21st century finance... - The Honest Truth By Ajit Dayal
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Investing in India - Honest Truth by Ajit Dayal
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31 JULY 2008

Commentators and analysts seem to be obsessed and upset that the era of 21st century finance is clashing with the mentality of 20th century central banking norms in many places in the world.
21st century finance may be coming to a premature end.
About 991 years before the 21st century is due to end.

Modern finance.
21st century finance, in its short history of 8 years has already left the real world reeling from 2 shocks.
The first shock was the technology bubble. For those just new to the field of investments, that was the period from September 1999 to March 2000 when anything to do with technology was touted as the solution for a new world economic order - and a sure shot path to guaranteed wealth.

Someone did get wealthy - many of the investment bankers that brought pretty useless companies to the stock market and dumped investors with bagfuls of useless IPO paper. An estimated USD 200 billion was lost from investment in "hot" IPOs in USA alone. Maybe another USD 300 billion was wiped out from investors' wealth in other countries. A USD 500 billion loss globally caused by the power of fast-talking analysts and investment bankers is no mean achievement. And those that caused it were indeed geniuses. And they deserved the bonuses and high salaries. This is probably what led them to declare that economic cycles were dead.

I guess what they were referring to was the certainty of 21st century finance. The ability of the financial system to create a mess, cause widespread damage, but still make sure that the destroyers never get destroyed.
Their economic cycle was permanent. Million dollar salaries, million dollar bonuses, and stock options that always seem to get re-pried to stay "in the money".

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So, sure enough, after a slightly dull 2002 and 2003 which threatened their brave thesis that "economic cycles are dead", the 21st century financial geniuses were at it again. Hedge funds, private equity funds, PIPE funds, and mortgage loans with no collateral, mortgage loans that charged no interest for the first few years - you name it, the game was being played.
The creative geniuses were at their best.
Under the watchful eye of a pretty laid back central banker, Alan Greenspan, Chairman of the Federal Reserve System in USA.
It was the era of "goldilocks".
Everything was just right, just perfect, just as it should be.
There was not a cloud in the sky.

Helicopter Ben, Rustic Reddy.
But cycles have a way of turning up on you.
First it was one cloud. Then a bunch of them and, before you could say "bubble trouble", the US housing market collapsed - and resulted in some USD 500 billion of losses in the banking system, worldwide.
There could be another USD 500 billion somewhere out there hiding under some fancy assumption that accountants hired by 21st century finance geniuses make.

And when the storm clouds came, Greenspan passed on the baton to Ben Bernanke. Not to worry, said Ben, if any bank is in trouble I will head there with a helicopter and throw cash at them. Really, he did say that.
So the market now calls him, Helicopter Ben.
He is as 21st century as the mission to Mars.
The financial geniuses he is supposed to oversee and punish.
Helicopter Ben's prescription for money junkie is here, boy, take some more. For free.

Now, I will be the first to admit that being a central banker is not an easy task.
The job can be pretty easy - sort of a helicopter ride - for those like Ben Bernanke who seem to nod their heads in academic agreement with financial geniuses whenever they want cash to avoid another market meltdown.
If the geniuses make mistakes, give them more money to hide behind.
But, if you are of the breed that really tries to do what central bankers should do - protect the value of the currency at any cost - then being a central banker can be a pretty tough and unpopular job.

Bullock cart man.
Take the case of Dr Reddy. As governor of the Reserve Bank of India, Dr Reddy and his colleagues have to maintain the value of the Indian Rupee. Not an easy job in a country where the politicians love to spend money, give away freebies, and refuse to sell down equity stakes in the government-owned companies.

Don't get me wrong, politicians everywhere in the world love to spend money. The next US President will inherit an estimated USD 450 billion fiscal deficit. Lucky man (since there is no lady left in the race). The next Indian government will probably inherit a fiscal deficit that may be closer to 9% of GDP.

But Uncle Ben has mastered the art of piloting his helicopter. He will always be accommodative. And the US currency has been clobbered.
Gold is up 100% from where it was in 2005.
The USD greenback has lost (-)35%.

But not the INR. It has gained +10% over the past 4 years.
And Dr Reddy is a solid, boring, rustic central banker.
The kind that belongs to the 20th century.
The type of central banker who has little tolerance for foolhardy growth in the banking sector in India.
So, Dr Reddy is increasing interest rates to slow down idiotic lending practices.
And idiotic consumer behaviour.
Unlike the central bankers in the USA and UK, Dr Reddy is forcing Indian lenders and Indian borrowers to accept the fact that Goldilocks only existed in the fairy tale books. There is no free lunch. There can be no fringe benefits created out of thin air. Someone, somewhere on the system has to pay.

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So, when Dr Reddy raises interest rates, I clap.
I feel like giving him a standing ovation.
He is making Indians move away from a USA-style, save-less and consume now mentality.
Dr Reddy's actions are there to remind Indians that it is savings which generate wealth. Rising interest rates slow down consumption and encourage people to save more. That new wealth creation from future investments is what Reddy would like to get.

Meanwhile, 21st century finance is a wash-out.
It may not die so quickly because it has the support of Helicopter Ben. A product of the 21st century.

But, boring 20th century central bankers are in short supply.
As is logic, calm, and a focus on the long term investment thesis for those brave enough to venture into the stock markets.

But venture they must: Dr Reddy is setting the pace for India's GDP for the next 10 years. And that will be an opportunity to profit.

Our investment view has not changed.
While the markets vote and the elected representatives vote, we still maintain the need for individual investors to buy low cost, simple investment products for the long term.

And if the "reforms" on foreign ownership of insurance companies and the banks do progress - hang on to your wallet. The distribution channels will be ready to pounce on you.

Suggested allocation in Quantum Mutual Funds
Quantum Long Term Equity Fund Quantum Gold Fund
(NSE symbol: QGOLDHALF)
Quantum Liquid Fund
Why you should own it: An investment for the future and an opportunity to profit from the long term economic growth in India A hedge against a global financial crisis and an "insurance" for your portfolio Cash in hand for any emergency uses but should get better returns than a savings account in a bank
Suggested allocation 80% 15% 5%

Disclaimer: Past performance may or may not be sustained in the future. Mutual Fund investments are subject to market risks, fluctuation in NAV's and uncertainty of dividend distributions. Please read offer documents of the relevant schemes carefully before making any investments. Click here for the detailed risk factors and statutory information"

Note: Ajit Dayal, the author is a Director in Quantum Information Services Private Limited and Quantum Asset Management Company Private Limited. Views expressed in this article are entirely those of the author and may not be regarded as views of the Quantum Mutual Fund or Quantum Asset Management Company Private Limited or Quantum Information Services Private Limited.

Mutual Fund Investments are subject to market risks. Please read the offer documents of the respective schemes before making any investments.


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