'Less risk led to more losses'

Apr 23, 2009

In this issue:
» Outsourcing deals have declined
» Jewellery sector is regaining its sheen
» ITC's plans with respect to its foods business
» IMF's gloomy forecast
» ...and more!

Just as in India, the results season is also underway in the US. However, we are most interested in the results of financial firms. It isn't that we have developed a special liking towards them. But these firms are so crucial to the smooth functioning of the global money markets that every development needs to be painstakingly analysed.

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Talking of development, the most recent one happened to be Morgan Stanley's first quarter results. Unlike its peers, the company's financial performance stood out like a sore thumb. As per New York Times, Morgan Stanley reported a loss of US$ 177 m on the back of a steep 62% fall in revenues. Performance was hurt by net losses of US$ 1 bn on investments in real estate. And what was the reason behind the banks' underperformance as compared to its peers? 'The bank took less risks', is how the management chose to reply. Its results however, are likely to force a rethink in the strategy of people who had begun to believe that US banks may have started to turn around the corner. People at IMF though could be happy. Morgan Stanley's losses lend further credence to their assertion that write downs worth half a trillion dollars still await US financial firms.

While we have already heard managements of top Indian IT companies spell caution on the mid term growth of the sector, a report from a leading industry research agency puts to rest the view of anyone who thought otherwise. The US based TPI, the world's largest sourcing data and advisory firm, and which tracks IT contracts worth more than US$ 25 m, has reported that the number of outsourcing deals globally declined by 22% during the January to March 2009 quarter. As per its report, just 141 deals worth US$ 19 bn were contracted during the quarter, which was lower as compared to around 180 deals consummated during the same quarter last year and 160 finalised during the previous quarter (September to December 2008). Sign of tough times indeed!

Going by the latest projections of the IMF and the World Bank, it looks like the global financial crisis is far from over. The IMF has pegged the losses from the global economic crisis at a mind boggling US$ 4.1 trillion and is of the opinion that around US$ 1.1 trillion will be needed to fix this problem. These numbers more than amply highlight the depth of the crisis. Out of these losses, US$ 2.7 trillion is from loans and assets originating in the US, followed by Western Europe, whose financial institutions will have to write down US$ 1.2 trillion in loans and securities originating there.

The silver lining in the cloud is that the IMF has spotted the first glimmers of stabilisation in the global financial system. But the hard work is not yet over and rather than resting on laurels, the IMF has stressed on the need for 'continued decisive and effective action' by governments, banks and institutions like itself if the system has to be prevented from going down under. While many world leaders pledged US$ 1.1 trillion more for the fund this month, the latter's mettle will now be tested as it will have to work out a way of bailing out economies on the brink of a collapse.

India's jewellery sector seems to be gaining some sheen. As reported in a leading business daily, exports of gems and jewellery, the third largest foreign exchange earner for India, grew marginally by 1.4% to US$ 21 bn in FY09 despite a contraction in global demand. Having said that, the strong performance in the first half of FY09 is what helped cushion the overall blow for the full year, as the second half of FY09 reeled under the dampening impact of the global economic downturn. Further, the sector witnessed job losses to the tune of around 200,000, which was not only due to downsizing but also due to the closure of several small units which could not withstand the immense pressure.

Gold jewellery that accounts for a third of the total jewellery exports witnessed a robust growth of 24% in export sales. Of course, the scenario in the near term still looks bleak and jewellery sales will only surge once the global economy shows signs of perking up. India's gems and jewellery sector is fervently hoping that that happens at least in the second half of FY10.

<>ITC's foods business is facing some tough times. As per a leading business daily, cigarettes-to-hotels conglomerate ITC is planning to withdraw financial support to this low-margin business, unless it turns profitable within the stipulated time. Started way back in 2001, the division owns well known brands such as Kitchens of India, Aashirvaad Atta, Sunfeast biscuits, Bingo snacks, Mint-O and Candyman. Contributing around 7% to 9% to its total revenues, the foods division is facing tough rivalry from Britannia, HUL and PepsiCo. Further, ITC has also been under pressure across its segments on account of lower cigarette volumes, tough retail environment and fall in hotel occupancies. Given the losses that the foods business has been mired in, such a move by ITC is likely to enable it build a more profitable portfolio going forward.

When Warren Buffet says that he finds US stocks and bonds attractive, the same is backed by very good reasoning. The US may have been hit by the greatest economic crisis ever since the Great Depression. However, the US Treasuries are still finding plenty of investors. In fact as per a leading business daily, India's central bank (the RBI) which has won accolades for its conservative stance during the financial market turmoil, is one of the biggest buyers of the US debt papers. As per the daily, the RBI has increased its investments in US government bonds by 70% in the past few months. Resultantly, this features among the highest investments by a major Asian economy after the collapse of investment bank Lehman Brothers in September 2008.

Despite India's forex reserves dipping by US$ 42 bn in the past few months, the country had increased its exposure to US government securities to US$ 35 bn by the end of February 2009 while China pumped in an additional US$ 126 bn since September 2008 to take its total exposure to US$ 744 bn. It may be noted that China has been the most aggressive investor in US Treasuries in the past few years ousting Japan from the top position.

With the slump in the world economy, many observers predicted that oil demand will reduce and that prices will decline to US$ 20 per barrel. While demand for oil is on course to record lows, prices have stabilised in the region of US$ 50 per barrel. As per the New York Times, this is because investors are now parking money in the commodity as a hedge against the US dollar and inflation. Moreover, the OPEC's supply cuts have also created a support level. In the short term, prices could fall if the economy weakens further. However, in the long term, we believe oil prices will be higher until mass market alternatives to oil reach commercial viability.

The outlook for the travel industry in Asia continues to be bleak. Even as Japan, Hong Kong, Singapore and Taiwan are in recession, hotels in these places are being forced to resort to promotional buffets and cheap spa packages for locals as an alternative to business travelers whose companies have drastically reduced their travel spends. With this slashing of travel budgets, Asia has been hard hit; hotel room rates are falling for the first time in five years. Airlines too are suffering a similar fate. However, as per a report in the Mint, travel to China and India is holding up much better in contrast because these markets are too important for companies and competition for market share is also intense. Infact, Shanghai is one of the few cities globally where hotel rates are actually higher than a year ago by 2%.

The Indian markets closed higher by 2.9% today, led by gains in the BSE Metal, BSE IT (up 5% each) and BSE Auto (up 4%) indices. While the Asian indices closed mixed, the European indices are trading firm currently. As reported on Bloomberg, crude oil prices were little changed at US$ 48.8 a barrel with US crude supplies reaching their highest level in nearly 19 years.

 Today's investing mantra
"Understanding how to be a good investor makes you a better business manager and vice versa." - Charlie Munger

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