Tuesday, March 26, 2013

Risk Unrewarded as Emerging Stocks Lag Behind Most Since ’98

The link between risk and reward in stocks is breaking down as emerging markets post the worst first quarter since 2008 and lag behind shares of developed economies by the most in 15 years.
The MSCI Emerging Markets Index (MXEF)’s 3.8 percent drop this year through last week trimmed its rebound from an October 2011 low to 22 percent. That compares with a 33 percent advance for the MSCI World Index and marks the first time since 1998 that developing-country shares have underperformed during a global rally. When adjusted for price swings, emerging market returns are 37 percent smaller than in advanced nations, data compiled by Bloomberg show.
While higher volatility in developing countries led to outsized gains during the last six bull markets, this time is proving different as government intervention curbs profits at companies such as PetroChina Co. (857) and Light SA and growth slows from South Korea to Poland. Bulls say emerging markets will lead the next stage of the global rally as record low interest rates send investors into riskier securities. Pessimists say the trend will continue as investors favor more transparent markets.
“The old rules of thumb may need to be questioned,” Wayne Lin, a money manager at Baltimore-based Legg Mason Inc., which oversees about $661 billion, said in a phone interview. “It is surprising to many investors that emerging markets haven’t participated in the rally.”

Correlation Drops

Money managers surveyed by Bank of America Corp. cut developing-nation shares in March for the first time in six months while boosting positions in the U.S. (SPX) to the highest level since July, Michael Hartnett, the bank’s chief investment strategist in New York, wrote in a March 19 report. Morgan Stanley, owner of the world’s largest brokerage, reduced its estimate for gains in emerging-market equities on March 18 while boosting its projections for U.S. and Japanese shares.
MSCI’s emerging index rose 0.6 percent at 4 p.m. in New York, after falling 2.6 percent last week. The MSCI World (MXWO) Index fell 0.4 percent to 1,426.61 after a 0.8 percent decline last week. The Standard & Poor’s 500 Index slid 0.3 percent to 1,551.69.
The 120-day correlation between the two MSCI gauges fell to an eight-year low of 0.54 on March 14. A reading of 1 shows lockstep moves, while minus 1 means opposite directions.

Asian Crisis

Investors willing to endure bigger price swings in developing nations have usually been rewarded during global stock rallies. Emerging shares beat developed equities by an average 46 percentage points during bull markets -- defined as a gain of at least 20 percent in the MSCI All-Country World Index (MXWD) from a recent low without a decline of the same magnitude -- since the index data began in 1988.
Now, developing markets are trailing after most of their companies missed analyst profit estimates for the last five quarters and economic expansions from China to Brazil slowed to the weakest rates since 2009. A majority of MSCI World companies beat earnings projections, while the pace of U.S. growth has rebounded to levels reached before the financial crisis.
The only other bull market emerging stocks lagged behind was from September 1990 through July 1998, a period when U.S. shares surged during the dot-com bubble and Asian (MXAPJ) equities were dragged down by the region’s financial crisis.
Volatility (EEM) in the MSCI emerging index was higher than that of the developed-country gauge during each rally, by about 30 percent on average, according to data compiled by Bloomberg. Emerging equities also posted steeper declines and bigger price swings than developed shares during bear markets, the data show.

‘Safety Play’

The current rally suggests equity investors are still hesitant to take on risk, five years after the worst financial crisis since the 1930s sparked a contraction in the global economy and wiped out $37 trillion of stock market value, according to Wells Fargo Advisors LLC’s Scott Wren.
“It’s a safety play,” said Wren, the St. Louis, Missouri- based senior equity strategist at Wells Fargo Advisors, which oversees about $1.2 trillion. “People want to own stocks more than they did a while ago, but they want to be a little cautious.”
Brazilian shares led the decline in emerging markets this year, with the benchmark Bovespa Index (IBOV) falling 9.4 percent. Light SA (LIGT3), a Rio de Janeiro-based power distributor, tumbled 18 percent this year as President Dilma Rousseff cut electricity rates by as much as 32 percent in a bid to boost economic growth. Poland’s WIG20 Index (WIG20) dropped 8.2 percent as figures showed the nation’s economic expansion slowed for a fourth straight quarter in the period ended December.

Economic Surprises

Japan’s Nikkei 225 Stock Average (NKY) surged 19 percent in 2013, the biggest gain among 45 equity indexes in emerging and developed markets tracked by Bloomberg. Sony Corp. (6758), Japan’s biggest consumer electronics exporter, jumped 73 percent this year as Prime Minister Shinzo Abe took steps to weaken the yen and revive the economy with more expansionary monetary policies.
The Standard & Poor’s 500 Index advanced 9.2 percent since the end of December and closed last week at 1,556.89, within 1 percent of its all-time high. Citigroup Inc. (C), the third-biggest U.S. bank by assets, increased 14 percent this year as the Federal Reserve pledged to continue its unprecedented monetary stimulus and the housing market showed signs of a sustained recovery.

‘Enormous Momentum’

The U.S. Citigroup Economic Surprise Index, a measure of how much reports are exceeding economists’ estimates, rose to a two-month high on March 14 while the gauge for emerging markets shows reports have trailed projections since January.
“The U.S. has been delivering,” said Russ Koesterich, the chief investment strategist at New York-based BlackRock Inc., the world’s largest money manager with $3.8 trillion in assets.
Not all emerging markets are losing. Thailand’s SET Index has surged 73 percent since the current global rally began on Oct. 4, 2011, while the Philippine Stock Exchange Index (PCOMP) rose 70 percent. The Thai economy may expand by as much as 5.5 percent this year and the Philippines will probably grow at least 6 percent, according to government estimates. Economists surveyed by Bloomberg predict a 1.9 percent expansion in the U.S.
“These are emerging markets and they have flaws,” said Byron Wien, vice chairman of the advisory services unit at Blackstone Group LP, the world’s largest manager of alternative assets such as private equity. “They also have enormous economic momentum and the developed markets are mature and the momentum is not as pronounced.”

Lower Debt

Wien said emerging markets will lead gains in global stocks this year with “double digit” returns.
Developing nations are becoming safer bets by some measures. Government debt has declined to 34 percent of gross domestic product from 52 percent a decade ago, according to the Washington-based International Monetary Fund. That compares with 110 percent in advanced countries.
Emerging markets have more than $6 trillion of foreign exchange reserves, data compiled by Bloomberg show. The extra yield investors demand to own their sovereign bonds over U.S. Treasuries has narrowed to 3 percentage points, or 300 basis points, from an average of 371 during the past five years, according to the JPMorgan EMBI Global Index.
“Relative to Europe and Japan, emerging markets do not have the same indebtedness problem,” said David Kelly, who helps oversee about $400 billion as the New York-based chief global strategist at JPMorgan Funds.

Rousseff Intervention

Developing stocks also have lower valuations. The MSCI emerging gauge trades for 10 times analysts’ 12-month profit estimates, versus 13 times for the MSCI World, the widest gap since November 2008, according to data compiled by Bloomberg.
In the biggest emerging markets, government interference is eroding returns for minority shareholders. PetroChina, which dropped 6.7 percent in Hong Kong trading this year, posted annual earnings that trailed analysts’ estimates on March 21 as the government capped retail fuel and natural gas prices to contain inflation.
Brazil’s Rousseff has intervened to curb utility rates, bank lending margins, mobile-phone fees and fuel prices -- reducing earnings prospects for industries with a combined weighting of about 50 percent in the Bovespa index.
OAO MRSK Holding (MRKH), a Moscow-based power distributor, tumbled 49 percent during the past 12 months as President Vladimir Putin delayed tariff increases and signed a decree to combine the company with state-run Federal Grid Co., instead of selling shares to private investors as some analysts had anticipated.

Fed Stimulus

“The risk of the emerging markets is that the institutional frameworks are still a work in progress,” said Rupal Bhansali, who helps oversee about $5 billion as a New York-based chief investment officer for international equities at Ariel Investments LLC.
Inflation is preventing central banks in emerging markets from stimulating their economies as much as developed nations, said Jason Hsu, the chief investment officer of Newport Beach, California-based Research Affiliates LLC.
Consumer prices in Brazil rose at the fastest pace since December 2011 in February, spurring speculation that the central bank will raise its benchmark interest rate this year. People’s Bank of China Governor Zhou Xiaochuan said at a March 13 press conference that policy makers should be on “high alert” over inflation, while India’s central bank said on March 19 that scope for further monetary easing is limited.
By contrast, the Federal Reserve maintained its $85 billion-a-month bond purchase program on March 20 and Bank of Japan Governor Haruhiko Kuroda vowed the next day to pursue “bold” monetary stimulus.
“I can certainly see quantitative easing continuing” in advanced economies, said Andrew Milligan, who helps oversee about $264 billion as head of global strategy at Edinburgh-based Standard Life Investments Ltd. “At the margin, that’s going to support developed rather than emerging markets.”
(Source: Bloomberg)

Friday, March 15, 2013

Jewellery stocks slump on mandatory KYC norms

Jewellery stocks came under selling pressure after the Government made it mandatory for jewellers to collect KYC (know your customer) from customers who purchase jewellery worth Rs 50,000.
A large portion of gold jewellery is still being bought over using cash, thus making it easier for unscrupulous elements to convert their black money into an asset, which till recently delivered a decent return.
The Government, which has been trying to curb gold demand, has made an amendment to the Prevention of Money Laundering Act (PML) to enforce Know Your Customer norms for retail purchases of gold and precious stones.
Currently, retail jewellers collect KYC from customers buying jewellery over Rs 5 lakh to facilitate the deduction of one per cent TDS (tax deducted at source).
Though the amended PML norms have not specified a separate threshold limit for the jewellery sector, it is assumed that the limit of Rs 50,000 applicable to the banking sector will also be applicable to this sector.
Most jewellery company stocks including Titan, Gitanjali Gems, Tribhovandas Bhimji Zaveri, Thangamayil Jewellery, Rajesh Exports and Shree Ganesh Jewellery House have tumbled in the last two trading sessions reacting to the development.

Cheque for transaction

C.J. George, Managing Director, Geojit BNP Paribas Financial Services, said though the Government has plugged a loop hole, it has to make cheque transactions must for all jewellery purchase above a certain limit. “The move may be negative for jewellery stocks in short-term, but it will help clean up the industry and favour the best in business. It also makes sense to consider a separate regulator for the bullion trade,” he said.
To an extent, he said, implementation of KYC for jewellery purchase will also arrest the rampant sales tax evasion prevalent in some States.
Jewellers will also incur a cost on maintaining the records of customers for five years. Additionally, they have to retrieve it as and when it is called for.
According to the new norm, anybody found guilty of money laundering shall be liable for imprisonment which shall not be less than three years, but may extend to seven years, and will also attract a fine.

Wednesday, March 13, 2013

Bulk diesel sale dives 40% on market rates

Bulk sales of diesel have fallen drastically since the price of the fuel for non-retail buyers was raised to market levels in January, prompting the oil ministry propose a sale limit of 200 litres for customers taking away the fuel in a drum.

Bulk sales of diesel have fallen drastically since the price of the fuel for non-retail buyers was raised to market levels in January.
Initial estimates show that bulk sales, which usually account for 18% of the 70 million tonnes of diesel consumed in a year, has plummeted about 40% in February, the first month after the pricing system was changed. Retail sales have climed 7%, but total diesel sales have fallen 2%.

Large customers such as state roadways are refuelling their buses at retail pumps, saving about .`11 per litre. State oil firms officials say even railways is vulnerable to switching to private firms such as Reliance Industries and Essar Oil.

"Since Railways have operational problem in shifting their purchases to retail outlets, it may continue with direct/bulk purchases from oil companies. However, the deregulation in direct/bulk sales has opened up the field for private sector. Hence, sales to users like railways may bring intense competition among PSU and private oil companies," the oil ministry's Petroleum Planning and Analysis Cell said in a report.

Government officials said the oil ministry will soon issue the order restricting sale of diesel from retail outlets to commercial clients such as operators of telecom towers, cinema halls, industrial units and state transport corporations.

State-run Indian Oil Corp (IOC), India's biggest fuel retailer with over 50% market share is diesel, is concerned. In the bulk market, its share is 78%.

"There has been a significant shift from bulk diesel to retail diesel in the direct consumer business since January this year, driven largely by various state transport undertakings who have migrated to retail outlets in a big way to take advantage of lower prices at the pumps. The overall bulk diesel volumes have also shrunk a bit since many bulk customers are now bringing down their diesel inventory holdings in view of the higher costs," IOC said in an email response to ET.

Another IOC executive said the proposed sale limit of 200 litres at petrol pumps would deter large customers from buying cheap diesel meant for automobiles.

The oil industry is keenly watching the sales trend in diesel, which has fallen after rising almost every month in recent years. Demand from cement, coal mining and steel continued to be muted, while several bulk consumers, including the railways and defence, have lowered their inventories. Many infrastructure customers too have replaced diesel with cheaper furnace oil, leading to a decline in overall diesel sales, an oil industry official said.

"There are multiple reasons for the fall in sale. Economy has slowed down and there is not much incremental demand from light commercial vehicles (LCVs) ," said Kaustav Mukherjee, partner and director, The Boston Consulting Group.

"It is still early to determine whether the partial deregulation of diesel would impact demand. We need to see the sales over the next 3-6 months to see if there is a sustained trend," Mukherjee said.
(Source: Economic Times)

RIL to invest Rs 6.5k cr a year in telecom and retail

Reliance Industries, the country’s largest company, is expanding investment in its telecom and retail businesses by up to Rs 6,500 crore a year for the next five years, beginning April 1.

By the end of five years, the company will invest close to an additional Rs 13,500 crore in telecom and another Rs 19,500 crore in the retail business, say analysts.

While Reliance did not disclose plans for 2013-14, analysts say it will be investing a massive $28 billion (Rs 151,000 crore) in its core oil, gas, refining and petrochem sectors in the next five years.

“In the telecom space, RIL refrained from bidding in the 900 MHz auction, which, in our eyes, suggests discipline on capital employed. This had been our key concern earlier, which we now believe is largely resolved,” says Morgan Stanley’s Vinay Jaising. The telecom business will receive Rs 2,700 crore a year for the rollout of services, while retail will receive investments of close to Rs 3,800 crore a year.

While analysts are wary about Reliance investing cash in the "unrelated" retail and telecom sectors, insiders say of these two, retail would break even by this month-end.

“Reliance intends to invest aggressively in its non-core business such as telecommunication/internet and retail sectors. These segments are viewed as important growth engines for the company in the coming years. As such, RIL is expected to be a beneficiary of the above proposal to the extent of investment allowance claim expected to be made by the company in FY14 and FY15,” said D R Dogra, head of CARE Ratings.

Reliance insiders say a part of the cash in the telecom business will be used to set up a tower company and the company is open to offer a part of the stake to a foreign partner. Media reports say Reliance is in talks with AT&T to sell 25 per cent stake but an RIL official said nothing had been finalised on any partner or the valuation of the company.
The company is more bullish on the prospects of the retail company, where it is investing a massive Rs 19,500 crore in five years. RIL’s retail turnover grew 44 per cent during the December quarter to Rs 7,749 crore, with analysts expecting it to show 30 per cent annual growth over the next five years.

After several rounds of restructuring in the top management at the retail sector, RIL is investing in the expansion from the present 1,400 stores. As of now, Reliance has a retail space of eight million sq ft, next to the largest retailer, Pantaloon, with 16 million sq ft.

Insiders say existing stores are seeing growth between 10 per cent yearly for garments and 25 per cent for foods, and that scalability of existing stores is a key profit driver. Group chairman Mukesh Ambani has set a target of $8-9 billion turnover by FY16, a highly ambitious annual growth of 50 per cent.
(Source: Business Standard)

Maruti Suzuki looks to cut overhead costs as demand falls

Maruti Suzuki India Ltd is looking at ways to cut discretionary costs, including marketing, promotions and travel, as a slump in demand has crimped profit at the nation’s biggest car maker.
“These are tough times. I have asked my team to cut down on overheads, which gets higher year after year,” managing director and chief executive Shinzo Nakanishi said in an interview on Monday night. “I will be happy if they manage to keep the overheads cost at the current levels.”
Weak consumer sentiments and slowing economic growth have affected car sales in India. Car sales growth at Maruti stood at 1.64% in the 11 months ended 28 February as high interest rates on car loans and increasing fuel prices discouraged buyers.
Rival Tata Motors Ltd said car sales declined 37.4% in the period and South Korea’s Hyundai Motor Co.’s local unit posted flat growth. Overall passenger car sales fell 5% to 2.4 million units in the period.
Maruti also needs to reduce inventories, he said, adding that the company is in the process of finalizing its budget for the year starting 1 April.
“Normally overheads go up when we have a lot of activities (marketing and sales promotions). These include travelling of people and other such expenses. My team is expected to find out a way to control them,” Nakanishi said.
Overhead expenses include spending on travel, communications, consultancy and director payments, audit fees and IT support spending, among others.
Maruti’s non-operational overhead expenses rose to Rs.490 crore at the end of 31 March 2012 from Rs.471 crore at the end of the previous year, according to Mahantesh Sabarad, an analyst at Fortune Equity Brokers (India) Ltd.
“It is further expected to go up to Rs.500 crore this fiscal,” he added. “These are not strictly linked to operational expenses, which are already high. So, there can be potential savings coming from here if they exercise cost restraint.”
Employee and raw material costs have also risen significantly in the last few years. Employee expenses went up to Rs.241.23 crore at the end of 31 December from Rs.161 crore at the end of the June quarter in 2010-11. Raw material costs have increased to Rs.8,376 crore from Rs.6,078 crore in the same period.
Maruti has reported a decline in net profit in the first two quarters of the current fiscal before posting a 143% growth in net profit in the three months ended 31 December because of a low base.
The company cannot risk an inventory pile-up and will look at ways to rein that in, Nakanishi said.
“I would like to bring down the stock in the range of 90,000 to 100,000. This, however, would not mean that we will incur losses (by selling on discounts). Rather, we will be saving on costs in terms of interest rates, etc.,” he said. “If needed, we may go for another production closure for petrol cars.”
On Saturday, Maruti stopped its petrol car assembly line at its Gurgaon plant for a day to reduce inventories.
Another company official who declined to be identified said that the current stock with dealers and in transit is close to 120,000 units. “We do not have a problem with diesel cars but we need to check the production of petrol cars,” the official said. The company produces at least 3,500 petrol cars a day at its Gurgaon plant.
(Source: Mint)

Tuesday, March 12, 2013

Spectre of stagflation haunts UK

The prospect of stagflation has returned to the UK as investors bet on a sharp jump in inflation to its highest level in almost five years.
Inflation expectations, as measured by the difference between nominal and inflation-linked bond yields, ticked up to near 3.3 per cent on Tuesday, levels not seen since September 2008.
Investor fears that the UK could be simultaneously hit by stagnant growth and high inflation, as experienced in the 1970s, were exacerbated by poor economic data pointing to the probability of another economic contraction in the first quarter of this year.
Sterling, meanwhile, fell 0.5 per cent against the dollar to $1.4832, its lowest level since June 2010. Currency traders were spooked by Office for National Statistics estimates that manufacturing output fell by 1.5 per cent between December and January – and by 3 per cent in the 12 months to January.
Separately, the National Institute of Economic and Social Research said the economy continued to flatline in the first two months of 2013.
Howard Archer, of IHS Global Insight, said the manufacturing figures were “awful”.
Alan Clarke, economist at Scotiabank, added: “A jump in industrial production was the main hope that we would be saved from a triple-dip recession and it has gone the wrong way.”
Valentin Marinov, at Citigroup, said the data highlighted the need for urgent policy steps to revive the economy ahead of the Budget: “Indications that the coalition government is unwilling to support the recovery next week could add to the headwinds for sterling.”
Sterling has fallen 8.5 per cent against the dollar since the start of the year. After the yen, it is the second worst performance by a leading currency against the greenback.
The pound’s fall highlights divergent investor views on UK and US economic prospects. While the US economy is slowly picking up pace, the UK economy remains flat at best and investors are starting to price in the chance of eventual policy tightening by the Federal Reserve.
Chris Walker, strategist at Barclays, noted that Treasury discussions about changing the Bank of England’s remit ahead of Mark Carney’s arrival as its new governor in July are changing inflation expectations.
Even without a change in remit, there are signs the BoE is increasingly relaxed about its 2 per cent inflation target.
At the February meeting of the Bank’s Monetary Policy Committee, Sir Mervyn King and Paul Fisher joined David Miles in voting for more quantitative easing despite forecasts that inflation would exceed 2 per cent through 2015.

Indian companies face year of slow recovery

India’s largest companies are facing a year of slow, unsteady recovery, despite slightly improved industrial production data on Tuesday and predictions of fresh interest rate cuts to spur investment next week.
Industry in Asia’s third-largest economy remains becalmed, having cut capital expenditure sharply last year in the face of high interest costs, bureaucratic snarl-ups and a growth rate now set to fall to its lowest level in a decade during this financial year.
Tuesday’s data provided hints of a pick-up in activity, with industrial production up 2.4 per cent during January, a slightly higher than expected increase that was quickly welcomed by India’s government.
“I think this fits in with some of the signals that we have been getting, which is basically that the downside is over, and the question is how fast it moves up. I hope it moves up rapidly,” said Montek Singh Ahluwalia, deputy chairman of India’s planning commission and a close adviser of Prime Minister Manmohan Singh.
But signs of a broader recovery are harder to spot in sectors such as automotive, where carmakers are cutting back output in the face of dismal sales figures, the latest of which this week saw the market contract by about a quarter during February compared with the year before.
Such reductions are, in turn, having a knock-on effect in sectors including steel, with large producers such as Tata Steel and Steel Authority of India, the nation’s two largest by sales, unveiling unexpectedly disappointing results during the past quarter.
Tuesday’s data also showed further declines for companies in the country’s battered extractive industries, where recent production bans in big mining states have forced operations at companies such as the iron ore arm of London-listed Vedanta Resources to all but stop completely, pending legal reviews.
“There are some signs that the worst is over but it doesn’t look as if it’s a sharp recovery. It will be slow and cautious,” says Ajit Ranade, chief economist of the Aditya Birla Group, one of India’s largest industrial conglomerates with interests including aluminium, steel and cement.
“You now need pick-up in [corporate] investment spending, and for that you need cost of funds to move down, faster approvals and clearances from government, and a pick-up in consumer spending . . . all of these are important, and they aren’t happening yet,” he said.
Elevated corporate debt is a particular problem, with over-leveraged capital intensive industries seeking to repair stressed balance sheets rather than restart investment.
A sample of 10 of India’s largest industrial groups chosen by Credit Suisse showed net debt of about $100bn last year, up roughly five times since 2007, forcing many groups to consider asset sales.
One of these companies, infrastructure conglomerate GMR Industries, which has net debts of about $6bn, last week raised about $600m by selling its stake in a power project, and is understood to be considering further divestments.
Most analysts predict that the Reserve Bank of India will cut interest rates next week for the first time since last April, a move some believe could begin to alter the investment climate – but even here the outlook is mixed.
“There is still pretty limited scope for rate cuts and it isn’t clear monetary policy has been constraining growth in the corporate sector that much anyway,” says Leif Eskesen, an economist at HSBC in Singapore.
“Ultimately it isn’t going to be rate cuts that spur companies to invest, it is going to be action on structural constraints, from infrastructure delays to more government reforms. This is going to take time.”

Gold Sales From Soros Reveal 12-Year Bull Run Decay

Gold’s worst start to a year in a quarter century and the biggest sales by investors on record are increasing concern that bullion’s longest rally since the end of World War I is ending.
Investors sold 106.2 metric tons valued at $5.4 billion from exchange-traded products in February, the most since their creation in 2003, data compiled by Bloomberg show. Another 26.1 tons was cut since then. Credit Suisse Group AG and Barclays Plc say the 12-year rally will peak in 2013 and billionaire George Soros reduced his stake in the biggest ETP by 55 percent in the last quarter. Prices are within 4 percent of a bear market after the longest run of monthly losses since 1997.
Hedge funds are now their least bullish since 2007 as economies accelerate and Federal Reserve policy makers review stimulus. Bullion as much as doubled after central banks, led by the Fed, started buying more than $3.5 trillion of debt from December 2008 to restore growth. With global equities at a four- year high and the dollar near its strongest in seven months, eight of 13 analysts surveyed by Bloomberg said they expect lower average gold prices in 2014 than this year.
“There is a belief that the world economy is improving,” said John Toohey, a San Antonio, Texas-based vice president of equity investments at USAA Investments, which manages more than $54 billion of assets. “We are especially seeing the signs in U.S. and that may at some point lead to higher interest rates. It seems as if the fast money is moving out of gold.”

Worst Start

Gold slid 5.6 percent to $1,581.55 an ounce in London this year by yesterday’s close, the worst start since 1988. It traded at $1,582.55 today and averaged a record $1,669 last year. The Standard & Poor’s GSCI gauge of 24 commodities rose 0.3 percent since the start of January and the MSCI All-Country World Index (MXWD) of equities gained 6.3 percent. Treasuries lost 1.1 percent, a Bank of America Corp. index shows.
Goldman Sachs Group Inc. reduced its three-month forecast by 12 percent to $1,615 on Feb. 25 and expects $1,550 in a year. Gold is “significantly overvalued” and unlikely to return to its September 2011 record of $1,921.15, Credit Suisse said Feb. 1. The bank, along with Barclays Plc, Societe Generale SA, Natixis SA, BNP Paribas SA, ABN Amro Bank NV, Danske Bank A/S and TD Securities Inc., is predicting lower average prices next year than in 2013.
About $6.8 trillion was added to the value of global equities since November as China accelerated for the first time in two years. Economists surveyed by Bloomberg expect U.S. growth to gain every quarter this year and the International Monetary Fund predicts global expansion will climb to 3.5 percent in 2013 from 3.2 percent in 2012. U.S. unemployment fell to a four-year low of 7.7 percent last month, as job growth surged from automakers to builders to retailers.

‘Asset Bubble’

Soros Fund Management LLC, founded by the 82-year-old who called bullion the “ultimate asset bubble” in 2010, owned about $97 million of metal through the SPDR Gold Trust as of Dec. 31, a regulatory filing showed last month. Louis Moore Bacon’s Moore Capital Management LP sold its stake in the SPDR fund, valued then at $16 million, and cut holdings in the Sprott Physical Gold Trust by 53 percent to $12.1 million in the fourth quarter. Spokesmen for both investors declined to comment.
John Paulson, the largest SPDR investor, kept his holding unchanged last quarter, his filing showed. The stake is now valued at $3.3 billion. New York-based Paulson & Co.’s investors can choose between gold-and dollar-denominated versions of most of its funds. The 57-year-old told clients March 6 that his Gold Fund fell 26 percent this year. Stefan Prelog, a spokesman, declined to comment.

Mario Draghi

Central bank asset buying won’t end any time soon and concern about currency debasement combined with rising expectations for inflation will spur demand for gold, Morgan Stanley said in a Feb. 25 report. The median estimate of the 13 analysts surveyed by Bloomberg is for a record annual average of $1,700 in 2013, falling to $1,638 in 2014.
Bank of Japan Governor-designate Haruhiko Kuroda said last week the central bank should bring forward open-ended asset purchases scheduled to start next year. European Central Bank President Mario Draghi said March 7 that officials discussed cutting borrowing costs further. Gold usually earns returns only through price gains, increasing its allure at a time of record- low interest rates.
“Just because it feels that the economy is improving does not necessarily mean that is actually happening,” said Michael Cuggino, who manages $17 billion of assets at Permanent Portfolio Family of Funds Inc. in San Francisco. “We could continue to see governments trying to boost growth.”

Argentinian Pesos

Bullion isn’t declining for all investors, amid mounting rhetoric over currency wars. Gold priced in yen rose 4.6 percent this year and in British pounds advanced 2.9 percent.
Central banks added 534.6 tons to reserves last year, the most since 1964, in part to diversify their currency holdings, according to the London-based World Gold Council. Barclays forecasts 300 tons of buying in 2013 and the same in 2014. Lower prices and improving economies may boost jewelry purchases, the biggest source of demand, with the bank predicting a 3.2 percent gain this year, from an 8.2 percent drop in 2012.
The slump in gold is curbing profit for those extracting the metal, in some cases from as deep as 2.4 miles underground. As bullion almost quadrupled since 2003, mining costs jumped more than fivefold, data compiled by New York-based Kenneth Hoffman and other analysts at Bloomberg Industries show. For as many as 11 of the world’s biggest miners, production costs averaged $991 an ounce in the first nine months of 2012.

Future Production

The 30-member Philadelphia Stock Exchange Gold and Silver Index, including Freeport-McMoRan Copper & Gold Inc. (FCX), fell 20 percent this year, extending retreats of 8.3 percent in 2012 and 20 percent in 2011. Mining companies have so far held off locking in prices by selling future production, with Barclays anticipating net hedging of 20 tons this year and 35 tons in 2014. Annual production is about 2,700 tons.
Options traders are increasing bets on more declines. Puts that profit should the SPDR Gold Trust (GLD) fall 10 percent cost 2 points more than calls betting on a 10 percent rally, according to three-month options data compiled by Bloomberg. The price relationship known as skew reached a record 3.3 points Feb. 21. Combined ETP holdings stand at 2,479.9 tons, from a peak of 2,632.5 tons in December.
Hedge funds are 84 percent less bullish on gold than they were the month before prices reached a record in September 2011. Speculators held a net-long position of 39,631 futures and options in the week ended March 5, the fewest since July 2007, U.S. Commodity Futures Trading Commission data show.
The U.S. Mint sold 753,000 ounces of American Eagle gold coins last year, 25 percent less than in 2011, data on its website show. Coin and bar sales from Australia’s Perth Mint fell 17 percent last year, the company said March 6.
“People are seeing less need for gold,” said Michael Mullaney, the chief investment officer at Fiduciary Trust in Boston, which manages $9.5 billion of assets. “The end of loose money supply is making gold less attractive.”

HMSI can be No 1 two-wheeler maker by 2015-16 if slowdown continues: Honda Motor

Japanese auto major Honda Motor Co today said it could become the number one two-wheeler maker in India by 2015-16 if the current market slowdown prolonged.

The company, which today unveiled its new 150 cc bike CB Trigger, termed Bajaj Auto as a more formidable rival than erstwhile partner Hero MotoCorp, the present market leader.

Honda Motorcycle and Scooter India Pvt Ltd (HMSI)-- the Indian two-wheeler arm of Honda-- is at second position in terms of sales of two-wheelers in the country, after Hero MotoCorp. Bajaj Auto occupies the third position.

According to industry body, SIAM's data, HMSI has sold 23.67 lakh units during April, 2012 and February, 2013, Bajaj Auto's sales stood at 22.82 lakh units. Hero's total sales was 54.61 lakh units during the same period.

"Today the market is almost 1.4 crore (units) in India. So, if (it) remains (at the) same level, no growth happening, we may become number one in 2015 or 16," Honda Motor Co's Operating Officer Shinji Aoyama told reporters here.

He added Honda sees Bajaj is as a bigger rival and not its erstwhile partner Hero.

"In terms of numbers, still Hero is number one but very frankly speaking, the consolidated power, including R&D, sales network there, including many of these elements, I think Bajaj is very strong. Bajaj is very good at creating alliance..." he said.

When asked about its rivalry with the Hero group, he said that the market leader will continue to lose its share, while his firm will continue to grow its shares.

"You will witness actually HMSI is gaining market share while Hero is losing the market share. The trend will continue," Aoyama said.

Besides, the HMSI will be launching 3-4 more models of two-wheelers in the current financial year, to expand its market share and has started the process of exploring new locations to set up a new plant.

When asked whether Honda is looking for any new partnerships in India after Hero MotoCorp, Aoyama said that his firm is not looking to forge any partnership in the country. However, the Japanese automaker will continue to provide technology to Hero group till 2014 as per the termination agreement of its alliance.
(Source: Economic Times)

For Wipro, oil is its black Gold; to bring in $1 billion revenue

Quite unlike any other Indian software company, WiproBSE -0.43 % is finding that oil is indeed its black gold. The energy and utilities space, which is not a traditional bread-winner for IT services companies, is proving to be so lucrative for Wipro that it is on the verge of earning the Bangalorebased company $1 billion (Rs 5,400 crore) in annual revenue.

Wipro's energy and utilities vertical, contributing around $900 million, or 15% of total sales, is now the fastest-growing business unit thanks to the April 2011 acquisition of the oil and gas practice of US-based Scientific Applications International Corp (SAIC) for about $150 million.

In the three months to December 31, the unit grew 18% compared to a year ago — that is at least three times as fast as any other business unit in Wipro, which is just climbing out of a sales slump. Besides the leadership transition in early 2011 and the subsequent organisational restructuring, Wipro was hobbled by the slowdown in the US and Europe that forced corporations there to adopt a cautious approach towards technology spending.

"The acquisition helped us offer consulting and specialised services that are beyond IT infrastructure management or SAP implementation," said Anand Padmanabhan, who manages the energy business unit out of London for Wipro.

Fundamental shifts in the energy industry — where the focus is fast moving from crude oil to shale gas and now gas hydrates — are throwing up opportunities for Wipro, which counts the world's second and third-largest oil companies, BP and Royal Dutch Shell, among its clients.

"Six years ago, nobody was talking about shale and now we are talking of 40% of US energy requirements being met by shale gas," said Padmanabhan about the shifting priorities in the industry. "All the big cats with muscle to invest are investing," he added.

From being a primarily Europe-focused, and offering downstream IT services to oil companies, the SAIC acquisition helped Wipro expand its client base to the US as well as complement its offerings with upstream services that go right up to the oil rig. Beyond basic IT support services, Wipro now works with oil companies to analyse the copious amount of data generated by sensitive sonar probes sent to oil wells to generate intelligence on the presence of oil or gas. "Energy companies globally are facing skill shortages, cost pressures, and need to invest in new technologies, creating opportunities for companies such as Wipro that already have a head start," said Jimit Arora, vice-president at Everest Group, a technology researcher and advisory.
(Source: Economic Times)

Monday, March 11, 2013

India car sales weakest for a decade

India’s automotive industry faces further production and price cuts after the weakest monthly sales figures in more than a decade.
Sales fell 26 per cent year-on-year during February, according to data from the Society of Indian Automobile Manufacturers, as the once fast-growing passenger car segment was buffetted by weak macroeconomic growth in combination with high financing and fuel costs.
Leading car companies including market leader Maruti Suzuki and third-placed Tata Motors have responded by temporarily suspending production and launching promotional offers to tempt buyers back into the market.
Last week Tata Motors, whose domestic sales have been especially badly hit, announced plans to allow potential customers of its ultra-cheap Nano car to drive away a model simply by swiping a credit card.
India’s economy is set to grow at only 5 per cent during this financial year, its slowest for more than 10 years, denting sales of all types of cars and motorcycles.
A sharp slowdown in industrial investment has hit demand for trucks and lorries especially severely, with monthly commercial vehicle sales in February falling by more than one-third compared with the year before.
Last month finance minister Palaniappan Chidambaram raised taxes on sport utility vehicles, where growth remains strong, producing an angry response from leading industrialists.
“The negative factors are getting worse and the decision of the government to increase the price of diesel and to add more duties to SUVs has clearly affected consumer sentiment,” said Ammar Master, at LMC Automotive in Bangkok.
India’s figures contrast with China, the world’s biggest auto market, where passenger vehicle sales rose nearly 20 per cent year-on-year in the first two months of 2013, according to the China Association of Automobile Manufacturers.
CAAM cites the first two months as one figure, to remove distortions due to the timing of the week-long lunar new year holiday in China, which sometimes falls in January and sometimes in February.
Chinese commercial vehicle sales in the first two months mirrored the industrial production slowdown in the same period, with output showing the weakest start to a year since 2009. Commercial vehicle sales were down 5 per cent year-on-year for January and February.
CAAM has said it expects overall vehicles sales this year to increase 7 per cent, a third consecutive year of single-digit growth, while in India SIAM has suggested it is now all but certain to undershoot its recently lowered official estimate of growth of between 0 per cent and 1 per cent.

Africa still bursts with private equity activity

Miles Morland, a pioneering Africa investor, has spent more than two decades looking for deals in places where you can’t drink the tap water. If his experience is anything to go by, finding successful private equity opportunities has more to do with sharing a glass of the stronger stuff in African bars.
“In Africa there are hundreds of deals but you have to go and look for them. In the west, investment bankers bring you deals . . .[but], in Africa, investment bankers are way down the food chain. You need to go and hang around the bars . . . to find the deals,” Mr Morland says.
The case for investing in sub-Saharan Africa is clear. It has some of the fastest growing economies in the world, boosted by a nascent consumer class increasingly thirsty for everything from credit to cappuccinos. And it represents just 4 per cent of the emerging markets private equity asset class – emerging Asia takes the lion’s share at 63 per cent – suggesting there is plenty of room to grow.
But even as private equity groups raise ever larger Africa funds, there are persistent murmurs in the market that there simply aren’t the deals out there to match. Mr Morland disagrees. Development Partners International, the private equity group he co-founded, has invested the $500m fund it raised in 2008 in nine deals and is raising a new fund of the same size.
Mr Morland, nevertheless, argues that the high rolling returns of the decade leading up to 2007 are a thing of the past. The “fool’s paradise” era when mobile phone companies grew faster in Africa than anywhere else in the world may have made some investors very rich, he says, but it is long gone.
There is now a glut of new private equity investors plumping for Africa, with money from Brazil, the Middle East and the US entering the fray, jostling with bigger outfits such as Carlyle and KKR. Some of the newcomers are finding private equity investing in sub-Saharan Africa neither as promising nor as simple as sometimes billed.
In the 1990s, returns were hard to find and many good exits fell victim to currency volatility. In the following decade, investors might have earned stellar returns from mobile phone investments but these masked other fund failures.
“In the current 2007-17 cycle, making money will be harder. An internal rate of return of over 20 per cent will look good,” Mr Morland says. “It is a time when careful investors rather than cowboys will do well . . . The phone game is over.”
Despite the tougher environment, fundraisers are at pains to assemble what one investor calls “big ego” funds. Brazil’s BTG Pactual and others are reaching for the $1bn mark and seeking large deals that the continent’s fragmented market can rarely offer.
“When you start going up to writing equity cheques in excess of $75m, there aren’t so many [deals],” says Marlon Chigwende, Carlyle’s Africa co-head. His sub-Saharan Africa fund, which is expected to close above its $500m target in the third quarter, made its first investment last year by taking part in a $210m equity injection in ETG, a Tanzanian agri-commodities trader.
Nor is the competition just for deals. Another emerging headache is what one investor calls the “traffic jam” of fund managers seeking capital from investors. According to Preqin, the data company, 57 Africa-focused private equity funds are looking for $13.1bn, half of which are based in South Africa. While emerging market fundraising increased 72 per cent overall to $40bn in the past two years, fundraising for sub-Saharan Africa fell 3 per cent to $1.45bn last year – well down on its 2008 peak of $2.24bn.
Ethos, South African private equity company, which has been investing in the region for 25 years, closed one of the continent’s largest funds last year after securing $800m from investors, but it says fundraising “has not been easy”. Harith, another South African fund manager, had to rely on domestic money after foreign investors shied away.
Roger Leeds, founder of the Emerging Markets Private Equity Association, says the smarter money is targeting middle market deals worth less than $50m, which he believes have stronger growth prospects.
“The fund managers are happy to take investors’ money but it puts tremendous pressure on them to do bigger deals and they’re going to run out,” he says. “They’re all complaining they’re finding trouble finding deals and they’re competing with each other and driving up valuations.”
In other words, as the African growth story attracts more and more funds, the going is getting tougher.
That is one reason why resourceful and locally based management teams matter so much more today than in the past.
“It’s no longer like venture capital where you take a shotgun approach and hopefully one of the pellets will hit the bullseye,” says veteran fund manager Michael Turner at Actis, the UK-based fund manager, which is raising money for a new global fund that will include Africa. “In today’s African private equity you can’t afford to have failures – it’s extremely hard to come back in a portfolio to deliver an overall good profit if you’ve had one or two wipeouts.”
Sev Vettivetpillai has made dozens of Africa investments and exits as head of Aureos, which was bought by Abraaj Capital of the United Arab Emirates last year. He says the days of flying in and out of Africa and managing investments from a distance are over.
“The growth story is very valid and real across Africa, but it still remains that if you pick the wrong partner and the wrong industry, you’re not likely to be benefiting from that growth story. Without the right management team you will lose your money. You won’t get out of that hole.”

Saturday, March 9, 2013

America's cheap gas: Bonanza or bane

THE shale gas billowing out of American soil is a source of concern as well as cheap energy. Environmentalists worry that fracking, the technique for dislodging gas from shale beds, may pollute the air and local water supplies. The glut of natural gas has a less likely set of victims, too. Instead of banking handsome profits, many of the oil and gas firms that drill for shale gas are suffering from the boom.

Share prices have tumbled for firms such as Chesapeake Energy, Devon Energy and Southwestern Energy. Asset sales to help pay debts racked up by drilling wells have become the norm—on February 25th Chesapeake announced the sale of a stake in land containing wells as part of its efforts to raise $7 billion this year. The pain looks likely to persist. Analysts reckon that gas has a “sweet spot”, where drillers can make money while consumers still feel little pain, of around $5-6 per mBTU. But the economics of American shale beds means getting there will take time.
To cork the flow firms have shut down some existing wells and stopped investment in new ones. But some leases with the owners of land that sits atop reserves dictate that gas (and royalties) must flow regardless of prices. Intensive drilling in 2010 and 2011 has left a huge stock of wells that have been paid for but are yet to be hooked up to local pipelines. Some producers have also contracted to deliver gas at higher prices, which keeps the stuff flowing.
A quirk of geology is also preventing prices from rising faster. Shale beds can be “dry” or “wet”. As well as gas, the wet wells produce natural-gas liquids (NGLs) such as ethane, butane and propane. These hydrocarbons are valuable for making plastic in petrochemicals plants or for industrial and domestic uses such as firing industrial heaters and barbecues. NGL prices are linked to that of crude oil, the price of which is set globally (unlike gas) and is high. A healthy flow of NGLs will cover the cost of wells; the gas, a free by-product, hits the market whatever its price.
Some drilling rigs have been shunted from “dry” shales to “wet” ones, boosting supplies of this “free” gas. (The rush to liquid-rich shales has also led to a glut of NGLs, so their prices are falling: this will eventually mean less gas and higher prices.) Other rigs have been trucked to shale-oil beds such as the Eagleford in Texas and the Bakken in North Dakota, which also spew out “free” gas. In the Bakken much of it is wastefully flared (ie, burned). “Green completion” standards for wells due to take effect in the next two years will ensure that the gas will be collected and sold, potentially slowing price increases.
Shale gas is still a relatively young industry. Opportunities for efficiency gains and cost-cutting abound. That makes lower prices more tolerable for producers. Energy giants such as ExxonMobil, Shell and Chevron are in for the long haul and have deep enough pockets to put up with low prices for a while. And differences in infrastructure can affect local markets so that prices may deviate from the Henry Hub benchmark.
Statoil, Norway’s national oil company, bought a pipeline connecting the Marcellus shale in Pennsylvania to Toronto in Canada, where gas is around $1 per mBTU costlier. The company is building one to Manhattan for the same reason.
Exporting liquefied natural gas (LNG) would be another way to deal with the gas glut. Gas markets are regional. Outside America, prices are typically much higher. Spot prices in Asia can reach $20. Moving American gas to Asia would therefore be lucrative, and it is perfectly possible.
America’s Gulf coast is lined with plants to turn imported LNG into gas. Built back in the days when people thought that America would need to rely on imports, they are now idle. At a cost, they could be converted into plants that turn American gas into LNG for export.
One of them, Sabine Pass in Louisiana, has an export licence and could start sending gas abroad by 2015. Sixteen more have applied for licences. But gas-consuming American businesses object. In the hope of keeping domestic gas prices ultra-low, they are lobbying the government to block exports. The government, reluctant to anger both Greenpeace and Dow Chemical, is dragging its feet. Prices are sure to rise eventually, but not before producers suffer more pain from the boom they created.
(Source: the Economist)

Music: Something to sing about

CALL me maybe” by Carly Rae Jepsen, a Canadian vocalist, was the best-selling song last year. Is it maybe also time to call the bottom for the music industry? According to data released on February 26th by the International Federation of the Phonographic Industry, sales of recorded music grew in 2012 for the first time since 1999, albeit only by 0.3%, to $16.5 billion (see chart).
The internet sank the music industry, but is now helping it to resurface. Digital sales rose 9% last year; a third of the music industry’s revenues now come through digital channels. Download stores represent roughly 70% of digital revenues. Popular “streaming” services, such as Spotify and Deezer, which pay a royalty each time a song is played, have also helped to rescue the business. Subscription services had 20m paying subscribers around the world in 2012, up 44% from a year earlier. Millions more use free advertising-supported versions.
Digital revenues may be rising, but physical sales still account for most of the music industry’s revenue—and they continue to fall almost everywhere (Japan and South Korea are exceptions).
The ease of owning or streaming music may have helped to draw people away from piracy. But around a third of internet users continue to visit unlicensed sites. This may explain why revenues have stopped falling but have not yet grown by even a full percentage point. Still, it looks as though the music industry has (at last) found a new more buoyant rhythm.
(Source: the Economist)

Aspiring Africa

CELEBRATIONS are in order on the poorest continent. Never in the half-century since it won independence from the colonial powers has Africa been in such good shape. Its economy is flourishing. Most countries are at peace. Ever fewer children bear arms and record numbers go to school. Mobile phones are as ubiquitous as they are in India and, in the worst-affected countries, HIV infections have fallen by up to three-quarters. Life expectancy rose by a tenth in the past decade and foreign direct investment has tripled. Consumer spending will almost double in the next ten years; the number of countries with average incomes above $1,000 per person a year will grow from less than half of Africa’s 55 states to three-quarters.
Africans deserve the credit. Western aid agencies, Chinese mining companies and UN peacekeepers have done their bit, but the continent’s main saviours are its own people. They are embracing modern technology, voting in ever more elections and pressing their leaders to do better. A sense of hope abounds. Africans rightly take pride in conferences packed with Western bankers keen to invest in their capital markets (see article). Within the next few months MasterCard will have issued South Africans with 10m debit cards. Even the continent’s politicians are doing a bit better, especially in economic management and striking peace deals. Average GDP growth is humming along, at about 6%. Governance is improving: our correspondent visited 23 countries to research this week’s special report and was not once asked for a bribe—inconceivable only ten years ago.
Don’t dawdle
One reason is that so much more remains to be done. Poverty may have become less visible in Africa’s capitals but it remains widespread. The battle against hunger has not been won. The spread of wealth is uneven and winners from today’s boom all too often rush to fortify their gilded positions inside guarded compounds. The financiers who suggest that Africa could soon rival Asia have let their imaginations run riot. Whereas one is the workshop of the world, the other almost exclusively exports what grows in fields or is dug out from below them.
About a third of Africa’s GDP growth comes from commodities. This will not last. Today’s prices are near record highs and commodity markets have a habit of collapsing. Furthermore, recent gains in agricultural commodities may be undermined by climate change. Even now, savannahs are drying out, water tables are dropping and rains either failing or becoming more irregular. One in five Africans will be directly affected by 2020. Even as their continent prospers, many of them will continue to depend on agriculture and there is little they can do about the threats to the world’s environment.
Another reason to push ahead is that Africa’s hard-won victories are vulnerable to relapses. Kenya is a model for other countries in east Africa but the campaign for elections on March 4th has been marred by violence (see article). New scourges—like Islamist extremism in the Sahara—could yet sow instability.
And Africa must make the most of two transitions it is now going through. The move from the countryside to cities offers the chance of a one-off boost to productivity both on the farm and in the slums. If African states bungle this, they will create a dangerous unemployed urban class. At the same time, though Africa’s population is still growing rapidly—it will double to 2 billion by 2050—families there are becoming smaller. This promises a “demographic dividend”, as the number of workers relative to children and the elderly increases. The continent must make use of this bulge of labour, and the savings it produces, for development. If they squander it, Africans will grow old before they grow rich.
Break down your borders
Africa’s citizens are already striving to become more productive. Farmers have started using hand-held gadgets to gain access to weather reports. Slums too are teeming with technology. The internet is changing the way the continent does business. In Kenya a third of GDP flows through a mobile money-transfer system set up by a private telecoms company.
But Africa’s entrepreneurs are often stymied by the state. The bottom third countries in the World Bank’s ease-of-business ranking are almost all in Africa. Their people could easily have better lives; abundant capital and technology offer big opportunities. The infrastructure is improving—only 5% of the 15,800 miles travelled for our special report was on unpaved roads—but the power grid is a disaster. On the whole, government officials should focus less on building things than getting out of the way. Useless regulations have created bottlenecks. East Africa’s main port in Mombasa is gummed up and land borders across the continent hold back lorries for days. Restrictions on employing migrants and on land ownership prevent businesses from expanding. Bureaucrats and customs officers inflate the cost of getting anything done. Shipping a car from China to Tanzania costs $4,000, but getting it from there to nearby Uganda can cost another $5,000.
If aspiring Africa wants a new dream, it should be creating a common market from the Med to the Cape. That would be a boon to trade, enterprise and manufacturing: it would also get rid of much of the petty corruption and save lives. A recent World Bank report pointed out that Africa could produce enough food to feed itself; alas, too few subsistence farmers get a chance to sell their produce (and usually get less than 20% of the market price). Why not rekindle pan-Africanism by opening borders drawn in London and Paris? Africa needs a reborn liberation movement—except this time the aim is to free Africans from civil servants rather than colonial masters.
(Source: The Economist)

America's stockmarket: Better than the alternatives

ONE more milestone has been passed on the road to recovery. On March 5th the Dow Jones Industrial Average closed at 14,253.77, a new high, finally surpassing the level reached in October 2007, just as the subprime-mortgage crisis really took hold. (The S&P 500, a more broadly based and better constructed index, stayed just shy of its record high.)
Wall Street is not alone. Stockmarkets in the developed world have been in fairly buoyant mood since the start of the year with the MSCI World Index rising by 5% in the first two months of 2013, and the Japanese market gaining 13.5%. Emerging markets, in contrast, have been flat.

The main factors behind the current surge seem to be twofold. The first is a degree of confidence that some “tail risks” have been avoided, at least for now. The euro zone has not broken up and politicians in Washington, DC have not brought the entire economy to a halt over tax-and-spending policies. Hurdles remain (such as raising the debt ceiling) but investors assume a deal will be done.
The second factor is that equities look better than the alternatives. Cash yields are puny and central banks have made it clear that interest rates will not rise for a while. Ten-year government bonds in much of the rich world yield 2% or less. Although there is no sign of the much-heralded “great rotation” out of bonds and into equities (see Buttonwood), there are signs that investors are putting cash in both asset classes following a long period in which equity funds suffered withdrawals.
Some think the bull market is bound to continue as long as the central banks of America, Britain and Japan keep buying assets. “There are three guys with cheque books which matter in the world, and they will all have hand cramps in the coming quarters and years as they furiously accumulate trillions in securities,” was the verdict of David Zervos, a strategist at Jefferies, an investment bank. “The only safe asset, as these fiat cash and reserve liabilities explode higher, is the one that has at least a chance of generating positive real returns—equity capital.”
Can cheap money prop up share prices in the long run? Research by the London Business School shows that low real interest rates have historically been associated with low, not high, equity returns. Mohamed El-Erian, the chief executive of PIMCO, a fund-management group, said recently that: “For the rally in equity markets to continue, the current phase of assisted growth, as anaemic as the outcome is, needs to give way to genuine growth.”
The stockmarket fundamentals are not that encouraging, however. Profit growth has been slowing. In the fourth quarter of last year, earnings per share of companies in the S&P 500 grew at an annual rate of 6%, according to Société Générale. The growth rate is expected to be just 1.2% in the first quarter of this year, and 0.1% if financial companies are excluded. Analysts are more optimistic about the second half of the year, but they usually are upbeat at this point in the calendar; reality kicks in later.
The best long-term measure of value, the cyclically-adjusted price-earnings ratio (which averages profits over ten years), is at 22.9, around 39% above its long-term average, according to Robert Shiller of Yale University. An alternative measure, the Q ratio, which compares shares to the replacement cost of net assets, shows the American market as 50% overvalued, according to Smithers & Co, a consultancy. The dividend yield on the market is 2.6%, compared with the historical average of 4.1% (although share buy-backs partly compensate for this shortfall).
Valuation does not often drive the market in the short term. During the dotcom bubble investors were happy to buy shares on stratospheric multiples: the cyclically-adjusted p/e reached 44 in late 1999. But the aftermath of that bubble illustrated an old rule. When investors buy assets at above-average valuations, they will suffer below-average future returns.
Given the current combination of low bond yields and high equity valuations, Antti Ilmanen of AQR, a fund-management group, calculates that the prospective return from a balanced American portfolio is the lowest it has been for a century. That is not good news for American corporate-pension funds, which still have a $479 billion deficit even after the latest rally, according to Mercer, an actuarial group. For the moment, though, the bulls are happy to leave that worry for another day.
(Source: The Economist)