»The Honest Truth by Ajit Dayal

A bashing for predicting the Index
20 JUNE 2011


"There is a rule in our business", said a sympathiser, "that you never predict a number and a date."

The sympathy was being expressed in support of Meredith Whitney, a market analyst in the US who had predicted the collapse of Citibank prior to the Lehman crisis. In 2010, she made the "mistake" of predicting that there would be 50 to 100 defaults amounting to hundreds of billions of dollars in the municipality debt market (called "muni's") in USA in the year 2011.

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Well, that has not happened. The defaults of the "muni's" are nowhere near the scale that Ms Whitney had predicted. So her critics are out there questioning her analysis. Some have come to her defence and said that by her very act of warning of the defaults, Ms. Whitney had done a service of warning retail investors to stay away from the potential slaughterhouse of debt being issued by the big Wall Street firms (for big fees) for their potentially troubled city governments who badly need the innocent tax payers and savers to keep their cities afloat.

So the defaults, as such, may not have been big but Ms. Whitney helped save the sensible. And her research was right - and valid. Events may not have played out (i.e. the US government is still busy saving the big banks rather than shutting them down and the Fed is printing increasingly worthless US Dollar bills) but Ms. Whitney stands untarnished.

A Whitney bashing

The bashing I have received seems similar to that handed out to Ms. Whitney - what with a string of emails and comments (all available for you to read on the previous Honest Truth) bombarding me for committing the original sin: giving an Index number and a month by which it could get there.

Well, readers would do well to note all the caveats that are placed in the May 2011 article and the (June 2010 article) along with assumptions of foreign buying and earnings data.

Here is a comment from the May 2011 article highlighting a paragraph from the June 2010 article. "And I made this comment: Many others should note that a "prediction" of the Index is really a prediction of the direction of share prices in general, and don't get hooked on to a specific number like 19,000 or 21,000 by July 2010 or 30,000 by July 2012."

But there is another aspect of the article which drew in comments and I wish to address that.

There were suggestions that the data used in the column for the estimated (and actual) EPS numbers for the BSE-30 Index were wrong. One comment provided a link to an xl sheet housed in cyberspace with calculations of the level of the BSE-30 Index every March 31st and the EPS numbers. And these numbers were dramatically different from the data sourced by me from Bloomberg.

Some even suggested that the data sourced from Bloomberg was hype to mislead the foreign investors (through people like myself who may be in touch with them) and make them scapegoats in the next collapse of the Indian stock markets.

This "difference" in data and the accusations that I was using wrong data and misleading innocent investors deserves some introspection and analysis.

The game of numbers

To clarify, I don't mislead anyone. I give people my views and people are free to follow them or ignore them. Unlike many Wall Street firms (please see the movie ‘The Inside Job' - SEBI should make this film mandatory viewing for investors). And by the way, if I am wrong, my savings and investments in the Quantum Long Term Equity Fund will also lose value so, as the saying goes, "my money is where my mouth is".

And, yes, I have been wrong in the past on macro calls (I thought Prime Minister Manmohan Singh would give India an honest government) and on micro calls (we have owned stocks that we should never have owned). So, yes, I could get the Index level and the date wrong.

Table 1: Why are the "facts" of EPS so different?
Year ended March 31Column AColumn BColumn C
 EPS for BSE 30 used in my column in May, 2011 sourced from BloombergBSE 30 EPS data from the BSEEPS for BSE 30 sourced from Bloomberg in June, 2011
2008824778964
2009792773785
2010912841991
20111,1249541,132
20121,334 estimateNo estimates1,463
Source: Bloomberg and BSE

The EPS numbers used in Column A of Table 1 above are from Bloomberg and these were used in The Honest Truth in May, 2011. On checking with the Bloomberg fundamental research team, I was told "We use EPS Adjusted to calculate the index EPS. This equates to EPS before abnormal/exceptional/non-recurring items and excluding the XO (extra-ordinary) items disclosed by the company. Items we recognise as XO are: gains/losses caused by (1) natural disasters, (2) change in accounting principles and (3) discontinued operations. Unfortunately, brokers do not explicitly state what the XO items are in their reports. EPS is calculated on a consolidated basis."

Bloomberg looks at the "consolidated earnings" of the BSE-30 companies on a 12-month rolling basis. These are adjusted for any one-off items and provisions. As data comes in and as companies report their earnings, Bloomberg will dynamically change those reported EPS numbers. Note how Column C (also from Bloomberg) differs from Column A (data sourced from Bloomberg for the May 2011 column) even though the time gap in the data is only a few weeks.

The BSE analysts, meanwhile, are the authors of Column B. They prepare their EPS numbers on a stand-alone basis as reported by the company. There is no consolidation of any of the subsidiaries. There are no adjustments for any provisions or one-off items. And this data is as of March 31. So, for example, if HDFC has not reported its March 31, 2011 numbers to the BSE on March 31 itself, the BSE will NOT use this data. It will have data for the 12-months ending December 31, 2010 for HDFC and it will take that as the EPS number for working out the PE ratio of the Index as of March 31, 2011. And when the March 31, 2011 data is submitted to the BSE staff, they will not go back and change the "data as of March 31" for this update.

In both the approaches, neither Bloomberg nor the BSE change the data for any change in the companies that comprise the BSE 30. For example, the data for March 2008 will include the earnings of Satyam, since it was then a BSE 30 company. The data for March 2009 will not include Satyam but will include Sun Pharma which was brought in to replace Satyam after Mr. Raju got tired of riding his tiger.

So, all else being equal the EPS data for the BSE-30 for March 2008 and March 2009 have only 29 companies in common: the 30th company in March 2008 was Satyam and the 30th company in March 2009 was Sun Pharma.

Investors should be aware that there are various methods of calculating market data such as earnings and PE ratios. The best we can do is to use the same data source so as to be consistent in the inherent flaw that exists in a particular data source! But, seriously, thank you for the feedback on the earnings. After I managed to contact BSE and Bloomberg, I did request them to talk to each other and see if there is a way they can come to a common EPS and PER number for the Indian stock markets.

Meanwhile, like Meredith Whitney, I hope investors will act.

In this case, by being gentle but firm buyers of Indian stocks and not getting blanketed by all the bad news out there. I hope my optimism in predicting a higher Index (based on the realisation of the growth in earnings and the flows of foreign money) will give investors a chance to allocate some of their savings to stock markets.


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Disclaimer: The Honest Truth is authored by Ajit Dayal. Ajit is a Director at Quantum Advisors Pvt. Ltd and Quantum Asset Management Company Pvt. Ltd. The views mentioned above are of the author only. Data and charts, if used, in the article have been sourced from available information and has not been authenticated by any statutory authority. The author, Equitymaster, Quantum AMC and Quantum Advisors do not claim it to be accurate nor accept any responsibility for the same. Please read the detailed Terms of Use of the web site. To write to Ajit, please click here.