Should Indian investors rely on the Euro? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Should Indian investors rely on the Euro? 

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In this issue:
» A threat to India's energy security
» Regulations are essential for financial service sector
» Pay duty on groceries?
» 'Obama responsible for double dip recession'
» and more....

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That Eurozone has been in deep trouble for quite some time is not news. The debt troubles of the zone had become so severe that it threatened the very existence of the zone itself. Naturally the currency of such a zone reacted the way the currency of a distressed country would. It kept tumbling down. But after sinking to a new low in July 2012, the Euro has jumped up again. In fact as of 31st January 2012, the Euro has appreciated by nearly 13% from its lows. Interestingly during the same period of time, our very own stock market indices ran up too. The BSE-Sensex appreciated by nearly 18% while the NSE-Nifty was close on its heels. The Indian Rupee too appreciated during this period though not by as much. This could get one wondering as to why a revival in the currency of the Eurozone should support markets all the way back in India?

A leading daily offers some interesting insight into the Eurozone - Sensex relationship. It states that the reason for this is the combination of easy money from US and increasing investor appetite for risk. Allow us to explain this in some more detail.

The rise in Euro was simply due to the aversion of the crisis albeit for the time being. The struggling nations of Greece, Spain, etc were given lifelines that helped them stay afloat. The big crisis was averted by bailouts. Therefore the 'great fall' that everyone was predicting was deferred to a later time. Since traders and money managers were expecting a fall in Euro, they were shorting equities and currency of the Eurozone alike. However after the bailout, they had to reverse their short trades. This led to the appreciation across asset classes as we mentioned before.

At the same time US continued to print money in its printing press. Now the money managers all over the world had more money and a higher appetite for risk. Since the doomsday prophecies were postponed indefinitely, they could invest this money in riskier assets. Euro no longer as risky as it was supposed to be, the lower returns being offered by the zone were not really good enough. As a result a large part of its money found its way into India, thereby leading to the run up in our stock markets.

In a nutshell, as long as the Euro remains stable, money managers would keep using cheap money from US to drive up stock prices in India. But as long as the fundamentals in Eurozone remain bad, the risk of Euro sinking again cannot be ruled out. If this happens, the money would flee just as easily as it came in. This is something investors need to be cautious about. A run up in stock prices is always good. However it is necessary to study the underlying reasons behind it. If it is justified by improving fundamentals then there is no reason to panic. But if it isn't, it is better to sell and get rid of the stock. Because when the cheap money funding its rise vanishes, the stock will come crashing down

Do you think that the stable Euro has helped drive the gain in Indian stock markets? Share your comments or post them on our Facebook page / Google+ page

01:15  Chart of the day
The government of India has been at loggerheads with the Reserve Bank of India (RBI) in recent times. It has blamed the RBI's hawkish stance for the sluggish economic conditions. Higher interest rates have been responsible for deterring capital investments in the country. The latest data released appears to agree with what the government says. The gross capital formation by the private sector in the country has declined in 2011-2012. The rate of gross capital formation declined to 35% of GDP. This is the first decline since FY09 when the rate stood at 34.3%. While the government would argue that the blame for this decline lies solely on the RBI. However, the policy inaction in the country is a bigger culprit. Policy inaction leads to uncertainty. And for investments to increase, companies need clarity. For that reforms are required.

Source: Business Standard

The standoff between Comptroller and Auditor General (CAG) of India and Reliance Industries Ltd (RIL) seems to be getting worse. Meanwhile, the gas energy landscape of the country continues to deteriorate. The dispute stems from the scope of the audit of the controversial KG-D6 gas fields operated by RIL. While RIL has agreed for a financial audit of its accounts by CAG, the latter wants to dig deeper. CAG wants to examine veracity of RIL's expenditures. RIL is not agreeing to the same since it believes it to be beyond the scope of the audit as prescribed in the production sharing contract (PSC). While the two are locking horns, the approvals for further investment in KG D6 block have been put on hold. It's been over two years and the issue lies unresolved. With domestic gas supplies already falling, this development has severe implications for the country's energy security.

The matter obviously needs to be settled soon. But who should prevail? RIL's stand in the issue makes us wonder if something is fishy about one of the biggest corporate of the country. If the audit is conducted on RIL's terms, it will be a huge set back to transparency. And that too in a matter that deals with the natural resources and energy security of the country. We believe that CAG should be given a free hand in audit in the national interest. The process really needs to be sped up so that the gas sector does not suffer from such delays. Also, the Government and oil ministry should learn from the entire episode and frame better PSCs that ensure growth and development without sacrificing transparency.

Banks themselves may be crying hoarse about piling up of NPAs. The restructured assets that have dealt a heavy blow to the asset quality of banks are seen as key culprit. But there is nothing to prove that banks themselves are not at fault. Most were making hay when the sun shone post subprime crisis. In some instances, loans were indiscriminately offered to leveraged corporate. Retail borrowers too were lured with teaser rates. After having solicited such risky accounts, the banks themselves cannot shelve the blame. An article in Economic Times points out how banks often do not stick to regulations. Often loan agreements have clauses in fine print that offer the lender undue advantage. The right to convert fixed borrowing rates into floating or raise interest rates are amongst them. The Banking Ombudsman has offered some relief to aggrieved customers who have filed complaints. But the others are left to the banks' mercy. We believe that it is high time Indian banks and financial institutions take some proactive steps in regulatory compliance. Not just ones mandated by the RBI but even otherwise.

Something that brings us long term benefits at the expense of short term gains is certainly worth considering. However, a Government that wants to get itself re-elected every few years, seldom behaves in this manner. In other words, it could be willing to trade short term gains even if the decision is negative from a long term point of view. Thus, we were pleasantly surprised by an article in a leading daily. For it talked about the Government taking a look at exemptions in excise duty and service tax this Budget. The reason we are surprised is because if implemented, this would result into a more expensive grocery bill for us citizens. In the long run scheme of things though this would be extremely beneficial. For it will give an indication of the Government's willingness towards adopting a uniform GST regime.

Now, there are quite a few goods and services that are exempt currently or enjoy rates below the median rate of 12% as of now. But any move towards rationalisation would mean these items will have to be taxed higher. Of course, they could be taxed at the recommended lower rate of 8%. But doing so would run the risk of lowering tax collections and thus further hurting our already perilous fiscal deficit. In view of this, there does not seem to be any way out of this dilemma other than letting our grocery bills rise. But whether the Government will take such a step with elections barely a year away remains to be seen.

With the US economy contracting for the first time since the recession ended in 2009, one would expect negative comments to make rounds. American political author, Dick Morris listed out some of the 'area of concerns' (indirectly termed as causers of a possible double dip recession) in President Obama's policies that he believes need to be addressed. These include action being taken towards China artificially depressing its currency. Not only is this affecting US exports to the dragon nation, but is also benefiting the former in the case its exports. Imposing currency taxes on China, in case it does not take any action is the suggested remedy for this concern.

Further, Mr. Morris believes that taxes for small businesses should not be the focus. In addition, given that the contraction was prior tax increases, the government should avoid taxing incomes as (both for the upper income and pay roll tax) it would take out nearly US$ 150 bn worth of demand out of the system - making matters worse during the post economy contraction period.

Mr. Morris also suggested that the government should be more aggressive on oil & gas production given that the import bills stand at a US$ 40 bn a year. All in all, the emphasis has been on cutting government spends (a major reason for the contraction in economy during 4QCY12) given its lesser negative multiplier effect. Assuming that the US fiscal contraction continues over the year, it would not be a surprise if the country ends up in a phase of recession or no growth period over the short term, once again.

In the meanwhile after opening the day on a positive note, Indian equity markets continue to trade in the positive zone. At the time of writing, the Sensex was up by 87 points (0.5%). Barring Korea, other major Asian stock markets closed the day on a high note.

04:55  Today's investing mantra
"As in roulette, same is true of the stock trader, who will find that the expense of trading weights the dice heavily against him." - Benjamin Graham
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2 Responses to "Should Indian investors rely on the Euro?"


Feb 4, 2013

undoubtedly currency is an indicator for an economy and if its about group of developed nations it is but obviously going to affect economy of a developing nation like India who's market has always been observed becoming dupe of flying FII's.


v s velayudan

Feb 4, 2013

ReF; your 2:35 notes. Indian banks arbitrarily increase cost of banking in in numerable ways. one for example is they let out lockers for safekeeping of valuables at an annual rent paid in advance which had been hiked many times. Now they restrict free access one's own hired locker for 12 times a year and more than that you have to cough up Rs50/- eveytime! Will depositors and locker holders raise up to this issue

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