthy demand for labour and shortage of manpower having the requisite skill sets is also expected to advance the case for higher salaries.

      IT goes slow on hiring
    Troubled times are impacting the hiring plans of Indian technology players. These companies are either going slow on recruitment or are hiring more of the trained people rather than freshers. As reported in a leading business daily, recruitment in the technology and BPO sector during the first two quarters has seen a 20% decline in 2008 as compared to the same period last year. Companies have become more cautious on the back of slowing demand from their global clients, especially those in the banking and financial services space. Some companies like Wipro, Satyam and TCS have in fact retrenched the non-performers and are also getting very selective in the kind of manpower they are recruiting. Tough times indeed for these companies who have otherwise been among the 'dream employers' for Indian engineers over the past few years!

      In the meanwhile...
    Intense selling activity in yesterday's trading session spilled over to today as well, with most of the key Asian indices closing lower by 2% to 5%. Europe was not spared either registering losses of around 1%. The BSE-Sensex closed lower by 2%. Oil prices, in the meanwhile, retreated to below US$ 92 a barrel on concerns that the turmoil on Wall Street may weaken the global economy and reduce the demand for fuel. Oil has now dropped 38% from the record high of US$ 147 a barrel reached on July 11, 2008. However, this did nothing to soothe investor fears as the crippling effects of the subprime crisis took centre-stage. As per reports on Bloomberg, gold also fell by 1% to US$ 779 an ounce as some investors sold the yellow metal to raise cash after stocks tumbled.

      Rupee on the downslide
    The aftermath of the demise of Merrill Lynch and Lehman Brothers has had an impact on the rupee too, which depreciated to US$ 46.9 in today's trade. While the RBI stepped in to arrest the rupee's decline by selling dollars, it was still not enough to contain the slide.

    Persistent dollar selling by the RBI has now depleted the forex reserves from US$ 316 bn in May to US$ 289 bn in the first week of September. Given the crippling effects of the credit crisis on the investment banking sector, stockmarkets across the world including India had to bear the brunt of money being pulled out of equities propelling the decline in the rupee. FIIs in particular have sold Indian equities worth US$ 8 bn after pouring in more than double the amount last year. Crude oil imports also exacerbated the fall in the rupee.

      China lowers interest rates
    Slowing economic growth has propelled China to go in for interest rate cut for the first time in six years. The People's Bank of China reduced the one year lending rate by 0.27% to 7.2% and also lowered the reserve ratio requirement for smaller banks to 16.5% from 17.5%.

    While growth in China continues to be robust, the pace of the same has reduced. The Asian Development Bank expects the Chinese economy to grow by 10% this year and has lowered its forecast for next year to 9.5% from 9.8%. Against a backdrop of inflation cooling to 4.9% in August, the Chinese authorities are now focusing on bolstering economic growth and protecting jobs as exports fall and the credit crisis deepens.

    Property prices too are witnessing a meltdown. As per reports on Bloomberg, prices in 70 major cities across the nation rose by 5.3% in August from a year earlier, compared with 7% growth in July. In fact, property price increases have slowed for seven consecutive months from the strong gain of 11.3% in January. China had earlier outlined infrastructure spending as a likely tool to speed up growth and is said to be working on a plan for about US$ 58 bn of spending and tax cuts.

  • Also read - Fending off the 'Olympics curse'

      ICICI Bank's exposure to Lehman
    Problems for ICICI Bank do not seem to end. As per reports, the bank is said to have exposure to US$ 81 m of Lehman Brothers senior bonds. While the bank does not consider these losses to be material, it has nevertheless come in the limelight again for the wrong reasons.

    Readers would do well to recall the fact that the bank had made headlines early this year when a leading daily had reported that the bank's profits had taken a hit of US$ 264 m in FY08 due to the subprime crisis. This was at a time when it was presumed that Indian banks were insulated from the crisis as compared to its US and European counterparts. While the bank reiterated that it had neither invested directly in the US market nor dabbled in the subprime market, it has failed to provide any clarity with respect to its derivatives portfolio.

      Today's investing mantra
    "To achieve satisfactory investment results is easier than most people realize; to achieve superior results is harder than it looks" - Benjamin Graham

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