Sudip Bandyopadhyay’s Blog

Last week’s  coordinated terrorist attacks on India’s financial capital have resonated far beyond Mumbai.  The assault on two landmark five-star hotels and the targeting of foreigners ,mark  out these latest atrocities from the many other attacks that India has borne with resilience in recent years.  As it is likely that there will hardly be a Fortune 500 chief executive who has not lately stayed  in the Oberoi or the Taj Mahal, the impact of  this attack will be felt in boardrooms around the world.Unfortunately, terrorism has become a menace and a part of life in every global metropolis.  There will be an inevitable  short term effect on risk perceptions, but if this terrible event provokes the authorities into a proper security response, it could turn out to be the peak as far as impact of terrorism attacks  in India are concerned.   Incidents like this have short term psychological impact on the financial markets  but ultimately the long term dynamics  of an economy prevail. Confidence in Indian economic growth  potential would not be dented by these senseless killings.

The world economy is suffering from a Keynesian shortage of demand. Worse, it is trapped in a dangerous downward spiral of falling asset prices, rising bankruptcies, foreclosures and unemployment feeding into more of the same, along with falling commodity and now goods prices. Since no country is exempt, international co-ordination is needed and made easier because of the obvious common interest. The rapidity of the current contraction also means that fiscal solutions, though helpful, are not timely enough and create obvious free rider problems.  It is therefore time for unorthodox policy, A good example of this kind of unorthodox action is the Hong Kong Monetary Authority’s (HKMA) successful defence of the currency peg in the 1997-98 Asian crisis.  The HKMA intervened in the currency market, but more important were its purchases of Hong Kong equities, which speculators had sold short. These later made a net profit for the HKMA of US$14.1bn. The fact that many asset prices are far below fundamentals creates a parallel opportunity in the current global crisis.  Which assets should be included requires careful consideration. Buying commercial paper relieves short-term cash and credit problems for companies and has precedents in the UK and in the US. Buying  shares on the open market is more controversial. One can ask why central banks should benefit existing shareholders rather than inject cash directly, as ministries of finance have done, in the recent past.To avoid charges of favouritism, central banks may choose to buy index funds or individual securities in proportion to market capitalisation on transparent and organised security exchanges. This is also conservative since less cash will tend to go to securities that have fallen the most, and whose prospects look most risky to the market.  International co-ordination will avoid the policy being seen as a sign of weakness or panic at the individual country level, with costs to currencies and government bond markets.

The small but smart mouse usually outwits the large but dim cat in the endless game of chase between Tom and Jerry.  Occasionally, though, Tom’s energy and determination allow him to win, but the victories in the cartoons are usually only fleeting.  Tom rarely makes a long-term plan, and his reactive strategy allows Jerry to stay one step ahead.  The US government’s rescue of Citigroup is the latest bold intervention in the financial markets.  Wounded and bruised by the relentless slide in the value of the billions of dollars of debt on its balance sheet, the question is whether helping Citi is enough to stop the broader slide in asset values.  Is it another example of a Tom-like move that will have at best, a short-lived effect? Or is it a smarter, Jerry-like plan that could boost the confidence that has sapped away?

The Markets  once again witnessed  high volatility during the last week , with global cues becoming mildly positive post announcement of yet another stimulus package from the U.S. Fed and the bailout of CITIBank  resulting in slowing down of FII selling in domestic markets. Markets started the week on a promising note with the Fed supporting a massive $326 bn bailout package of CITIBank   which included a $20 bn cash infusion and Guarantees of another $306 bn over and above $25 bn recapitalisation assistance it had earlier received.  This was followed by another   $800 bn stimulus package for U.S. Economy by  U.S. Fed, which included funding to the tune of $600 bn for purchasing mortgage backed securities and around $200 bn for supporting consumer and small business loans taken by borrowers for Education, Automobiles and Credit Cards. Both the Fed moves perked up all Asian markets including ours and we had a firm start to the week.   Later on global macro news-flow from the U.S. markets  continued to show negative headwinds. The US Economy shrunk severely during the Q3 of 2008 with the GDP contracting by 0.5%, largely due to consumers cutting spending steeply. Consumer spending which fuels almost two thirds of the US GDP fell by 3.7% in Q3 which was the sharpest ever decline since the second quarter of 1980. In fact going ahead the U.S. Economy may falter further and according to the Fed the economy could witness a severe drop in GDP growth in Q4 leading to higher job cuts and increased re- structuring initiatives from  US corporates. During the week China also announced a 108 basis points cut in its Prime lending rate to 5.58% in a bid to maintain growth in the economy and is the second such initiative after its recently announced Yuan 4 trillion ($586 bn) stimulus package  in the first week of Nov 08.

In India, on the positive side both, domestic Inflation numbers and Crude prices continued to soften further during the last week. Inflation for the week ending Nov 15th 2008 slipped to 8.84% from 8.90% in the previous week. Meanwhile the Indian GDP growth numbers announced for Q2FY09 in line with expectations stood at 7.6% against  7.9% in Q1FY09 &  as compared to 9.3% on a YoY basis  .The ‘Service sector’ grew at 9.6% yoy, declining less than ‘Manufacturing sector’. Going forward with the government  estimating  7-7.5% GDP growth for FY09, there is a likelihood that growth may  slow down further in the third quarter and may improve therefrom  in the fourth quarter.

Significant  drop  in inflation for last three week makes a strong case for interest rates cuts from RBI.  Any such measure will be strongly positive for the markets. Infact Indian markets are expecting such a move from RBI for sometime now as growth stimulus is desperately needed to bring back momentum. Markets & investors are also drawing comfort from the fact that the Indian economic administration is proactively taking steps to facilitate recovery &  stimulate growth. Also ‘oversold’ status of the market makes a strong case for ‘recovery’ and with FII  selling slowing down, this appears to be more likely. Capital markets continues to  look very attractive for a long term value investor as many large cap blue chip stocks are available at significant discount to even their book values. No one can predict the exact  market bottom, but time seems to be ripe for long term investors to start value investing.