The fast few days would probably leave a man in disbelief. Disbelief in the laws of nature, in rational judgments, in all the finance theories created, twisted, accepted, rejected in history. However, the group of people affected most were the ones who would sing in favor of reality, righteousness, ones true on the ground as well as off it. Like the Priory of Sion which was formed to protect all descendant of Jesus Christ, they take are the ones who take the responsibility to protect and preach the truth and guard it against all evils. These people now are very much the economists criticizing central banks around the world, analysts in the industry telling you and me that the current stock market rally in this month of September is not going to last and some short sellers too.

These men are perhaps right in what they say. The Federal Reserve in the US, the ECB in Europe and their friend in Japan have been literally printing as much money as they will in the last few months. September 2012 is perhaps the greatest month of them all. Fed and the ECB virtually gave unlimited money printing commitments warranting the state of the economy. Ben Bernanke was ridiculously clear in what he sought from this. The guy has spent his entire academic career studying the Japanese crises- a lost decade, surely his credibility should be some worthy to rely on. However, he does blatantly state that central banks do not alone solve the underlying economic problems and the main action needs to come from the government and the people of the country. One highlight in his defense of his action was that money printing props up stock markets. People make money, feel richer and start spending, thus kick- starting the economy. I don’t really get some logical explanations to support this hypothesis. However, markets in this month sure agree with gains between 5-10% so far. Short sellers were probably right in their action the sell, sell and sell, until these godfathers stepped in. Nothing underlying has changed. Spending, Production, investor confidence, reforms, trade continue to fall. Solution to a lot of debt is not more debt. However, the stock markets say, ‘Don’t fight the FED’. Legendary investor Warren Buffet quotes, ‘The market can stay irrational for longer period than you and me can stay solvent’. Evident enough from the fate of short sellers in this month. Hence, investors need to stay cautious in picking stocks and not getting swayed by this ‘Tiger rally’. Good stocks, bad stocks, OK stocks, not so OK stocks, all perform in the liquidity driven rally. However, sooner or later, market does get its focus back on the underlying realities of the economy. Since nothing concrete in terms of economic development has taken place in the past few quarters, it is rational to think the money glow will start to fade and markets will tread lower from current levels given central banks do not infuse more money. One can only know who’s been swimming naked when the tide passes. This took place every time after each easing action by the Fed and the ECB. Also, the returns have been diminishing with each progressive quantitative easing with time.

In this world of fiat currency, central banks can print money till infinity squared. However different asset classes do not respond the same way to these actions. Like the Japanese central bank’s never ending easing program with inflation in control, Bonds are the best bet to earn money. Since growth and a healthy inflation hardly returned to Japan, Equities and commodities have been the underperformers. In hope of growth and unprecedented exuberance created by the recent printing, Equities are the best bet if the world economy does manage to solve all problems and return to growth. On the contrary, there is a good chance that nothing will change by these artificial try-outs and so much money could risk inflation, even hyper-inflation. In such a world where these guardians of monetary policy lose control, investing in commodities and precious metals like gold would prove to be a masterstroke.  Perhaps, it would be best for analysts round the globe to stop forecasting corporate profits. Instead try decoding hints and forecast actions of the central banks world over.

-          Vishal Agarwal

My debts of gratitude, to people who have helped influence me with the first realization to enter the dazzling world of Finance, are enormous both in numbers and degree. Many have warned me patiently and repeatedly about the madness of heresies in the financial world, but only few could indeed stand firm.

Converging to the issue, there has been this historical event affecting the entire planet, perhaps even the ones that are just perceived non-existent, as like any other finance topic, it’s just a mere theory to fill books. This unprecedented amount of exploitation and ascent of money forced me to paint a picture of people of India under the British Supremacy back in the 17th century. Perhaps, I would term the East India Company, rather as a 21st century Investment Bank, the thing just not allowing them the same classification would be the method and portrayed techniques. The former charges with more visible brutality while the latter considers itself to be more formal and binded by the law. Legality on Wall Street even surpasses the decisions made by the almighty in determining fate of the dead. The only thing that prevented these big men from death penalty is another tool of destruction in their arsenal. Some term it as ‘Financial Engineering’. Not often, do you really hear such complex integration. Being recognized as the greatest innovation of the 21th century, it acclaimed this title in real terms after the sub-prime crises in States, where indeed its power and hold was evident. The level to which these products lead to self- destruction is amazing. To use an Indian jargon, it’s really ‘mind blasting’ rather than mind-blowing. Needless to mention the quantity of debt, the developed countries today are dealing with, I can sense a drift momentum to the East. The nations once called the ‘Third World’, now are being the source of shelter for the western debt, I rephrase the ‘free credit’ debt. ‘Chimerica’ as Prof. Niall Ferguson of Harvard University would call it- China’s savings acting as termites in the form of debt to the US. As evident enough, the term ‘Savings’ seems alienate to any western individual. ‘Credit’ fundamentally means an obligation to pay a premium amount for the debt transferred. No one doubted that the American economy was a ‘bubble’ economy’. Sometime in future, the bubble had to burst.

What amazes me is the tendency of certain wealthy and powerful people, to often forget things. Their memory needs to hold for a longer period, or else recessions might be a regular thing. The UK budget deficit peaked to a mounting 90% of its GDP. The Downing Street in its current period has been ranging with a whole set of problems to kick-start the British economy. Calls are already growing louder for Chancellor of the Exchequer, Osborne’s head. However, David Cameron though a dynamic individual, to me is more a man of words rather than substance. One good thing I could bet all my wealth on is the perception of the Conservatives relating to the ‘Black Wednesday’ event. The fall from the ‘EURO’ bought in severe issues for the government. The ERM rather meant ‘Extending Recession Mechanism’. Funny as it looks, a country ruling the planet just a couple of centuries ago, was almost on the verge of a breakdown. Rather it could be termed as ‘Golden Wednesday’ whereby after the exit, inflation and interests rates in the UK went down. Money poured in and business investment rose leading to a sustainable economic development. As quoted by a school, ‘ Crises are a good thing.’ Rather explaining this, it would be lucid to remind you of the Darwin theory ‘ Survival of the fittest’. However, the current scenario reminds me of the Great Depression, Glass-Steagall Act and many more reforms. Speculation is souring with fears almost rising to the level of a whole country or an entire economic area defaulting. No wonder, people in Iceland now complain about not meeting Ronald McDonald. On the contrary Wal-Mart and Starbucks exploring the developed markets for money. Jamie Dimon, publicly announced JPMorgan’s expansion strategy in the emerging economies, so did Mr. Pandit of Citigroup. The BRICs now command the FDI flow to the developed markets. Whereas the promising pawns Poland, Ireland, Greece and Spain rather would be good to derive their meaning from initials- often so called PIGS, and then you would wish what would happen if PIGS can fly.

The recent rising yields of the bond market strongly points out the lifestyle in the peripheral Europe– ‘Live on Credit’, whereby comes in the Mental Accounting phenomena. It’s precisely is just the postponement of debt and paying a higher cost for it. Seems too simple to understand and even more lucid to blame the fools. Seems like nothings working for Obama, he even plans or has already visited Dalai Lama regarding the Chinese issues concerning the States. What I could see is the rise of powers- the Asian tigers, whereas seems translucent from this crises, the dominance of the developed countries, especially UK, can be termed more of their illusion. I hope just like the bubble, they soon come out this, truly in terms with reality.

-          Vishal Agarwal

Pharma sector was one of the best performing sectors past one year. Most of the Pharma stocks are now at their 52 Week high. CNX Pharma index’s 1 Year returns has been 24% viz-a-viz CNX NIFTY has been approximately 4%. The growth is well backed by robust fundamentals. Sales of many pharma companies have double over past few years. Many have delivered a CAGR of over 20% p.a. in last 5 years. The robust sales were on account of strong chemistry skills, low cost production, launching of new products, aggressive marketing initiatives, and diversification across geographies and across products. For most of the companies 20 products forms less than 30% of total sales. The pharma companies have over the year developed a strong pipeline of ANDA and DMF filing in US, Europe and other developed cum highly regulated markets of the world.

The domestic pharma market is currently US $ 10 bn in size and is expected to reach ~US$ 20 billion by 2015 and establish its presence amongst the world’s leading 10 markets. Currently, India is the 4th largest market in the world in terms of volume and 12th in terms of value.

These positives provide a strong earning visibility for the sector for future. On Domestic front, the sector has delivered a growth of 15% over last 3-5 yrs.

https://www.box.com/s/6ackhkilxytbo98xn1si

Hence, fundamentally speaking the Pharma stocks are very well poised to deliver a good growth clearly till FY15. We don’t mean that the story will end in FY15 but it can be little different then what it is now in terms of Markets, product segment etc. A important challenge to this sector would be to tackle the drying pipeline of drugs going off patent post CY15 which can pose an hindrances in new product filing and launches. They would possibly start focusing on find different areas like Bio-similar, NDDS etc. to deliver future sales. However, the picture would get clearer during the course as we analyzes how these companies align themselves so to retain the growth in distant future too.

Till then below are some good Pharma companies which are expected to deliver a robust growth in future.

One of the intrinsic theories is the ‘labor theory of value’. The value of a good is based upon the labor cost of producing it.  On the contrary, the subjective theory defines value as a perceived utility measure by the buyer. This buyer will trade either money or do a Barter trade for the good because he thinks that the offering from him is less in value as compared to the purchase, or else he will not go into the trade. Same is the case for the seller. Thus, as far as individual subjective valuations of personal wealth are concerned, both traders feel they have increased their wealth. Hence, the most important determinant of value is the perceived judgment in eye of the trader for a particular good or service. A strong perception is very much capable to drive price of the product to unprecedented levels beyond any rational explanation. A prime example of this is the ‘Tulip mania’ in the 17^th century where the price of tulip bulbs reached extraordinarily high levels and then suddenly collapsed. At a point, the price of a single tulip bulb was as much as 10 times the annual income of the craftsman. Another good example would be the inflated prices of premier paintings by renowned artists such as Michelangelo, since the painting is perceived to be a unique body of work. Marketing gurus thrive on Branding to maximize sales and command premium price for their product. This massively refutes the intrinsic labor value theory since the level of price achieved is solely due to the perceived value. In economics, the most basic and perhaps the strongest determinant of price is demand and supply. Demand arises out of the need to consume. As the discrepancy between demand and supply widens, the price increases. Since the product available is scarce as compared to the demand, the perceived value for the product increases. In case of mutually exclusive products, the one with the highest perceived value will prevail, irrespective of the intrinsic value. This war between the perceived and the intrinsic value is a very good explanation of irrational behavior of traders in stock markets and asset bubbles.

The US presently stands at record public debt of over $15 trillion. Engulfed with financial crises, confidence crises, high unemployment levels, deteriorating industrial prowess and economic uncertainty, experts question the future of the numero uno status of the US and its currency- the greenback. Applying the intrinsic value theory, the fundamentals seem doomed for Uncle Sam and not much value could be recorded. Now let us take the empirically proven and widely accepted subjective valuation theory. The US dollar is the international reserve currency accepted anywhere and everywhere on the planet, even the North and South poles. Commodities (Oil, gold) traded around the world between countries are priced in US dollars. General trades between countries also are settled in the greenback. Hence, governments, corporates in international trade, even individuals travelling abroad for leisure, business, etc need the dollar. As a result, the demand for the dollar is one which is prevalent, despite all the problems encountered by the US in the last 5 years. Although unrivalled, the dollar has the Euro as its closest counterpart. The US dollar appreciated during the financial crises as investors sought safe haven and parked their money with US treasury due to the widespread perception of being the safest place on planet Earth. It lost value when creditor nations like China and Japan were worried about US fundamentals and its humungous debt. From 2008 to 2010, the value of Euros held in foreign government reserves increased from $393 billion to $1.35 trillion, a 240% increase. During this same time period, dollar holdings only increased 11%, from $2.77 to $3.1 trillion. Dollar holdings only represent 61% of total measurable reserves, down from 2008, when dollars comprised 67% of reserves. Since the percentage of dollars is slowly declining, this means that foreign governments are slowly moving their currency reserves out of dollars. Some OPEC countries had also considered to trade their Oil in Euros. However, due to the recent Euro crises and some other interesting reasons and actions, the efforts went down the drain to knock the greenback of its perch. Also, after the Euro, there is no other alternative that can be termed as a potential successor for the US dollar.

A similar fate is being observed in Gold prices in the last decade. The perceived value of the US dollar is still high due to the reasons discussed above. Relatively less financial risk and lack of alternatives will ensure the strength of this premier currency. A general thought- ‘The fundamentals of a country determine the value of its currency’. However, in this case, the strength and perceived value of the dollar is more important to the not so robust American economy. Occasionally, fundamentals (Real value) become the better off perceived value. This rare occurrence is what economists call- ‘exploding of the asset bubble’.

Vishal Agarwal

The G7 government borrowing for 2012 amounts close to $8 trillion. Japan, an economy with a humungous debt to GDP figure of more than 200%, unveiled its largest bond issuance plan ever (149 trillion Yen) for 2012. And then there is Uncle Sam (United States) who just doesn’t want to listen about its possibility of being on course following Greece in the future, with the latest US deficit for last year again crossing the $1 trillion mark. It seems like the bureaucrats in the White House have only one priority at this point in time- raising the already so very high ‘Debt-ceiling’. Definitely grave but not strange, since we approach the Presidential elections there. On a very similar point, our (India) very own borrowing target for the year already crossed 90% of the planned figure in December 2011, and is expected to overshoot it by a mile or two. Sure, even we got elections coupled with the dire need of the coalition to restore its image after a bunch of corruption scandals. European countries face a daunting task in rolling over their debt at record high yields.  A Bloomberg survey indicates that borrowing costs for G7 countries will rise 39% from 2011. This increase is almost equivalent to the increase in borrowing for an average Indian citizen since RBI started increasing the repo rate in the last couple of years. The effect of such a dramatic increase on the economy is slowing Indian GDP growth, massive fall in investments and higher costs for corporations meaning margins and price pressure.

With all economies that matter in a huge burden of debt, one would argue that who pays. Major buyers of government debt range from institutional investors like pension funds, hedged funds and insurance companies, banks and financial institutions and foreign governments. The need to borrow money arises when the total revenue of the government in the form of taxes and duties are not sufficient to fund their public spending. Year on year, governments have been practicing this same phenomena and have kept on borrowing to fund their budget. Without the need to address growth, cut down the deficit and implement ways to increase government revenue, many nations in world today have a huge pile of debt in their books. Clearly, at a time of economic turmoil when the investors’ confidence is low and doubts creep about sovereign defaults after witnessing the Greece example, the risk to lend money to the governments have clearly escalated. Hence, owing to one of the prime economic theories, people demand higher rate of return on their investment if they see greater risk. The recent spike in yields of Euro zone countries namely Greece, Portugal, Italy and Spain is the example of such an episode. With governments borrowing billions and trillions of dollars every year, the rapid rise in yields witnessed in the last 6 months will have a grave effect on the individual and collective actions of the majors in the world economy to encourage growth, sustain a sturdy recovery and get their finances in line. To add to woes, the very banks that play a crucial role in the sovereign debt financing are themselves most vulnerable to shocks and are facing issues like higher cost of new regulations, large toxic asset book, liquidity crunch and falling revenues. However, the first problem that needs to be addressed by these private powerhouses is about their $1 trillion debt maturing in 2012. (Yes, pinch yourself in case you feel you are in the midst of a dream, because this one is for real!!) This is totally a different figure from the trillions which were mentioned in the earlier part, the government debt. Another addition to this would be the amount of capital that will be needed by banks to meet the new increased capital regulations in Basel 3. The Eurozone bank stress test conducted in December 2011 shows that 53 banks failed the test and to reach the target of 8% core Tier 1 Capital, the total additional capital needed to be raised by all banks in the sample amounts to 102 billion Euros. With liquidity crises and confidence shortage, the ECB with its recent LTRO funding of close to 500 billion Euros helped ease off the pressure on banks and yields on European sovereign bonds. The 2^nd version is to be held on 29^th of February with expectations about the magnitude ranging from 200 billion to almost a trillion Euros. However, this is just a temporary respite and does nothing to alter the direction of the 2 year long sovereign debt crises. It like a terminal cancer patient living on Homeopathy and life support, waiting for either a miracle or just watching the clock. A tweet from the PIMCO bond king Bill Gross said it all: “What does the LTRO stand for? 1- A shell game, 2-Cash for trash, 3 Three-card Monti, or 4. All of the above.”

Total redemptions as a percentage of total debt for G7 countries are 21%  ($7.6 trillion) in 2012, 35% for 2012 and 44% for 2014. A sovereign debt phenomenon is very close to a Ponzi scheme. New money raised is used to quash old liabilities without any ‘real growth’ or efforts to become self-reliant and the cycle goes on. The only time you encounter a problem or a danger to your Ponzi scheme is when it becomes increasingly difficult to raise new and cheap money. Unfortunately, or rather fortunately for the long term sake of it, we are in the midst of such a crises.  With increasing debt maturing over the course of coming 3 years multiplied by rising (already massive) deficits, the refinancing risk is at its perch. A natural reaction to this would be further spike in the interest rates, leading to a further increase in interest expenses which in turn would further increase borrowing needs. In troubled times where we see a global crunch, money printing seems as an easy and lucrative option, as it were the case in US, UK and Europe. However, it sure has its own perils in the longer term. The current situation requires some serious and prudent, innovative but sound reforms and actions to address the humungous problem the world economy faces at this hour. Such continued irresponsible borrowing and reckless spending without growth might well perhaps trigger an event as unprecedented in magnitude, like the Great Depression of the 1929.

Market really rallied upon the CRR cut announced by RBI in its January Monetary Policy. This will infuse almost 32,000 crores back in the banking system & ease some liquity pressure. This is been perceived as reversal of long continuing monetary tigtening policy. Though, the key rates like repo and reverse repo were left unchanged intentionally. RBI was seen satified on the moderating WPI inflation on expected trajectory but also sounded cautious on unequal moderation in different WPI components. It highlighted the risk to moderation from global crude prices, rupee depreciation, slippage in fical deficit. So currently, RBI wants to observe how the headline WPI pans out in the coming months before it touches the repo & reverse repo rate.

But while cheering the possible beginning of interest rate cycle reveral, the market has overlooked RBI’s cautious statement on decelerating GDP growth & deteriorating investment climate. The degrowth is cited to be effect of several factors like the uncertain global environment, the cumulative impact of past monetary policy tightening and domestic policy uncertainties. Accordingly, the baseline projection of GDP growth for this year is revised downwards from 7.6 per cent to 7.0 per cent. Yesterday’s policy action is expected to mitigate some of these downside risks to the economic growth.

So its too early to cheer or boast about any sustainable bullish trend. Recent drop in WPI is largely  sharp deceleration in prices of seasonal food items. In respect of other key components, particularly protein-based food items and non-food manufactured products, inflation remains high. Moreover, there are upside risks to inflation from global crude oil prices, the lingering impact of rupee depreciation, and slippage in the fiscal deficit. So if these risk factors materialise keeping headline inflation up or worsen due to poor winter or summer crops or shoots up due to rise in oil price after sealing of Strait of Hormuz by Iran or least inflation not falling along the RBI’s projected trajectile, we could see deferrement in rate deduction and deferrent in interest rate cycle reversal. These would in all put further pressure on growth momentum writing off the any chances of recovery rally in equity market.

So unless we see a resilience in GDP growth, my stance would be being cautiously optimistic. Infact, I would encourge investors to take the opportunity of risen interest rates and build their long term fixed income (debt) portfolio before the interest rate subsides. Don’t just get carried away with the equity market emotions on other side.

By Amit Kadam

Background: To overcome from the financial crisis of 2008 and bring quick recovery in the economy, governments of many countries had initiated several stimulus dosages in form of cash subsidy, cash infusion, equity bail out, reducing borrowing rates, lowering tax rates etc. Idea was to boost confidence and drive consumption. This was mainly funded by printing money or/and public borrowing programme. Already some of these countries were high on Debt to GDP ratio and the stimulus packages made it still higher. The assumption was – as the economies starts recovering consumption would drive production and thereby increasing the GDP of their nation. GDP would be then sufficient enough to service the increased debt. Textbook Economics!

What went wrong: The assumption went wrong and the plan misfired for few countries. As some European countries never recovered & their GDP failed to rise, they started filling short of funds to service their debt obligation. To service their earlier debt they raised new debt and then some more. The debt balloon expanded out of proportion w.r.t GDP.

Effects: Credit rating agencies became skeptical about the rising debt scenario and capability of these sovereign states to service their debts. As repayment guarantee came under question, rating agencies started downgrading bonds of these countries. E.g. Greece bonds were downgraded to ‘D’ (Default Category – junk bond). Greek Prime Minister Georges Papandreou asked the International Monetary Fund and the EU to put together a rescue package. The European Central Bank moved to shore up Greece, and the E.U. and IMF settled upon a $145 billion bailout, conditioned on Greece adopting austerity measures worth a staggering 13 percent of GDP. The E.U. also created the European Financial Stability Facility, a body intended to streamline future country bailouts. Other countries which carry similar threat of default are Portugal, Ireland, Italy, Greece & Spain. (PIIGS)

What it means for the euro zone: Many experts argue that the E.U.’s model, which concentrated monetary policy in the European Central Bank (ECB) while leaving fiscal policy to individual member states, is inherently unsustainable, as it denies member states monetary policy levers with which to help their recoveries. This also makes deficit-funded fiscal stimulus harder, as monetary policy can be used to keep borrowing costs low. When different countries are hit differently by a recession, as has happened now, the common monetary authority will act in ways that help some countries but not others. The ECB has pursued tight monetary policy that may prevent inflation in high-growth states like Germany but could also be worsening the recession in Greece, Spain, and other struggling states.

Most view one of two options going forward as likely. One is that the euro zone will lose members like Greece, Spain and Italy, either by them just leaving or by a default by any one of them, which could unravel the whole monetary union. Barry Eichengreen, a Berkeley economist, has said this would lead to a huge bank run and the “mother of all financial crises.” Another option is closer European fiscal union, so that fiscal policy can be coordinated at the continent level as well as monetary policy, bringing the E.U. closer to being a sovereign state.

What it means for India: Indian economy has lot to do how world economy does as US and Europe are our major trade partner. U.S. financial institutions hold considerable European financial assets that could plummet in value if the euro zone enters a full-on crisis. For example, European debt makes up almost half of all money-market fund holdings. Direct exposure to the so-called PIIGS countries profiled above is limited, but exposure to France and Germany is high, and given, for example, France’s tight linkages with the Italian financial system, a Italian default could roil France and the U.S. in turn. The crisis is also leading to heavy spending cuts and reduced borrowing that hurts our exports to Europe & US, further endangering the Indian recovery.