»5 Minute Wrap Up by Equitymaster

On This Day - 15 NOVEMBER 2010
Bubbles likely in emerging markets

In this issue:
» Jim Rogers suggests a world without central bankers
» India Inc.'s performance over the quarters
» Even lots of infrastructure isn't enough for India
» Indian banks facing short-term liquidity crunch
» ...and more!!

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"The US monetary policies may be positive for Asia, but these policies could also cause bubbles in emerging markets via capital flows." This is the view of Marc Faber, also known as Dr. Doom for his publication - The Gloom, Boom, Doom Report.

Faber was speaking to a leading business channel late last week. He said that the US central bank's easy money policy had led to the dotcom, housing and commodity bubbles in the past. And thus he is very skeptical about the success of QE1 and QE2 (QE stands for quantitative easing). He believes that QE2 has the potential to create yet another bubble in commodities as well as precious metals. He also fears that capital markets of emerging nations would see bubbles.

We second Faber's opinions. Too much of cheap dollars printed by the Fed can create massive bubbles in emerging markets, India included. And when those bubbles will burst, we'll have another problem on our hands the way we had with the previous bubbles created by this very flood of dollars.

Now, it is difficult to get the timing right on when a bubble will burst. As such, the key for investors is to stick with low debt companies, with simple business models and ethical managements. Their stocks might still fall under the weight of a worldwide crisis. But investors in such stocks will still be better off than those who speculate and expect their stocks to be fast money making machines.

For all the financial problems that the world faces now, commodities guru Jim Rogers has a medicine. And it is a world without central bankers! While this view seems too extreme, and highly unlikely, Roger's core ideas are not far from truth. He says that the US central bank has made it worse over the last 20 years with a staggering amount of debt, creating bubble after bubble, going from one mistake after another. Eventually 'they are going to bankrupt themselves with their own mistakes'!

 Chart of the day
Today's chart captures the performance of Indian companies over the past few quarters. It shows the YoY growth in sales and operating profits of 375 of the BSE-500 companies. As the chart suggests, while the profit growth has come in good for these companies during the quarter ended September 2011, what is worrisome is the gradual decline in sales growth over the past three quarters. Another concern is that now with commodity prices on an upswing, operating profits can also feel the negative impact going forward.

Source: Livemint

"India's future depends on it (good infrastructure)." This is what a Time magazine report suggests in a piece on the state of India's infrastructure. The report goes on to state how the Indian government and companies are getting active about sprucing up the country's dilapidated infrastructure. But then it adds even the currently planned infrastructure won't be enough for the country, given the huge deficit. One key sector when the gap between demand and supply will take long to fill is power. Even in the case of roads, the progress is painfully slow. Then there are issues of land acquisitions that infrastructure developers have to contend with. Amidst these problems with India's hard infrastructure, there lie the issues with soft infrastructure - like education, water supply, and medical care - that are in equally poor state.

Overall, as Time writes, "For India, there is still the old business of nation-building, and for that there is no substitute."

Anyways, Indian markets had a roller-coaster outing today. From being in the red for a large part of the first half of today's trading session, the markets moved into the positive, only to fall back in the negative. The BSE-Sensex was trading with losses of around 15 points (0.1%) at the time of writing this. These losses were largely led by stocks from the realty sector. Among other key Asian markets, while China and Japan closed in the positive, selling pressure was seen in Hong Kong and Singapore.

The Indian central bank (RBI) is sitting on a surplus cash reserve of around Rs 870 bn (US$ 19.4 bn). While this may give the impression of sufficient liquidity in the market, the reality is quite otherwise. Drained out of cash with tax payments, IPO payments and festival purchases, the banking system is facing acute short term liquidity crunch. So much so that the call money rates have spiked by 1.5% in the past two months! The liquidity crunch is in fact threatening to thwart the RBI's attempts to cool down inflation.

As per an article in the Wall Street Journal, banks claim that the current liquidity shortage is around Rs 810 bn (US$ 18 bn), and that could go up to Rs 1.3 trillion (US$ 31 bn) by December 2010. This means that short-term working capital loans for corporate India are expected to be priced very steeply. The higher base rates have, as it is, made short-term borrowing reasonably expensive. In such a scenario, we may see more companies wanting to dilute equity. This will enable them to maintain cash reserves rather than access expensive leverage.

The Indian IT industry now has a new market to boost its growth. This new market is none other than India itself. The domestic market provides a huge potential particularly in terms of software products. If a company has a good product, then it is sure to sell in India. This is driving up growth for IT players, especially the smaller players, who are not able to access international markets due to their size.

With the US playing a spoilsport for outsourcing and Europe reeling under crisis, the Indian opportunity comes as a fresh breather for the industry. While the companies cannot do much about the problems in the international markets, focus on the domestic front will definitely help boost their growth.

The Indian economy seems back on track. Stock markets are booming. Everything seems hunky dory. And policymakers are getting optimistic, and even suggesting that the Indian economy will soon return to the 9% growth path.

This optimism with respect to sustained economic growth is what is the fearful part here! A large part of the current recovery in emerging markets like India is a result is due to our connection to the western world. Central banks there are printing money like there's no tomorrow. And, in search for higher yields, that money is flowing straight to emerging markets like India, spurring growth here.

The fear is - what happens when this tap of easy money supply runs dry? India is growing, and growing fast as of now. But then, how much of this growth is real and how much is stimulated? We're not sure what the answer to this is.

 Today's investing mantra
"Obvious prospects for physical growth in a business do not translate into obvious profits for investors." - Benjamin Graham

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