Bond guru's prescription for the economy

Feb 7, 2009

In this issue:
» Ford continues its selling spree
» 19 m homes remain unoccupied in the US
» Global trade in peril
» Recession a boon for booksellers
» ...and more!

Bill Gross, one of the world's best and most respected bond fund manager believes that stopping the decline in assets prices, especially housing is the key to reviving the US and consequently, the world economy. In his investment outlook note for February 2009, Gross' advice to policymakers is - "You can't bail out everyone, yet economic recovery is not possible unless certain critical asset sectors are not only re-liquefied, but rejuvenated in price. The prior administration's focus on the banks has been critical but unidimensional." Gross believes that the speculative activities of 'shadow' banking system (like hedge funds and investment banks) had powered a near 25-year global economic expansion. De-levering, or persistent selling off of assets by these players is now threatening the financial system and asset prices.

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Gross further says, "Capitalism at its philosophical and practical center depends on credit, and while new loans can be and are being advanced via the banking system, it's a much more difficult task to force shadow banks to lend. That lending depends on securitization which in turn depends on stable and eventually higher asset prices than currently exist."

'India bucks Auto trend as rate cuts spur Suzuki sales'. This was one of the headlines flashing on the Bloomberg portal yesterday. It referred to how lower interest rates in the country have helped Maruti Suzuki, its largest passenger car maker to record growth in sales in the month of January. This, at a time when demand is collapsing in the developed markets. So, has the Indian car market turned the corner? Unlikely. Maruti's growth hasn't been an industry wide story. Other players like Tata Motors have continued to report lower sales over corresponding previous month. Secondly, the former's growth has been driven mostly by the higher segment cars, where interest rates do not play as big a part as they do in the case of compact cars.

Of course, the situation is not going to be as bad as the developed world but growth if any, is likely to be tepid at best in the world's second fastest growing auto market. Investments however, continue to pour in from certain quarters. Companies like GM, Ford and Volkswagen are indeed going ahead with their Indian expansion plans, as they seek to spend US$ 6 bn combined by 2012. Infact, even we believe that once the dark clouds hovering on the near term horizon lift, India will once again emerge as one of the most attractive auto markets.

But as off now, the pain continues for auto companies around the world. After the sale of JLR to Tata Motors, Ford is now out to sell another one of its European brands. As per a Bloomberg report, Ford is in talks with China's Geely Automobile Holdings to sell off Volvo Cars, its Swedish unit. This comes on the back of the plight that world's fourth largest carmaker currently finds itself in. Ford faced humongous losses to the tune of US$ 14.6 bn in 2008 and is now trying its best to avoid US government aid, as auto sales in the country have plunged to their lowest level in almost 27 years.

This deal would mark the sale of Ford's last European luxury brand and is expected to get less than what it paid for Volvo in 1999 (US$ 6.4 bn), considering the bad market conditions and the plummeting sales at Volvo. As per reports, Ford's long line of creditors are likely to get at least some of the proceeds from the sale of Volvo.

The US FDA seems to be hampering the global pharma industry. This is for both the innovator and generic companies alike. For the innovators, the stringency of the regulatory authority has led to lower approval of drugs. Besides this, additional warnings on labels have also started becoming a regular feature. For the generic companies, delayed approvals of generic launches are hampering sales from the US. This was very evident from the results of Indian companies in the December quarter. Further, the US FDA has been conducting various checks on the manufacturing plants of domestic companies. This is in the aftermath of the Ranbaxy debacle. The delays by the US FDA could be due to various reasons. One is obviously the acceleration in the number of product filings. This has led to an overload on the FDA. The other reason could probably be a more cautious stance. The recent spate of manufacturing defects being the culprit.

In times of economic slowdown, players in the value retailing business are usually less affected as compared to other retailing formats. However, in the recent past, there have been numerous reports of closures of stores or shelving of expansion plans by players in the value retailing business. On the other hand, specialty retailing such as the book-and-gift retailing segment has witnessed a rapid revival of sorts.

Shopper's Stop, one of the country's pioneer in retailing, has reported overall decline in like to like sales. However, like to like sales growth of entertainment business has been growing. The same is on account of an increase in sales of specialty stores like Crossword. It seems like in times of economic slowdown, people prefer to read more. Even Tata Group's Trent Ltd foresees book retailing segment to emerge as recession proof segment. Trent caters to book and music lovers' needs through its 'Landmark' stores.

At the end of 2008, as many as 19 m homes remained unoccupied in the US. As per Bloomberg, the home ownership rate in the country had fallen to 67.5%, the lowest in the last eight years. The reason behind the same was due to banks seizing homes at a faster rate than at what they could sell them. As per the US Census Bureau, vacancy increased by 6.7% YoY in the fourth quarter of 2008. The share of empty homes that are for sale rose to 2.9%, the most in data that goes back to 1956.

The worst US housing slump since the Great Depression is deepening as foreclosures drain value from housing prices and make owners give up properties that are worth less than their mortgages. It is estimated that about a third of owners whose home values drop 20% or more below their loan principal prefer to opt for foreclosures. The US banks, no wonder, have plenty of 'bad' assets on their books now.

As Indian exports find few takers and exporters shed as many as 1 m jobs in January, more than 15 times the December estimate, Asia's third-largest economy is reeling under the pressure of global recession. While the RBI in its monetary policy last week cut its growth forecast for the fiscal from 8% to 7%, Citigroup has projected a difficult period for India Inc in the coming quarters with the onset of a deflationary environment. In the past quarter, banks, utilities and pharma companies had better-than-expected earnings, while real estate developers and suppliers of capital goods, metals, autos and energy were among the disappointments. However, going forward, despite lower input costs, particularly oil and metal prices, the foreign exchange losses, capital constraints and a weak demand environment are expected to play spoilsport.

The global financial crisis is only leaving a trail of destruction all around with some or the other problem cropping up every week. The latest phenomenon that the world has been witness to as a consequence of this crisis is that of protectionism. Already, the US received flak for its 'Buy American' provisions in the stimulus package, which compelled Barack Obama to soften that stance lest any trade wars get sparked. But it appears that many countries besides the US are beginning to erect barriers to trade such as Russia and EU. This does not bode well for the global economy whose growth is already shrinking as protectionism will only worsen the scenario further. The WTO expects global trade to shrink by more than 2.1% this year after posting a growth of 6.2% in 2008. With the tide of protectionism getting bigger and bigger, the WTO is naturally worried and has convened a meeting of the nations on Monday. It will indeed be a challenging task for the organization to convince all countries to do otherwise.

After last week's stellar performance, the Indian benchmark index, the BSE-Sensex saw a 1.3% decline during the week. But the rest of major markets in the Asian region were better off as their stocks rose for a second week on account of optimism that government measures worldwide will ease the financial crisis. Japan's Nikkei gained 1% during the week, while Hong Kong's Hang Seng saw a rise of 2.8%. China's Shanghai Composite index led the Asian pack with a 9.6% surge.

Other major markets round the globe also posted decent gains. As for the European region, Germany and France saw gains of 7.1% and 5% respectively. The US markets too performed fairly well with a 3.5% gain for the week on higher expectations from the economic stimulus package.

Source: Yahoo Finance Source: Yahoo Finance

Concerns about all the negative data led crude oil to decrease 4% during the week to close at about US$ 40 per barrel, while gold declined 2% to close at a level of about US$ 911 for an ounce of the yellow metal.

 Weekend investing mantra
"The financial markets generally are unpredictable. So that one has to have different scenarios... The idea that you can actually predict what's going to happen contradicts my way of looking at the market" - George Soros

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