Should investors behave like Goldman Sachs? - The 5 Minute WrapUp by Equitymaster
Investing in India - 5 Minute WrapUp by Equitymaster

Should investors behave like Goldman Sachs? 

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In this issue:
» Munger once again shows his investing genius
» Buffett's views on coal
» Will China lessons help Indian manufacturing rebound?
» US engineers raking in millions
» ...and more!

The gentleman earlier claimed to be doing God's work. That he is an investment banker in one of the most notorious financial firms globally seems to be completely lost on Mr Lloyd Blankfein. The CEO of Goldman Sachs, once again, was firmly foot in the mouth. He declared that 'risk averseness' was the key reason for slowdown in US GDP growth. Blankfein seems to be missing the days prior to 2008 when his firm secretly sold an investment instrument called Abacus 2007-AC1 to select investors. The investors eventually lost more than US$ 1 bn!

Nevertheless, as per Moneynews, Blankfein has not just suggested that the US economy should refrain from being risk averse to stimulate growth. He has also praised Fed chief Bernanke's courage and skill in responding to the financial crisis with monetary measures. Now that is that is a statement that hardly surprised us. But we sincerely hope that this time around Blankfein's ideas do not find too many takers. Most importantly, investors not just in the US but India too should not get carried away by the 'high risk - high return' promises.

Entities like Goldman Sachs thrived by feeding the appetite for risk amongst ignorant investors in pre Lehman-bust days. The availability of cheap credit helped it sow the seeds of higher risk appetite. Needless to say even common investors got lured into the belief that the endless supply of credit could assuage all concerns about risk. But given the state of the US economy and the impact of cheap money on its financial systems, advocating higher risk appetite is not just foolish but criminal we believe.

Not just Blankfein, but several money managers, advisors and brokers out there continue to trap gullible investors. The promise of super normal returns may no longer be on derivatives, realty or stocks. But 'safe debt instruments' are their new favourite. Investors therefore need to be aware of the fact that high risk does not always guarantee high returns. In fact the chance of loss of capital is much higher in case of high risk investments than safer ones. So whether it is investing in small cap stocks or corporate debt of fundamentally weak companies, investors cannot afford to behave like Goldman Sachs.

Do you think firms like Goldman Sachs are justified in advocating higher risk appetite? Please share your comments or post them on our Facebook page / Google+ page

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01:35  Chart of the day
Government debt to GDP has come to be one of the most critical indicators of the massive fiscal cliff that the US and European economies are staring at. The US seems to have applied a temporary band aid to the problem. But Europe has yet to feel the jitters. Even a relatively sound economy like Germany had government debt as high as 87.9% at the end of FY13. In comparison, India seems far better off.

However, as we wrote yesterday, the UPA government's magic formula of poverty reduction and the Food Security bill could bring India much closer to the US and Europe on this metric. In FY13, the US' government debt to GDP ratio at 108% was nearly double that of India's 66.4%. But the Food Security bill has the potential to narrow the gap.

Data source: Finance Ministry, IMF, OECD

Imagine a hypothetical situation where you are nabbing a rich and successful person and stripping him of his entire wealth and then sending him away to an entirely new destination. Now, wouldn't you call him successful in the real sense of the word if he manages to achieve the same level of fame and fortune again? You would, isn't it? Well, we are going through the same humbling experience by watching Charlie Munger, the right hand man of Warren Buffett achieve something similar. Turns out that a small newspaper company that Charlie Munger helms as a Chairman has more than tripled in value since 2008. The reason? Apparently, its investment portfolio received a huge shot in the arm based on bets placed by Munger. And it isn't that Munger used some deft portfolio management skills to achieve this outcome. All he did was sit on cash for a decade and then when the opportunity truly presented itself in 2008, he swooped right in and invested in some real winners. This goes to show that the formula for success in investing is the same everywhere. All you need is perseverance and the tool kit to identify some really great businesses that keep on building wealth year after year.

A majority of investors base their investment decisions on short term news. In doing so, at times they miss out the long term big picture. And this is what differentiates them from true value investors. Value investors keep their eyes clearly fixed on long term economics. And it goes without saying that Warren Buffett is the undisputed master of this game. It is always worthwhile to understand how such legendary investors view long term economic fundamentals. For instance, we came across an article in Money News that highlights Buffett's views on the usage of coal in the US.

As per the Oracle of Omaha, the importance of coal will decline gradually as utilities shift towards cleaner energy alternatives. The shale gas revolution in the US has significantly reduced the dependence on coal. In 2007, coal accounted for 49% of the total electricity produced in the US. This has now fallen to about 38%. Though the decline of coal will take many years, the decline seems to be terminal as per Buffett. A major switch will be triggered when natural gas prices decline substantially.

Despite enjoying a low cost advantage, India's textile industry until recently always lagged countries such as China and Bangladesh. The reasons for this were plenty. Rigid labour laws, higher attrition rates, higher level of fragmentation, poor infrastructure and power shortages have been the culprits. But this could change. Indeed, costs in China have begun to rise. Bangladesh is beset with concerns relating to working conditions. This provides India with an opportunity which if it capitalizes successfully on can provide the much needed boost to the industry.

A major problem that most textile companies have been facing is on the labour front. For instance, smaller garment factories in rural regions attract workers from nearby villagers. But such a scheme is not feasible for larger units. Most of these larger and better integrated units tend to be in the bigger cities. But it is these units that face shortage of labour problems because the cost of living for workers is high. So to solve this problem, some Indian companies are thinking of taking a leaf out of China's book. The idea is to build larger integrated units but which will also have dormitories or housing facilities for workers. Setting up of textile parks by the government is also being considered. The implementation of this could take time. But if done well could go a long way in solving the woes of the textile sector. And from a more macro perspective, also help in bolstering exports considerably.

The global job market seems to be heating up for a particular class. That is the engineers. The demand is brought about by the shale gas boom that US is witnessing. The demand is particularly high for oil and gas engineers with an experience ranging 5 to 15 years. So much so that the salaries being offered to these individuals is as high as US$ 200,000 to US$ 350,000. The reason for this is simple. The demand exceeds supply. Following the IT boom in the 1990s, most engineers flocked to the IT world. As a result there is a dearth of engineering particularly in the oil and gas space. This makes us wonder if a similar thing could happen in India as well. Currently India is churning out engineers by the hundreds. But most of them are finding it difficult to get well-paying jobs. The reason for this is that the economic slowdown has hurt the investment plans of most companies in general and infrastructure companies in particular. If the government is able to implement reforms and investment rebounds, the demand from these sectors could be high. In addition the investments being made in the shale gas sector could also translate to new jobs. The onus for these now rests with the government. Will they help out the hundreds of engineers waiting for the lucrative jobs?

The global stock markets ended on a mixed note. The US markets adopted a cautious stance and ended flat ahead of major economic announcements to be made next week. In the Asian markets, barring India and Japan, all the other market indices ended in positive territory for the week. Japan's benchmark index fell by a steep 3% as yen appreciated against the dollar. Even the Indian markets ended in the red in anticipation of the Reserve Bank of India (RBI) policy review on July 30. In order to curb volatility in the rupee, the RBI had earlier tightened liquidity through stringent rules on gold imports and stricter norms for borrowing and Cash Reserve Ratio (CRR) requirement for commercial banks. The Indian markets were down 2% for the week.

Corporate India continued to witness a deluge of quarterly result announcement by companies. However, RBI policy measures ruled heavily on the performance of sectoral indices. Barring IT, shares in all the other sectors ended in the red for the week. The capital goods index was the worst performer, down 10.2%. Stocks from metal and banking sector were down 6.7% and 4.7% respectively.

Data source: Yahoo, Kitco

04:50  Weekend investing mantra
"A good business is not always a good purchase - although it's a good place to look for one."- Warren Buffett
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3 Responses to "Should investors behave like Goldman Sachs?"


Jul 29, 2013

Unfortunately, the financial markets don't conform to the laws of science , so there is no real cause-n-effect.Since the market defies logic, it is almost impossible to predict what will happen next. This is the reason that economists/financial analysts are extremely good at assigning reasons after the event has occurred. In such a scenario, it is difficult to judge who is right and who is wrong. The person who is right most of the time thus garners the max respect of the financial community. regds


Dr. Arun Draviam

Jul 27, 2013

If India is doing relatively better than the USA, in the Debt to GDP ratio, why Indian Rupee is getting beaten down against the US Dollar. Current Account Deficit should not cause such a disquiet.


kirti agrawal

Jul 27, 2013

we believe that govt should not bring food security bill when they are saying 22% poor people exist then why they want to distribute low cost food to 67% . i think they just want to distribute on papers and all money in swiss account so in my opinion we must file a public petition in supreme court to check this loot of our tax money.

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