Talking about Economics, Science and Religion. And then adding humans to the equation.
So what do we know about science, economics and religion ? Well! for starters, science existed since the day Universe came into being, and therefore science has been around long before humans or human civilisation came into existence. Science is as old as the universe itself. There is science on Mars, but no economy. Also there is science all across the cosmos, but till date, the size of the space economy is limited to human activity closer to earth or our solar system, although this may change as humans venture into space on a larger scale. There are vast amount of natural resources spread across various parts of the Universe as well as continents like Antarctic here on Earth, which has resources worth tens of trillions of dollars. But it still has no economy or in other words GDP, and that is down to the fact that, there is no permanent human civilisation based there.
The idea of economics and economy started along side religion, nation state, and culture etc. And therefore, like other human ideas, it was conceived as a subject by humans. So humans will continue to influence it. Human behaviour, human perception and psychology, and their overall sentiment will continue to influence the subject of economics and the idea of economy. The data created by a human society, categorised as economic activity related data, tends to be the metrics widely used, to understand or gauge the overall wellbeing of an economy. And as the human society becomes more complex, so has the economy. It has no doubt continuously evolved and changed reflecting the changes in the human society. But like religion or culture, it has design flaws, and therefore fails to serve the entire human civilisation. The prime example is, the aftermath of the financial crisis. While we can measure the financial cost to an economy, what we cannot accurately measure is, the human costs that is directly and indirectly related to the financial crisis of 07/08. And the same does apply to religion. Although some of may of us continue to argue the case for religion, none of us have tried to accurately assess or measure the human costs of religion on humans, in terms of holding back human’s overall progress etc while the various religious franchise aka religions have gone richer and wealthier over time.
In the US alone, based on various estimates, the society known as the American society tends to give away around $ 82.5 billion a year to religion. And then, there are direct and indirect human costs. Having said that, wars have killed more humans than religion, and they also cost a lot more money than religion. But in historical context, some of the wars were religiously motivated, and humans still tend to fight over their religious and cultural ideology.
The question then is, do we need religion or economy for that matter ? And the answer isn’t that difficult. For many of us religion is still the answer to questions like, why do we exist and what’s our purpose ? And to a very large extent economics and economy has played a very vital role in the evolution of the human society as well as its overall progress. So to take away economics or religion from humans may not work out well. While science has always existed, sometimes, it is the economics that has justified scientific progress. And it is the economics of space that will most likely drive humans exploration of space.
According to space foundation, the space economy is already worth over $ 329 billion, and in the next 50 to 100 years, space industry will become the most dominant among all the sectors of the economy. It will not only create new jobs, but also help take humans as a civilisation to the next frontier. At least that’s what I feel. Imagine an economy that is not only going to measure the economic activities here on Earth, but also from across the Universe. But can it create enough wealth, to help fund the living of the entire human race ? Now this is a rather difficult question to answer, because unless and until, we keep finding ways to make the entire design of the economic system more efficient, it will continue to fall short.
My own assessment is that, economics and economy as an idea and subject is not a complete science, but unlike a religion, it isn’t stagnant, or requires the human society to completely surrender itself, and be at its mercy. It has flaws, but it also does have the capacity to continuously evolve, and so it should. Humans are the key input to the entire equation, and without adding humans, one could say, nothing is relevant. And the human element will continue to add a level of unpredictability and uncertainty to the field of economics and economy.
Understanding Emotional Capital
Most Humans are emotional animals, and not just humans, the statement is probably true for most living species on Earth. Unlike money, emotions are hard wired in the overall design of a human being, so separating emotions from a human being is, more or less equivalent to taking out the core of what is being a human.
The driving force behind a goal, ambition, or a dream of achieving something of significance, tends to be emotion. And emotions do play key role in how committed a human is. The idea of a human being, to be in relationship with another human being is also, mostly based on the underlying emotions that humans tend to have for each other. And once they have invested their emotions in a relationship, they tend to work extremely hard to make it work.
My own understanding of a human emotion or emotions in general is still evolving. I have always felt that, humans should not be emotionally attached to their business or profession, and my rational for holding that view has mostly been based on the assumption that, emotions will comprise the ability of a human being to make rational decisions. And the evidence tends to suggest that the view may have a strong merit. But over time, my own view on the subject matter has evolved, and in the process, it has changed somewhat.
And today, I am of the opinion that, emotions are natural enhancing tools, and maybe,I need to relearn the definition and the role that emotions can play in helping humans progress. A business or a profession, whatever it might be, may lose some of the essential intensity, if humans weren’t emotionally invested in it. And the loss of emotional attachment to a business, may not necessarily mean that, the decision making process will become more rationale based.
As humans grow, so does their emotional capital. And through a process of trial & error, also commonly known as living, most human beings tend to get a better handle of their own reservoir of emotional capital. It is by learning to better utilise and understand their emotional capital that, humans can define their own success, whatever that might be. Or in other words, learning to invest your emotional capital wisely by a way of trial & error, will define where you may end up in your human journey.
So therefore, building the right reservoir of emotional capital, by better understanding how emotions can help or enhance a human being positively, individuals as well as the society at large, can learn to make better decisions, whether business or otherwise. The idea that emotions show the weak side of a human being has no scientific merit. And emotional Capital is good for your overall well-being including the financial well-being.
Read Full Post | Make a Comment ( None so far )The Changing GAME, and the Global economy
The recent movements in the markets and its overall behaviour is starting to indicate that the game is changing and has already changed somewhat, and the market participants are having to adapt to these changes rather quickly. And here is an example, so when my GrandMa suggested that never mind the good old correlation theory, the markets overall behaviour today has changed so we could very well see the stock going higher while the crude oil could go as low as 70 or even lower,some folks in the market thought, it hasn’t happened before, and probably won’t now because crude and stock pricing have had historical correlation. And that’s a very understandable observation. But in the past month, the stocks have clearly been on an upward trajectory while the crude has continued to be on a downward trend. And by relying on the old economic theory as a reference, some may argue that one of these stories might be not be true, but I would disagree with that old economic assumption that one of these stories must be lying. Not at all, it’s just that people have evolved, and some of the old rules don’t work that well in the markets today. And here is an attempt to explain both the stories.
The stocks have been supported by a number of factors. For example, the European Central Bank ( ECB ) has just started its quantitative easing ( QE ) program, and the Bank of Japan ( BOJ ) as well as the Bank of England (BOE) are still maintaining the level of their QE program, also there are no real indication that the FED or any another central bank for that matter in the developed world is going to start raising rates around Q1 of 2015, it’s simply too risky. And although at some point, the FED and BOE might have to raise rates in 2015 , the central banks in China and India will most likely be lowering their rates, and PBOC ( the Chinese Central bank ) has already started the process so clearly the game is being played differently around different parts of the world today.
And with regards to the downward trajectory of the current crude pricing, it isn’t all a reflection of a seriously deteriorating global macro economic condition. In fact the recent policy easing in China as well as the Euro 315 billion investment & growth plan announced by the European Union along with the quantitative easing (QE) plan of the European Central Bank is all aimed at creating growth so the under normal circumstances, the markets should push the crude prices up but the underlying reasons for a falling crude isn’t all based on global macro issues. There are number of other factors at play, and one of them is that the US marching on to becoming a net exporter of energy, and OPEC mainly lead by Saudis are trying their best to maintain their position in the game by making the shale gas business unsustainable. It’s hard to project, if OPEC and the Saudis will eventually succeed but the game has obviously changed, and the old rules don’t really apply.
The other interesting thing happening today is the positive momentum build up over India. And if India is able to find a way to unleash its potential then quite frankly, the global economy will be better for it. But the Indian economy has to deal with a series structural issues, and inflation being one of them.I believe, the current RBI governor needs to sit down with the government, and help device a plan to carry out wholesale structural reforms in the economy. Monetary policy has its limitations, just look across the world, the central bankers aren’t really able to get a good handle on inflation anymore because as stated before, the game has changed. And we need to look at the bigger context when talking about inflation today.
For example, the financial assets in the U.S. as well as other developed markets got highly inflated, but without a real increase in disposable income, there is simply no capacity in the real economy to drive up inflation in the developed world. And specifically in context of India, India’s inflation is hard wired into how the country’s economy is structured, and unless the economy is unclogged, taming the inflation isn’t going to work. So practically, it’s almost impossible for India to export its inflation overseas, a process through which the developed world including of the U.S. was able to to export its inflation to an economy like China while continuing to grow and keep a relatively high living standard. The RBI governor has done an extremely good job so far, and I believe , he along with other central bankers know the limitations of monetary policy tools. Also Indian economy isn’t efficient enough structurally to quickly respond to policy changes, and this is thanks to the old ways of doing things. So an incremental reform agenda aimed at unclogging the engine has to be at the forefront. Inflation will tame down going forward with the structural reforms in the economy and also the existing lower fuel prices etc, but without carrying out a thorough structural reform, any slow down in inflation can’t be sustained. I believe, the current governor of the RBI shouldn’t hesitate to use inflation as a leverage to keep the pressure on the finance minister to keep the reform agenda at forefront. And in Mr Rajan as the governor of India’s central bank, India has found a central banker who has a global reputation, also a central banker who isn’t shy of a debate. And this is why he gets respect in the market.
Overall, it looks like India is heading in the right direction. A country like India needed a strong government, and most importantly a strong leader. And on both these counts, the people of India have delivered, but India is a federal structure so if the states don’t participate in the growth and prosperity agenda of the federal government then it will be a struggle for the central leadership on their own to take the country forward. There is an overall positive sentiment around India today, and the country does have an immense potential. And the way, I would describe India’s potential is, if for example, the economic model followed by China has helped it create a Boeing 777 then India today has the chance to create Boeing a 777 X series plane, an upgraded version that will be largest and most efficient twine engine plane in the world, but for this to happen a lot has to go right for India.
Progress and reform has to be incremental, and also gradual. A steady take off requires the pilot to guide the plane making sure the climb is comfortable, and will not put the passengers as well as the plane at risk. And once the plane is flying at the desired altitude, a seasoned pilot as well as a passenger know that there will always be turbulence on the way. So the approach by the INDIAN leadership shouldn’t be based around trying to blast off the country into outer space by carrying out one time wholesale Big Bang reforms. No progress or reform is permanent so the leadership and the policymakers should factor in a period of consolidation in the economy, and be always prepared to carry out the next set of reforms.
Also any well thought policy reform will fail to deliver the desired result, if the policy delivery mechanism isn’t fit for purpose. The current economic infrastructure of the economy is old and too clogged up so the focus of the government should be to take immediate measures to unclog the system, and then the growth will start to trickle through. The road ahead won’t be a smooth ride but the focus should be on unclogging the system and changing the current administrative policy delivering mechanism set up in the country. Also, the rural India will need to be fully plugged into the overall progress agenda. This will create,and is already creating tremendous opportunities for entrepreneurs who are able to spot them. The strategy has to be tailored to make sure all parts of the economy is starting to perform efficiently, and won’t burden the ascend of the overall economy going forward.
Also most importantly a ” progress for all ” idea has to be sold to the entire nation, and by trying to make this into a national movement, the current PM of India is heading in the right direction. However, the people of the country will need to be willing participants by making their own contributions. So the leadership of the country should aim to pitch India as a potential B777 X, the latest and more powerful as well as more efficient version of the existing B777, and India can be that.
The government will need to discover an economic growth model that is sustainable over a long term period and also inclusive. Adopting and following an existing growth model will not work for a country like India, and this is why I always struggle to understand the idea proposed by some in the market that all emerging economies should follow the economic growth model of China as an example for their country without really understanding if that specific economic model is going to be sustainable for their respective economies.
China’s heavy reliance on investments to drive it’s GDP has created a massive over supply, and there are large amount of infrastructure assets that are simply sitting idle without creating any return for the tax payers so if we were to look in terms of return on investment basis then the picture is quite murky. In short they would fall under inefficient investments category, and we are talking about trillions of dollars worth of such investments here. And this is one of the reason why the leadership of China based companies are looking to invest overseas, and it makes good business sense because the companies in China do have tremendous experience in building substantial infrastructure assets.
So going forward, the state owned enterprise in China will look to invest overseas as there isn’t much to do at home, and in a way, this strategy works out well because the emerging economies that have massive infrastructure deficit might find that China based companies are more willing and flexible to help them develop and finance those projects than others. And as Europe and the U.S. gets more competitive, the foreign players currently operating in China will start to move their production facility closer to home, and it’s already happening as the cost of production is starting to get lower than that in China. The economic engine of China is going through a gear change, and the leadership will need to make sure the transition is well managed. And as the game continues to change, companies operating in the real economy will face different type of challenges but at the same time there will be many opportunities, and that’s just a natural process, the powerhouse of yesteryears will become irrelevant as the economy evolves.
Read Full Post | Make a Comment ( None so far )EUROPE in Rehab
Committing to and carrying out real structural reforms, managing citizens expectations, finding ways to grow the economy while keeping the spending on track is a BIG ask but it has been done before in Europe and it looks like this is what the policy makers in Germany want from their southern European partners.
The question is are the folks on the streets in Southern Europe willing to sacrifice their living standard and livelihood for the greater good of the European Union in the long run or will Germany offer flexibility in the short term to ease the pain and change course? Well, we will have to wait and see.
There is no doubt that folks in Southern Europe benefitted the most from the European Union idea in the last decade without realizing that all the rise in their living standard and good times hasn’t been paid for and is infact being subsidized by others specially in Germany. Yes, in the current environment it is easy to criticise Germany’s stance on Austerity but I believe it is important to point out that there is a serious trust deficit among European partners so Europe has no choice but to go through the grind. It is no secret that policy makes in Germany are tempted to use this CRISIS as an opportunity to bring about far reaching changes across Europe and although I have always found myself siding with folks who disagreed with the severe austerity drive without any serious plan for growth there is no denying the fact that while Germany did carry out far reaching structural reforms during its reunification period and was referred to as “The SICK man of Europe “ by the market its counterparts in southern Europe saw a big jump in their living standards and hence got busy partying. And now while most in Europe are struggling Germany is certainly ripping the rewards of the decisions made during the time of reunification which required west Germany to invest over Euro 1.3 trillion and also significant sacrifices were made by its population in terms of accepting lower wages, cut in pensions and benefits among others so may be folks in southern Europe need to do a REALITY CHECK and remember NOTHING IS FREE and good times don’t last forever.
The protests and civil disobedience across Europe are probably some of the side effects of the REHAB process that Europe needs to go through in order to get back in shape and as we all know rehab is never a quick in and out procedure. It is a process that requires strong will and commitment and this will no doubt test the resolve of the Europeans but it must be said that a good rehab programs gets an ADDICT off the addiction slowly and this is done to manage the side effects better and ease the PAIN. So its probably time for Europe to consider a balanced approached through delivered a GROSTERITY (i.e. growth with smartly targeted cost cutting measures to bring down the deficit over a period of time) plan instead of its current front loaded severe austerity drive on all fronts.
A strong and sustainable Europe is in everyone’s interest and the solution to the ongoing European CRISIS is a more integrated and competitive Europe on all fronts and not less of Europe. From the onset European Union was a flawed idea which allowed its members to get high on an addiction where everyone assumed their living standards will rise forever without realizing that they may be sleep walking into a disaster waiting to happen because the policy makers got blinded by the BLING BLING of Europe.
Greeks and others in Europe may not like austerity but going back on the European idea is simply not a good option because they are not prepared for the aftermath. Also there is no evidence to suggest that economies like Greece will benefit immensely by having a devalued currency in fact with a devalued currency it will take Greece more than 30 years to recover especially if all the far reaching structural reforms needed to revive the competitiveness of the country is not fully implemented. And also let’s not forget the human cost that will come with exiting Euro. No doubt, a large population of Greece has seen the benefit of EUROPE so saying goodbye is probably not a viable option for them and the same applies for other countries in the Euro Zone area including of Ireland, Spain, Italy and Portugal among others.
Europe needs to come together with a strong resolve and will to get through the CRISIS. The aftermath of this CRISIS should be a strong, resolute, realistic, functional and more integrated Europe but this will depend on the policy decisions made by the European policy makers today.
Europe is capable of finding its own FIX but this will require a strong political will and sacrifice. And its probably worth mentioning as analogy that you can make a football team with different nationalities, cultural background work together and also win trophies but only if all the team member share the same vested interested.
In short Europe has to be good and should work for all its member and not just some but this will require looking beyond national interests for the greater good of the Europe Union. Also the policy makers will need to come up with a balanced approached and folks on the street will have to get realistic about their expectations but I wonder If they are able to look beyond TODAY?
The problem is we live in a world where we expect instant results and changes without realising that this crisis didn’t develop or happen overnight and fixing it will take time and also the FIX will come at a COST. The fate of the European Union is not at the mercy of the markets but its people and the ability of the policy makers to come together.
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Infrastructure Financing: Tapping into a diversified Funding Pool
As a key asset infrastructure is one of the most important driving force of an economy and has a direct impact on the overall growth and development story of the country. Infrastructure assets support a wide range of systems in both public and private sectors without which the industrial society of today simply won’t function or be as efficient. Generally developed world tends to have better infrastructure than emerging economies but having said that the overall spending on infrastructure in GDP terms by developed economies have been declining recently whereas the emerging world has increased its overall spending on infrastructure. In a fast growing economy you would expect the demand for infrastructure assets to increase immensely year-on-year and the opposite is true for a slow growth economic environment.
So the state of a country’s economy certainly plays an important role in infrastructural needs of that nation. Infrastructure assets should always be forwarding looking because the rapid growth in population and economy especially in emerging countries will put strain on the existing infrastructure creating bottlenecks relatively quickly but at the same time parts of the countries experiencing lower or minimal growth may create a situation of overcapacity.
Conceiving a smart and forward looking infrastructure asset and supporting it with the right capital is always critical.In the past federal, state, local tax bases other funding sources have been used to pay for vital infrastructure projects across the world. We have seen the business model for developing and funding infrastructure assets evolve in the last decade where a number of high profile infrastructure assets were built and paid for through Public Private Partnership or Initiative ( PPP or PPI). Although a number of high profile PPP projects have failed this model of developing and financing infrastructure projects is still considered one of the best way to pay for it.
While emerging economies have the need to keep building vital infrastructure to support their growth and improve the living standards of its citizens, the developed nations especially the US are sitting on an aging infrastructure that needs to be updated. All this requires capital and with the ongoing financial CRISIS it is getting harder to source funding for infrastructure assets as banks are still struggling to fix their balance sheet. Also the asset-liability (ALM) mismatch is one of the major defects in the traditional business model followed by banks today which makes it tougher for them to commit more resources towards financing infrastructure projects. Most infrastructure projects require long term capital commitments ranging from 7 to 20 or more whereas banks own source of capital ( i.e. deposits) tend to be of much shorter tenure ranging between 1 to 5 years or less. There are also regulatory issues including of the overall exposure to the sector and the credit risk rating of the asset which limits the ability of traditional banks to commit capital. Alternate source of capital providers including of hedge funds dedicated to investing in infrastructure sector as an asset class tend to prefer investing in liquid assets and in most cases their exposure to the sector is limited to owning stocks or debts of listed utilities, toll road operators, constructions companies, ports operators among others.
There is a strong need to diversify the source of capital base by making infrastructure an appealing asset class to a wide range of investors especially when governments including of developed as well the developing world are targeting infrastructure spending. Recently the ministry of finance of India announced an initiative called Infrastructure debt fund as to way to attract capital into the sector. This is a step in the right direction but having said that the proposal doesn’t address the core issue facing prospective investors when looking at infrastructure financing opportunities. The government of India is targeting an investment of over US$ 1 trillion ( around 10% of GDP) on infrastructure in its 12th five year growth plan for the country and the expectation is that the private sector’s share will be 50%. It is no doubt a highly ambitious plan and through Infrastructure debt fund the government’s objective is to facilitate the flow of capital from public and private sectors as well as foreign investors into infrastructure projects in India. The government figures suggest that there is a funding gap of over US$ 135 billion and this is based on the assumptions that there will be as much as 50% budgetary support for the planned investment in its recently announced 12th five year plan and the policy & regulatory reforms will mobilize over US $174 billions. Looking at the state of infrastructure in India and the balance sheet strength of the local banks it is safe to say that in reality the funding gap may be much higher than government’s expectation.
In the developed world, UK chancellor has earmarked over GBP 30 billion in infrastructure spending in his speech delivered to the British parliament in November of 2011. The UK treasury is hoping that two-thirds of its earmarked for infrastructure investments will come from the National Association of Pension Funds and the Pension Protection Fund. It is also seeking investments in infrastructure from insurance companies and from China. The United States will need to spend over $2.2 trillion on updating and developing infrastructure assets across the country over a period of five years to meet the current needs and around $1.1 trillion of the overall spending would be new. This is according to the American Society of Civil Engineers (ASCE), and while private sector is expected to make its contribution most of the heavy spending will have to come from the government as evident from the previous spending on infrastructure in the US. The Congressional Budget Office figures suggests that the federal government, state and local governments spent over US$ 312 billion in 2004 on just water and transport infrastructure in the United states with very little contribution from the private sector.
The current state of the global economy makes it extremely difficult for infrastructure projects to get funded. In markets like China banks are over exposed to the sector by lending to local government financial vehicles (LGFV) and most local governments are sitting on bad projects that aren’t making money and have also created overcapacity. There is also a lack of an efficient and developed secondary market for infrastructure loans in emerging market economies especially in countries like India, making it difficult for both public and private sector banks to refinance their loan books and in most cases the banks are as the end users of credit by holding the asset on their balance sheet until maturity therefore becoming super exposed to the sector and minimizing their ability to grant more loans. Also Indian banks have recently been running a daily deficit of over INR 1trillion per day for the past few months causing a systemic liquidity deficit in the banking system further limiting their ability to commit more capital to the sector.
Considering the above, Infrastructure debt fund (IDF) initiative of the ministry of finance of India does sound like an idea whose time has time come as it proposes to offer banks a platform to help refinance their existing loan book and by means of credit enhancement also be able to tap into low cost long term funding sources including of Insurance and pension funds. Having said that Indian banks will be competing for capital with their peers and there are no guarantees that foreign pension and insurance funds will pick Indian infrastructure assets over others. Money has no nationality and most investors will need to understand the structure better before committing capital. According to the public information released by the ministry of finance of India, the proposed IDFs will either be formatted as a mutual fund or a non bank financial company under modus operandi set out by the regulatory agencies including of SEBI and RBI.
Although the case for IDFs has merit going forward the structure will have to evolve incorporating the realities of the market. Besides IDFs other plausible long term, simpler and sustainable solution will be for banks to set up their own independent infrastructure investment companies or in a consortium with credit guarantee agencies, construction & development companies, Institutional investors, regional development banks, multilateral agencies, utilities among others. As the promoter of the “ Infra Investment Company(IIC)” banks will inject their existing infrastructure assets and loan books along with the cash flows ( from the projects) into the balance sheet of the company and other founding partners will provide seed capital (in cash equity) of around 10% to 15% of the assets held by the company in order to secure a strong rating and valuation. The Infra Investment company(IIC) will have fixed and guaranteed revenue stream coming from existing infrastructure assets it owns and it will be relatively easier for such a company to secure a credit loss insurance cover on its pool of revenues further protecting its cash flow.
To access a diversified pool of investor base the “IIC” could do dual listing in local and foreign markets, issue bonds in local as well as foreign currency supported by its balance sheet and the strength of its credit rating. It can also act as a platform to deliver infrastructure related credit and assets to end users including of pension and insurance funds. Also through the “IIC” institutional investors such as pension and insurance funds could commit new capital into the sector removing the need for them to hire a fund or portfolio manager to manage their investment in the infrastructure sector across various asset class.
Infrastructure assets are a vital support pillar of any economy and though some investors may consider the sector boring, good Infrastructure investments does create a positive cycle of growth, providing essential networks and services, stimulating economic growth and improving the standard of living for current and future generations. Also the investment in the sector tends to be less volatile than any other publicly traded securities.
Although the Infra structure Investment company may not address all the existing issues in the sector but by adopting a flexible strategy the “IIC” should be able to tap into a wide range of funding pool including of retail equity investors, institutional investors, sector focused investors among others. It provides an opportunity to Investors who in principle do like infrastructure but are reluctant to buy into it because of the lack of liquidity that comes with it.
Read Full Post | Make a Comment ( 2 so far )Market Psychology and Investors Sentiment ( mood of the market ) – The Driving Force Behind the markets
A friend of mine once told me Positive Attitude is the MANTRA for success.
Now some may say being positive is good but one has to be a REALIST too. Isn’t that just COMMON SENSE or maybe not. I believe human psychology plays a very important part in whatever we do as humans. And I do mean everything relationship, business, career etc.
Let us explore this more shall we?
Most of us who operate in the market or just watch the market have witnessed the markets going UP on bad news and vice-versa. And sometimes the strength of these irrational or unexpected moves will make you want to lose all your foresight, judgement, wisdom and commonsense. You will be tempted to abandon your own view and just follow the trend. There are some who do follow the trend. And there is nothing wrong with that. You don’t need to beat the market consensus but just profit from it. But sometimes bucking against the market consensus does pay well in the end. We all know that the markets have a habit of getting either too optimistic or too pessimistic and this has a lot to do with the market psychology.
Understanding the market psychology and how it affects the markets is never easy. But you can position yourself and also profit from it by simply looking at the bigger picture and not get carried away by the market sentiment. For example there were folks who went into the CRISIS uncertain about the future and with a very negative frame of mind (who would blame them) but there were others who went into the CRISIS knowing well that eventually things will get better and thus had a POSITIVE frame of mind. In the aftermath of the CRISIS all the evidence shows us that the later did profit from the CRISIS and are better for it.
Things are looking and getting better. Across the globe (with the exception of few countries) in general we are seeing a positive turn in the inventory, the manufacturing sector is beginning to do better, exports are doing well, businesses are beginning to spend some money, we are also seeing signs of improvement in the job markets, consumer and business confidence in the future seems to be getting better and one could say that we may have turned the corner. Having said that we may still see some mixed numbers going forward and although the overall health of the economy is getting better it is difficult to say with certainty that we are heading into a self sustaining recovery especially in the developed world until we start getting hard evidence that the private sector has started driving the growth. But based on the current state of the global economy where we are getting more positives then negatives I think it is safe to say that there are no tell tale sign or risk of a double dip recession going forward and the global recovery is gathering momentum with Asia leading the way. As I have said before in my post titled “Coming of Age: Emerging Markets – The Next Generation of Growth Engines “. A post that I wrote in July of 2009 the party is in the Emerging markets.
There is no doubt that the policy makers have managed to avoid a Great Depression type event by not adopting an extremely tight fiscal and monetary policy. Keeping a loose fiscal and monetary policy has surely helped. But that said the overall cost of the CRISIS on the Governments has been enormous as evident from their fiscal position. Their balance sheets are too stretched and they are getting calls from all the quarters to take immediate steps to FIX it. Although one understands that there is an immediate need to fix the balance sheet and also address the inflationary concerns by having a clearly formulated, defined and coordinated exit strategy in place. But that said the Timing will be KEY. I believe the policy makers would like to see credible and hard evidence that that economy will keep growing on its own after the removal of the stimulus or in other words it is evident that the recovery is solid and sustainable. And this is why I believe the chances of a double dip are now becoming extremely remote. But that said there are still many challenges that lies ahead and any policy mistake here could jeopardise the whole recovery.
Although policy makers have done a good job but there is a lot that could go wrong especially if they start playing politics and listening to the popular demand. We also have the general election related uncertainties especially in the UK. Governments are facing resistance from their citizens and labour unions on the austerity program designed to cut the huge budgetary deficit as evident in countries like Greece and other parts of Europe. For example in Britain which has seen the worst recession since the World War II people are showing little or no appetite for the shrinking of a system that takes up almost half of the national economic output which is far greater than that of Greece, Portugal or Spain. And all the political parties are mindful of that. So it is hard to envisage a situation where any government trying to come to power will promise the market a severe cut in the overall public spending and take radical steps to reduce the budget deficit even if they know that the markets may punish them for their inaction.
We are already seeing that European governments are taking decisions that are mostly political by design and targeted towards pleasing their own local electorate as evident from the stance taken by the German Chancellor Angela Merkel on Greece and the EU. The message from the German Chancellor couldn’t be any clearer. It looks like if the EU nations want a currency Union with Germany then they will have to implement economic and budgetary changes and maintain a good fiscal discipline that brings their performance into alignment with Germany. Which is probably as a fair expectation but although the German proposal especially on Greece was approved by the EU countries however, it does make the future of European Union look somewhat uncertain and also undermines the common currency. No wonder why some the recent statements of the German Chancellor have been received with horror in most parts of Europe. But that said there is a merit in the German proposal especially if you look at how the EU has failed to supervise and monitor Greece effectively. At least with the IMF involvement and it playing an important role the markets should get some comfort knowing well that it will now be extremely hard for the Greek government to misrepresent the figures going forward and there will be independent supervision of the reforms and cuts proposed by the Greek Government. So a combined EU and IMF solution for Greece albeit perceived as political by the market may turn out to be a much better solution than the initial proposal.
However, there is a genuine fear in the market that since Greece was not guaranteed explicitly by the EU there is a strong chance that Portugal , Spain or Italy won’t be helped either. And if the EU is unable to fix its own problem or find an EU based solution for an EU problem then it surely reflects badly on the credibility of the whole European Union and undermines the common currency. Also if the IMF decides to create a deeper austerity program for specific EU nations this may have a negative effect on the overall demand within the Euro Zone. Which can’t be good for the German export industry but we will have to wait and see. It is important to point out that to its credit IMF has shown a lot of flexibility when dealing with governments during this CRISIS so one can hope that we may see a sensible plan and in case of Greece they may even agree to the Greek austerity plan created by the Government. But there is no doubt that speculators would surely try to benefit from this uncertainty by testing the market.
On the other hand we have seen the US dollar benefit on the back of the uncertainty in the EU and also the improving economic conditions in the United States. Central bankers (especially in Asia) and investors who were reluctant to buy US dollar few months ago have all of a sudden found a renewed attraction to the currency. We have been long on USD and I am glad to say that our bets against EURO and British pound have paid off. The reality is there is still a dark cloud of uncertainty hanging over Euro Zone and the UK which won’t help the EURO or the pound in short term and It is also very plausible that FED may start raising rates as early as third quarter of 2010 while ECB and Bank of England may have to wait a little longer. And to add to that the upcoming elections especially in the UK are not going to help the situation. Having said that one could see the merit in the case for British Pound being undervalued especially against EURO, however, it will be hard to find a backer for British pound in the market. But I believe a cheap pound is a blessing in disguise and it could in fact help the UK economy going forward. Although some in the markets may still hate the UK but we have had a different view based on common sense and reality. I am glad the market in now paying a lot of attention to the UK job story which I have been watching for the past six to eight months. Here is an extract copy of the e-mail that I wrote to a dear friend ( I have edited the content and removed his name for obvious reason ) on the 20th of January 2010. I thought it will be an interesting read.
<< Hi D,
Hope you are well.
Picking up from our last conversation on the status of the UK economy I thought I’ll share with you and also get your thoughts on a piece that I am in the process of writing regarding the UK economy. I think bucking against the market consensus does pay well sometimes. We were expecting some positives numbers from the UK and I am glad that is what we got.
The Market probably still hates the UK and I can understand the reasons for it but the market does have a reputation of getting it wrong ( sometimes ) because we as people do tend to get carried away and discounting UK will be losing out. I won’t say I am turning all bullish but yes there are plenty of opportunities to make money spread across various asset/investment class.
Going forward I believe the market will start paying attention to the Job loss numbers in the UK surprisingly the job LOSS numbers have stayed well below the market expectation unlike any other previous recession? And I believe the main reason for that has been the flexibility offered by both sides the employees and the employers. And in terms of growth, going forward we could see a market beating quarterly GDP numbers and the reasons for that is simple we simple don’t know how much spare capacity is left in the economy and the inventories are so LOW that even with the existing and basic demand you will see a pickup in growth and this could PUSH the market up.
Cheers >>
I think it will be foolish to assume even for a second that the British economy is not in a pretty bad shape but I believe the market has been way too negative on the UK. And we are already seeing some positive revisions in the official figures from the Government and government agencies. But that said the British pound and the economy will still be under considerable pressure for some time going forward especially because the UK economy is very closely linked to its banking sector. According to Fitch ratings major UK banks may have to refinance more than US 448 billion of Government -backed guarantees and funding over the period of two to three years which could be a huge challenge depending on the prevailing market sentiment and this could reflect badly on the economy and the pound. What’s more the market is also very wary of UK’s budget deficit but one must add that this is not just a UK problem but today most developed countries including of the US are facing a similar challenge.
Although one mustn’t underestimate the importance of shrinking the budget deficit to sustainable levels ASAP I think it is also important not to overlook a major problem facing all the developed economies going forward. Which I believe is a slow-motion train wreck and the governments would need to address it without further ado. And I believe the Greek Crisis may be an early warning of troubles to come. The governments around the world especially in the developed world who are committed to providing very generous pensions over an extended period of time will now be pressed by the markets to re-examine or re-visit their pension program.
To get a perspective let us look at some of pension obligations of the developed world. According to a research recently published by Washington based Cato Institute if the Greek government was to bring its pension obligation on to its balance sheet the government’s total debt in reality will be over 875 percent of its GDP which is over 7 times the official Greek Government debt level. And France for example will see its total debt rise to over 549 percent of its GDP, Germany will see it total debt soar to over 419 percent of its GDP from the current level of just around 69 percent, and the US total debt will rise to over 500 percent of its GDP. There are some economists who would argue that having the pension obligations on balance sheet is the correct and appropriate way to assess a country’s total indebtedness. To service and fully fund these pension obligations countries (especially in Europe ) will have to aside at least 7 to 8 percent of its GDP which seems like an impossible task and not practical to say the least but I think it is important to add that United Kingdom has the most favourable demographic developments among other in the EU.
There is an immediate need to fix this hole. And unfortunately there is no silver bullet the solution will have to be a right combination of higher taxes, benefit reduction, and increase in the retirement age among other measures. Some countries have already started raising retirement age but that alone won’t be enough. There has to be a reality check and going forward we may see generous pensions scheme being shut. Some pensioners have already found a solution by choosing to retire in emerging countries with a relatively low cost of living. And this could be a part of the overall solution.
Americans, Europeans and others living in the developed world are already buying a record number of second homes in developing markets although some of these second homes could classify as investment but some are genuine second homes so may be the government and the pension funds in the developed world could create and promote “ Retire in your second home initiative”. But for that to happen there will be a need to commit to provide and deliver the entire essential and necessary services and this will require investment in infrastructure and other assets to raise the living standards attractive enough for people to retire with comfort. These assets could be co-owned and funded by governments and pension fund in the developed world in partnership with their counterparties in the developing world especially in Africa and Latin American countries which are seeing a steady decline in the population and are in serious need for investment in infrastructure and other areas to improve the living standards of the population. Though this may not solve the problem but it could be part of the combined solution and will surely reduce the burden and stress on the entire system.
The reality is going forward the tax payers may not be able to take any additional burden and lenders no longer willing to fund the excessive borrowings. Going forward the markets would require and expect changes in government programs in order to keep financing the shortfalls.
And with regards to the market itself I am now of the opinion that just like our body the market has its own immune system which is mostly driven by confidence, investor’s sentiment and market psychology (the mood of the market). And a positive mood with a quarter of positive numbers could BOOST that immune system significantly which could translate into surprises on the UPSIDE. In other words it is similar to a doctor getting pleasantly surprised by a quick recovery made by the patient. Also the placebo effect is well documented and I believe the positive Investors sentiment and market psychology has a similar affect on the markets. As we know Investor sentiments, confidence and market psychology do play a major role in moving the market both ways and why shouldn’t they after all the markets are made up of human beings and run by human beings so it will be affected by the human psychology.
Read Full Post | Make a Comment ( 7 so far )Stimulus: The Exit Strategy and the road ahead
Although the economists still can’t agree on the real quantative impact of various stimulus packages that were adopted by economies from around the world but one cannot dispute the fact that the size of the stimulus did matter and did work in most cases.
To investigate this further let us look at the various stimulus packages that were adopted during the CRISIS.
Obviously by the sheer size and percentage of National GDP China’s US $ 586 billion stimulus Package which accounts for above 12.9% its GDP stands out from the REST. It is possibly followed by Saudi Arabia, Malaysia, and the mother of all STIMULUS thrown by United States under its American Recovery and Reinvestment Act of 2009 which is the largest by any measures (US$ 787 billion).
At the time there were market pundits who were debating the pros and cons and some even doubted if the stimulus packages will deliver and I am glad to admit that some of us including myself had a different view. Based on my judgement and commonsense I concluded in a piece that I wrote in March of 2009 titled “ Getting the Patient Out of Intensive – The Economy “ that it should deliver and put the US and the world economy back to growth. But having said we should have no illusion that the road ahead is still bumpy and uncertain.
In comparison to other economies most European countries with the exception of Germany and France have been reluctant to throw a bigger stimulus package (mostly because of their fiscal position ) with sizes between 0.3% of its GDP in case of Italy and 1.3% in the case of the United Kingdom. Germany clearly stands out with its two fiscal packages summing up to US $ 110 billion (approximately) which is 2.8 % of its national GDP hence it is no coincidence that Germany and France were the first EU nations among the EUROPEAN UNION countries to get out of RECESSION.
I think it is interesting and also probably important to point out that an unloaded stimulus with mostly tax breaks as the first wave of stimulus didn’t do much as evident from the one off tax rebate under the American Recovery Act of 08 of Bush Administration. It looks like the additional money was clearly used by majority of the Americans to pay off the existing debt. Also the experience of BUSH administration’s 2001 tax cut bill clearly shows that rebates generally wind up as savings or as debt repayment.
So taking the above into consideration economies like the US, Germany, Australia ,Spain and others who initially clearly favored tax cuts over spending in their respective first wave of stimulus packages in 08 decided in favour of an alternative measure that included more expenditure loaded plans in 2009 in combination with other incentives.
According to the IMF the total stimulus amounts to US $ 2 trillion ( approx) which is around 1.4% of the world’s GDP still below the IMF’s recommendation of 2 % of world GDP, however, only 15 per cent of the overall fiscal stimulus was really allocated for 2008 and the remaining 85% to be allocated over a two year period 2009 and 2010 with 48 per cent and 37 per cent, respectively. Also an important point to note is that while most of the Asian and other economies focused on their fiscal expansions in 2009, China’s and also the US the fiscal stimulus will only reach its PEAK in 2010. It is hard to accurately estimate to which extent the stimulus will be implemented in 2010 especially as the economies are stabilising and getting back to growth. And the recent downgrade of countries like Greece, Ireland, Spain and Portugal also means that going forward the economies will start focusing more on fiscal consolidation or else they run a huge risk of being punished for their inaction. The bond vigilantes are clearly BACK and they have all the reasons to be WORRIED.
Let us look at a list of top five debtor nations to get some perspective
1. Ireland – External debt (as % of GDP): 1,267%
External debt per capita: $567,805
Gross external debt: $2.386 trillion (2009 Q2)
2008 GDP (est): $188.4 billion
2. Switzerland – External debt (as % of GDP): 422.7%
External debt per capita: $176,045
Gross external debt: $1.338 trillion (2009 Q2)
2008 GDP (est): $316.7 billion
3. United Kingdom – External debt (as % of GDP): 408.3%
External debt per capita: $148,702
Gross external debt: $9.087 trillion (2009 Q2)
2008 GDP (est): $2.226 trillion
4. Netherlands – External debt (as % of GDP): 365%
External debt per capita: $146,703
Gross external debt: $2.452 trillion (2009 Q2)
2008 GDP (est): $672 billion
5. Belgium – External debt (as % of GDP): 320.2%
External debt per capita: $119,681
Gross external debt: $1.246 trillion (2009 Q1)
2008 GDP (est): $389 billion
I should point out that I’ve taken the above numbers from various sources including of IMF, World Bank and others.
It is a pretty Ugly reading isn’t it? The only good news is that it looks like the policy makers and the central bankers are beginning to take note of the worries and as a result have increasingly started to talk about creating a credible exit strategy as a priority.
Although one understands that there is need to fix balance sheets (fiscal consolidation) and address the inflationary concerns by having a clearly formulated, defined and coordinated exit strategy in place. But that said Timing will be KEY here as exiting too soon or too late has its own risk. And also it is extremely important that the process should only begin when there is enough hard evidence to see that economy will keep growing on its own after the removal of the stimulus or in other words it is evident that the recovery is solid, financial markets are back to normalcy and credit risk spreads are at an acceptable level and there is a significant risk to inflation over the medium term. We have already seen some of the central banks tighten in the later part of 09 and it is becoming increasingly plausible that others especially in Asia including of countries like India will follow suit as the real inflation starts to pick up.
Going forward the Central banks will need to explain clearly how they intend to use all the tools both conventional and unconventional that are available to them. But having said that, there is also a genuine fear that any preannouncement could possibly push the interest rates up prematurely thus derailing any chance of a ROBUST recovery. The Q4 of 09 and Q1 of 10 numbers should give us a good estimate of the strength of recovery. The economic improvement has to be across the board and not just in one sector to justify any intervention. We have seen some encouraging numbers reported from parts of the US economy in later part of 09 including of jobless claims falling to 432,000 – the lowest since September of 09 ,ISM Manufacturing Index rise 55.9 in December which is the highest level since 06, and also an improvement in business and consumer confidence etc but on the other hand the construction spending fell by over 0.6% in November of 08, US business loan defaults rose again in November of 09 and so did the US credit card debts write off. So we are still seeing some very mixed numbers come out which is what I have been expecting and this is why I keep saying to my friends and colleagues always look Beyond the Numbers, and dig deep.
I think it is extremely important not to overlook the human cost of this recession. According to the New York Times article dated 28th December 09, New York’s state courts are closing the year with over 4.7 million cases- the highest ever. The courtrooms are clearly seeing the aftermath of economic collapse on average folks on the main street and on businesses. I think from a judge’s perspective and also from the folks who are in the midst of all this it will be extremely hard to see signs of an ECONOMIC RECOVERY. But for some of the Wall Street guys it’s back to PARTY again as expected. I did write a piece titled “Investing in 2009: Back to Basics “ in Feb/March of 09 and I thought I’ll just quote the last paragraph. “The markets will come back at some point and there will be parties again on the streets, but the question is, will this happen again? I am sure it will. After all, we are human beings! “
Well, moving on even though we are still seeing mixed numbers I think it is probably safe to assume that we could see the US economy grow between 2.5% to 3.5 % in the year 2010. And the reason for that is the economy has to grow from a very low bottom so even with a very basic and existing demand the economy will grow. And also it is also very plausible that the US may outperform other developed nations including the EU. But the party is going to continue in the Emerging Market. And among the Emerging markets you would see economies with deeper domestic base like Brazil, India, Indonesia and Turkey do better than export driven emerging economies.
While we are busy talking about growth prospect of the global economy and the road ahead one has to also admit that the policy makers have managed to avoid a Great Depression type event by not adopting an extremely tight fiscal and monetary policy. Also there is no doubt that the stimulus packages have delivered as it is becoming increasingly evident from the performance of the economies like China, India, Germany, France and the US among others. That said there is no doubt that the road ahead is still turbulent and bumpy and a policy mistake here could jeopardize the whole recovery process. Monetary and fiscal policy changes will have to be coordinated. The main aim of any intervention should be to support growth and maintain price stability.
However, one of the safest open market operations could be raising the interest rate on banks’ reserves at the central bank as it will allow the central banks to mop up the excessive liquidity in the banking system by making sure the money is deposited back at the central bank and in so doing prevent excess credit creation and also inflation eventually. This is exactly what the Fed is intending to do through their term deposit program announced on December 28th 2009. The clear intention behind the program is to help mop up some of the $1 trillion in excess reserves in the U.S. banking system. While this should be easily achieved the unwinding of the assets bought by the central banks during the CRISIS will keep them awake. But that said it will depend on the timing, if they were selling to an extremely confident market they could even make money from the asset sales but let’s see.
And with regards to the performance/returns of various investment classes I think it is probably safe to assume that in 2010 bonds or any other investment class for that matter will not provide or to duplicate the excessive returns as seen in 2009. And going forward we may very well see people chasing the higher yields again and get into more risky asset class. But, however, we may also see people jump back into safer bets like US treasuries if we were to have another Dubai type event so I guess a lot will depend on the market sentiment and confidence. There is still a strong demand for US treasury as evident from the weekly auction in December of 09. If you look at the corporate world you would see that most of them are talking about issuing more public equity to help repay the debt and strengthen their balance sheet. And if the fundamentals keep improving then it will lower the default rate but one shouldn’t underestimate the risk especially if you consider that down the road a rate hike is on the cards so bond holder should position themselves for what is coming. That said I don’t buy the argument that a total meltdown is coming in the bond market and everybody should get out because I believe if the economy grows strongly then it should withstand a hike. But for now let us hope the policy makers and central bankers get it right ……Fingers Crossed.
Read Full Post | Make a Comment ( 11 so far )Mind the Market: Whatever happened to Common Sense ?
I am beginning to think that the lack common sense is what got all us into this Mega Mess. The problem is that common sense is still missing and I wonder why?
The markets are rallying and it’s good but shouldn’t we do a reality check before we get too carried away? I mean the expectations are so LOW that any number above the bottomless floor is sending the markets into rallies. We all want rallies but sustainable rallies please that are supported by solid fundamentals and not driven by speculative play. Folks are talking about recovery against the backdrop of some pretty bad numbers. Yes we are now seeing some mixed numbers (some positives) come out from the 1st quarter but the real economy is still hurting.
To get some perspective let’s just look at the numbers out today from the UK today ( May 01, 2009 ).
According to the Government figures out today ( May 01, 09 ) nearly 5,000 companies in England and Wales went into liquidation in the first three months of 2009 and a record number of people succumbed to insolvency.
The Insolvency Service says that company liquidations rose 56 percent on a year ago to 4,941.
Personal insolvencies rose 19 percent on a year ago to 29,774, the highest since records began in 1960.
The unemployment is now probably close to 8% in the UK. Not to mention the declining house prices
Now let look at US. The unemployment in places like Detroit is over 14%. Average unemployment in the US is close to or above 10% already in at least 4 states. Consumer delinquencies are at historic high levels in the US. And what about EU well the Unemployment in Spain is already around 17% and the growth prospect is pretty BAD.
People on the street are still hurting. But some might argue that the consumer confidence numbers out suggest otherwise well I wonder if the consumer confidence numbers are the type of real silver lining we should be looking for or a company loosing a little bit less money then expected. I surely think it is unwise for anyone to speculate about the earning prospect of any company in this current environment. Yes some companies will make money no doubt so if their stock goes up there is a justification for that but I don’t see the justification for a massive rally.
Let’s let look at the Banks. Some of them have made money in the 1st quarter of 09 but the devil is in the detail. They are not making money on their Loan book but on trading securities, assets, commodities etc. Are they suggesting that their trading business will keep on generating enough money to cover for all their potential losses on the loan book? I am not buying that argument at all. They did pass the stress test but it was expected are we suggesting that the government was going to come out say Folks we are screwed our banks have failed. Well I am not suggesting that they have massaged the results of the stress test but what I would say is that the economic criteria set for stress test by the regulators and the government simply can’t incorporate all the uncertainties going forward. Yes the banks had a good strategy that made them money in the first 3-4 months of 09. And the reason for that is simple the DYSFUNCTIONAL market allowed them to make a huge spread on trading securities but this can’t be a long term strategy. You don’t need leverage these days to book a healthy profit because there are so much of bargains out there but as I said this won’t last for very long.
Yes we are seeing the credit market starting to show some positive movements but by no means it’s back to where it should be to support a speedy or sustainable recovery.
Folks are busy picking the bottom. I wonder why? Shouldn’t we just take a step back and use our common sense. Well the reality is simple. The markets will recover but not today or tomorrow. I just hope that we just don’t run out of Gas before we approach the recovery line. We should prepare ourselves for the road ahead. We are going to face huge tax rises, high interest rate and less government spending as the governments around the world try to fix their balance sheet. So I am quite confident that we are not going back to the growth rate of 05 ,06 or 07 anytime soon. So why all this Euphoria? Yes I want to be happy too but let’s keep it real please. As I said that the expectations are so low that anything above expectation is sending the markets into huge rallies. I never bought the argument about market being efficient and Always Forward Looking.
What I am suggesting is that guys our future is at stake here so let’s not screw it up. We are already paying for the mistakes made by some of our friends. Guys working for a profit making arm of an investment firm lost their jobs because the other guys at the same firm forgot to apply common sense and screwed up. We make a mistake that’s not the point but we shouldn’t keep repeating it. We have already borrowed heavily from our future generation, so let’s apply some common sense.
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