Don't get fooled by the current market rally - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster
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Don't get fooled by the current market rally 

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In this issue:
» Why insider trading will continue to prevail in India...
» What's wrong with the US Fed?
» This is why gold prices are rising
» US companies hold over US$2 trillion abroad to avoid taxes!
» ...and more!


00:00
 
With equity markets at an all time high, investors are in an emotional fix. As the momentum is heading northwards, sitting on the sidelines can mean an investing opportunity foregone. At the same time, investing at peak levels can lead to poor returns if markets correct from their highs. This is a typical situation that occurs after every bear market rally, making investing decisions difficult. But who better than Mark Mobius, an emerging market guru, to guide investors during such times. As per him, the Indian equity markets are in a sweet spot right now and have a potential to compound 15-20% over the next few years!

Let us first understand the reasons why Mark Mobius feels that Indian markets can compound at such a healthy pace. Then we will see, if based on these reasons, investors should invest or not.

Like most investors, even Mobius feels that the Modi led government can speed up the reforms and reduce red tapism. However, there is a need to reduce foreign investment restrictions that shall allow free flow of capital. This will give a boost to markets. Also, he shrugged off concerns over US taper, which presumably is the biggest risk towards foreign fund flow in emerging markets. With so much liquidity available throughout the world, he opined that taper will not meaningfully create a liquidity conundrum as believed by many. He even dismissed the China contagion on global markets unless the growth rate in the dragon nation falls below 5%. And this appears to be a limited possibility. As such, the global macro is favourable.

Even the domestic macro has become better. For instance, improving fiscal health and current account situation has been re-assuring. It reflects the government's seriousness towards maintaining a balanced budget. This will further attract foreign investors into India. However, weather risks like El-Nino or political disturbance like the one which happened in Ukraine can derail the current momentum. Nonetheless, these market risks are inevitable in equity investing.

Overall, both global and domestic macro factors signal a better environment for markets. So, should you jump on the bandwagon and accumulate stocks now? Well, as an intelligent investor, you should know that markets price recovery in advance. For instance, the current rally might have priced in all the benefits we discussed so far. In fact, if there is a negative surprise the markets may even correct marginally.

Hence, turning greedy when environment improves is not necessarily a wise move. This may lead you to buy stocks at stretched valuations. One has to understand that buying something expensive and holding it even for long term cannot produce the desired results.

As an example, let's assume you bought XYZ stock for Rs 100 and it fell to Rs 30. You have lost 70% of your investment because of buy high syndrome. Now, to just reach your buy price the same stock has to appreciate by 233%! Even if you invest for the long term, say 3 years, this translates into a compounded return expectation of 49% per annum which appears unrealistic. Even if the price increases in the end, you just breakeven!

The bottomline is that while the overall macro picture drives market sentiments, one has to be stock specific and focus on fundamentals and valuations. Chasings fads and buying on sectoral themes when everything is hot will more often than not lead to poor results in the long run.

Do you buy stocks based on macro-economic changes or sectoral themes? If yes, have you made money in such stocks? Let us know in the Equitymaster Club or share your comments below.

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01:50  Chart of the day
 
Credit card is one of the riskiest forms of lending. The default rates generally tend to remain higher. Moreover, it's a capital intensive product for the lenders. That's because heavy investments need to be made in technology and allied areas. And therefore the pricing of this product also tends to be higher.

However, the lending through credit cards is set to throw up grave challenges going ahead. That's because the Reserve Bank of India (RBI) has urged the banks to simplify the credit card interest payment for the customers. Lenders have been asked to charge reasonably making it convenient to the customers. This is set to complicate matters further for the bankers. Going by the data reported in Business Standard, this new move from the regulator is expected to give sleepless nights to the two topmost private sector banks. Have a glance at the chart below. HDFC Bank and ICICI Bank top the list of major players in terms of credit cards issuance in India. Followed by State Bank of India (SBI), Citibank and Axis Bank! As at the end of November 2013, HDFC Bank had issued over 5 m cards. Whereas the other top players issued almost 1 m to 3 m cards during the same period. That many lenders have got their fingers burnt in the past with respect to credit card lending is nothing new to us. And the possibility of this new initiative compounding the problems for the lenders cannot be ruled out.

How will the new RBI rule affect credit card holders?
Data as of November 2013


02:10
 
Can a society ever be greed free? Well, we don't think so. Greed is perhaps as entrenched in the human mind as the need for water to drink or air to breathe. This social evil just can't be rooted out. What then is the next best option? Well, the next best option would be to perhaps create a system that is as greed proof as possible. To give you an example, the ancient Romans had this practice that whenever some new structure was thrown open to public, the person building it had to stand under it as the scaffolding was removed. Therefore if the structure turned out to be weak and collapsed, the first person to bear the brunt would be its original builder! Now that's an accountability of the extreme kind we believe.

Can something similar be done with the practice of insider trading that is so very prevalent in the Indian markets? A leading daily highlights how some or the other group of traders routinely make big money from block deals by pre-empting the move and cornering huge chunk of shares at higher prices. Sadly, no solution has been found so far that deals with this menace effectively. Therefore, while the practice remains common, convictions have been very few and far between. Thus, looks like this is the bad that comes with the good of having an efficient stock exchange system that does a commendable job of bringing together a large number of buyers and sellers in an open manner. Or do you think some solution does exist? At least we are out of our depths on this one.

02:45
 
Monetary policies both in India and the US have had inflation targets underlining the liquidity stance. The Indian central bank has been trying hard to curtail consumer inflation by keeping interest rates prohibitively high. In doing so, it has also attracted the ire of policymakers. The RBI is in fact blamed for India's poor GDP growth in the last fiscal. However, it is only recently that the CPI (as against the WPI earlier) became the RBI's focus.

Its US counterpart meanwhile is trying to achieve a higher inflation rate. Despite its targeted 2% inflation, price rises in the US have barely crossed 0.9%. And the bigger target of generating more employment remains largely unachieved. Moreover, the Fed has also been anxious about growth and hurting employment. Which is why it has supported money printing for a prolonged period. Now as it tries to unwind its bond buying program, the liquidity tightening poses a threat to the global economy. The RBI too has not minced words in calling the Fed's policies completely misdirected. As per Economist, the officials at the US Fed need to do some introspection. They need to figure out whether they had incompetent personnel or faulty policies all this while. We believe that the sooner the US Fed recognizes its malaise, the faster will the global economy find a sound footing.

03:10
 
The importance of effective economic policies and tax reforms can hardly be overemphasized. Any loophole or inefficiency in the same can lead to significant costs for the fiscal system. And India is not the only victim of such policies. As per an article in Huffington Post, US economy is losing significant money that it might have earned from taxing corporates. This is because US companies are choosing to keep profits abroad to avoid getting taxed at home at higher rates.

It is important to note here that tax rate in US is 35%. However, as per the US law, US based corporations need not pay tax on overseas profits unless they repatriate such profits. In order to avoid high rates of tax in US, the profits stashed abroad have almost doubled from 2008 to 2013. However, one can hardly blame the corporations for tax avoidance in this case. All they are doing is working within the policy framework and putting the money where they feel can it can be most efficiently used. If something deserves blame, it is the flawed policies in the first place.

In an attempt to bring back the money, there is a proposal to scrap the law that allows income tax deferral. There are even talks of offering onetime tax holiday to incentivize companies to bring back foreign profits. But will these proposals be taken ahead? If one goes by history, chances of a significant change in tax code seem slim. The time and effort it takes to clear the mess should be a lesson for all policymakers to come up with efficient policies in the first place, without leaving loopholes.

03:35
 
What could be the most effective hedge during financial instability and in times of geopolitical uncertainty? The answer obviously is gold. Gold is also considered a safe haven against currency devaluations or any other crises. There have been many instances of war and political tension in the past where gold always proved to be the most trustworthy asset. Recently gold prices have bounced back and climbed 8.9% this year due to increased possibility of a war breaking out between Russia and Ukraine. This is after a 28% plunge in gold prices last year. Also, two of the world's biggest gold buyers i.e. China and India continue to spurt the gold demand. In fact, imports by India more than doubled in March 2014 as compared to February 2014, as per government sources. This is notwithstanding several measures adopted by RBI to curb gold imports. Considering its safe haven status and inflation hedging capability, we urge investors to have at least some allocation to this yellow metal in their portfolio.

04:30
 
In the meanwhile, the Indian stock markets after opening firm, continued to trade higher. At the time of writing, the benchmark BSE-Sensex was up by 149 points (+0.7%). Barring IT and FMCG, all the sectoral indices were trading in the green. Pharma and realty stocks were the biggest gainers. Most of the Asian stock markets were trading positive led by Hong Kong. Only the Japanese index was trading weak. Most of the European markets opened the day on a positive note.

04:50  Today's investing mantra
"The stock market is designed to transfer money from the active to the patient." - Warren Buffett
Today's Premium Edition
The best lesson trading can offer to value investors
Value investing and trading don't certainly go hand in hand. But there's one trading lesson that all value investors would do well to remember
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3 Responses to "Don't get fooled by the current market rally"

RK JHA

Apr 9, 2014

I personally believe that all the turmoil in economy during last couple of years was due to inaction / positive action on the part of ruling govt.in this period.Once those in power started taking positive action(s) things are appearing more reasonable be it CAD, inflation and things which happen
inspite of those in power.Market has been zooming to newer highs NOT because of anything due to perceived incumbent but due to the effect of strengthening rupee because of those in position to take commit and implement their words.If statistics are to be believed ,DIIs have been Net sellers in all forms and FII have been NET buyers in all forms of transactions.Question is who do U believe?Dont forget history .Make hay while sun shines .Money is yours NOT of any one else.Think Analyze if u can and decide what to buy and more importantly whom u vote for.

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Andrews W S

Apr 9, 2014

Indian equity market is being dangerously controlled by few institutions (FIIs ?) and they are parking their funds in India now only to capitalise the opportunity offered by the Election mania. No fundamentals justify this dollar-driven spurt in sudden stock valuations,but they know when the result come they will be the the first to move out of the market as huge confusion would bring down the over-heated Indian market. Watch for the dangerous U turn next month..

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Ganesh Sastri

Apr 9, 2014

If the stock market is to rise and keep rising, a change of government alone will not be enough. There has to be a significant increase in HONESTY at all levels in government. Past date under Congress and BJP does not lead us to belive that there will be any increase in honesty. Second Inflation has to be contained to zero%. RBI's target is still 8% for this year. Third GOI has to have a balanced budget - must live within its means if inflation is to be contained. This is also unlikely. Fourth the country must learn to live within its means. Its trade deficit ( after including unaccounted imports {of gold etc}) should be brought down to zero. This is also unlikely. There is a hefty amount of wage inflation across many many industries and sectors and this is UNACCOPANIED by increase in productivity. There is no evidence of increase in productivity at individual level or corporate level. In manufacturing and services we need to be cost competitive with many other players. Export figures or increases do not give the confidence that we are low cost producers. The present exuberance may not last long.

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