Archive for August, 2006

It seems I have something wrong in my criticism of Mark Mahorney's post. I'm not sure what the answer is, but I'm sure Mark will enlighten me soon enough - I don't claim to be any good at analytics or statistics, so I'm sure there's something I've screwed up in. Heck, I'm willing to learn.

But there's a clue! It's one of the items in bold. Shrinks the field. What do we have in bold?

FIIs account for only 25% of our market trades. Well, I must say this sounds significant. But it's not - they have ALWAYS accounted for around 25% of our trade, since the last six years or so (I have detailed data for three). The stock market went up only in the last two years. So they haven't gone significantly berserk in the cash markets, at least not more than the retail investors have. That means they haven't accounted in any greater amount for the increase in interest in the stock market - I would attribute retail increase to greater visibility through investment based TV channels, fund ads and magazines, and through a more spread out broker network (thanks to the 'Net trading getting popular from 2003). So what I meant there was: FIIs haven't accounted in total for India's stock market growth, as I thought Mark said; so my feeling is that if they turn their noses at us, we won't keel over and die.

But how, really, do FIIs affect us? Let's look at the possibilities:
1) FIIs exit the market: A complete exit would mean serious selling, and yes, that will pull the rug off under the market. But FIIs aren't stupid; at least not all of them are. The hedge funds may pull out - they account for around 10% of the FII money I have been told - because they want to hedge elsewhere; that's a downside that I believe the market will easily take in it's stride. The remaining FIIs will, at max, sell a part of their holding; they'll still retain interest because the fundamentals they invested in have not changed.
2) FIIs don't pump in more money: This happened all through June and July. The resulting volume drop dropped prices a little bit, with spikes or sharp drops in prices (because of dull, single point probing trades). But largely, the market remained rangebound; if it hit lows there would be a glut of buyers, and there wouldn't be much activity at the highs. If more money doesn't come in from the FII bazaar, there will still be retail money in the market - as the FIIs found to their disadvantage in July. The retail investors, figuring out that 9,000 was low enough, pumped in more money into mutual funds and direct stock buys, which triggered FII buying because heck, nobody wants to be left behind.

So in toto: I don't think that FIIs will change our market drastically. Hot money, aka Hedge Funds will leave perhaps; but their loss won't leave too many tears.

Around 48% of our stock market is from retail trade. True, and this is quite scary because the retail market is a domino bazaar. One panics and all of them fall - and the recent FII pull out seemed to signify exactly that. Remember, when most FIIs are saying they're "downgrading" India, it's time to buy. Because they're just manipulating the market so it will come down and *they* get to buy. (If I were an FII pulling out, I'd shut the **** up and take the money off the highs. I'd create a scene only if there was something in it for me, meaning "buy")

So, 48% being retail is bad? Uhm...it's always been that way. Even MORE than 48%. Through the ups, downs, sideways, whatever - India has always been ruled by the retail and Indian institutional trade. So the fact that 48% is retail means little; for very little has changed in that statistic. That explains why the market goes down with panic; and you will also understand that the bubble hadn't yet started when I made that post. Today's a different story, I will come to that later.

Also Most of the retail trade is from day-trading. This is interesting - since retailers can short-sell (FIIs cannot, neither can institutions) day traders can make money either way. So day traders don't mind a bearish market either, which is a significant negative - they won't "up" the market as it goes down!

I'd also said people are still investing simply because the corporate growth is still strong. I can't find that a problem, but yes, a global slowdown will mean slower growth and therefore lower forward P/Es. Yes, that means there will be a revaluation of the high P/E stocks (I pretty much said that as well).

And that means there will still be stocks that beat the index because of their undervaluation even in today's market. But think before you buy! For instance, would you buy a motor vehicle stock like Maruti now? It has a P/E of around 16, and has done very well in the last quarter (0606). But car loans are up with interest rates, at around 13.5%. Plus, petrol has gone up, and their diesel variants are not seeing the light of day till Jan 07. Not worth it, in my opinion!

Well, I don't know what's wrong with my post, but it'll probably be a statistic that's proved to be the undoing in the past. There's one thing though: India's a very different market, like some of them FIIs have found out; and it's suicide to ignore that if you're investing here.

Coming back to the markets: They've gone to 11,500 (Sensex) today. That's a near 7% increase from August 8, the date of my earlier post. Whoops. That looks like a bubble! The specific stock I mentioned - Balaji Telefilms - is upto Rs. 133 - a 15% increase in 10 trading sessions. That's crazy! Yet, the stock seems fairly valued at a forward P/E of around 12, but still 15% in 10 sessions means there's a build up that could mean a short term fall.

My overall suggestion: Hold. The market looks like it will fall very soon, to around 10,000 again. (My prediction is that we'll have a further 5% upside from here on momentum, and then psssssssstt. I don't like momentum predictions on a per-stock basis) So pick up good stocks again as they get undervalued.

My recommendation for Balaji Telefilms is to stay invested and buy on drops (below Rs. 125).

And I'll post more when I find out what Mark has to say.

Note: I started off with a "sell" call, but have since realised that short term falls and gains are fairly irrelevant to the longer term investor. So hold until the fundamentals show signs of reversing; otherwise this is still a good market to invest, FIIs or no FIIs.

Mark Mahorney writes about the BSE bubble. His feeling is:
1. Nothing justifies a massive upmove in the Sensex (200% in three years).
2. American investors have caused the Sensex to move as much as it has.
3. These investors will get jittery and reduce allocation to India and boo hoo, our markets will cry and fall down.

I think Mr. Mahorney vastly overrates the "foreign hand" in the Indian Stock Markets. Today, the FIIs control little of the markets - most of the investing and trading comes from the retail investor.Yes, you heard that right - the retail investor, the guys like you and me hold the strings to the Indian Stock Markets.

What? You're joking, right?

Er...no. If you take the bhavcopy (Trading statistics) of August 7, 2006 (NSE + BSE), it turns out that FII's traded about Rs. 1,800 crores worth of shares. The total trading was over Rs. 7,000 crores. So, FIIs account for only 25% of our market trades. And this is consistent through the ups and downs of the last three years.

But, you think, this is significant, isn't it? Well, look at it this way. Banks, Mutual Funds and DFIs (Domestic Financial Institutions) account for only Rs. 1,000 crores per day. Of the rest, nearly Rs. 1,000 crores a day comes through broker's proprietary accounts. What's remaining is the retail trades - Rs. 3,200 crores. Around 48% of our stock market is from retail trade.

Yeah, every once in a while the TV channels tout FII statistics and say that “foreign investors have exited” etc. But the vast majority of investors are Indian - Retail, Institutional and Corporate - so the FII exit only causes a short term panic blip on the markets. FIIs do affect sentiment, and any market with 48% retail participation will get swayed by sentiment. That would explain the 20% drop from the highs of April 2006. But people are still investing - simply because the corporate growth is still strong.

Markets are inching up when the smarter folks figured out, from our First Quarter results of 2006-07, that the corporate growth is still pretty darn good. BSE trades at a 15 PE on its primary index; and growth is at 28% y-o-y. Overpriced? Uhmm....no.

My prediction is that the markets will go up 10% in this calender year, and nearly 25% one year from now. The “bubble” is in individual stocks - real estate, cement etc. - which will crash (or have, like in steel). Across the board though, companies seem to be walking the talk.

I feel there's upside - not on the whole Sensex or Nifty, but in selective stocks. For instance, Balaji Telefilms has done astoundingly well in the last quarter and has good visible revenue. It's grown at around 30% and seems to have attracted more viewers for its tear jerker soaps and TV shows. Further, it holds a LOT of cash - nearly 185 crores, which is Rs. 28 per share. And it currently quotes at Rs. 118, a past P/E of 13 (at Earnings of Rs. 9 per share). For this kind of growth, at the same P/E, the share seems to have a good 20%-40% more in the next year. Note: I have held this stock for a while since the Rs. 83 levels.

So there's value in individual stocks, but perhaps not so much in the market as a whole. Why? Some sectors are severely overvalued - like FMCG, Cement, real estate, infrastructure etc. Pick and choose among the rest. So buy, but buy selectively.

There are lots of new Initial Public Offers (IPOs) that have failed in the market such as:

Company	Issue Price	Current Price
Jet Airways	1,100	509
GVK Infrastructure	310	144
Deccan Aviation	148	75

All IPOs must file their offer documents earlier with the NSE and BSE and you can download them online. If you read some of the offer documents you will be in a better position to evaluate an IPO for investment.

So what are the things you should look for in an IPO offer document?

1. P/E: Absolute and Relative
The Price to Earnings ration (P/E) is very important to understand. It's the price of the share (the value at which you buy it) divided by the Earnings Per Share (EPS). EPS, in turn, is the NET PROFIT of the company divided by the total shares of the company.

But P/E is important to consider AFTER the issue: I.E. don't consider the no. of shares given in the offer document in the results - those are usually the "past" number of shares. For example, GMR recently has gone for an IPO for 3.3 crore shares, but it's past results show the shareholding as 30 crore shares. After the IPO, the total number of shares is 33 crore, not 30 crore! So the EPS is their net profit divided by 33 cr. (not 30).

If you have enough data (provided in the offer document) calculate the "forward PE" also - that is, use future earnings for the EPS calculation. This is a better indication, because the IPO money will be used to earn more money back!

You must consider the forward P/E alongside the company's peers - i.e. other companies in the same segment. For instance when TCS went for an IPO, the P/E at the higher price band was 20 or so, cheaper than Infosys at that time which was getting a forward P/E of 23.

What are they doing with the money Most IPOs get money for the company, and the company may use it for a number of things like: a) acquisitions (eg. Opto Circuits) b) setting up new facilities or increasing capacity (eg. Reliance Petroleum) c) Cancelling high-cost debt (eg. part of GVK, GMR)

This usually involves the company issuing fresh shares for the money received.

Some IPOs involve the existing owners selling. For instance part of the TCS IPO was share sales by Tata Sons and big shareholders. Most of the ONGC, GAIL and IPCL IPOs were selling shares owned by the government. If this is the case, the company gets no money. So give such companies a lower P/E multiple (in TCS's case, it had to be lower than the PE of it's competitor, Infosys)

3. What are the risks?
Carefully assess the risks involved and the probability of downside. In Air Deccan's case, the cost of fuel will severely hit earnings. In GMR's case, there is a chance of the government spoiling the party, and higher interest rates. Each IPO comes with risks that the business will not continue to do well, and the offer document has to necessarily list these risks. Look at them carefully.

4. Promoter background
Many promoters are involved in court cases for fraud and income tax evasion. The offer document will list these cases. Further if the promoter or any director has ever been involved with a company that has gone bust or is under BIFR, these will be listed. Don't recklessly invest in an IPO without understanding the background of the promoters; they are after all the ones taking your money!

5. Company litigation
If the company has cases against it, the offer document will list them. Please take good note of these, especially in cases of minority shareholder problems. For instance the upcoming DLF issue is dangerous because DLF was earlier listed and withdrawn from the stock exchanges; since then the company has grown but the minority shareholders have not been given an opportunity to participate in the growth! Such actions are very negative for a new investor - you have very little leeway as a minority shareholder, and you must be satisfied that the company treats them with respect.

Apart from these points, you can look at reviews with various online and paper magazines, and see general opinion on web sites. Largely, the onus of finding out these problems are on you; after all, it is your money. Some investors become cry-babies afterwards saying they didn't know the company was in bad shape etc. when the risks were clearly laid out in the offer documents. It is imperative that we, as investors, know what we are putting our money into - after all, do we even buy vegetables without checking them out first?