Week of scary predictions

Dec 13, 2008

In this issue:
» The week that was
» R-Com's 'big' idea
» Get ready for the mother of all bull runs
» ...and more!

What looked like a weekend that almost rang the death knell for the big US automakers (particularly GM and Chrysler) finally ended without much damage. The entire week saw US policymakers dilly-dallying on the automobile industry's bailout plan, which ultimately failed to clear the last hurdle - the US Senate, as the policymakers and auto worker unions failed to reach a settlement (on Thursday). Wall Street was expected to face mayhem on Friday due to the collapse of this survival plan.

However on Friday i.e., yesterday, the US Treasury indicated that it would consider using a part of the US$ 700 fund set aside to help banks and Wall Street for bailing out the auto industry. US automakers are now hoping for this Plan-B to be successful or they face a bleak future and possible bankruptcies.

Apart from the US markets, the effect of concerns on the passage of this bailout plan also led to some volatility in Asian and European stock markets. However, despite this, key Asian indices closed with strong gains during the week. The Indian benchmark BSE-Sensex led the pack with 8.1% week-on-week gains. European markets also closed strong. The US Dow Jones Industrial Index was the only loser amongst key indices as it closed lower by 0.1%.

Source: Yahoo Finance

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The week was also marked by some scary predictions by global economic experts. While the Professor of Economics at the New York University Dr. Nouriel Roubini believed that the world is "in the middle of a very severe recession that's going to continue through all of 2009," Bill Gross, the founder of debt fund management firm Pimco indicated that "investors need to recognize these titanic shifts in market and public policies and be content with single-digit returns in future years. Stick to high-quality companies and asset classes. The road to recovery will be treacherous."

Incidentally, these experts were crying foul by the middle of last year that the US and world economies were going to suffer a serious downturn due to bursting of the credit and housing bubble. The rest, as they say, is history. Trouble has now, in fact, moved from the financial markets to real economy. There has been a worldwide slowdown in economic activity, with some countries like the US, UK and Japan having entered recession.

The impact on the Indian economy is also starting to show, as economists are revising the GDP (gross domestic product) growth estimates downwards. In the latest instance, RBI governor has predicted that the next financial year (2009-10 or FY10) is likely to be difficult for the Indian economy. The industrial output number that was released yesterday also painted a poor picture. The industrial output declined (by 0.4% YoY during October 2008) for the first time in fifteen years. A large part of this decline can be attributed to the 12% YoY dip in the country's exports.

Price of crude oil increased by 13% during the week, to over US$ 46 a barrel. We are of the belief that the precipitous fall in crude prices- especially from US$ 75 per barrel to US$ 40 a week back - indicated excessive pessimism. Can prices be at US$ 46 when the marginal cost of production from deep shore projects ranges from US$ 60 to US$ 90 per barrel? The answer is no! Our estimate for oil price is, therefore, higher!

Price of gold also rose during the week, by 9% to US$ 822 an ounce. This is the highest weekly gain clocked by the yellow metal in the past three months and is an indicator of rising deepening economic turmoil worldwide.

This week's biggest news
Reliance Communications (RCOM) became the first company to announce a buy back of its foreign currency convertible bonds
(FCCBs) after the RBI allowed the premature buyback through rupee resources. The company raised around US$ 1 bn by issuing zero coupon FCCBs in February 2007. The bonds are currently trading at 35% discount, which means that RCOM will have to spend only US$ 650 m. It may be noted that the company has around US$ 2 bn of cash reserves which includes US$ 600 m worth of investments in overseas mutual funds.

G.E. Shipping (GES) was amongst the leading gainers for the week. These gains were on the back of rise in the Baltic Dry Index (BDI), which tracks the rates for shipping dry bulk commodities like coal, iron ore and grains. Interestingly, the index has started rising again after falling over 90% from its record highs in May this year, to a 22-year low. Indian shipping companies like GES have responded to the crash in BDI by laying up vessels. The company has, in fact, sold/contracted to sell 4 dry bulk vessels over the past few months.

Best of this week's 5 Min. WrapUp
"India will see the mother of all bull runs in the next four or five years,
boosted by double-digit economic growth and increased investment by domestic investors, including pension and insurance funds." These are the words of Rakesh Jhunjhunwala, whom Forbes termed (in March 2008) as India's Warren Buffett. He believes that Indian stocks are very attractively valued at the current juncture but there will be a period of great uncertainty before we see the potential re-emerging. "The malaise of the West isn't a problem India is facing; we don't have overextended banking systems or overextended credit," he said.

Incidentally, Mr. Jhunjhunwala joins a score of experts who have indicated that the worst seems to be over for Indian stocks. As we had mentioned in the 5 Min. of 28th November, Mark Mobius (fund manager, Franklin Templeton) thinks that the Indian economy is still quite vibrant and that stocks are trading at some of the cheapest valuation levels in years vis-a-vis the earnings. "India will rise from this and prosper," he believes.

The letter to shareholders written by the chairman of a leading engineering company in its FY08 annual report has an intriguing sentence. It goes like this - "...we have been able to maintain ROCE at 20.6%, and grow our EVA by over 51% to Rs 834 crore. I am, therefore, pleased to propose issue of 1:1 bonus shares, subject to your approval." This rhetoric seems void of any substance.

The underlying tone is such that it seems to be attempting to create an impression on an investor of the company that - 'Dear investor, your company is doing so well that we as the management of the company have decided to reward you. We shall do that by giving you bonus shares!'

But how exactly does this 'reward' work out for the investor? Instead of one share he will now have two, with the combined value of the two shares equal to the value of the one share he owned initially. So we wonder why is a person in such a responsible position for such a leading company trying to induce excitement by making a bonus sound like something more than a stock split!

Weekend investing mantra
"When stocks are attractive, you buy them. Sure, they can go lower. I've bought stocks at $12 that went to $2, but then they later went to $30. You just don't know when you can find the bottom." - Peter Lynch

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