Triumph of hope over experience - Straight from the Hip by J Mulraj
Investing in India - Straight from the Hip by J Mulraj
Triumph of hope over experience A  A  A

15 JUNE 2013

After having dropped nearly 600 points in the first four days of last week, the BSE-Sensex gained 350 points on Friday, after headline inflation figures were the lowest in 43 months. In a triumph of hope over experience, investors believed that this fall in inflation may induce the RBI to cut interest rates. In another similar triumph of hope over experience, investors were encouraged by the assertions of a further round of economic reforms made by the Finance Minister. Past action belies such hope, yet, as the saying goes, it springs eternal in the human breast.

The sensex thus ended the week at 19,177, down 252, and the NSE-Nifty ended at 5,808, down 73.

The RBI has the unenviable task of managing the interest rate and the money supply. Lower interest rates are needed to boost a flagging economy, as evidenced by the fall in IIP (index of industrial production) to a paltry 2.3%, not enough, by far, to boost GDP growth or provide the needed employment, as also other indicators such as the fall in car sales for the seventh month. High interest rates hurt demand for sectors, such as automobiles, whose sale is most often on a deferred payment basis.

On the other hand, lowering interest rates would make it even more difficult to attract foreign investment into Indian debt. foreign institutional investors (FIIs) have been sellers of their portfolios of Indian debt, simply because yields have gone up in the US. The extra yields they get by investing in Indian (or other emerging market) debt is not attractive enough. It was this selling of debt, and the purchase of $ by selling the rupee proceeds, that led to the slide in the rupee to over Rs 58/$.

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In order to finance a current account deficit of over 5%, India needs capital inflows. Lowering interest rates would help domestic producers to manufacture cheaper, and consumers to buy cheaper, but will dissuade foreign investors from bringing in more capital. So the RBI's task is not an easy one.

It is in this context that the Finance Minister is promising to usher in a round of economic reforms, after having obtained feedback from investors in various countries he has visited. He promises to bring in higher sectoral caps for foreign investors, bring in a more transparent system for pricing of gas, to encourage exploration and such things.

However, announcements of reforms, though welcome, are juxtaposed against actions taken. The actions taken by bureaucrats are not showing a welcome towards foreign investors. The most celebrated case is that of the tax demand on Vodafone to pay taxes, as a buyer, on a tax payable by the seller. This has just entered into a non-binding arbitration process and one wonders whether that would mollify foreign direct investors. Similarly, the notice to Shell to pay tax on a rights issue to its wholly owned subsidiary at a price which the IT Department felt was below a 'fair value' was bizarre! Just think. Suppose the parent wants to bring in Rs 10,000 as additional capital. Whether it brings it in at Rs 10/share, and gets 1,000 shares, or it brings it in at Rs 100 per share, and gets 100 shares, matters not a whit, since the whole company belongs to the parent. What the demand succeeds in doing is to unwind any attempt to introduce reforms to improve the investment climate.

Now the latest is the allegation that Emaar MGF used foreign money to buy agricultural land without permission, which is disallowed. Rating agency Moody's decries this as evidence of yet another of a string of investor unfriendly moves. As per the article, a clarification by DIPP allowed the firm to so invest.

The main reason for the high current account deficit is the high cost of fuel imports. Instead of trying to curtail imports by raising prices, the Government has, so far, followed a policy of subsidising petro products, including petrol and diesel. A recent study shows that the poor do not benefit from such subsidies, which was the ostensible reason for their continuance. Although one does not know why we need a study to tell us what is commonsensical.

We are now about to embark on another similar welfare scheme with no termination date and a rising burden on the exchequer, in the form of the Food Security Bill. The intentions of such bills are noble. But the problem is in the execution. Most of the money is siphoned off by the system. The Bill is to be debated in the next session of Parliament.

As Chattisgarh has proved, there is no need for cash transfers or UID to implement welfare schemes, if the political will and good governance is there. The bane of India is that we do not have good governance.

Even as India dithers over the steps it needs to take to attract foreign investment in the oil and gas exploration sector, crucial as it is the single largest item on our import bill, Turkey is changing rules to facilitate foreign investment. As per this report, "Overall, the bill is aimed at liberalizing Turkey's oil and gas industry to attract more foreign investment at the expense of the state-run oil company's (TPAO) position. Turkey has its sights set on a much more ambitious oil and gas drive and the impetus to speed up exploration has never been greater".

The forces seeking to turn Turkey into a major energy hub have gained much influence in this game. Because there hasn't been that one big find yet in Turkey, Ankara understands the need to raise the stakes here to lure in more explorers and investment by removing some of the risk."

Globally, we seem to be heading for another banking crisis. A lot of regional banks in the USA, unable to afford the high cost of abiding by the Dodd-Frank banking reforms, sold out to Wall Street institutions. The regional banks knew the local customers and could understand their cash flows, but not the city based Wall Street institutions. The latter have, in order to boost paper profits, on which their bonuses are based, have given dodgy loans, at current low interest rates but for a longer tenure. They are then bundling these into CDOs (collateralised debt obligations) and selling them "to wealthy individuals and mutual funds through hedge funds and unethical brokers". This is laying the foundation for another banking crisis, which would be worse that the 2008 one.

In corporate news of interest, Apollo Tyres announced a $ 2. 5b. deal to acquire Cooper Tire and Rubber, USA, and become the world's sixth largest tyre company. The stockmarket did not take the news kindly as it felt the company was taking in more debt than it could manage, and hammered the stock down more than 25% in a few days, perhaps thinking it was Apollo tires. The company feels that there is no risk to the Indian operation and that the cash flow from the acquired company will be sufficient to repay the debt in seven years. If so, the fallen price presents a buying opportunity.

The 350 point rally reveals great expectations of investors of a rate cut by RBI and of significant and sensible economic reforms by Chidambaram.

One ought not to be so sanguine.

J Mulraj is a stock market columnist and observer of long standing. His weekly column on stock markets has run for over 27 years. An MBA from IIM Calcutta, he has been a member of the BSE. He is Conference Head - India, for Euromoney. A keen observer of events and trends, he writes in a lucid yet readable style and takes up issues on behalf of the individual investor. Nothing pleases him more than a reader who confesses having no interest in stock markets yet being a reader of his columns. His other interests include reading, both fiction and non-fiction, bridge, snooker and chess.

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Equitymaster requests your view! Post a comment on "Triumph of hope over experience". Click here!
2 Responses to "Triumph of hope over experience"
Jun 18, 2013
sick and tired on reading about vodafone and telecom sector in general. This is the common theme that author comes back to week after week. You have made your point. Move on now! Like 
Gandhi pankj
Jun 16, 2013
Good enough.
Unfortunate Indian civilian.
And UGLY Indian Govt. with all unfair activities at the cost
of many "Road Ridden Families having extreemely dark
future.No hope of next day feed for their children !!!!!
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