Why invest in a bluechip that will not grow next year? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Why invest in a bluechip that will not grow next year? 

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In this issue:
» Auction of iron ore mines on the cards
» Companies on asset sale spree to repay loans
» 'Made in China' ideas and services
» Why B-school students are reading philosophy...
» ...and more!

In reading media reports, viewing company presentations and listening to managements post March quarter results; investors are looking for just one cue these days. Which companies will grow the fastest in next 12 months? That the election outcome will act as a tailwind of sorts is taken for granted. And any possibility of investing in companies that will not outdo others in terms of EPS growth over next 4 quarters is ruled out. Even if the companies in question are safe bluechip ones!

We have had several readers write in to us wondering which sectors will be the 'stars' of the post election era. Others want the list of stocks that will benefit in accordance of the election manifestos of the major parties. Few others have resolved to invest only in big business groups that are likely to win the favour of the winning political party. Needless to say, companies that do not promise exponential growth over the next 12 months are finding no takers! Even if their business models remain as rock solid as they can be. And their balance sheets offer enough comfort to tide over a prolonged economic down cycle. That one will have to be patient with companies that will reap the benefits of reform and recovery over time is not going well with investors. And in the bargain, they are giving mouth watering valuations of some solid bluechips a miss!

This brings us to the question - whether one should invest in a company that will not grow in the next year? Is one not better off parking funds in 8% yielding fixed deposit instead? Well, the answer lies in the investment tenure of the investor. If the investor tenure itself is one year, one would certainly be better off parking funds in safe bank fixed deposits. Speculating on stocks that promise superlative returns over next 12 months is fraught with risks, we believe. Having said that returns from stocks, unlike in FDs, does not come in a linear fashion. The below par growth and returns in one year tend to get adequately compensated over next few years. And that is when the stock fetches premium valuations. So the trick for long term investors is to invest at a time when the stock's growth potential is yet to reflect in its valuations.

So, as long as investors are assured of the fact that the bluechip company will retain its moat and grow over a period of 3 to 5 years, next 12 months' EPS is inconsequential, we believe.

Are you investing based on potential re-rating of stocks in the months immediately following the outcome of the general elections? Let us know in the Equitymaster Club or share your comments below.

Editors Note: There's more to getting wealthy than investing in stocks... to learn American wealth coach & Daily Reckoning contributor Mark Ford's wealth building strategies check out his 11 Secrets to Building Wealth (free access).

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01:35  Chart of the day
The rupee has lost between 10% and 20% against major currencies like the US dollar and the Euro over the past two years. Moreover, the losses against emerging market currencies like the Chinese Renminbi and the South African Rand have been quite steep as well. Again those speculating on the appreciation of the rupee in the near term stand to face disappointment. Even in the event of the Indian economy showing signs of recovery, foreign investors would weigh in factors like India's current account deficit and high debt to GDP ratio before making investment decisions. On both these aspects India fares badly. Countries like India that have to import capital to finance its domestic spending could see their currencies come under pressure in 2014 as the Fed taper proceeds. Countries that have a current account surplus may not feel much of a pinch. In the end, it is clear that emerging market currencies like the rupee are not out of the woods yet.

Rupee lost significantly over last two years

The shortage of iron ore in the country has been a serious domestic issue for quite some time now. And one state that has suffered a drastic change in fortunes in this aspect is Karnataka. It was in July 2011 that the state was banned to mine iron ore. This ban was imposed as a penalty for illegal mining and gross environmental abuse. Since then, there has been an undue delay in clearances like mining leases and environmental permits. So production in the state that once stood at 45 million tonnes (MT), has slumped to just around 20 MT, much less than the demand in the state. In a way, the impact of ban has been no less intense that the affect of illegal mining. However, things might take a turn for the better from here on. As per an article in Business Standard, Karnataka state Government is seeking apex court's permission to auction some of 'category C' iron mines to end users. These are the mines where mining rules were grossly violated. The move will benefit steel manufacturers that don't have captive mines and were overpaying through e-auction route.

The bidders will have to qualify technically and financially. Further, on financial front, apart from royalty, the premium that companies propose to shell to mitigate environmental damage will be a key qualifying criterion. Now this premium will be charged on value of mined ore. And determining the latter is going to be quite a challenge we believe. This is because it will be used for captive purpose and not sold in the open market. While the move is welcome, the Government should make sure that the bidding remains transparent and should work out ways that no ambiguity arise in future and no rules are flouted again.

The Damocles sword has finally come down upon companies with large borrowings. The Reserve Bank of India has imposed restrictions on the re-financing of loans from 22nd April. This was inevitable as banks have seen bad loans mounting in recent times. The gravity of the situation can be sensed from the fact that around Rs 2.1 trillion of bank loans are due for re-financing within a year. Under the new rules, companies with large borrowings can no longer carry forward their existing loans through fresh loans or guarantees from banks. Debt-ridden companies with limited foreign operations may even find it difficult to raise additional loans from their foreign subsidiaries.

As debt laden companies brace for tougher rules, a number of them such as Jaypee, GMR and Suzlon have started selling assets to repay loans. Companies have announced plans to sell assets worth Rs 602 bn. But this would reduce only 11.6% of their total outstanding debt. Companies would still continue to be saddled with huge debt. And companies with low assets may not find underwriters for their loans. Thus, they could be trapped in a debt cycle as high interest coupled with low cash flows would further cripple their liquidity.

Trust consultants like McKinsey to identify seismic shifts taking place in the global economy. And since 2007, there have been two of these as the findings that have found themselves highlighted in a leading international daily. One, financial globalisation in the form of cross-border capital flows that had grown to staggering levels has now gone into a complete reverse. As a matter of fact, these are 70% lower than in 2007. Two, and more important is the shift that's taking place in the digital world. So, move over low cost production. This is the day and age of 'knowledge intensive flows' which is now a gigantic US$ 12.6 trillion industry. In other words, it isn't just manufactured goods that are 'Made in China'. Ideas and services are also finding their origins in the dragon nation and other low cost destinations like India. So, what will be the implication of such a tectonic shift on jobs in developed nations like the US? Well, there can be disruptions no doubt. Especially in the mid-level jobs which are most easy for the low cost nations to replicate. Over the long term though the global economy will be better for it we reckon. Free markets and innovation have always improved the lot of the entire global population and without discrimination of any kind. And we find no reason to believe that this time it will be any different.

There have been debates in the past over an MBA bubble brewing in certain parts of the world. And with the regular news of students finding it difficult to service their loans, it cannot be entirely ruled out. Nevertheless, the fact of the matter is that this course does provide opportunities to switch careers, and aim for lucrative career paths - and as such will continue to remain popular.

With the financial crisis of 2008 having its impact on the global economy, it seems that the B-schools have now decided to bring in the element of philosophy into school curriculums. Or as put by the Wall Street Journal, the philosophy department is invading MBA programs. The rationale behind introducing the same is to help students think beyond profits & provide them with the tools to take broader views and better understand the reasons behind what they do and why they do so. Electives such as 'Nobel Thinking' or 'Thinking about Thinking' are some of the courses being offered. While these courses may easily be labeled as abstract, whether they will connect with the students (and whether they actually go on to implement the learnings) is something that would have to be considered. They are nonetheless gaining popularity due to students wanting to understand the causes and effects of the global economic turmoil post the financial crisis of 2008.

Share markets across the world delivered a divergent performance this week. Stock markets of the western world remained buoyant while those in Asia and emerging markets witnessed selling pressure. US stocks shrugged of concerns about tensions in Ukraine and ended higher for the week. The Dow was up 9% this week. Economic data from the world's largest economy was mixed as strong job growth data came in alongside data which showed that wages have continued to remain flat and more people were leaving the workforce. The US Fed maintained its QE tapering program by reducing its monthly purchase of debt securities by another US$ 10 bn.

Back home in India the general elections have completed seven out of the nine phases and anticipation is building up about the next government. This uncertainty coupled with profit booking dragged the Indian indices down by 1.3% this week. This was the worst weekly performance by the Indian indices in the last three months.

Performance during the week ended May 2nd, 2014
Source: Yahoo Finance, Kitco

04:50  Weekend investing mantra
"A business or stock is not an intelligent purchase simply because it is unpopular; a contrarian approach is just as foolish as a follow-the-crowd strategy. What's required is thinking rather than polling. Unfortunately, Bertrand Russell's observation about life in general applies with unusual force in the financial world: "Most men would rather die than think. Many do." - Warren Buffett
Today being a Saturday, there is no Premium edition being published. But you can always read our most recent issue here...
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5 Responses to "Why invest in a bluechip that will not grow next year?"


May 16, 2014

what is the best investment to get monthly or quarterly payments



May 14, 2014

Iam intresting to invest by your advise plz guide me for long term investment


pawan garg

May 13, 2014

some of well managed companies have not moved. these are indian glycol, indraprastha medicorp , fortis ,chennai petro etc

Like (1)

Kiritkumar shah

May 3, 2014

Iam intresting to invest by your advise plz gude me for long term investment.

Like (1)

Kiritkumar shah

May 3, 2014

Iam intresting to invest by your advise plz gude me for long term investment.

Like (1)
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