Water Babies

India is essentially an agricultural economy. Now why say that?! Agricultural and related activities accounts for nearly 17% of our GDP and employs nearly 60% of our labour force. Any growth in our economy happens from grass root level. It is this 60% of the work force that drives our economy. Past five to six years have been very good for our economy. Our GDP grew by average 8 - 9%. Agricultural growth may just have been in range of 2 - 4 % but the multiplier effect it created has resulted in this superb economic growth. Stable livelihood that agriculture has given to our 60% of population has resulted in money in their pockets. This they have spent on consuming goods and services other sectors have produced thereby giving India its much to talk about GDP growth.
Some may lobby for placing greater importance to IT in our economy or some may lobby for more and more SEZ. Others may talk about liberal financial markets for FDI and FII to pour money into our economy and few on disinvestment and all sorts of infrastructure building. However the bottom line is, all we need to ensure is that this 60% of population's pockets are never empty!
People point at our young crowd of IT and finance people in malls and say this is where our future growth lies in terms of consumption and spending by them. Yes we are a consumerist society and a consumption driven economy but the real consumption is not driven by this tiny mass of people we see flocking in newly built malls, its driven by this very 60% of agriculture labours spread across the rural hinterlands of our country (places which we hardly visit).

Speaking about importance of agriculture in our economy, on what is the output of this sector largely depended upon? Sadly, its still the monsoons. Our irrigation facilities are not so developed across the states and these farmers largely depend on blessings of rain god for their good livelihood. Building great agricultural infrastructure is another topic all together and may focus on this some other day, right now focus is on monsoons vs stock markets.
There are many charts which show correlation between GDP numbers and monsoons. Stock markets are said to be voting machines for a short term and weighing machine for a long term. What do they weigh? They in general weigh the health of our economy or in a long term conform to the GDP numbers. So if GDP numbers are good, our economy is growing, stock markets would also tend to have an upward bias. So as monsoons are co-related with GDP and GDP with stock markets, isn't monsoon co-related with stock markets.
This is the last thought that can come to someone's mind. Stock markets and monsoon, ha!

Let me try to analyze this issue a bit. Here I am presenting a chart of rainfall as % to LTA (long term average) and returns of sensex (a barometer for stock market), for the next year. So like in 1998 rainfall was 106% of LTA, and sensex returns in 1999 were -4% relative to 1998. Both the charts are scaled so as to overlap one another so as to see a co-relation.


One can clearly see a strong co-relation between rainfall in a particular year vs performance of stock markets in the following year. So we look at all possible numbers IIP, FII inflows, broker community's sentiments and what not, but a simple analysis of an event which has greatest impact on the lives of people which in turn have greatest impact on our economy can provide us with almost all the answers. Can it?!!

So with the current performance of monsoons, what would be the direction of stock markets next year can be anybody's guess. The point here is that many times something simple is more effective than something complex and just because something is so simple, don't overlook or ignore or replace it with something complex and hard to understand.

A public-opinion poll is no substitute for thought!

Sachin

Its just mean Baby!

Any trend usually tends to converge to its mean. In stock markets the index which represent weightage average of basket of stocks is no different. Indexes are made of individual stock prices. Stock price is a measure of valuation of the company's business. It simply says what investors are willing to pay for an equal pieces of residual interest in that company's business. Residual interest is the value left for common shareholders after all the debt and other obligations are paid to respective holders. So its a value of the company's business and sum total of all such companies businesses give an indication of what economy of a country is worth, or at least the trend of that economy. That is, if in long run companies are more profitable than previous years, economy would more or less be positive and these companies would attract increasing valuation or higher stock price as time goes. So in a nutshell the trend of economic growth and stock markets growth should co-relate in long term.

Our country's economy is usually measured by GDP numbers. GDP comprises of agricultural sector, services sector and industrial sector. Most of the companies listed in stock exchange are in services or industrial sector which today comprises 80 - 85% of GDP numbers. Thus any trend of stock market index should match the trend of GDP growth. However we all know this is far from true. Stock marks gyrate from huge bullish rallies to great bearish depression. How can we use this gyration to our advantage in making investments decision. Answers lies in 'return to mean'. Any significant deviation from the mean is followed by reversal which converges towards that mean.

Before showing on how this is valid or how we can use it, first let us approximate the mean growth of business of companies which would translate to growth rate of stock market's index. Our GDP would grow at an average rate of 7 - 9% for foreseeable time in future. Even long term average of past 15 years of growth is around these range. We add to that 4 - 5% of average inflation. That makes growth in business of companies around say 13%. Which is roughly the rate at which one should expect stock market indexes to grow.

Now lets see how as our Stock Market's most prominent index, BSE - Sensex has performed since start of 1991.
Blue line is the index value and red line is what index should have been if it strictly followed the 13% growth.
So you can see at times it was greatly above this red line and at times was much below it. However every time is crossed this mean, it eventually reverted.

1992 - 1994 were bullish times followed by a bearish market 1997 to 1998. Markets again turned bullish briefly during 2000 (dot com bubble) and then engulfed in a prolonged bearish market during recession of 2001 - 2004. We again saw economic revival post 2004, thanks to trillions of dollars pumped into the market by central banks across the world. This money trickled into India via FIIs and then we saw an unprecedented bull market which lasted till 2008. During this time markets deviated from its mean like never before. What was the result, as markets deviated from its mean like never before, they fell towards that mean like never before. The recession of later half of 2000 caused panic worldwide. If somehow we could have avoided the temptation to commit ourselves at start of 2006 when this frenzy began and had lot of patience then we would have again had the oppertunity to make some wonderful investments three years later. Anyway hindsight is always 20/20, but does offer some lessons.
Come start of 2009, we were at last seeing some sanity towards valuations of companies. However they were still not at those juicy level witnessed in 2002 - 2003 (just look how low below mean markets fell that time). However this sanity lasted only few months, thanks to next round of even bigger chunks of money pumped by the very same central banks. Much of this money was pumped in to revive the economies worldwide and now this money is moving into the emerging markets like India. As you see markets have again bounced back away from the mean. So when would they return back to the mean, no one knows, but as history has shown they eventually would.

As an investors what we can do is, be wary of lofty promises and projections made by some companies to eat up this new pumped in capital. You would get a chance in future where once again you could buy pieces of wonderful businesses at attractive prices. There are good businesses around even now, however your returns from investments are largely dependent on the price you pay. If you are paying too much price for a piece of good business you may still loose money or better still your recovery horizon may last far longer than hoped for. So by stretching the time, why lower the rate of return.

I think what has been mentioned so far is nothing new. It has been iterated many time before and is something very simple to understand. So is investment, its simple but needs lot of temperament and patience. Its very easy to be swayed by next bull market, by looking at your neighbor making pile of money by dabbling in worthless stocks, but that's not a winners strategy. What would lead you greater wealth is stay clam, have a realistic expectations and do your homework right.

Remember:
It is more important to say "no" to an opportunity, than to say "yes".

Sachin

Raise, don't Earn - seems to be the motto of the street

Indian stock market's sentiment turned bullish from (a prolonged) bearish one in the month of May. Single event responsible was the Left parties failure to gain any significant seats in the parliament to influence government formation or its policies. The 'Dalal' street was euphoric with this development. They perceived it as a major boon to our economy. Now government would be able to implement privitisation in many select sectors (even upto 100%), and disinvestment of many Public Sector Undertakings (PSUs). This would eventually lead to more foreign money in form of FDI and FII coming into Indian markets. So far they have not been wrong. Awash with fresh capital, thanks to trillions of dollars pumped into the system by developed countries, insitutional investors (FII) brought in record 3 billion dollars in just 2 weeks, with 1 billion dollar in a single day. Result was obvious, major stock market indexes have run up 25 - 30% in this time.

With so much of 'hot' money sloshing in the markets, everyone is racing to grab it. After over one and half years of severe winter we have seen spring. No one knows how long it would last till next winter sets in. So just get your hands filled with whatever you can! Raise, don't earn is the new motto of the street these days. Today no one is talking that are going to earn this much in coming season or if companies earn this much then markets would rise these many points. All the talks are in the lines of we are going to raise this much or market pundits saying if markets can raise this much then it would rise these many points. Suddenly it looks like future earnings no longer play any role in valuation or growth of a company.

Around two years back, some promoters of some companies were raising capital, today these are the very ones who are once again back to raise more. That time taking advantage of bull market, these shameless promoters sold worthless papers to gullible and greedy investors. When tide turned these promoters went into hibernation, nothing was heard from their companies in announcements as what their future plans are. What happened to the capital raised - no clear answers were provided. Meanwhile the investors holding their paper scrambled to dispose it. Now when (it seems) that market is out of woods, these very promoters are coming out of their hidings, again making the same old lofty announcements and using same old cheap tricks out of their dirty bags to once again raise the money.

We all remember these promoters issued themselves warrants worth millions of dollars when the market was bullish. Their 'purported' argument was that they believe in long term growth of the company and are committed to invest their money at some future. When market tanked and the price fell below the warrant issue price, they let it lapse. Talking about long term investment horizon of these people! They were just interested in cashing in the bull market, believing that market price would be higher than issue price at the time of conversion. Just after a month of getting their warrants lapsed, they are again issuing themselves these warrants albeit at a lower price. Who are they kidding! With so ease they let these warrants lapse (and then re-issue, like a library book) that some time I wonder that do they really make the upfront payment of 10% at the time of issue. No serious investor would let his hard earned money go down the drain this way.

So trick is so easy, claim to invest some by issuing warrants to themselves, then bring in more money by QIP and hope market price remains high. It mostly does in a bull market as issue price is higher than the current market price. If things don't go as planned then renounce the warrants and start the exercise all over again.

I think issue of warrants to promoters should be banned. If money is to be raised then it should be done the right way, i.e. let all shareholders participate via 'rights issue'. In many ways, I see these warrants are much worse than stock options scheme.

Well, till there are loopholes in the system which lets promoters take their company and rest of the shareholders for a ride, all we can do is be more watchful of events happening around us. With all focus shifted to raising money and earning none, be wary of such companies and promoters. We burnt our fingers once, but lets not do it twice.

Earning growth may remain muted for some years to come, as lot of trash piled up in the street has to be cleared first, which would take time.

So till then remember:
The higher they rise, the harder they fall!

Sachin