Are we to see a debt bubble in emerging countries?

Feb 5, 2013

In this issue:
» Debt restructuring cases rise in India
» Additional provisioning for restructured loans
» More advertising but low volume growth
» India's exports leave a lot to be desired
» ...and more!

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If you thought too much debt was a problem confined to the developed rich world, think again. With their economies struggling to recover, governments have resorted to massive amount of quantitative easing and have kept interest rates close to zero. And the repercussions of this are being felt in the emerging markets.

Indeed, many of the emerging countries currently are beset with high inflation which the central banks have chosen to keep under control by keeping interest rates firm. And this wide differential is something that emerging market companies are taking advantage of. Since cost of debt in their own countries is expensive, emerging market companies have been lured by the prospect of raising cheap funds from overseas. So much so that the there could be a bubble brewing in emerging market debt. As reported in FT, the volume of foreign currency bonds sold by emerging market companies and banks reached more than US$ 300 bn. What is more, the pace of issuance so far in 2013 is almost twice last year's, which means that new records are likely to be made.

Dollar denominated debt has its own set of problems. If the economies of emerging countries witness a slowdown, a fall in the value of their currency will be the most likely outcome. This will in turn result in higher debt burden as the value of the debt rises. Stronger corporates may still be able to weather the storm, but the weaker ones would certainly perish.

No doubt emerging countries including India are growing at a faster pace than the US, Europe and Japan. But in recent times, most of them have been plagued by various issues such as inflation, high interest rates and ineffectiveness of the government; all of which have contributed to the slowdown in GDP and weaker currencies. This has certainly impacted the performance of companies in these countries.

Whatever the nature of debt, too much of it is never good. So if the debt on the books of any corporate is too high, it is better not to touch it with a barge pole.

Do you think that the lure of cheaper funds abroad will create problems for companies in emerging countries including India? Share your comments or post them on our Facebook page / Google+ page

 Chart of the day
For a while, India was reckoned as the fastest growing economy, second only to China. And it was being hoped that as China's growth rates moderate, India would emerge at the top slot. But reality suggests we are far away from that. In fact, India is set to lose the second position as well as per the latest global economic growth forecasts from the International Monetary Fund (IMF). Indeed, as today's chart of the day shows India's growth in 2012 at 4.5% is expected to be significantly lower than many other emerging markets and Asian economies such as Indonesia, Philippines and Bangladesh. Of course, these economies are much smaller in size compared to India. But they are set to give stiff competition to India as they are in a relatively better shape. Their interest rates are not just lower than India, but also lower than their own interest rates at the time of the Lehman Brothers crisis. As such, exports from these economies are flourishing. On the other hand, India's export growth has been contracting. This is indeed a worrying sign for India. If India does not take some concrete steps to correct this, it could result in a long term disadvantage in global trade.

*IMF's GDP estimates for 2012
Data Source: The Economic Times

We have talked quite a bit about the troubles being faced by countries who have taken on too much debt. But today we shift our attention to some companies. Companies in India. In 2012, a record 126 companies filed cases for debt restructuring for a collective amount of Rs 840 bn. The figure in the previous fiscal year (2011-2012) stood at 87 cases amounting to Rs 680 bn. High interest rates combined with deteriorating macroeconomic conditions have hurt companies in several sectors. As a result, the debt burden has become heavier. This has led to the increase in CDR cases. Increase in CDR cases has two implications. The first is obviously for the corporate as it indicates deteriorating fundamentals. The other and more serious implication is for the banking sector. It means that a lot more accounts could become NPAs.

The Reserve Bank of India (RBI) may not be the best place to go for a free lunch. Finance Minister Chidambaram has just learnt this the hard way. The latest cut in both repo rate and cash reserve ratio (CRR) was seen as the RBI's losing bet. But trust Governor Duvvuri Subbarao to not humour the Finance Ministry, just like his predecessors. The RBI understands that cheap credit is harbinger of bad lending. The Indian banking sector is already reeling under the burden of restructured assets. As per rating agency ICRA the same is set to cross Rs 2 trillion!

In the event of such catastrophe, under capitalized banks could even go bust. Hence as a proactive measure the RBI has mandated additional provisioning. Come April 2013, banks will provide as much as 5% for new restructured loans. For the existing stock of restructured assets, the RBI has suggested a phased coverage. In FY14, provisions will rise from 2.75% to 3.75 percent%. The same will go up to 5% in FY15. Thus, before banks get too complacent about cheaper liquidity, the RBI has tightened the noose.

Are cracks beginning to appear in the much sought after India FMCG story? A leading daily reports that it certainly does look like it. You see, for capital intensive industries, the first signs of trouble building up usually emerge from low capacity utilisation or the debt going up. For an FMCG industry however, the corresponding benchmark would be the ad spends we believe. And its overall impact on volume growth. And things don't seem to be looking good on this front.

Most big FMCG companies have spent a record amount of money on advertising and promoting their products in the December 2012 quarter. Yet, volume growth hasn't been quite encouraging. What more, even savings on the raw material costs front were diverted towards advertising and promotion. But this hasn't worked either.

Clearly, consumers are slowing down on their discretionary spend and no amount of advertising is helping to change their minds. Greater competition has also added to the pressure as firms fight amongst themselves to make their brands more visible. Thus, while the long term FMCG story is still intact, profitability could get affected in the near to medium term we believe.

India's export growth has declined. The underlying reason for this was dwindling demand from the developed countries. Even countries with which India has economic partnerships and free trade agreements did not help the situation. As reported by Business Standard, India's exports to ASEAN (Association of Southeast Asian Nations) declined by 18.6%. During the 8 month period from April to November, 2012, exports declined to USD 19.17 bn as compared to USD 23.55 bn during the same period last year. The reason for this decline is again related to the global crisis. The ASEAN countries are all export oriented economies. As they face a demand slowdown from the developed nations, their economies have taken a hit as well. Therefore demand from them has come down in line with the trend in the global environment. As a result, exports from India have declined in numbers. Unless things correct on a global scale, it is unlikely that we will see good export growth numbers anytime soon.

In the meanwhile, the Indian equity markets traded below the dotted line during the post noon trading session. At the time of writing, the BSE-Sensex was down by nearly 90 points. Barring stocks from the healthcare space, stocks from across the board were trading weak with consumer durables and capital goods leading the pack of underperformers. Except for China (marginally higher), stock markets in other major Asian economies ended on a weak note with Japan and Hong Kong down by about 2% each.

 Today's investing mantra
"The function of the margin of safety is, in essence, that of rendering unnecessary an accurate estimate of the future. If the margin is a large one, then it is enough to assume that future earnings will not fall far below those of the past." - Benjamin Graham

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4 Responses to "Are we to see a debt bubble in emerging countries?"


Feb 11, 2013

About debt bubbles - they tend to surface in fast growth economies slowing down suddenly. In india, there is no such bubble, because the economy has slowed down over the past 4 years, so it's a soft landing. However, there is a high risk of settling back into the Hindu rate of growth and being unable to come out of it, because of low ICOR, low labour productivity and developing skill gaps to leapfrog into modern asset-light businesses.



Feb 6, 2013

Are the email's as beneficiary fund from people abroad are cheaper funds out of Quantitative Easing with low interest rates of 3-3.5% for projects that are started in our country?

There is one who is already luring me with messages of funds to start a project here in our country. Can I go ahead? Is the project worth with good growth prospects? What are your suggestions as Zombie watchers? Please reply .


kantilal b gorasia

Feb 6, 2013

if it is for specific purpose and for limited period then
it will not create any problem.


r v iyengar

Feb 5, 2013

I am surprised by this line of argument. Falling rupee will certainly increase the debt burden as stated. However management of any given company should factor this in while going in for low interest loans from abroad. After all such a scenario has been played out in the recent past and none would have forgotten it.
What is the management's role if it cannot envision such straight forward scenarios and go for loans which they can service even under adverse conditions.
I for one would like to believe that Indian companies will certainly shed their profit margin, but would continue to stay afloat.
Perhaps that would be the time for investment in good stocks, for the valuations would be very attractive.

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