Sub-Prime Market Earthquake is Felt Worldwide

The shock waves emanating from the sub-prime mortgage earthquake are now spreading around the financial world. The collateral damage is being unveiled so quickly that it is difficult keeping up with all the collapsed hedge funds, injured banks, and defaulting mortgage brokers. It is difficult to make sense of all of this, partly because financial reporting in today’s business publications is almost non-existent. Reporters usually repeat what is in some company’s press release, and only a few with experience and investigative instincts can really go below the surface and make sense of things. To be fair to the reporters, this crisis is a bit different, because the hedge fund industry is deliberately and obstinately opaque. Hedge funds reveal little about what they own or how much they borrow. That iron curtain of information about hedge fund exposures is making this crisis much worse.

And it is a crisis – probably the defining financial event of this decade, which will impact global economic growth for the next few years at least. Most of the time, financial markets are in offensive mode. Investors are happy to put their money into assets with varying degrees of risk, and banks are happy to lend money to investors for this purpose. Every so often, the financial markets become defensive, and investors start worrying about whether they could lose money on their investments not just from market risk (changes in interest rates or FX rates, for example), but from credit risk, where a default could devastate the value of an investment portfolio.

Global financial markets are now in full defensive mode. The global financial plane has set down on the runway with its reverse thrusters roaring, and the pilots are hoping just to keep the plane from skidding off the surface. The outcome is uncertain, and clearly not all passengers are going to survive this forced landing. Just to complicate things, there is an earthquake underway that threatens to rip apart the runway; it all depends on how far the runway is from the epicenter of the earthquake.

Or, to put this analogy in more practical terms, it all depends on the extent to which the global financial markets are at risk from the sub-prime mortgage mess, because that is the epicenter of the earthquake. Don’t be fooled by what Treasury Secretary Henry Paulson said yesterday; the sub-prime mortgage mess is not “contained”. Problems are spreading to all sorts of financial sectors. Let’s look at these shock waves market by market.

The Epicenter

Real people who have real problems meeting their mortgage payments in the U.S. are at the very center of this financial crisis. These are decent people who in past markets would not have been able to get a mortgage, but in the free-wheeling mortgage circus of the past five years they’ve been able to obtain loans with very beneficial terms such as no proof of employment. They were given low teaser rates that are now setting at much higher market rates, but these are higher than current market rates, because they have to compensate the banks for the cost of providing the low teaser rate in the first place. Depending on which mortgage executive is admitting to what, anywhere from 15% to 25% of these borrowers are behind on their payments to the bank, or in foreclosure. These are very high default rates historically, and given the hundreds of billions of dollars of sub-prime mortgages that have been booked, there is a serious amount of money that is going to be lost.

At the epicenter, it is best to remember we are talking about direct credit losses from customer defaults on the loans they were given. As we move further out to the concentric shock waves, this pure default risk is not a problem, at least not yet. In the outer fringes, the problems relate to portfolios that need to reduce leverage, and to investors and bankers retreating from reckless lending policies in place for most of the past five years.

Wave 1 – Sub-Prime Investors

In olden days (about 10 years ago), the bank that made the mortgage would hold on to it and bear the burden of these credit losses. But in the past decade a whole new market has arisen that securitizes these mortgages, by bundling together thousands of them, and then selling the cash flows as bonds. Large, institutional and presumably sophisticated investors can buy these bonds, almost all of which were rated by S&P or Moody’s as AAA because the great bulk of the mortgages in the bond were rated highest quality prime, and only a small portion were sub-prime mortgages.

Bear Stearns, the New York investment bank, announced a few weeks ago that two of its hedge funds had invested in these types of bonds, and the hedge funds were now broke. If the investments had only a small percentage of these sub-prime mortgages, how could the entire hedge fund go under? The answer here is the miracle of leverage. Bear Stearns for one of its funds had raised about $600 million in cash from investors, but then borrowed over $5 billion more from banks to leverage up the profits in the fund. This leveraging is routine in the hedge fund business, and is the main reason why so much debt has been taken on in recent years in the financial markets. All it took therefore was a not unusual 10% devaluation in the value of $6 billion in bonds to wipe out the $600 million in cash equity in the entire fund. The real problem here is that a not terribly large change in value can act as a force of destruction through leverage.

The second problem is that the banks that lent the $5 billion to Bear Stearns changed the rules. In order to lend this much money, the banks had all the assets of the fund assigned to them as collateral in case the value of the fund’s assets ever fell significantly. When the crisis began, and they saw that 10% of the value of this collateral could disappear, they did some worst-case scenarios and realized that potentially much more damage might occur. They demanded more collateral from Bear Stearns, which really meant that Bear Stearns had to sell some of the fund assets at a time when prices were heading downward. That only makes the price depreciation accelerate, and before you know it – poof! – $600 million of equity is wiped out.

Yesterday two more investors in hedge funds alerted the markets to a similar problem. Radian Group Inc. and MGIC Investments claimed that about $1 billion in investments in sub-prime mortgages were now worthless. It’s not yet clear whether leverage played a role in this problem as well. What is really noteworthy is that both of these companies are mortgage insurers – their business is to protect investors who hold mortgages. What does that say about the mortgage market when the insurers themselves are starting to take sizeable losses?

Wave 2 – Alt-A Investors

A step above sub-prime mortgage borrowers is the Alt-A category. These borrowers do not have the high credit scores and solid payment history of prime borrowers, so they fall into an A- category. It was only two weeks ago that market experts were insisting that there was no contagion in this category from sub-prime problems.

Countrywide Financial, the largest mortgage lender in the U.S., said last week that indeed Alt-A and even prime mortgages were now experiencing a surge in late payments. Yesterday, American Home Mortgage Investment Corp, which specializes in Alt-A mortgages, announced that it no longer had liquidity to continue making new mortgages. This has stranded thousands of potential borrowers with nearly $500 million in mortgages waiting in the pipeline. AHM’s problem is an investors’ strike combined with a lenders’ strike. The investors that bought the securities holding AHM mortgages are demanding that AHM buy back these securities because of the unexpected default rates. On top of this, the banks that lent money to AHM are shutting down access to this credit, and companies like AHM can’t stay in business without the banking industry’s support.

The banks are back-tracking not just because they understand how damaging these high default rates can be, but because they are running stress tests on the mortgage markets and coming up with much higher damages from worst-case scenarios than they had previously thought. Also, some of these big financial institutions, like UBS in Switzerland, and CNA Corp., have announced substantial losses of their own from sub-prime mortgage investments. Top bankers in these institutions are losing their jobs, and there is nothing like a banking executive being put out on the street to elevate the fear level of all bankers.

So much for Henry Paulson’s view about containment. The U.S. now has thousands of borrowers with good credit who cannot get a mortgage.

Wave 3 – High-Yield Bonds

High-Yield corporate bonds are long term debt obligations that receive an S&P or Moody’s credit rating below investment grade. In other words, they have a significantly higher risk of default than investment grade bonds. They therefore offer a higher yield, but in recently years the difference in the interest rates on poor quality versus high quality debt has shrunk dramatically, so that recently this “spread” was at historically low levels.

That is now changing. The market is “repricing risk”, according to Henry Paulson, and part of that process involves investors selling some of the low quality paper and moving into safer investments.

Macquarie Fortress Investments is a hedge fund managed by Macquarie Bank of Australia. This fund invests in high-yield corporate bonds, not in sub-prime mortgages. Yesterday this fund announced that it has lost about 25% of its value, because it was “forced to sell assets to reduce borrowings.” It’s our old friend leverage at work again, this time in a pernicious way. The fund simply had borrowed too much money in comparison to its cash equity – the amount actually put in the fund by investors. Depending on the leverage ratio, it would not take that big a decline in the value of the high-yield bonds to wipe out 25% of the equity of the fund.

Yet another casualty in this market is Sowood Capital Management LP, managed by a former hedge fund guru from the Harvard University endowment, which has been the premier hedge fund investor among university endowments. Harvard even put in $500 million of its own endowment into this fund when it was started a few years ago. The fund has now lost $1.5 billion, or 50% of its equity, seemingly from leveraged investments in high-yield instruments. Sowood Capital has now been purchased at a deep discount by Citadel Investments, a so-called vulture hedge fund that specializes in scooping up distressed hedge funds, and which can continue in this business as long as its banks continue to provide financing.

Wave 4 – Asset-Backed Securities

Asset-backed securities are even further removed from sub-prime mortgages. These securities act like bonds, composed of thousands of small loans made to finance automobile purchases, or retail purchases using credit cards.

Bear Stearns runs the Bear Stearns Asset-Backed Securities Fund, which has $900 million in assets, less than ½ of 1% of which are sub-prime mortgages. This fund also has $50 million invested in cash, a 5.6% cash ratio which is about average for such funds. The fund has no debt whatsoever, so leverage does not come into the picture. Yesterday Bear Stearns announced it was halting all investor withdrawals for this fund. Apparently investors in the fund were so worried about the name Bear Stearns that the redemptions were forcing asset sales, which Bear Stearns as manager felt was inappropriate. None of the assets is in default, and Bear Stearns’ logic is that it should wait out the current turmoil in the market rather than enter into forced liquidations. The rules of such funds can force the investors to sit and wait for indeterminate periods before they can get their money out. It’s another example of the market freezing-up, and it’s a case also of contagion, this time through the sour reputation of the Bear Stearns brand.

The Seismologists

Registering the strength of the earthquake are any number of marketable securities and indexes trading on public exchanges, measuring such things as the credit-worthiness of bonds issued by banks. As an example, the iTraxx Crossover Series 7 Index consists of the bonds of 50 European companies, each bond worth Euros 10 million in value with a five year maturity. If you buy a contract, you are purchasing insurance protection against the risk of default in these bonds, so the higher the purchase price, the greater the perceived risk of default. Yesterday the contract value jumped Euros 59,000 to a total cost of Euros 459,000. Compare this to the contract size of Euros 10 million, and you get the idea that the market thinks the default risk for these European companies has jumped to 4.59% over the 5 year maturity of the bonds. That’s an extraordinarily high default rate, on the level of junk debt.

Similar indexes around the world are showing a sudden jump in the cost of protection against default. The prices in the secondary market for bonds issued by Bear Stearns, Merrill Lynch, Goldman Sachs and other Wall Street banks have now fallen so low that they are trading like junk debt.

All these measures and trading instruments show the same thing: credit default risk is considered to be dramatically higher in the market now compared to even a month ago; spreads between poor quality and high quality paper are widening, and the contagion is seeping into newer areas of the market.

The Regulators

Other than the U.S. Secretary of the Treasury, how come other regulators, such as central bankers, haven’t come to the rescue of the market with press statements of reassurance, urgent meetings of banking executives, extended lines of credit to commercial banks, or other similar measures?

One reason may be that the speed of the collapse of the credit markets has caught many observers by surprise. Second, it is critical to remember that the epicenter of the earthquake, and the hedge fund industry that is clustered around the epicenter, are not regulated by the central banks or agencies such as the SEC or Financial Services Authority in London. Like the rest of us, the central banks know very little about what the hedge funds own or even how much they have borrowed.

This is a crisis that is happening in an information vacuum, which means that rescuers will be in short supply and operating with limited tools.

How bad could it get?

This crisis could metastasize into something very serious. Many more hedge funds could disappear, the banks can become panicky over calling for more collateral (thus forcing even more sales of assets in poor market conditions), and the real spillage into the economy of normal people, such as those Alt-A borrowers who now cannot obtain mortgages, could push the U.S. into a recession. Once the U.S. succumbs, China will not be far behind.

This scenario is possible but it is very hard to rate its likelihood, because we simply don’t know much about the exposures of the hedge fund industry, which is the sector which is the source of contagion since it touches so many different markets.

Another possibility that would be far preferable is one in which the announcements of problems taper off in the next week or two, and then disappear altogether. In this best of circumstances, the financial markets will still be left in paralysis for many weeks or months before credit risk-taking can resume. Moreover, it is highly unlikely even then that the markets will return to the “golden age” of unlimited and ill-advised credit that well-known leveraged buyout king Henry Kravis was bragging about just a month ago. There has been too much damage already for the hedge fund and private equity industries to be able any more to swagger and bully their way into obtaining mega-billion dollar loans.

Are there any clues provided by the stock market? Equities have taken a severe battering in the past two weeks once the extent of the sub-prime problem became known. Stocks like Mizuno Bank of Japan have dropped 10% or more merely from announcing some losses in their investment portfolios. In the case of American Home Mortgage Investment Corp., that stock has fallen 90% amid market rumors that the company is facing bankruptcy.

The good news is that almost every indicator of stock market strength shows that the markets worldwide are very oversold, and thus they are ready for a one or two week bounce back. That may be indicative as well of some stability forthcoming in the credit markets, and maybe – just maybe – a market meltdown can be avoided, at least for now. If so, we are left at least with some temporary paralysis in the debt business, giving the markets enough triage time to sort out the irretrievably doomed from the walking wounded, and a little bit more time to ask how this disaster came about.

MARKET OUTLOOK 04-06-2007

NIFTY FUTURE : For Today's trading Support exist at 4273 ,4365 level.If breaks 4265 level too then expect free fall upto 4230-4220 in PANIC .Hurdle @ 4317-4325 level . Three (Consecutive close )above 4284 will take to 4424-4468 level .Crucial Support @ 4265.

BSESENSEX : For Today's trading,Support exist at 14527,break will take to 14483.Major support exist at 14454.Hurdle @ 14643 crossover and close will take to NEW HIGH .

EKC : Today above 1140 if trades will kiss 1180-1210-1220 in hrs only. Grab June Future & Hold for 2 -3 days .Your Risk Rs.20 Keep a stoploss of Rs.1130-1120 & Forget . Lion Heart trader only enter don't look for 10 or 20 rs .

PENINSULA LAND : Stock will zoom to kiss 530-558 & there after expect alevel of 643-671 in hrs only.

GNFC : Grab June Future . Today once crosses 114.50 Buy your choice ouantity .And watch price of Rs.129-133 in hrs only.Keep a stop of Rs.112-110 for Whole Month. Dont Remain short.Pls Dont Buy or Trade to get Rs.2-5 .Our Ultimate Tgt :Rs.146-150 in next 15-21 sessions .

LANCO : Buy this stock Once cross 188 with volume zoom to kiss 197 . support @ 172 .stop loss 163 .

PETRONET : Above 57.2 once cross with volume zoom to kiss 58.5 to 61.2 . Support @ 54.65 Stop loss 53.2 .

I-FLEX : Looking HOT . Above 2287 once crosses Grab this stock & watch a power ful counter rally upto Rs.2363-2388 level.

EDUCOMP : Above 1875 tock will zoom to kiss 1926 & there after expect allround huge explosion .Chances are very bright stock will kiss 2000 level or more very soon !!

MOSEAR BEAR : Today once crosses 449.50 with volumes ,Grab Future & Sell @ Rs.463.50 & there after it will zooom to 475+ level.

SBI MF to bet big on Indian Infrastruture growth

SBI Funds Management Pvt. Ltd. has launched a three-year close-end equity fund to invest in companies likely to benefit from India's rising expenditure on infrastructure. Three of India's top five performing funds in 2006 were pure infrastructure funds and have attracted attention of investors and fund houses.

"If you look at all the 2,600 stocks that are traded today, you will find the infrastructure theme to be the most powerful," said Sanjay Sinha, Head of Equities, explaining the launch of SBI Infrastructure Fund-Series I.

A mid-April poll of 13 fund houses found equity funds invested more than a quarter of their assets in sectors such as basic engineering, construction and financial services.
The scheme will look to opportunities likely from India's proposed 14 trillion rupees investment on infrastructure in the eleventh five year plan, Sinha said.

"What we have spent in the 50 years of planned development is nothing as compared to what we now plan to spent", Sinha added.

The fund, open for subscription from May 11 to June 8, would invest at least 65 percent of assets in equities and rest in debt and money market instruments, the asset manager said.
The fund house managed assets worth about Rs 183.39 crore at the end of April, data from Association of Mutual Funds in India showed.

MARKET OUTLOOK 16-05-07

NIFTY FUTURE : For Today's trading Hurdle exist at 4161-4175 level.Support exist at 4119-4098 break will create allround panic

BSE SENSEX : Now ,Sensex will show power above 14020 only :Tgt 14175-14227 . Support exist at 13904,13881 Break below these levels will create allround PANIC !!

SUZLON : Below 1166 Bears will take stock to 1101-1079 in hrs only.(Make it a Hedge counter

INDIA INFOLINE : Have a eye on Rs.458 in Futures once crosses this level ,Stock will nonstop zoom to kiss 481-488 in hrs only.You Dont want to buy No problem Just watch explosive move & enjoy rally . If u are short God knows What will happen ? Stoploss Rs.449-445 in cash !!

ICICI BANK : Stock will kiss :Rs.910-920

PENTALOON : Today if trades above 448 in Futures Grab it .Stock will flare to kiss 458 & this is last hurdle. Very soon u all will see stock zooooming to 488-500 + level.If u are having Lion heart then Grab it & forget !!

ABAN OFFSHORE : Above 2430 Stock will zoooom to kiss 2504-2529. U need Lion's heart to trade in this stock !!

GUJ ALKALIES : Dis-Investment NEWS on card .Stock Technically RIPE for another round of explosion.Stock will zoom to kiss 152-157 in hrs . Dont be surprised if jumps by 20-25% too .

STOCK TO WATCH :

Century ,Crompton ,CANARA ,Corp.Bank

Sector watch: What to enter and what to exit

The markets opened with modest gap up today on account of some buying seen in the Sensex heavyweights like SBI, Reliance, ONGC and Infosys. Market breadth was seen positive.Sensex was up 80 points at 14009 and Nifty was up 20 points at 4140. Experts who spoke to CNBC-TV18, had Banking, Steel and Sugar sectors foremost on their minds. Here's how they view the sectors:

Sugar Sector

Sugar sector has been news for quite some time owing to the political upheaval in Uttar Pradesh. On sugar, Anand Tandon of Gryffon Investment Advisors says that there are no fundamental reasons to buy sugar yet. “There could be political reasons and some expected sops but that aside, the companies cannot make money on selling sugar at least in the near-term”

Sudarshan Sukhani of Technical Trends is long on Bajaj Hindustan and Balrampur Chini. He believes that the ideal time to buy is when the sector is in the dumps and when all fundamental analysts will say that sugar will never go up. However he adds that “This is not a trading call, this is something that I am looking at for the next one or two years”

Steel Sector

On this sector Anand Tandon feels that the outlook is somewhat mixed with the international prices being reasonably firm and the general outlook of the companies also continuing to remain firm. “From that point of view maybe there is a reason to hold on to some of these stocks but you have to remember that all said and done, it is a cyclical industry,” warns Tandon.

However, Atul Suri of Marathon Trends puts his bet on this sector. "I think steel has been one of the really quiet performers, no one talks about it but lot of wealth has been created" he states.

Banking Sector

Banking is another sector which have been doing well for the past few trading sessions. Q4 numbers from the banking industry were in line with street expectations. Net interest income and net profit for the banking sector as a whole increased by 25% and 15.3% respectively in Q4 FY07. A lot of people have been arguing that more value is found in PSU banks right now and for the first time people have started believing that it is better place to be in than private sector banks.

Anand Tandon seconds this thought saying that the PSU banks have had the biggest knock and therefore suffered the most with the fears of interest rates going up. “From that point of view therefore offer significant value” The private sector banks on the other hand will be in play over the next few quarters as it becomes clearer that some of the international players maybe allowed to invest in India.

Sudarshan Sukhani feel that the charts of the private sector banks suggest that the final up moves are still to come. Though he adds that "I am a big fan of PSU banks so to me all the charts looks good,”

Media sector

Lately there has been a lot of activity in the media and entertainment sector. With Brokerage firms like UBS are betting on the Indian media sector, they feel that the Indian media stocks will continue to trade at premium valuations, given their high growth potential over the long term and strong growth in the near to medium term.
Anand Tandon feels that valuations are not cheap but looking at growth, the valuations have to be factored in and the numbers, which are fairly large, will take some years from now. That is what the media companies are reflecting at this stage.

MARKET OUTLOOK 11-05-07

NIFTY FUTURE : Will slide to kiss 4015 . There after expect a level of 3985,3975 in PANIC.

ALERT : Two close below 4021,expect Bloodbath on street and u all will see level of 3902 ,3863 in NF

BSE SENSEX : Support @ 13685 break will creat huge panic . resistance at 13830, 13915

TATA STEEL : Support @ 566 , 555 . At upper side go to 585 if cross with volume then go to 597 to 605 in hour trade only. We recommand buy this stock at decline .

RANBAXY : Support @ 381 , 376 . Above 493 go to 401, 405 in hour . Think to buy at decline .

RELIANCE : Support @ 1566 , 1551 . above 1590 go to kiss 1605 1629 if cross 1629 with volume then what you just see. Only think to short if break support .

MCDOWELL : If Today trades above 875 level First tgt :Rs.902 ,910 & there after SKY is LIMIT !!!!! Yes Mcdowell taking over Whyte & Mackay expect this NEWS ANYMOMENT stock will spurt by minimum Rs.100 on announcement day !!

REL.Capital : Below 779 last minor support @ 772 if breaks expect free fall upto 752-745 level.

REL.Comm : Break below 458 will take to 440 ,434 level.

ACC : Three days back written to go short in this stock . Hold short & enjoy free fall tgt :842-829.

CENTURY : Will slide to 564-555 level & there after ?

GRASIM : Will slide to 2433 ,2398 & there after ? Pls exit from long postions .

BHART ELECT : Stock had broken huge triangle it looks will crash to kiss 1495 level very soon .
Minor support @ 1620 ,1597 level.

JETAIRWAYS : Triangle breakout indicates free fall upto 672 level now @ 713 level. Box chart indicates price of Rs.666-657.

INFY : Have u seen a triangle of 210 points ? No u have not. Expect price of Rs.1810 in panic.

PRAJ IND : Have a eye on 457 if break with volumes will take to Rs.424-413 in hrs only.

TATA MOTOR : Below 719 will slide to 696 ,688 level.

Reliance Cap offers to up TV Today stake

Reliance Capital Ltd. on Wednesday announced an open offer to increase its stake in TV Today Network Ltd. by up to 20 percent, boosting shares in the broadcaster as much as 10 percent.

The offer for 11.6 million shares at 130.50 rupees per share is worth up to 1.51 billion rupees.

Reliance Capital said in an advertisement in the Financial Express that as its stake in the broadcaster was likely to cross 15 percent, it would make an offer to buy up to 20 percent more from minority shareholders, as required by Indian law.
Shares in TV Today, which operates four Hindi and English news and current affairs channels, ended 5 percent up at 147.15 rupees after rising as high as 154.15 rupees in a firm Mumbai market.

"The company has been a laggard in the sector, so it is arguable if a better price could have been offered," said Ajay Parmar, an analyst at Emkay Research.

"The space is getting very crowded and advertising revenues are getting squeezed," he said.
TV Today's flagship channel Aaj Tak has more than a fifth of the Hindi news market, but is facing increasing competition from News Corp.'s Star India, New Delhi Television Ltd., Zee News Ltd., Global Broadcast News Ltd. and Broadcast Initiatives Ltd.

TV Today, which has a tie up with U.S. DTH operator Echostar, plans to sign overseas distribution deals and shift to pay mode from free-to-air, which may boost subscription revenues.

India is set to become the top pay television market in Asia-Pacific by 2015, with revenue from advertising and subscription forecast to more than double to $10 billion by 2011, according to research firm Media Partners Asia.

Reliance Capital, a financial services firm controlled by the Anil Dhirubhai Ambani Group, said it would fund the open offer through internal accruals and domestic borrowings.

The offer was not subject to a minimum level of acceptance and would be open June 6-25, Reliance Capital said.

Indian shares fall on weak Asia

Indian shares fell 0.5 percent by midsession on Thursday, led by weak Asian markets, losses in Infosys Technologies Ltd. and Reliance Industries Ltd. and concerns of a rising rupee.

At 12:00 p.m, the 30-issue BSE index was down 86 points at 13,586. On Wednesday, the government said exports were being hurt by strength in the rupee , which hit a nine-year high against the dollar this week.

But I.V. Subramaniam, director at Quantum Asset Management Co., said the rupee was likely to depreciate against the dollar in the longer term due to India's widening fiscal deficit.

"While the rupee has been gaining against the dollar it has weakened against the euro. In our view, it will depreciate and the export companies will benefit in the long term," he said.

Trade Minister Kamal Nath is set to announce the annual foreign trade policy at 12:30 p.m.

Citigroup said in a report on Thursday the economy was showing "classic symptoms" of overheating in inflation, its current account deficit, higher asset prices, wage pressures and infrastructure bottlenecks.

"This possibly implies that, in the near term, India's economic growth is hitting a speed limit," Citigroup said.

Infosys Technologies Ltd., the second-biggest stock on the main index, dipped 2 percent to 2,034.50 rupees as it extended losses into a fourth session on concerns a strong rupee could crimp its export-driven earnings.

Shares in top private firm Reliance Industries, which has the heaviest weighting on the index, dipped 0.7 percent to 1,477.90 rupees after touching record highs for the past three sessions.
India's second-largest cement producer ACC Ltd. fell 0.3 percent ahead of its quarterly earnings later in the day. Swiss firm Holcim Ltd. owns nearly 38 percent in ACC.

A Reuters poll shows analysts expect a 50.2 percent rise in ACC's quarterly net profit to 3.53 billion rupees.

The 50-issue Nifty fell 0.4 percent to 3,997.55.

In the broader market, 1,096 losers beat 1,044 gainers on volume of 86 million shares.
Elsewhere in the region, Karachi's 100-share index rose 0.23 percent to 12,213.31 points while Colombo's All-share index was largely flat at 2,839.79.

STOCKS ON THE MOVE

* Debutant Advanta India Ltd. was trading at 823 rupees, higher than its issue price of 640 rupees.

* DIC India rose 2.6 percent to 175.70 rupees after its board approved issuing one share on a rights basis for every three held.

* Flawless Diamond (India) Ltd. was up 3 percent after posting a jump in March quarter net profit to 35 million rupees from 2.2 million rupees a year earlier.
MAIN TOP 3 BY VOLUME:

* Advanta Ltd. on trade of 3 million shares.

* Teledata Informatics Ltd. on 2.9 million shares.

* Federal Bank Ltd. on 1.9 million shares.

Finmin says banks need to slow loan growth

Finance Minister Palaniappan Chidambaram said on Thursday that state-run banks must moderate loan growth and cautioned banks against accepting bulk deposits at high costs.
"I have asked banks to rebalance their portfolios. Credit growth at 30 percent has to be moderated, especially to sectors identified by the Reserve Bank of India as high-risk, like the real estate and capital markets," he told reporters after meeting state-run bank chiefs.


The central bank has raised its key lending rate five times in the past one year, tightened funds available for loans and raised risk weightages for banks against loans for property development to cool demand and fight inflation.


"The banks have told me that they have started rebalancing their portfolios," Chidambaram said.


O.P. Bhatt, chairman of top lender State Bank of India, said home loan interest rates were unlikely to rise further.


"Interest rates have peaked or are near peak," he said, adding he expected credit growth of 25 percent in the fiscal year to March 2008.

Biocon sees growth on research services, insulin

India's largest biotechnology firm, Biocon Ltd., sees strong growth in the current fiscal year on new drug discovery and large research outsourcing services contracts, its chief said on Thursday.


"We are poised for a very steady and strong growth... our discovery programmes are making very good progress and obviously we will be licensing many of these programmes as we go forward," chairman and managing director Kiran Mazumdar-Shaw told Reuters.
Bangalore-based Biocon earlier reported a 46 percent jump in its net profit to 472.9 million rupees in the March quarter. Consolidated net profit, which includes subsidiaries of the group, rose 27 percent to 607 million rupees.

Best Buy - 18/04/07

Buy Birla Corporation with stop loss of Rs 195 for target of Rs 280
Buy Action Construction Equipment with stop loss of Rs 215 for target of Rs 275
Buy Aban Offshore below Rs 2320 with stop loss of Rs 2285. This is a day-trading recommendation
Short Sell Lanco Infratech above Rs 151.50 with stop loss of Rs 154.50. This is a day-trading recommendation
These are intra-day trading recommendations. Use trailing stops once the position is taken. The extreme price of the previous 45-90 minutes at any time can be used as the trailing stops.
Buy Indian Oil with a stop loss below Rs 404 for a target of Rs 434, 441 & 448. This is a day-trading recommendation
Buy ACC with a stop loss below Rs 798 for a target of Rs 816, 823 & 830. This is a day-trading recommendation

Mkt still in green: BSE pharma, bank index outperform

The markets is trading strong at higher levels on sustained buying seen select pharma, cement, power and banking stocks. The broader markets have also participated giving markets a healthy breadth.


At 13.57 pm IST, the Sensex is up 100.54 points or 0.74% at 13707.58, and the Nifty up 36.00 points or 0.90% at 4020.95.


About 1407 shares have advanced, 1039 shares declined, and 62 shares are unchanged.
Top gainers on the Sensex are NTPC, HDFC, ONGC, Bhati Airtel, Hindalco, and top gainers on the Nifty are HCL Tech, Sterlite Ind, Sun Pharma and Zee Entertainment.


Top losers on the Sensex are Tata Steel, Infosys, Bajaj Auto, Grasim, BPCL and HPCL .
Most active shares on BSE are ICRA, Tata Steel and Dish TV India.


Index heavyweight Hindustan Lever was trading at Rs 211.00 up 0.07% from its previous close of Rs 210.85.


Index heavyweight Reliance was trading at Rs 1,492.00 up 1.08% from its previous close of Rs 1,476.05.


Tech major Infosys was trading at Rs 2,078.00 down 0.18% from its previous close of Rs 2,081.70.


Cigarette major ITC was trading at Rs 156.65 up 0.35% from its previous close of Rs 156.10.


Refinery major HPCL was trading at Rs 257.20 down 1.63% from its previous close of Rs 261.45.


Mkt hold out their gains: NTPC, Bharti Airtel gain


The markets have held out their and trading steady despite flat cues from Asia. The broader markets have also participated giving markets a healthy breadth.


At 12.56 pm IST, the Sensex is up 126.98 points or 0.93% at 13734.02, and the Nifty up 50.95 points or 1.28% at 4035.9.


About 1452 shares have advanced, 909 shares declined, and 57 shares are unchanged.


All the major indices are trading in green. But trading flat is the metal index due to steel major

Tata Steel down nearly 4% on BSE on account of equity dilution concerns.


Top gainers on the Sensex are NTPC, Bhati Airtel, Hindalco, ACC and top gainers on the Nifty are HCL Tech, Sterlite Ind, Sun Pharma and Zee Entertainment.


Top losers on the Sensex are Tata Steel, Infosys, Bajaj Auto, BPCL and HPCL .


Most active shares on BSE are ICRA, Tata Steel and Dish TV India.


Index heavyweight Hindustan Lever was trading at Rs 212.15 up 0.62% from its previous close of Rs 210.85.


Index heavyweight Reliance was trading at Rs 1,490.05 up 0.95% from its previous close of Rs 1,476.05.


Tech major Infosys was trading at Rs 2,075.05 down 0.32% from its previous close of Rs 2,081.70.


Cigarette major ITC was trading at Rs 157.85 up 1.12% from its previous close of Rs 156.10.


Refinery major HPCL was trading at Rs 258.95 down 0.96% from its previous close of Rs 261.45.


Market trades firm: NTPC, HCL Tech top gainers


The markets are trading strong at higher levels on buying seen in select pharma, cement, power and banking stocks.


At 12.04 pm IST, the Sensex is up 109.60 points or 0.81% at 13716.64, and the Nifty up 40.20 points or 1.01% at 4025.15.


About 1425 shares have advanced, 799 shares declined, and 76 shares are unchanged.


All the major indices are trading in green. But trading flat is the metal index due to steel major

Tata Steel down over 4% on the BSE on account of equity dilution concerns.


Top gainers on the Sensex are NTPC, Hindalco, ACC.

Top gainers on the Nifty are HCL Tech, Sterlite Ind, Sun Pharma.

Top losers on the Sensex are Tata Steel, Infosys, Bajaj Auto and HPCL .

Most active shares on BSE are ICRA, Tata Steel and Dish TV India.

Index heavyweight Hindustan Lever was trading at Rs 213.55 up 1.28% from its previous close of Rs 210.85.

Index heavyweight Reliance was trading at Rs 1,490.45 up 0.98% from its previous close of Rs 1,476.05.

Tech major Infosys was trading at Rs 2,068.00 down 0.66% from its previous close of Rs 2,081.70.

Cigarette major ITC was trading at Rs 157.90 up 1.15% from its previous close of Rs 156.10.

Refinery major HPCL was trading at Rs 260.00 down 0.55% from its previous close of Rs 261.45.

Markets gain momentum: Banks, pharma stocks firm


The markets are have inched up after modest opening on the back of some significannt buying momentum seen in the banking, pharma, consumer durable stocks. All the major indices are trading in green except metals which is in moderate red.


At 11.14 am IST, the Sensex is up 124.65 points or 0.92% at 13731.69, and the Nifty up 39.45 points or 0.99% at 4024.4. About 1351 shares have advanced, 674 shares declined, and 64 shares are unchanged.

Top gainers on the Sensex are Hindalco at Rs 146.50 up 2.23%, BHEL at Rs 2,580.95 up1.54% and Ranbaxy Labs at Rs 341.40 up 1.40%.

Top losers on the Sensex are Tata Steel atRs 500.50 down 5.32%, Bajaj Auto at Rs 2,530 down 0.71% and Infosys at Rs 2,074.40 down 0.35%.


Markets @ 9:56 am

Markets open on optimistic note: IT, Banking stocks strong


The markets opened on optimistic note today after yesterday's breather. Technology stocks were seen doing good in the opening trade. Asian markets are quiet today.
At 9:56 am, Sensex was 50 points at 13657 and Nifty was 16 points at 4002. Major gainers in the opening trade were Infosys, Rel Comm, Bajaj Auto, ACC, Hindalco Maruti. However, losers were Tata Motors, Tata Steel.


Asian Markets:


Asian markets are trading in green today. Japan's Nikkei gained 0.69%or 121.21 points at 17,648.66, Hong Kong's Hang Seng rose 0.38% or 79.46 points at 20,868.07, South Korea's Seoul Composite surged 0.48% or 7.33 points at 1,535.99, Taiwan's Taiwan Weighted advanced 0.43% or 34.51 points at 7,993.80 and Singapore's Straits Times was up 0.04% or 1.21 points at 3,416.53.


US Markets:


The Dow rose 52.58 points, or 0.41%, to 12,773.04 during yesterdays trading.


Market cues:

• FIIs net buy USD 179.1 million in equity on Apr 16
• MFs net buy Rs 205 crore (Rs 2.05 billion) in equity on Apr 16
• NSE F&O Open Interest up by Rs 1,945 crore (Rs 19.45 billion) at Rs 55,802 crore (Rs 558.02 billion)

F&O cues:

• Futures Open Interest up by Rs 367 crore (Rs 3.67 billion); Options Open Interest up by Rs 1,578 crore (Rs 15.78 billion)
• Nifty Apr Futures add 4.6 lakh shares in Open Interest
• Nifty May Futures add 7.2 lakh shares in Open Interest
• Nifty Apr Futures at 13-point discount, May at 16-point discount
• Nifty Open Int Put-Call ratio down to 1.13 from 1.18
• Nifty Calls add almost 19 lakh shares in Open Interest
• Nifty Puts add 13.2 lakh shares in Open Interest
• Nifty May 4000 Call adds 6.6 lakh shares in Open Interest
• Nifty May 3900 Put adds 6 lakh shares in Open Interest
• Nifty May 4100 Call adds 5.1 lakh shares in Open Interest
• Nifty Apr 4000 Call adds 3.7 lakh shares in Open Interest

Dish TV could be Rs 5000 cr co in 5 yrs: Enam

Manish Chokhani of Enam Consultants analyses forward going Dish TV standing. He says Dish TV is likely to add 1 crore subscribers in the next 5 years. It could be a Rs 5,000 crore company in 5 years.


He sees EBITDA margins at 30-35% levels. But Dish TV profits are seen muted initially. The USD 100 million block of Dish TV has been placed with 6-7 big players. Out of the USD 100 million block, about 85% has been placed with FIIs.


He adds that the proceeds from sale of Rs 4 crore shares by promoters, will be used for expansion. Dish TV ARPUs can go up to USD10-11 per month.

Talking about Tata Steel, he says the company using more equity than debt is a good thing. He sees incremental USD 800 million EBITDA from Corus.

Asian mkts to be strong for next 6-8 wks: Deutsche AMC

Mark Jolley, Chief Asian Strategist of Deutsche Asset Management believes that the Asian markets can be seen as strong for another 6-8 weeks.


He further added that the Asian markets could be seen peaking out in the post-May period.
While he predicted that the RBI may be approaching the end of its tightening phase, the Chinese authorities may enforce some more tightening.


He further added that India could outperform in the near-term.


Excerpts from exclusive interview with Mark Jolley:


Q: What do you put this recent global strength down to, because end of February-beginning March things were looking quite murky but since than all these markets have rallied quite significantly?

A: I think there are few things going on, but the most important thing is that through the Q1 we have seen quite strong economic data particularly the data relating to China.
If anything, the Chinese economy has been accelerating into the March quarter and the export numbers across the region have been quite strong. I think just the overall economy globally doing quite a bit better than people expected, has reflected in the commodity markets. If you look at the commodity markets all of them have made new highs or adjusting their highs that also is suggesting strong economic growth.

Q: Do you see this strength as temporary or do you think the worst is over for this summer for the global emerging or Asian markets and we may continue to see even higher levels?

A: Our view has always been that the markets would be quite strong in this half year and I think they will continue to be strong for at least another six-eight weeks running up to a peak between May and August.

After that, though the markets might struggle a bit. There are two main reasons for that – first, the global bond markets are also striving to sell off and there were yields rising, reflecting economic strength. Traditionally what we have seen over the last four-five years - when we get bond market selling off; eventually puts pressure back on equity markets.

We have seen the bond markets in Europe yield pushing to new highs for this business cycle. In the US, yields are starting to push back up again and in Japan also. So that’s something to worry, the other thing to worry is that the Chinese authorities are very concerned about their domestic equity market overheating and I would expect in couple of months, we might see some new measures from the Chinese Authorities.

If you go back to February, the initial thing that caused the market to sell off was, the Asia markets in China were down 10% in a day, maybe because of Chinese government mention capital gains tax; and I think that would be very concerned by the strength of the Asian market. I do expect that two months from now or so, they will lose patience. So I think the markets may come under pressure again after the summer.

Q: When you spoke about yields inching up globally, is it an apprehension of yours that maybe rates might harden lead by the US Fed as well in middle of this year, which could suck out some liquidity from the whole, emerging markets equity spectrum?

A: At the moment our house view is that the next move by the Fed would be easy, but of course the money market this year is priced to Fed tightening twice, Fed easing twice and in fact the Fed’s done nothing.

And if we continue to see the economic strength coming through in these economies and we continue to get just niggling inflation concerns, we have an inflation number to add in China next week. Its entirely possible that the bond market in US could swing back to thinking that maybe the next Fed move is tightening and yes that would be something that would impact risk appetite.

Q: What’s the call on India then its started pulling back after fairly long bout of underperformance relative to global markets. Do you think India can outperform for a while or are you worried about this market?

A: One of the reasons why Indian market been under pressure recently has been the fact the Central Bank has been tightening quite aggressively. According to our economists, we are getting to the end of tightening phase in the Indian economy.

And if you look at the way Asian equity markets have performed over the last ten years, typically you get a short-term run of out performance from an equity market, which has had the most aggressive tightening over the last 12 months.

Today that market is India. So I think if the market in India begins to sense the end of a tightening cycle by the RBI, which is clearly what the market’s been reacting to in the last couple of days; I do not see why the Indian markets would now perform short-term over the next month or so.

Buy Cadila Healthcare; target of Rs 415: Karvy

Karvy Stock Broking report on Cadila Healthcare:


The domestic formulations business should clock double-digit growth compared to single digit growth clocked by the company in current year. The acquisition of Liva Healthcare would enable the company to add 15 % incremental growth in the already existing Rs 370 mn business. We have incorporated the same and raised our revenue estimates for the FY 2008E by 2 % and earnings by 5.3 % to Rs 22.8.

Cadila Healthcare (Cadila), a company with dominant revenues in the domestic formulations space (65%) of revenues is all set to change with the formulations exports being the fulcrum of growth which currently constitutes 13% of revenues will move to 19.5% of revenues by FY 2008. The key growth segments would be US, France and ROW (35 emerging markets worldwide) and Custom manufacturing.


US business gaining traction:


The US business has done well and is expected to be on target with revenue scale up from USD 11 mn in FY 2006 to USD 42 mn in FY2008. Tie-up with Mallinkrodt will be a winwin deal as Mallinkrodt has not got presence in non -narcotic based segments and Cadila will have an opportunity to scale up in the US generics market. Cadila will have a a product basket of 12-15 products and revenues of USD 30 mn for FY 2007E. In FY 2008E, the company is expecting further 15 approvals and a product basket of 25-28 products on shelf and revenues of USD 42 mn in FY 2008.


ROW, French business and to pan out:


The company's French business is expected to move up from Euro 10 mn in FY2006 to Euro 30 mn in FY 2008E. Aggressive ramp up in product basket and volumes will enable scale up in this business. Emerging markets would be another revenue driver on the back of scale up in Brazil and ROW business segments. This business segment is expected to grow by more than 53 % to Rs1.3 billion in FY2008.


Reasonable Valuations Make it an Outperformer:


We have upgraded our revenue numbers for the domestic formulations with the acquisition of the Liva Healthcare. With revenue traction in major revenue segments coupled with margin expansion on back of better gross margins in some of the markets and cost savings initiative, we believe the company is on a sustained growth path. We raised our revenue estimates for the FY 2008E by 2 % and earnings by 5.3 % to Rs 22.8 on back of acquisition of Liva Healthcare. We upgrade our price target by 5 % to Rs 415 on back of 18.2x FY 2008 (EPS Rs 22.8)

Buy TCS; target of Rs 1440: Angel Broking

Strong topline growth driven by volumes, despite rupee appreciation

TCS grew its revenues at a decent pace of 5.9% QoQ during Q4FY2007. This was mainly a result of good volume growth to the extent of 6.4% QoQ, pricing-led improvements to the tune of 89bps and productivity improvements of 44bps. However, the rupee appreciation during the quarter led to an adverse impact of around 1.9% on the topline growth, thus leading to the growth in rupee terms being slower than the dollar growth, which was impressive at 8% QoQ. TCS continues to grow its global delivery model and revenues from its global delivery centres (GDCs) accounted for 4.6% of total revenues in Q4FY2007. The company now has delivery centres in places like China, Mexico, Brazil and Latin America and in opening a new development centre in Morocco, a clear testimony to the fact that it has by far the widest global network among all the top-tier software companies. This undoubtedly gives TCS an edge over its peers, serving as a competitive differentiator.

Productivity improvements aid margins

During Q4FY2007, TCS managed to maintain its EBITDA margins at the same level as was the case in the previous quarter, in fact, actually managing a marginal expansion of 1bp. The appreciating rupee had a negative impact of 57bps on the margins, which was effectively set off through improvements in productivity and higher utilisation rates (79.6% excluding trainees in Q4FY07 Vs 78.2% in Q3FY07). Thus, TCS has clearly shown its ability to manage margins even in the face of stiff headwinds such as volatile currency movements.

Higher other income enables decent bottomline growth

TCS saw a decent 6.2% QoQ growth in its bottomline for the quarter. Other income provided a strong fillip to the bottomline growth, growing at as much as 199.5% QoQ. Thus, this was the major factor that enabled the bottomline to grow at a faster pace than the topline, even as depreciation charges and tax payments rose at QoQ rates of 29.2% and 19.7% respectively.

Outlook and valuations

TCS has hit virtually bull’s eye on our topline estimates for FY2007. While we had estimated the company to hit Rs 18,634cr, the company managed to hit Rs 18,633cr. However, on the margins front, TCS saw further fall compared with what we had originally anticipated, witnessing a 48bps fall, as compared to our estimates of a 30bps fall. On the bottomline front, the company has slightly out-performed our estimates, hitting Rs 4,132cr, compared with our estimates of Rs 4,121cr.

Going forward, we expect TCS to record a 30.5% CAGR in topline between FY2007 and FY2009, while we expect the bottomline to clock a 24.5% CAGR in that period. We expect margins to fall by around 50bps each year, mainly due to continued wage inflation. The demand environment appears strong for TCS and the company, with its ‘full-services model’ and global delivery network, appears well-positioned to reap the benefits of the strong growth expected in the global offshoring industry. Nonetheless, we believe that headwinds such as higher attrition rates, wage inflation and currency appreciation could play spoilsport in future and greater-than-expected appreciation of the rupee against the US dollar would be a downside risk to our estimates.
At the CMP, the stock trades at 19.1x FY2009E EPS. We maintain a BUY on the stock with a 12-month target price of Rs 1440.

TCS an outperformer: SSKI

SSKI Research report on TCS:

"TCS results were lackluster given the fact that expectations were high based on the management commentary over the last couple of quarters. While the top client continued to fire growing by 20.6% qoq, it was disappointing to note that pricing remained stable (Infosys’ billing rates continued to grow) and volume growth was modest at 5.2% qoq. While hiring continued to be strong, the lack of data on pricing and volume not only poses a risk on the upside but also on the downside. The increase in attrition rate at the experienced level also creates some nervousness."

"We are cutting our above-consensus estimates due to marginally lower volume growth and using an exchange rate of Rs42/US$. We are lowering our earnings forecast by 6.1% in FY08E and 4.7% in FY09E due to lower revenue and margin expectations. It is trading at 24x FY08E and 19.3x FY09E earnings (which is same as Infosys’ valuation). We maintain outperformer but retain Infosys as our top pick in the sector. "

Check List for Investors

The Initial Public Offering or IPO market as it is known, received a new lease of life in FY99. With high profile issues like Hughes Software and TV-18 opening at more than 3 and 10 times their issue price respectively, investors are flocking to the IPO market like never before. Companies, which had earlier shied away from the capital market, are now returning with a vengeance to satiate the appetite of investors.


Some of the over-subscription details of recent IPOs are mind-boggling: TV-18 by 51 times, Glenmark by 55 times and HCL technology by 27 times. Other software issues like Hughes and Polaris Software have been oversubscribed by 15-20 times. The reason for this enthusiasm can be attributed to the software boom that markets have witnessed over a past year or so.


But should one just jump for an IPO as soon as it is announced? Here an attempt has been made to outline some issues that investors should look at before they making investment decision.


Before investing in an IPO, investors are suggested to run a check on the following factors:

Who are the Lead Managers to the issue? Do Lead Managers act as an indicator of the quality of the issue?

• The Lead Managers act as a catalyst as they attempt to bring in some credibility to the offer and their accountability is also very high. Remember that the lead managers’ credibility could act only as an indicator to the proposed issue, but does not assure success. There have been poor issues from good merchant bankers in the past.
  
• For the purpose of security, one can look for category one lead managers for judging the quality of the issue that includes DSP Merrill Lynch, HSBC Securities and Kotak Mahindra among others.
  

What is the promoter holding in the company? Is there any participation from financial institutions or a venture capital firm?

• Issues where post-issue promoters’ holding is more than 80% may indicate a lack of liquidity in the stock since there are fewer shareholders trading fewer shares.
  
• Be careful of companies that have issued shares on a preferential basis to promoters in high proportion, so as to increase their stake in the company. Also find out if this is an offer for sale or a genuine Initial Public Offering. In case of offer for sale, the issuing company may not benefit totally.
  
• Look for companies in which venture capital firms or financial institutions have participation or substantial interest. Also look for the shareholding pattern. This would indicate the risk profile of the company and the expectation of the institution from the company. In case of institution, look for nationalized banks and all India level financial institution such as ICICI, IFCI IDBI etc.

• Be careful of companies whose cost of project and means of finance have not been appraised by banks or financial institutions.
  

Where is the company investing my money? Is it going to give me good returns?

• If the major portion of fund mobilized is being invested in land, buildings (the so-called green field issues) be careful.
  
• If the company is utilizing a portion of issue proceeds towards retiring high-cost debts, it would benefit the company in terms of lower interest outflow and therefore higher profitability. Also check the proportion of money that is being invested in new projects that it is venturing into. This would give some judgement on the estimated profitability of the company.
  

Which sector does the company operate? What is the growth prospect of the company vis-à-vis the sector?

• The growth of the company in proportion to the growth of the market in which it operates has to be seen. Also look out for its market share or the projected market share vis-à-vis domestic competition. For example, figures of global software market or Indian software market do not indicate the exact future growth potential of the company since it is inclusive of all products and services. Export projection of the sector need not necessarily reflect the export potential of the company. See what the company is exporting and export income as a percentage of sales.
  
• Each sector has its own internal and external factors that influence the operation of the company. For example, software sector is vulnerable to high employee turnover.
  

Do the promoters have enough experience?

• Do the promoters have previous experience in transforming organizations from the grass root level in the same industry to a successful business? What is the experience they have in the sector the company is operating in or any other sector. Promoter experience is very crucial.
  
• Also check out the profitability of any subsidiary or affiliate company in which promoters have a stake or substantial interest. This would enable us to ascertain the management’s efficiency in terms of managing organizations.
  
• Check for litigations against the promoters, nature of litigation and the promoter’s extent of liability, if any.
  

Will the money invested yield maximum returns? Are the profit projections achievable?

Ask yourself these questions:

• What is the sales growth projected by the company vis-à-vis others in the sector and the industry growth rate? If the market is growing at 20%, it does not mean that the company would grow by 20%. Let’s take a hypothetical example. X Company manufactures paints. Assume that the market is growing at 12% per annum. If sales of the company grew by, let’s say 6%, it means that the company is growing at the rate of 0.5 x the industry growth. This would help you in ascertaining growth potential of the company.
  
• Are the margins projected comparable with other companies in the same sector?
  
• Is there any unusual costs or unusual rise in other income (recurring/non-recurring)? Some companies show an unusual rise in their sales and net profits by 5-10 times. Justify this by comparing the sales growth figure.
  
• Check the competitive scenario of the industry. If the company is claiming that it is competing with e-enabled service providers, check out what type of e-enabling services they provide. Addressing competition at a macro level may reflect the exact picture.
  

How do I justify the price of the issue?



To justify pricing, Compare:

• The price to earnings ratio (this is price that the issue is offered upon earnings per share) which would throw light on the pricing of the issue.
  
• Operating margins (this is the income from operation less expenses from operation),
  
• Market capitalization (it is the number of share multiplied by the price at which it is offered) with the current companies in the sector that are listed in the market.
  

Does the company enjoy tax benefits?

• Companies with foreign exchange earnings are entitled to certain exemptions. If the company’s factory is in backward regions, they are entitled for subsidies as well as some tax exemptions. Lower incidence of tax benefits companies as their cash flows are increased to that extent.

Are you investing in IPOs? Have a look on this article

The Indian stock markets continue to make newer highs on the back of strong FII inflows, which is a factor of the seemingly strong economic prospects in sight for the country. Stock prices continue to soar and are making new 52-week highs consistently. There is everything positive at the current juncture for Indian equities and this has been attracting investors to equity markets.

Taking advantage of this gung-ho environment in the stock markets, many companies time their IPOs during such periods, as they are able to 'price' higher than they would have otherwise when the scenario is not favourable for equities. In this article, while we would refrain from commenting on whether one should invest in an IPO or not, we look at one important aspect of investing in an IPO and jot down a few points that investors need to remember.

As per reports, Indian markets are likely to see IPO offerings worth Rs 250 bn in 2005. Considering that approximately 25% of every issue is for retail investors, it implies that this category of investors would need more than Rs 60 bn to invest in the same. Further, considering that in bullish times, IPOs could get oversubscribed several times (including the retail portion). This, in turn, gives rise to larger amounts being invested by investors so as to increase the chances of allotment in case of over-subscription. But the question is, does the retail investor have so much money to invest?

This is where IPO Margin Financing (IPOMF) comes into the picture. It must be noted that while an individual may have limited funds, there are various banks and financial institutions that are willing to lend money, at a certain interest rate, so that you can invest in an IPO. Thus, IPOMF basically facilitates an investor to invest beyond his/her capacity (leveraged investing). An investor prefers to apply for more shares during bullish times not only to increase his chances of getting some allotment but also on the belief that he will be able to make handsome return on his investments. However, it is not as simple as it seems. This factor needs to be considered in a little more detailed manner so as to understand how IPOMF will affect your returns.

Company XYZ

Offer price (Rs/share) 100

You want to apply (nos. of shares) 1,000

Investment required (Rs) 100,000
You have (Rs) 25,000
IPO Margin Finance (Rs) 75,000
Interest & other charges on margin finance 2%
Interest & other charges (Rs) 1,500

The table above indicates the details of an investor wanting to apply in the IPO of a company XYZ whose offer price is Rs 100 per share. The investor intends to apply for 1,000 shares for which the investment required is Rs 100,000. Since he does not have the capacity to invest the full amount, he opts for IPOMF of Rs 75,000, wherein the interest and other charges add up to 2% per month on the borrowed funds i.e. Rs 1,500. Below are discussed a couple of possible scenarios considering that an investor gets some allotment.

Case 1

Allottment (nos. of shares) 1,000
Total investment incld. interest (Rs) 101,500
Cost of acquisition (Rs/share) 102
Selling price (Rs/share) 110
Returns on investment (%) 8.4%

Case 1 above assumes that the investor is lucky enough to be allotted all the 1,000 shares he had applied for (a scenario very unlikely during such bullish times). Thus, taking into consideration the interest on the borrowed funds, the cost of acquisition per share would be Rs 102 (rounded-off) and not Rs 100. It must be noted here that the entire interest expense of Rs 1,500 is spread over 1,000 shares. Now assuming that the stock lists at Rs 110 (10% premium to the offer price) and the investor decides to book his profits, he would be happy with the 8.4% gains he has made on his investment.

Case 2

Allottment (nos. of shares) 100
Total investment incld. interest (Rs) 11,500
Cost of acquisition (Rs/share) 115
Selling price (Rs/share) 110
Returns on investment (%) -4.3%

Now let us consider another scenario (case 2) wherein an investor is allotted only 100 shares (a much more likely scenario, especially in times when even 'me-too' IPOs get oversubscribed multiple times). In this case, the interest cost (already pre-determined and fixed) is spread over the 100 shares. It must be noted that the interest charged by the lending entity applies to the entire borrowed funds, irrespective of whether you are allotted all, few or nil shares. This effectively increases the cost of acquisition per share to Rs 115. Thus, at Rs 110, the investor is actually at a loss of 4.3%.
While both the above cases are hypothetical and the final scenario would depend on various parameters like shares allotted, interest on IPOMF and selling price, we have made an attempt here to bring out the complexities. Further, it must be noted that there is always a possibility that an investor may get carried away and over-leverage himself, thus putting his financial viability at risk.
While the above is just one of the parameters that must be kept in mind while investing in an IPO through the margin financing route, there are various other fundamental parameters that must be borne in mind even otherwise. These include:

• Who are the Lead Managers to the issue? Do Lead Managers act as an indicator of the quality of the issue?
• What is the promoter holding in the company? Is there any participation from financial institutions or a venture capital firm?
• Where is the company investing my money? Is it going to give me good returns?
  Which sector does the company operate? What is the growth prospect of the company vis-a-vis the sector?
• Do the promoters have enough experience?
• Will the money invested yield maximum returns? Are the profit projections achievable?
• How do I justify the price of the issue?
• Does the company enjoy tax benefits?

Markets and economy: The stumbling blocks!

'India is not on autopilot to greatness. But it would take an incompetent pilot to crash the plane'. These words of Mr. Edward Luce very aptly define the contours of the Indian economy. The economy has been growing at an average annual growth rate of nearly 6% since the 1980s, and at over 8% during the last three years. Besides, India has also shown considerable resilience during the recent years and avoided adverse contagion impact of several shocks. This has precipitated to increased confidence in the country's financial markets with a consistent increase in gross domestic investment rate from 23% of GDP in FY02 to 30% in FY06. The gross domestic saving rate has also improved from 24% to 29% over the same period, contributed by a significant turn around in public sector saving. A case in this point is that the inflows into mutual funds alone have multiplied 10 times in the last decade and is currently at all time highs!
For this buoyancy to sustain, the country will have to tide over several stumbling blocks.

Inherent flaws...

First, the poor state of the physical infrastructure, both in terms of quantity and quality. While with the healthy fundamentals of the domestic financial sector and the enhanced interest of foreign investors, funding should not pose a problem, issues relating to regulatory framework and rapid execution need to be addressed by the government.

Second, fiscal consolidation. The recent budget of the central government targets a gross fiscal deficit of 3% of GDP by 2009. This requires fiscal empowerment, which is possible through two routes (i) elimination of subsidies or (ii) elimination of tax exemptions. While in any economy fiscal consolidation is hard, it is particularly so in our setting

Third, India is set to remain one of the youngest countries in the world in the next few decades. This 'demographic dividend' cannot be used to the economy's advantage unless prerequisites such as skill-upgradation and sound governance to realise it are put in place.

Fourth, there is a need to shift the emphasis from foreign institutional investment to attracting foreign direct investment, which is less volatile. This requires a more favourable investment climate in general both for domestic and foreign capital.

Global Imbalances...

As India does not depend on the international capital market for financing the fiscal deficit, the extent of adverse consequences of the global developments would be muted. However, there could be a spillover effect of global developments on domestic interest rates and thus on fiscal position. Also, a faster rise in rates overseas could lead to a shift in investor confidence to the international markets. Further, should there be a reversal of capital flows, asset prices may decline. With this there is a risk that rise in interest rates in general could impact the housing market and expose the balance sheet of the households to interest rate risk, increasing the risk of loan delinquencies for banks. Banks in India have invested significantly in government debt and other fixed income securities. If a rise in international rates gets reflected in domestic interest rates, banks will also have to mark down the value of their investment portfolio.

Multilateral confidence...

Finally, there needs to be the confidence of the investor community on multilateral aspects such as political stability, terrorism combating ability and significance at global economic platforms (such as the IMF and World Bank).

While we do not intend to sound pessimistic about the continued resilience of the economy to global and internal shocks, investors investing in the India story should assess these grounds before judging the 'market risk' to be assigned to a stock. Weighing this with the premium expected to be earned over and above the risk free rate (10 year GSec yield), will help you correctly align your portfolio as per your risk profile.

P/E – What is it all about?

The most commonly used valuation metric by investors is the price to earnings ratio or commonly referred to as the P/E ratio. Though commonly used, it is also misunderstood for various reasons. Here is an attempt to simplify this valuation metric.

How is P/E calculated?

It is calculated by dividing market price of a stock by EPS (earnings per share). EPS in turn is calculated by dividing the net profit of the company by the number of shares outstanding.

Having calculated the P/E, what does it stand for?

Lets assume a stock is trading at Rs 100 and its EPS is Rs 20. The P/E multiple is 5 (100 upon 20). Assuming that the company’s EPS is likely to be Rs 20 each year, it will take 5 years for the investor to realize Rs 100. Of course, the assumption here is that the company’s EPS is not growing at all.

Now taking the example of commonly traded stocks like Infosys and Tisco. While the former trades at a P/E multiple of 25 times, the latter trades at 7 times. Why is it so? It is believed that the stock price of a company tracks its long-term earnings growth potential. In an economy, some companies (or sectors) are likely to grow at a faster (like say software or pharma) rate. So, the P/E multiple of companies from these sectors are likely to be higher and vice versa.

Depending upon growth expectations, the P/E multiple could vary.

There is one crucial factor here i.e. expectations. Though Infosys may be trading at 25 times earnings, if EPS is expected to grow by 25% per annum, the investor could realize the money in four years.

P/E – Is it a discount or a multiple?

There are two ways of quoting P/E valuations:

• Tisco is currently trading at Rs 350 discounting its earnings by 5.5 times
• Tisco is currently trading at Rs 350 at a P/E multiple of 5.5 times

Which is right?The answer to this lies in the formula for calculating P/E itself.

P/E is Market price divided by EPS. If we were to reverse the formula, Market price = P/E multiplied by EPS. Stock prices reflect future earnings potential and not past performance. Discounting the current price with historical EPS is not a right way to analyse companies.

Take a hypothetical case. If Tisco’s EPS for the next year is expected at Rs 50 and the growth in EPS is around 15%, the market price is calculated by multiplying Rs 50 with 15 times i.e. Rs 750. When determining the stock price, one does not discount earnings but multiply earnings.

What is the ‘right’ P/E multiple for a stock?

The answer to this question is not easy. In the previous example, we have assigned a P/E multiple of 15 times because EPS is expected to grow by 15% in the immediate year.

Is this the right way? Not necessarily. Here, it is important to understand industry characteristics of the company.

For a commodity stock like Tisco, EPS tends to grow at a faster rate when steel prices are recovering or are at the peak and the EPS is likely to decline at a faster rate during downturns. To qualify this statement, if we look at EPS growth of Tisco from 1994 to 2004, the compounded growth in earnings is 17%. However, the CAGR growth in the last three years was 193% (the recovery phase). So, if one believes that steel demand is likely to trace long-term economic growth and that 15% growth is unsustainable, the P/E multiple should be ideally much lower than 15 times. Similarly, the long-term growth prospects for software companies could be much higher than commodities. So, the P/E multiple for software stocks could be at a premium.

Determining the P/E multiple for a stock/sector also depends on:

Historical performance – Why does Infosys trade at a higher P/E multiple compared to Satyam? By historical performance, we mean, focus of the management (without unrelated diversifications), ability to outperform competitors in downturn/upturns and promise vs performance. This can be gauged if one looks at the last three to five year annual reports of a company.

The sector characteristics – Margin profile, whether it is asset intensive and intensity of competition. Less asset intensive sectors (say, FMCG) are considered defensive and therefore, could trade a premium to the overall market.
And more importantly, expectations. Take the case of textile stocks. Expectations of significant growth opportunities post the 2005 quote regime phase out has resulted in upgradation of P/E multiple of the textile sector.

When is P/E not useful?

• Economic cycles - In FY02, Tisco was trading at a P/E multiple of 20.5 times its FY02 earnings. Was it expensive? Based on FY05 expected earnings, Tisco is trading at a P/E multiple of 5 times its earnings (at Rs 250). Is it cheap? If one ignored Tisco in FY02 on the basis that it was ‘expensive’ on the P/E multiple in FY02, the opportunity loss is as much as 350%. Businesses operate in cycles. During downturn, EPS will be low but P/E will be inflated and vice versa. At the same time, during expansionary phase, corporates invest in capacities. In this case, high depreciation costs suppress earnings. P/E, in this context, may mislead investors.
• Not actively tracked – There are number of companies in the Indian stock market that are not actively tracked by investors, analyst and institutions. For example, Infosys’ average price was Rs 2 in FY94 and the P/E multiple was 17 times. At times, P/E multiple may be lower because some sectors/stocks are not in the limelight.
• Expectations – On the downside, some stocks may be trading at a significant premium because earnings expectations are higher. High P/E also does not mean a good stock to buy. What if the expectations are unrealistic? One needs to exercise caution to this extent.
• Means little as a standalone number – P/E, as a standalone number, means little. Besides P/E, it is also important to look at margins, return on net worth, cash generating ability and consistency in performance over the years to assign a value to a stock.
• Market sentiment – During bear phases or when interest in stocks is low, valuations could be depressed. Since equities are considered less attractive during these periods, valuations are likely to be below historical average or below earnings growth prospects.

When is P/E useful?

A powerful metric – Unlike metrics like discounted cash flow method and so on, P/E is relatively a simple and at the same time, a powerful metric from a retail investor perspective. Though the factors behind determining the ‘right’ P/E multiple are important, a historical perspective of a stock’s P/E could make this exercise less complex.

To conclude, valuation of stocks involves subjectivity. A person X may assign a higher P/E multiple to the stock as compared to a person Y depending on the risk profile and growth expectations. In the end, it all boils down to how the company is likely to perform.

It is not that stock market is always right when it comes to valuing a stock! As Mr. Benjamin Graham puts it "in the short term, the market is a 'voting' machine whereon countless individuals register choices that are product partly of reason and partly of emotion. However, in the long-term, the market is a 'weighing' machine on which the value of each issue (business) is recorded by an exact and impersonal mechanism". Watch the earnings!