Sign up for Equitymaster's free daily newsletter, The 5 Minute WrapUp and get access to our latest Multibagger guide (2017 Edition) on picking money-making stocks.

This is an entirely free service. No payments are to be made.

Download Now Subscribe to our free daily e-letter, The 5 Minute WrapUp and get this complimentary report.
We hate spam as much as you do. Check out our Privacy Policy and Terms Of Use.
What to make of this global crisis - Ajit Dayal - Views on News from Equitymaster
  • E-MAIL
  • A  A  A
  • Aug 10, 2007

    What to make of this global crisis - Ajit Dayal

    Yes, Radha, the bust in USA will hit us in India.

    In May 2006 when the BSE-30 Index declined by 17% in eight sessions, we wrote about the bubble in the Middle East markets - Markets Do Fall (PDF) and said, "Better economic and GDP growth is not an assurance to a perpetually booming stock market".

    The link between financial markets in the US and Indian stock markets
    Today, as the Indian markets get lashed by something called sub-prime mortgage, we are being asked to remain calm and cool as there is no linkage between what happens to the financial markets in the US and to the Indian stock market.

    Well, that is a partial truth and, in effect, a partial lie.

    Stock markets are influenced by 2 factors:
    1) how much do companies earn, and
    2) how much are people willing to pay for those earnings.

    The earnings power of a company is a function of the business of the company, its management, and the overall growth rate in the economy in which it operates. There is little change here in our view and we should safely assume that India's GDP will grow at a 6% to 6.5% per annum rate for the next few years. (Many more optimistic people have a higher GDP growth rate for India at 8% plus but we don't subscribe to that view as yet.)

  • Habits die hard: TBTF - Ajit Dayal

    Understanding liquidity & sub-prime debt
    How much people are willing to pay for those earnings is a function of what economists call "liquidity" and though there is no clear definition of what "liquidity" is, one can assume that it is how much money is sloshing in the system. Imagine you are at a bar and everyone is feeling a little good from the various other liquids that the bar tender has to offer for a price, of course. Then the bar tender says, "Hey, folks, how about I cut the price of the drinks by 50% - anyone want some more?"

    You bet! The crowds get bigger and people feel even more elated. With all those drinks available on the cheap, they lose their sense of judgment. Human nature is anyways tuned to drift into flirtations. With a few more drinks, the drifting becomes a reality. The poor bloke standing next to you in this bar - a total stranger - suddenly feels like a friend. You begin chatting. By the end of the fifth glass, the poor fellow who works as a waiter in some corner restaurant in some obscure town in USA now looks like a promising young man who could one day start his own restaurant, build his own mall, and maybe have a chain of restaurants. So you lend him money to buy a house. He is actually what the credit rating agencies would call a "sub-prime credit risk". But, because that bar tender gave you all those free drinks, in your eyes he becomes a good risk and better still, you turn to the other drunk next to you and re-sell the loan you made to this sub-prime fellow for a profit. And why do you sell the loan for a profit? Because the guy you sell it to (a European, Japanese, Middle Eastern, whoever) is more drunk than you because the bar tender in his country also gives him free drinks. And he cannot assess the risk profile of that sub-prime American any better than you can. So all the drunks are happy. And you use that profit to make another loan to another poor sub-prime fellow and so on and so forth......

    Since 2003 all the drunks are having a good time, lending and buying and selling sub-prime loans to each other.

    All the sub-prime folks who got this silly money in 2003, 2004, and 2005 from the folks at the bar thought they were rich and started buying big houses and big cars and spent money which was not earned, but borrowed.

    The bar tender is serving the drinks because he needs to make sure everyone feels good. There may be an election around the corner. Or if he serves his drinks quick and fast, some big bank group may come in and hire him as a consultant or make him a chairman of a global financial conglomerate riding this tide of global liquidity.

    So the central banks were the bar tenders, doling out drinks and money as if their printing presses had to print, and print and print. Rather than being the men in grey suits with grumpy faces worried about the fate of the financial world, they became the stars on TV channels and the toast of conventions: their suits were grey but they were talking about this perfect world and this goldilocks, fairy tale.

    And that fairy tale found its way to India and the rest of the emerging markets. From being the poor countries with corrupt governments and inept governments that have consistently failed to look after the needs of their people, these countries got a new name: BRIC. They became the darlings of the drunks. Yes, while there have been significant improvements in many countries - including India - the perception of the depth or the sustainability of these improvements were exaggerated when the drunks at the bar came calling.

    India has seen nearly US$ 50 billion of foreign inflows - of which US$ 40 billion have come in since 2003. Yes, the Indian companies and the Indian stock markets did deserve a lot of that but the assessment of risk has been, in my opinion, absent.

    The sub-prime fall out
    The sub-prime blow has so far seen some US$ 2 billion of losses from funds that have been closed down. There is maybe another US$ 50 to 100 billion of losses that may yet be exposed, according to people who track this industry. While US$ 100 billion is nothing in a world where the market cap of stocks is US$ 30 trillion (300 times the potential losses) and where bonds worth maybe US$ 100 trillion float around, the bar tenders are now serving less of that booze. The drunks are getting more sober. They now see that sub-prime person as someone who may be lucky to keep his job in a restaurant as opposed to their previous assumption (over the rim of their liquor glass) that they were lucky to stumble on the founder of the next new big restaurant chain in USA. And they will price that loan accordingly.

    And they will see the investment opportunities in the emerging markets with a little better understanding of risk. Don't get me wrong: the fundamentals for India are fantastic, and money will flow in to India over the next decade. Sensible, risk-assesses money. But for now, the silly money will go out. The P-Note folks will vacate and that will cause the Indian market to suffer.

    India has, via its P-Note policy, linked itself to silly money. We enjoyed the ride for the past 4 years, now we will feel a bit of pain.

    Keep your money ready to invest. Stay disciplined, never be carried away, politely tell the bartenders to keep their extra, free drinks. And you will profit: steadily but surely.

    Ajit Dayal is Director, Quantum Advisors Private Limited. Ajit is the founder of Quantum Asset Management Company Pvt. Ltd. and also Quantum Information Services Pvt. Ltd., which owns Equitymaster & Personalfn.



    Equitymaster requests your view! Post a comment on "What to make of this global crisis - Ajit Dayal". Click here!


    More Views on News

    How to Ride Alongside India's Best Fund Managers (The 5 Minute Wrapup)

    Jun 10, 2017

    Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.

    You've Heard of Timeless Books... Ever Heard of Timeless Stocks? (The 5 Minute Wrapup)

    Aug 19, 2017

    Ever heard of Lindy Effect? Find out how you can use it to pick timeless stocks.

    Why NOW Is the WORST Time for Index Investing (The 5 Minute Wrapup)

    Aug 18, 2017

    Buying the index now will hardly help make money in stocks even in ten years.

    Trump Takes a Beating (Vivek Kaul's Diary)

    Aug 18, 2017

    Donald J Trump, a wrasslin' fan, took a 'Holy Sh*t!' blow on Tuesday.

    How To Read Your Mutual Fund Account Statement Correctly (Outside View)

    Aug 17, 2017

    PersonalFN simplifies the mutual fund account statement for you.

    More Views on News

    Most Popular

    Demonetisation Barely Made Any Difference to Tax Collections(Vivek Kaul's Diary)

    Aug 7, 2017

    The data tells us quite a different story from the one the government is trying to project.

    A 'Backdoor' to Multibaggers: It's Like Investing in Asian Paints Ten Years Ago(The 5 Minute Wrapup)

    Aug 10, 2017

    Don't miss these proxy bets on growing companies or in a few years you will be looking back with regret.

    Should You Invest In Bharat-22 ETF? Know Here...(Outside View)

    Aug 8, 2017

    Bharat-22 is one of the most diverse ETFs offered so far by the Government. Know here if you should invest...

    Signs of Life in the India VIX(Daily Profit Hunter)

    Aug 12, 2017

    The India VIX is up 36% in the last week. Fear has gone up but is still low by historical standards.

    7 Financial Gifts For Your Sister This Raksha Bandhan(Outside View)

    Aug 7, 2017

    Raksha Bandhan signifies the brother-sister bond. Here are 7 thoughtful financial gifts for sisters...

    Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
    Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement.

    LEGAL DISCLAIMER: Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here. The performance data quoted represents past performance and does not guarantee future results.

    SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.

    Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
    Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: info@equitymaster.com. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407

    Become A Smarter Investor In
    Just 5 Minutes

    Multibagger Stocks Guide 2017
    Get our special report, Multibagger Stocks Guide (2017 Edition) Now!
    We will never sell or rent your email id.
    Please read our Terms


    Aug 18, 2017 (Close)