»5 Minute Wrap Up by Equitymaster

On This Day - 10 DECEMBER 2011
Should you invest in IPOs in a volatile market?

In this issue:
» India's GDP per person to double fast
» Nilekani's UID project in trouble?
» German banks are facing capital shortfall
» MF Global's Corzine has no clue where the money is
» and more!
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The heady years of 2006 and 2007 saw a slew of initial public offers (IPOs) hit the Indian stock markets. Because of the heavy bullishness then, many of these IPOs quoted astronomical valuations but still enjoyed heavy subscriptions on account of very positive sentiments. But all that changed when the global financial crisis hit the world in 2008-09.

Since then the IPO market has been going through choppy waters and while the going was good last year, the trend seems to have reversed this year. According to Ernst & Young, Indian companies mopped up barely US$ 1.14 bn through IPOs till November this year. This is around an 89% plunge over last year. The number of IPOs was less than half of that last year, and stood at 34 in the first 11 months of 2011 as compared to 71 in 2010. The deepening debt crisis in Europe and the lack of solution thereof, rising inflation and slowdown in growth in India and policy paralysis in the government have spooked stock markets and contributed to the increasing volatility. This has then made companies wary of raising capital through the IPO route. PSU share sales as part of the government's divestment programme have also petered out. Not surprisingly, this phenomenon is not unique to India and has been seen in Asian as well as the global stock markets with the number of deals and new issues drastically reducing.

The problem for Indian companies is that debt is not cheap either. With inflation remaining perisistently high, interest rates have risen and this has made cost of debt dearer. Further, foreign currency loans have their own set of problems with the rupee depreciating at such a steep pace.

Having said that, businesses need to grow and growing businesses need capital. The crux here is that those wanting to access capital through IPOs need to price them reasonably. Readers would do well to recall that last year saw the government divest their stake in a number of PSU companies. Many of these companies had strong growth prospects but the icing on the cake was that quite a few were attractively valued and held the potential of strong returns for investors. We believe that this holds true even in a volatile market. As long as companies have sound business models with a strong management and reasonable valuations, there is no reason why investors should not invest in these companies whether they are raising capital for the first time or are already listed on the stock exchanges.

Will you invest in the IPO of a company with strong growth prospects and reasonable valuations in a volatile stock market? Share with us or post your comments on our Facebook page / Google+ page.

 Chart of the day
As the economies of the developing countries grow at a faster pace than their developed peers, so will their GDP per person. As today's chart of the day shows, the GDP per person for India and China will double in less than 10 years from 2011. Developed economies have been in a state of turmoil ever since the global financial crisis unraveled and it will be some time before they are able to show any meaningful sign of recovery. Little wonder then that the growth in GDP per person in their respective economies will not be able to keep pace than that of their developing peers.

Data Source: The Economist

"I simply don't know where the money is." You could be excused from assuming that this comment was passed by some low level employee of a financial institution. But if the CEO utters the very same words, something is hugely amiss. Indeed, these remarks passed by Jon Corzine, the ex-CEO of now defunct MF Global has not gone down well with the close followers of the saga. They would have hurt the company's clients the most as chances of recovering more than US$ 1 bn of their own money have weakened considerably. It should be noted that MF Global recently filed for bankruptcy as it found itself caught in the downward spiral of ratings downgrade and liquidity shortfall followed by more downgrade and more liquidity shortfall.

What made matters worse was the sudden vanishing act performed by nearly US$ 1 bn worth of funds from clients' accounts that is supposed to be kept segregated from the firm's money used for making risky bets. And what the clients are getting from the CEO of the firm when asked about the whereabouts of their hard earned money? Well, nothing more than a shrug of the shoulder and a terse 'I don't know the location of the funds'. If you are thinking that Mr Corzine may land himself in prison after all this, banish the thought. He may still be able to go scot free. No wonder, the US society is in a state of turmoil right now.

2011 has been a bad year for the ruling government. Already haunted by the ghosts of the infamous scams, the government came under further criticism thanks to their policy inactions. Things became worse when they decided to backtrack on the issue of Foreign Direct Investment (FDI) in retail just days after approving it. Now it is likely that the government will do another U-turn on another popular project. This time the project under the spotlight is the UIDAI or the unique ID project that was started under the supervision of Nandan Nilekani. The parliamentary standing committee on finance is of the opinion that the Rs 178 bn UIDAI project is costly, unnecessary and will lead to communal disharmony in the country. They also feel that the project is just a duplication of data already collected under the National Population Register. The biometric data collected for UIDAI is also under the scanner with the committee stating that the data is a privacy breach and could be misused.

The thing is that the project is a brilliant idea to ensure that people have a single identification card that takes care of their social security, their voting rights and everything in between. Thus, the question that one needs to ask is whether the concerns raised by politicians genuine? Or are the so called 'intelligent' politicians threatened by Mr Nilekani's presence. He is after all not a politician but an ex-bureaucrat. Nevertheless, by the looks of it, another good proposal of the government is headed down the drain.

The troubles for Eurozone seem to be getting worse. The latest series of stress tests done on banks in Europe have revealed that the German banks are facing much severe capital shortfall than what was previously estimated. The amount of Euro 13.1 bn payable by next June is almost three times larger than the earlier estimates and has worsened the Euro deficit to Euro 115 bn, up 8%. The recent disclosure is another set back to the Eurozone and could be a pre cursor to further misuse of taxpayers' funds to bail out the sinking ships or nationalization of banks, something that time will tell. However, one thing is for sure. It is a huge blow to the credibility of European banking authority and overshadows the recent announcements regarding rate cuts and measures to support ailing regional banks. It could mean a long period of slow lending, something that triggered the worst recession in American economy three years back.

Unfortunately, the damage does not stop here. Given that European economy is one of the biggest, the ripple effect will spread far and wide. It could send US economy in the reverse gear that has recently managed to improve in the last few months.

With the ongoing European debt crisis and slowing down in world economy, the stock markets around the world have seen a sharp correction. So in the midst of such uncertainty, what is the outlook for equities, Euro and China? According to Marc Faber, publisher of the Gloom, Boom & Doom report, US equities are not terribly expensive relatively to other assets and if some good news comes out of Europe, it could lead to a rally in equities. On the outlook for Euro, he expects the Euro to survive. It may survive without the weaker countries or it could survive theoretically just as a currency aside from local currencies. So one could travel anywhere in Europe and still pay Euros. He also preferred holding gold rather than the US Dollar or Euro. As far as China was concerned he was not bullish on investing in that country. However he warned that any slowdown in China could have adverse impact on the world economy because the Chinese economy today has a much larger impact on the rest of the world than is generally perceived. We certainly advocate Faber's view on gold given that the importance of paper currencies has been rendered quite meaningless on the back of rampant money printing.

After witnessing a sharp bounce back in the last week, the world markets were not able to hold on to the gains and corrected in this week's trade. The US stock markets were up 1.4% during the week. Hopes that better fiscal integration measures by the European countries will help resolve the debt crisis fuelled market sentiments. Trade deficit numbers reported by the US were also encouraging while the consumer confidence index surprised positively propelling further buying interest.

However, the Indian stock markets were down 3.8% during the week after the government lowered the full year Gross Domestic Product (GDP) growth target and disclosed that meeting the fiscal target would also prove to be a challenge. Apart from this, decision to put Foreign Direct Investment (FDI) in multi-brand retail on a hold also made investors jittery.

Amongst the other markets, Brazil was up 0.6% while France was flat with gains of 0.2%. However, Singapore and China lost considerable ground and ended the week on a negative note.

Data Source: Yahoo Finance

 Weekend Investing Mantra
"An investment operation is one which, upon thorough analysis, promises safety of principal and an adequate return. Operations not meeting these requirements are speculative." - Benjamin Graham

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