Want US$ 8,000? Buy a house - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Want US$ 8,000? Buy a house 

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In this issue:
» No takers for infrastructure building
» Loan waiver is the flavour of the season
» Citigroup, JP Morgan halt foreclosures
» Jack Welch's view on board members
» ...and more!

US$ 8,000 to be credited to bank accounts of those who have been callous savers over the past decade - seems like a mouth watering proposition. Not every economy can afford it. Unless you are the largest consumer in the world and the recovery of almost every other economy depends on the revival of your consumption largesse. As per American economist Paul Krugman, for most of the last decade, America has been a nation of borrowers and spenders, not savers. The personal savings rate in the economy dropped from 9% in the 1980s to 5% in the 1990s and to just 0.6% from 2005 to 2007. Meanwhile, the household debt grew at a much faster rate than personal income.

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Nevertheless, there is a nice windfall that new American home buyers can look forward to in the much talked about stimulus package. The first-time buyers can claim a credit worth US$ 8,000 or 10% of the home value, whichever is less, on their tax liabilities. To qualify for the credit, the purchase must be made between January and November 2009 and buyers may not have owned a home for the past three years. While this may bring some relief to US mortgage borrowers apprehensive about purchasing houses while prices correct, it is unlikely to solve the problem of excessive private debt.

'Loan waiver' seems to be the flavour of the season. Just as the Indian government waived off farm loans to the tune of about US$ 14 bn, the US government is also planning to provide support more than thrice that size. However, unlike India, the recipient of the largesse is not the farm sector, but the housing loan sector. With the second half of the US$ 700 bn in TARP funding still to be allocated, Geithner, the US Treasury Secretary announced last week that his administration will spend as much as US$ 50 bn towards foreclosure relief.

Foreclosure is nothing but a legal process by which a borrower's right to a home is taken away because of failure to make payments. Thus, the US$ 50 bn funding will go towards helping people where avoiding the foreclosure is a distinct possibility. This move might help reduce supply of homes and hence, is seen as another attempt to shore up housing prices. Till the time the details of the plan are finalised, leading financial institutions like Citigroup and JP Morgan have agreed to temporarily halt foreclosures, a move that can be seen in their own best interests as it will help them in preservation of capital.

As seeking a larger share of the pie and improving profitability gets increasingly difficult in developed nations, some of the largest pharma companies are willing to compromise margins to get an entry into unchartered territories. As per Wall Street Journal, GlaxoSmithKline (GSK) Plc, the second-largest pharmaceutical company in the world has signaled a groundbreaking change by promising to cap the prices of the patented medicines that it sells in the poorest countries.

In fact, the company's management has indicated that it would not even hesitate from sharing critical knowledge about potential generic drugs that are currently protected by patents. GSK Plc has decided to significantly reduce the price of the drugs that it sells in 50 sub-Saharan African countries. It plans to charge not more than 25% of the average price that it charges for the same drugs in the developed world, as long as it can cover costs. GSK currently garners revenues of about £30 m annually from selling drugs to the 50 countries and has operations in 14 of them.

Everybody agrees that infrastructure in one of India's most pressing needs. But the participation in infrastructure building continues to be abysmal. Take the phase II of Mumbai's much touted metro project. Seven consortia were short-listed for the venture, but none participated in the financial bidding last week. In another development, Indian railways had sought bidders for 2 engine projects. 3 out of the 5 companies in the running for the project have not bid. The only bidders will automatically get the contracts, making a farce out of the process.

In the case of Mumbai metro, the government apparently pegged the project cost too low. In the case of the rail engines, the government compressed the delivery period to an unrealistic time. This just hurts Indian infrastructure, especially at the time of a global economic slowdown.

China is at it again. Its hangover from the exuberant growth it has seen in the past few years is no more going to be restricted to within the country. From an earlier double digit pace of GDP growth rate, it now faces the prospect of growing by lower than 8%. This sudden slowdown has played havoc with its steel industry just like with every other industry in the country.

As per a DNA Money report, it recorded a production of 502 MT (million tonnes) in 2008 and thus became the first country to produce over 500 MT of crude steel in a year. But due to the slowdown it now finds itself sitting on huge surplus capacity. Also, with the Chinese government lifting the 15% export tax on steel, the stage is set for some major dumping activity. While India may have put in place barriers to shield our domestic steel industry from a deluge of this sort, it is inevitable that global steel prices will be negatively affected by such a grim situation.

Jack Welch has probably led one of the most competent boards the corporate world has ever seen. Interestingly, he has now come out in favour of board-members of companies that have been hit by the financial crisis.

In his latest Business Week article, Welch writes that boards of crisis-hit companies cannot be blamed as they were doing their jobs within the limitations of reality. His view is that it is not right to blame even the most experienced and best-intentioned board members for not uncovering flaws in complex financial transactions. Welch says that this is the role of regulators, accountants, and internal controls, not board members.

He writes, "Look, the list of guilty parties involved in bringing on the current economic situation is long, and boards do belong on it. Just don't put them near the top. That would give them too much credit for a job they couldn't do."

While independent directors on the fraud-hit Satyam's board might well take some respite from 'Welchspeak', we really do not concur to what the gentleman says. Take the case of Wall Street icons that are now struggling to survive. Some like Lehman and Bear Stearns have disappeared. A member on the board of any of these companies would have raised the alarm when the concerned company leveraged up to 40-50 times the value of its assets.

Welch's words indicate that some board members could have pressed managements more on their risk strategies. But there are greater chances that these members just accepted the management line that certain risks (like excessively leveraging of the balance sheet) were necessary to generate returns.

We believe minority shareholders have a right to expect more from directors, especially the ones that are independent. It is time we question companies whose members are apparently unqualified, or simply too cozy with managements. Accountability is expected of board members, and we should question the absence of it.

The Indian markets closed lower by 3% today. BSE-Bankex (down 5%), and BSE-Metal (down 4%) contributed to the fall. While the Asian markets closed in the negative, the European indices too are languishing in the red currently. As reported on Bloomberg, crude oil fell below the US$ 37 a barrel on concerns that the deepening recession in Europe and Asia will stifle demand for fuel.

04:58  Today's investing mantra
"The chief losses to investors come from the purchase of low-quality securities at times of favorable business conditions." - Benjamin Graham
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