What to buy? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

What to buy? 

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In this issue:
» PSU banks' new task
» Confused US Fed
» Dow ready for a 25% leap
» China's problem of plenty

» ...and more!

00:00 What to buy... at US$ 140 a barrel?
We attended ONGC's annual investor and analyst meet for FY08 yesterday. And one of the main takeaways was its gloomy outlook for crude oil prices. It wouldn't be a surprise if the oil marketing companies (IOCL, BPCL & HPCL) expected grim crude oil prices. After all, they have to bear the brunt of under recoveries. But it is significant when India's main oil producer categorically says that the situation looks grim.

ONGC should know. It handles oil fields all over the world through ONGC Videsh, its wholly owned subsidiary. And it says that most of them are mature fields and it is taking them a great deal of effort to maintain the production levels. That's the contraction in the supply side. On the demand front, ONGC says volume off takes have become price inelastic. No one is able to make do without energy and volumes no longer contracts in response to higher prices. Net net, India's premier oil producer doesn't see the crude prices softening in a hurry.

That takes us to the second point. If oil prices are unlikely to soften in the near to medium term and if it continues to stoke inflation, what should one buy? The answer may not be difficult to find. Since commerce is all about exchanging goods and services, one firm's costs are likely to be another firm's revenues. Hence, in times such as these when most of the companies that directly or indirectly have crude related expenses in their cost structures, companies that would benefit the most would be the ones that produce crude oil. Furthermore, higher crude prices intensifies search for more crude. The result? Demand for companies that provide equipment for oil exploration and other related services. Hence, investors are not likely to go wrong in looking for companies belonging to such sectors and having strong fundamentals.

  • Also read - The Saudi reaction to oil prices

    01:08 US Fed maintains status quo
    While rising inflation forced the RBI to hike the repo rate and the CRR, the US Fed has kept interest rates unchanged at 2% for the time being. Readers would do well to note that the subprime meltdown had prompted the Fed to resort to a series of interest rate cuts that began in September 2007. While rising inflation has stopped the Fed from cutting interest rates further, concerns over a slowing US economy has prevented it from raising rates either; hence no change has been effected in the rates. As per the International Herald Tribune, Fed chief Bernanke has quoted, "Although downside risks to growth remain, they appear to have diminished somewhat, and the upside risks to inflation and inflation expectations have increased." The European Central Bank, on the other hand, has signaled a hike in interest rates to rein inflation. This could prove to be a dampener to the US as the interest rate differential between Europe and the US would increase, weakening the dollar and increasing the value of goods imported into the US. Testing times for the US indeed!

  • Also read - Fed Reserve's quandary

    01:49 Dow ready for a 25% leap
    No, this isn't the famed US stock market benchmark we are referring to. Instead, it's the biggest chemical maker in the US, Dow Chemicals and its decision to raise prices by up to 25% in July. This is believed to be the largest ever price hike undertaken by the company in its long history. Infact, it has joined a growing list of companies that are finding it difficult to absorb higher costs arising from higher raw material and energy prices. Recently, global miner, Rio Tinto and Chinese steelmaker Baosteel, entered into an agreement whereby the former will supply iron ore at a price that has been revised upwards by 97%. This will most likely be the benchmark for other similar deals as well. The latest round of price hikes highlights the problem that the world is facing currently on the inflation front. So far, the developed world was shielded from inflation on account of shifting work to low cost countries like India and China. But now, even these countries are facing higher inflation and are finding it difficult not to pass on cost increases. Furthermore, rising income levels here are putting additional pressure on prices. Looks like it will require some bold steps by central banks across the world in order for this menace to be tamed.

    02:40 Sugary sales
    India, the world's second-biggest sugar producer, is expected to export a record 4.2 m tonnes of sugar in the current crop year, exceeding earlier estimates of 3.5 m tonnes. Interestingly, India's sugar exports had never crossed the 2 m tonnes mark prior to this year. In fact, it will now surpass Australia, the world's third largest sugar exporter. It is also making strides in the export of raw (unrefined) sugar, which alone are expected to be 2.3 m tonnes this year. It entered the raw sugar export market in 2007 by selling to Dubai's Al Khaleej, the world's largest refinery, which has now switched to India from top producer Brazil.

  • Also read - Is the Sugar Sector turning sweet?

    Domestic sugar scenario
    Sugar (MT) 2007-08 2008-09
    Opening Stock (as on 1st Oct) 11.5 14.5
    Production 26.5 23.4
    Imports 0 0
    Consumption 20 21.2
    Exports 3.5 3.5
    Closing Stock (as on 30th Sept) 14.5 13.2
    Source : CMIE estimates June 2008

    03:04 PSU banks to aid innovation
    In an effort to ensure that start-ups get adequate funding, the Indian Science Ministry is looking to channel the money it disburses to these companies through various programmes through state-owned banks, which will also play a part in identifying and evaluating these new companies. With the government routing the money through them, the banks can use their inherent expertise as fund managers to help start-ups with their expansion plans. The ministry is also working on a US$ 185 m programme with the World Bank to actively encourage innovation in the country.

    Typically, start-ups approach venture capital (VC) firms for funding after they have readied their business plans. However, very few companies manage to catch the attention of VC firms, as the latter generally limit themselves to a narrow range of sectors such as biotech and communications. A 2007 report by the World Bank on innovation in India said that only 13% of VC deals involved funding of start-ups through the so-called early stage funding. The government's and PSU banks' initiative will thus stand in good stead for encouraging entrepreneurial talent in the country and enable the banks to capitalise on the same.

    03:47 China's problem of plenty
    This is indeed a world of contradictions. While some nations wait for years together to get that regular dose of foreign capital, some nations get it on a platter. Needless to say where China, the world's fastest growing economy, falls. Infact, it is the problem of exactly the opposite kind that the dragon nation is facing currently. As per the Economist, China's foreign exchange reserves have jumped by a whopping US$ 115 bn in just the two months of April and May. For the first five months of 2008, the figure has swelled to US$ 269 bn! To put things in perspective, this increase is only slightly lower than the total foreign exchange reserves that India holds currently. Although China does get a significant portion of its inflows in the form of FDI or the capital that is considered to be safe, what must be putting the officials on tenterhooks is the portfolio flows or the 'hot money', which is estimated to have touched US$ 170 bn during the first five months of 2008. This is far greater than what has been previously experienced by any emerging economy. Lot of 'hot money' in the total reserve composition could destabilise the economy if the capital flows out at a very short notice. This is what India found out, much to its chagrin, when the recent rapid rise in dollar against the rupee was exacerbated by these outflows. Although China's position is much better than India's, it nevertheless has to take steps to curb such flows.

  • Also read - China leads India

    04.33 In the meanwhile...
    Inflation rendered stocks on the benchmark Indian indices almost 'untouchables' since the start of the session today. This was in anticipation of the weekly inflation (as measured by the Wholesale Price Index - WPI) numbers. The BSE-Sensex opened the session nearly 500 points lower than yesterday's close and barely recovered from there. Even when the inflation numbers were released, and were well within expectations, participants chose to stay on the sidelines. News relating to further hardening of crude oil prices has spooked markets globally over the past few days.

    In India, the fuel prices were hiked by about 10% on June 4, 2008 and inflation dutifully galloped to a 13-year record of 11% for the week ended June 7, 2008 (up from 8.75% for the week ended May 31). This week it has marched further to 11.42%.

    Trouble with the inflation numbers for stockmarkets around the world just doesn't seem to go away. Even Japan, which has been struggling with deflation for many years, finds itself staring at consumer inflation and declining household spending. With oil prices hitting the US$ 140 per barrel mark and Goldman Sachs forecasting more credit related write-downs at Citigroup and Merrill Lynch, the US markets also crashed yesterday. Further, geopolitical issues continue to play a dominant role and the latest such instance causing the oil prices to escalate has been Libya's comments that it is studying the possibility of reducing output following potential US actions against the OPEC countries.

    04.58 Today's investing mantra
    "We favor businesses and industries unlikely to experience major change.". - Warren Buffett
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