Archive for 2007

Info Edge May Issue 500 cr. FCCBs

1 Comment » Written on December 25th, 2007 by
Categories: InfoEdge, Stocks
Info Edge, the owner of Naukri.com and Jeevansathi.com is looking to issue upto Rs. 500 cr. worth of FCCBs for a new portal, Shiksha.com, and for further acquisitions.

I have been fairly negative on the stock in the past but it looks like the market has decided I am stupid. The share has zoomed from Rs. 320 offered in the IPO to a high of Rs. 1600 recently, from which it has retraced to around Rs. 1400 now. Even with less than 10 cr. worth of shares trading daily on the NSE, it's in the F&O segment now, no mean achievement. So this share, like GBN and GMR, is one of the shares I cannot understand but will wholeheartedly admit that I have been proved wrong.

So what's the new announcement all about? Firstly, that the company intends to issue fresh shares (which is what FCCBs will amount to) partly to finance a new portal, shiksha.com and to build a new office in Noida, and of course for some acquisitions. Very nice, but that is nearly what they said with the IPO last year and guess what, they haven't used any of the 170 cr. Other than, perhaps, a $500,000 (2 cr. Rs.) investment in an education company called Study Places, Inc.

That investment might result in a bigger shiksha.com - an education portal. This is an interesting space and depending on how the company approaches it there is a huge value waiting to be tapped. But a pure listing portal may not be of much use especially if there is no transaction capability (i.e. I cannot apply online or buy a short term course etc.) Let's wait and see how this pans out.

A new office - the budget in their IPO report was 30 cr. which has now become 60cr. I guess real estate has gone up in cost, but still this money doesn't use up even the IPO proceeds.

Now in their annual report they have around 215 cr. in cash or debt funds. That, plus the new 500 cr. is going to be used for acquisitions and stuff. Plus, they have the right to take further debt on, uptil another 500 cr. and then invest a FURTHER 300 cr. above their reserves if required. I can't work it out off hand but this results in total accessible funds of more than 1000 cr.!

All I can say is that they should use this money wisely, not put it into a bank account to get FD level interest.

But do I like the company? I admire the company for being one of the few real players in the fledgling internet space in India, and I think there is a huge scope for more such companies. I also think the level of FII interest in this company is very high because it's the only real listed player in the space, and very few shares are available. A large number of shares are "locked" as promoter shares, for one to three years since the IPO in Oct last year.

Another thing I like is their effort to provide information to all investors, through their corporate web site. This will attract more foreign investors, surely.

Now what are my thoughts?

  • For the half year ended Sep 2007, turnover was 110 cr. and profits, 27 cr. Of which, 11 cr. were "other income". So 40% of their profit was "other income" - income resulting from the 215 cr. in cash that they own.
  • There's some note in their annual report regarding stock option expensing. The auditors say: In respect of options vesting during the year under the intrinsic value method, had the fair value method been used, the profit for the year would be lower by Rs 35,706 Thousand (Previous Year Rs. 1809 Thousand) and the EPS would be Rs. 9.82 (Previous Year Rs. 6.00). This is a 10% lower profit if accounting terms were different.
  • The projected EPS for the year is around Rs. 20. At current prices, the P/E is 70. Now they've grown at 100% (with help from the "other income" of course) so the P/E may be sustainable, but remember that once they get another 500 cr. their other income will straightaway increase to around 70 cr. (greater than this year's projected profits!) and EPS will skyrocket (because they don't need to consider FCCB dilution until it is "in-the-money")
  • They may become the next google, acquiring their way to glory. I personally don't believe the Indian internet space has the breadth required, but then I have been wrong in the past.
  • This is perhaps the best time to issue FCCBs. Given that their stock is way overvalued, they can get the best return for their money.
  • I think there will be a downturn in the US, in the next year. This will result in much lower hiring and a serious downturn for the "recruitment consultancy" business, a sector that I am sure accounts for a very large percentage of Naukri's revenues. Secondly, with real estate slowing down and the marriage portals losing their sheen, revenues from their other portals will show lower growth.
So is this stock an investment I would skip? For fundamental reasons, yes, and even technically the stock is below its near term moving averages. Yet, I have a feeling the market will prove me wrong again and push this stock to stratospheric highs. I feel the need for caution, but also the need to tell you one thing: The stock has steady news flow, it has a lot of FII support and is an easily manipulated stock (low volumes, low floating stock). Plus, the near term (6 months to 1 year) results will sound spectacular if you consider the cash flow from investment (which will reach above 70 cr. if they get FCCBs worth 500 cr. and sit on it for a year).

The point is: there may be a higher rise for this stock, purely based on momentum and exuberance. Either you participate and make the best of it - and remember to respect your stop loss - or you stay away from this stock altogether. No middle ground.

Disclosure: No positions on the stock.

Posted in InfoEdge, Stocks

Should You Buy On A Bonus/Split Announcement?

2 comments Written on December 24th, 2007 by
Categories: Moneyoga, Stocks

At the Moneyoga blog, Kaushik has a post on a strategy: Buying Bonus/Split stocks, Profitable?

The strategy is simple: When stocks announce a bonus or a split, the popular belief is that you should buy these stocks, because they will increase post bonus/split. We test this belief by running a check through all such announcements in the past, and checking prices against, say, the Nifty through the same period. The results are here:

What does this mean?

  • Buying a stock on a bonus/split announcement is NOT as profitable as it seems. In fact it barely matches the Index gain in the same period, with a far larger "drawdown" - meaning that at some point in the middle you would have lost more than if you had invested in the Nifty.
  • The only way to really profit, with perhaps a small advantage to the Nifty is to buy large cap stocks on a bonus/split announcement and hold for a year. Buying smaller caps and holding on for shorter periods seems to have more risk than return!
  • You will hear a lot of exceptions. Stocks like JP Associates, Jai Corp, GMR etc. have done amazingly since their split or bonus announcements but it isn't quite the case if you consider the universe of all stocks.
  • Meaning, you hear about the good ones, but nobody cares to talk about the bad ones. So you get a skewed view. This is common in the stock market, where there are more stocks than you can track in your head. So you have to use technology to VERIFY a thought process - and this kind of research does exactly that.
  • It may seem like - big deal, what are these Moneyoga guys doing? Telling me what DOESN'T work. That is of no use, why don't they tell me what DOES work? We will, but in the process we have to eliminate what doesn't, and to test popular beliefs and see if they are indeed correct.
  • Look also at Sunil's post on the popular belief that FII's sell in December. Another myth, perpetrated by the "feeling" that FIIs need to book profits in December as they close accounts for the calendar year, has been debunked. (In fact I met Sunil in Mumbai recently; indeed a pleasure and an honour
    )
  • So don't believe in popular sayings - test them thoroughly. You may see different results.
  • Does it now mean that you should SHORT-SELL a bonus-split stock post announcement? That is an interesting thought, let us check that as well.

Posted in Moneyoga, Stocks

New Products In Derivatives

No Comments » Written on December 22nd, 2007 by
Categories: Commentary
SEBI has produced a draft proposal for some new products in the derivative markets that it wants to allow. These are extremely interesting and will give people like you and me the ability to make more informed choices.

Mini Contracts: Each Index trades in a lot size which brings the contract amount to about 2 lakhs apiece. This may be too much for the common man, so the concept of "mini" contracts, or contracts that are fractions of the contract size of a full derivative. SEBI hasn't specified the fraction but have said that minis will only be considered for Nifty and Sensex F&O. Current Nifty lot size is 50, so a mini contract may be 10 or 5, which means we will be able to reduce our exposure to 25K to 50K.

Longer tenure contracts: You can only buy futures for one, two and three months at this time. SEBI proposes to allow contracts of longer tenure, even years. I'm not sure how this will fly because even the current contracts are illiquid, but I must say that such products should be allowed - if you don't allow them, how will they ever show liquidity? Plus, this is a huge income opportunity for people who want to do long term covered calls or arbitrage.

VIX, Currency futures and a Bond Index: The idea of creating indices that are available abroad, and that allow people to get into new products.

Options on futures: SEBI wants to introduce options on things like interest rates, energy etc. where the underlying is a future rather than a stock. Very interesting. I will be able to talk more about this once more details are in place.

Strategies: Extremely interesting idea here. The idea is to create an index that tracks a "strategy" instead of a stock. Something we really like at Moneyoga. I like the examples SEBI has mentioned and will look forward to seeing more details - especially that you can use futures and options on such strategies. Watch this space.

Posted in Commentary

Short Selling Stocks Will Soon Be Allowed

No Comments » Written on December 22nd, 2007 by
Categories: Commentary, Stocks
SEBI has decided to allow institutions to short-sell. Meaning they can sell before the own the shares, by "borrowing" shares from the market. How does this impact us?

Short selling has been derided all through history, and even the big traders like Jesse Livermore got a bad name in the early 1900s because of it. Yet, short sellers are the stabilizers in the market - if the market drops dramatically you need the short sellers because they will buy and book profits and thus keep the market from going too far down.

So how can you short sell? You borrow shares from someone, paying them a small premium for the period that you borrow. Then you short sell the shares, and keep the position open. (Currently, retail investors are allowed to short sell, but only on an intra-day basis, meaning they can't keep the short position open beyond a day). At some point you can decide to square off, and buy the shares at the current price, and return the shares to the one you borrowed from.

If the lender decides that he wants the custody of the shares, at any time for any reason, he can demand it back from the short seller, who has to provide them by buying from the market. So if you short sell, you can get a demand for your share and you have to make good on the request immediately.

SEBI proposes that both retail and institutional investors will be allowed to short sell. They are approaching it half heartedly though, only stocks in F&O will be short-sellable. That is not of too much use, you can already short sell futures. But this is a good offsetting mechanism, and is very useful for arbitrage funds, since they can now make money even in a bear market. (when futures are priced lower than the spot market, they can buy a future and short sell the stock)

You can make money too by lending your shares to the short sellers. We'll have to see how this mechanism pans out but it could help with some income on your long term picks as well.

Is this new? Of course not, there was a system called ALBM till 2001, which was scrapped after the Ketan Parekh scam. But this time the regulator looks like they have their act together in a better way.

Watch this space and SEBI for more action. No timelines are announced yet and it could take till mid-2008 before things actually happen.

I've been travelling so I apologise for not posting much. I am moving to Mumbai in Jan and am in Delhi currently, so it's been a whirlwind month. What's interesting is that the market has moved to my advantage and since I left for the trip I have actually made some money on the short position I had, and I will probably hold to expiry. Happy holidays, by the way!

Posted in Commentary, Stocks

Fed cuts rates by 25 bps

4 comments Written on December 11th, 2007 by
Categories: Commentary
The US Fed has cut the fed funds rate by 0.25% and the discount rate by the same amount. This has been taken to mean larger inflows to India but I think the move was expected and may actually be a disappointment with expectation for 0.5% being higher.

The Indian market is making all time highs. This is quite the opposite of Aug-Sep, when the fed did MORE than expected, and our market was not moving at all. Will this trigger a breakout? I would imagine so - and it could be on the upside or the downside, but if it goes up now, please note the volumes - they should be increasing dramatically, or we don't have the real deal.

And I'd wait out the week, before taking action, instead of working on sentiment tomorrow. I'm still short the market, because again, the odds are better if the market moves down, though in the next two days if we don't see a downside it may be time for me to cover the losses. Very interesting times indeed.

Posted in Commentary

What’s with the volume?

2 comments Written on December 10th, 2007 by
Categories: Commentary
Why is the volume in the NSE so terribly low today? As the Nifty stayed flat, the NSE Cash market showed volumes of about 16,500 cr. and F&O of 47,000 cr. - both showing dramatic decreases from the averages of the previous few weeks.

What is worrying also is a decrease in volume in the futures markets accompanied by an increase in price. Always a short term risk there.

This seems to be a universal theme with large cap stocks though there is a lot of interest in smaller cap stocks (and worse, in stocks whose absolute prices are less than Rs. 500).

This points to a higher density of retail investors, at least to me. Logically, we should be getting lesser FII participation because of the subprime issues in the US and the PN concepts, The domestic institutions like mutual funds haven't really bought a lot - though they're flush with cash - in fact, they've bought less than the FIIs, and haven't really done much - less than a 2000 cr. net buys in December. So who's buying?

There's action in select midcaps and small caps. Stocks like MRPL, Essar Oil, Escorts etc. are booming, and so is the whole smallcap index.

I'm net short the market right now. That's not because I'm bearish - I just think that if the market goes down, it'll go down big and if it goes up it won't go up much. But the data is contradictory in a way - the only way to confirm this is to have a few big down days on *increasing* volume.

The fact is: The market is the ultimate authority. If the prices don't go down, despite volume reduction, then there can only be one conclusion - everyone is waiting for the big dip. And if that is so, the best thing to be doing is buying the index. Right now it's not time to act - it's best to see where the next few weeks take us and then take action. Remember, don't predict, react.

Trading updates: this short trade will be my last trade. After this I will either put my money on the index or in money market funds. I have to concentrate more on Moneyoga and will not have the time to track the market closely; eventually when we build the systems I might think of a small bit here and there, but for now the trading portfolio is shut and sealed. I didn't make a hell of a lot - about 18% in two months, but there were a lot of learnings. The big takeaway - don't let your emotions screw you out of the trade.

Note that the fed is probably going to cut rates by 0.25% tomorrow. It will only exacerbate the subprime problem, in light of recent events (which is essentially giving a few borrowers the ability to stretch their "interest only" rates to five years more) - the idea being, if rates come down, the higher fixed rates of interest given to borrowers in 2005 and 2006 will prompt them to default anyhow. The fed reducing rates will not bring capital to India this time - I don't understand how the fed rate should affect Indian equity - if anythign, it should give US equities a boost, perhaps even at the cost of India. The next few days will be very interesting!

Posted in Commentary

Real Estate in India – Not Quite The Same As The U.S.

10 comments Written on December 4th, 2007 by
Categories: RealEstate
Very good comment by Bhaskar, to my last post:
RM by definition is a floating rate loan. However, Hybrid ARMs are common products in the US and is the significant source of the problem.

5/1 ARM - Fixed for the first 5 years and floating rate adjusted once every year after that.

2/28 ARM - Fixed for the first 2 years and floating rate adjusted once every year after that.

The US banks entice customers with a significantly low fixed interest rate that grows to a much higher floating rate when the fixed term resets. There are "caps" specified in the contract that limit the increases at the end of fixed term (for ex. 3%) and every year after that (for ex. 1%).

The Hybrid ARM products were well received since the customer believed he could just refinance into another hybrid ARM at the end of the fixed term. It worked for the past 8 years or so, when the RE prices continued to increase. Now, with RE prices falling, it is another story.

Additionally, the use of Home Equity Lince of Credit (HELOC) (essentially a credit card with the additional home equity as collateral) is rampant. The interest rates for HELOC are 7.5% compared to 14% for credit cards. (Source: bankrate.com). HELOC has been funding the customer spending in the past few years.

In India, Hybrid ARMs are not common. Fixed rate loans are revised periodically, but they do not come with initial teaser rates. HELOCs are not used commonly, though similar products are available. This is the significant difference, which allows users to hold substantial equity in their house. Also, the savings rate of a household in the US is almost 0% compared to 40% or so in India.

(Click here for Graph)
If someone did publish the graph for India, I bet it will be very different.

What you say is very interesting, thanks! I agree - we don't have teasers in India or hybrid ARMs. There are equivalents but yes, our system is different. The problems in the US can perhaps be attributed to teasers or hybrid ARMs, but the underlying issue was that a price decline was simply not accounted for. And in a way, neither have we.

I think the problem in India is perhaps different - and not fuelled by lower equity ownership of houses like in the US. The problem in the US is unfettered securitised lending, which is affected by the high foreclosures, which in turn is affected by lower owned equity. In India, it is really a reversal of the real estate market and therefore an effect to the fortunes of those closely associated with it.

The problem could start from the fact that the foreclosure system is very weak and slow. Banks therefore may try to hike or "margin-collect" earlier, and RBI may tighten definitions of NPAs here. Renegotiations are more difficult and less organised.

And it's not really the first time homeowners that are affected - since they will try to keep their houses. A rabidly large set of people, even those without the capability to do so, have bought multiple properties on margin financing. Because they could.

The other, and perhaps bigger problem is properties bought during construction - a large part of new sales. These involve even lesser margin (just a lakh or so upfront for a 50 lakh property, and then payments on a month/bi-monthly basis). A very large part of these were sold to speculators, and those that could leverage on bank loans, and of course, with prices going up, no one cared.

So technically I could buy a 40 lakh house, get 90% financing (in 2005), and need to put down only 4 lakhs. But not even that much - if the house was under construction over say 20 months, the builder expects me to pay say Rs. 4 lakhs every second month. Of that I put in only 40 grand - the banks fund the rest.

For 20 grand a month - 40K every two - I get a 40 lakh house, plus I only need to pay "interest" to banks until the house is complete. Meaning, I would pay say 8% on only that part of hte loan which is paid out - which as you can see is next to NOTHING.

With 20 lakhs in cash I could easily buy 10 houses and survive a few months (planning of course to roll over one house every couple months till I profit enough to keep the rest) For this prices should only go up - and for a long time, they only went up.

With prices actually coming down, such guys are hosed. They expected to roll over and get some profits to pay the next slab on the remaining houses, and now they don't have that leverage. So they don't pay the builder.

The builders are therefore slowing down the apartment construction, because they don't have the cash they planned to get on each slab.

With construction slowing, others who bought are paying bank interest for no reason, without the tax benefits either - they eventually get ticked off and could decide to liquidate and buy a ready house instead. That lowers prices more, and so on. Banks can't foreclose - they don't even have the property ready yet - and they're now facing increasing NPA pressure that they can't do much about.

Demand for ready houses increases temporarily but slows down as people realise how the underfunded developers have cut corners to provide possession - and the market prices of those houses stay low (until someone goes in, fixes the place and then resells - a long cycle)

At some point, prices spiral downwards. Pressures can seem to come from cement prices, or some RBI regulation or something external, but it was the build-up that was designed to crumble - and it will.

The cycle has happened at least twice in my lifetime in Bangalore, and I'm sure it will happen again. This time, the situation looks grim because the volume is so much higher, but at this point I'm not unduly worried because it could still be an urban and local phenomenon as high quality construction has not really picked up in the smaller towns.

Note: I have no links because a) I'm lazy and b) there isn't an organised source. I'll try to collect some. I'm talking about what I see, hear and read, a consolidation of sorts. If you have links, please post them in the comments. I deeply appreciate them!

Posted in RealEstate

More Subprime – CDO Insurers Downgrade, Bad Doc Trails and The India Impact

9 comments Written on December 2nd, 2007 by
Categories: Subprime
I wrote a long while ago about the Subprime problem in the US, and then followed it up with a few posts on the topic.

Let's see what's happened since my first post.

After the last crisis, things were kinda ok and recovering, until in late Oct and early November, loss reports started to come in. Countrywide reported a $1.2 billion loss, Merrill Lynch took with a $8 billion write down, and Citi had to match it with a $8-11 billion dollar writedown.

After the losses came a revelation of complexity. (Revelation to me, as you understand I am a newbie at this stuff) Turns out these CDOs, which are essentially securities created out of a lot of loans, are rated as tranches - AAA (huge-ass prime), AA (prime), A (prime but just about losing it), BBB (sub-prime) etc. People buy either all tranches or only some etc.

Now if something is rated BBB, why the heck would anyone buy it? Higher rates of course. But some funds weren't allowed to buy BBB. So what happened? These CDO creators got in what are called 'monolines'. These are essentially companies that provide insurance on municipal bonds - idea being if the municipality defaults they pay you instead, and charge you a premium for the exercise. If the municipality does not default they keep their premium. You bought what is called a Credit Default Swap (CDS)on the CDO which is a hi-funda name for "insurance". Now monolines like Ambac, MBIA etc. are hugely capitalised and have the ability to cover the bonds they insure, so they have always got an AAA rating.

So the CDO creators got the monolines to provide insurance for the CDOs, and the monolines greedily did it for all tranches of the CDO. The premium was exciting, but they didn't charge too much - heck, who knew the sub prime problem was around the corner?

If you bought insurance from an AAA entity, you could say you have an AAA security, right? So now you can have a BBB tranche of a CDO, paying a fairly kick ass return (you hope) and that is insured by an AAA monoline. Life could not get any better (in terms of three alphabet ownership at least).

Recently someone at the rating agencies woke up and realised that if these Subprime CDOs fail - and as it seems, even the prime CDOs are going down the drain - these insurers will be exposed to an ENORMOUS amount of liability. That may mean that the monolines are not capitalised enough, which is a signal to re-rate them to say AA or something.

This is treacherous. If the monolines get re-rated downwards, some funds will HAVE to sell the CDOs they hold, since they are mandated to hold only AAA paper. Not just CDOs, but also bond-insurance holders who held sub-prime municipality bonds. (yes, municipalities do go bankrupt in the US, unlike India where they are always bankrupt anyway) The muni-bond market is greater a couple trillion, and the monolines are the major insurers, so a de-rate of the monolines is bound to cripple the bond market - the selling will likely be intense.

If the muni-bond market gets hit badly, holdings on the equity side and maybe the corp-bond side may be ruined and the entire financial sector is hit once more. This time it could be worse than the last bash-up in November.

But why aren't they getting de-rated yet? The rating agencies - firms like Moodys, Fitch and S&P - have a very close relationship with the CDO issuers and insurers. So there will be some under-the-table bailing out (effectively only these guys pay the rating agencies). Now if they do this longer, no one will believe Moodys or Fitch ratings anymore no? Uhm, someone figured that out already - the rating company stocks are down nearly 40% since Jan this year.

Also, there may be capital rescue attempts, like when CIFG's parent company offered it a $1.5 billion of extra capital to ward off a re-rating. My take on that is - $1.5 billion is nice, but it's like dropping a grain of salt in water. You can see it drop and in a few seconds it's gone, and the water doesn't taste a whole lot different either. We need LOTS of the salt.

What's also interesting is: some monolines like ACA have threatened to declare bankruptcy if they are de-rated. What does that mean? Bankruptcy = I don't need to pay my liabilities (or not all of them), so the guys who bought my insurance essentially get less or even zero - meaning, they have no insurance. If that happens, a good part of the CDO portfolio that was assumed to be 'covered' by insurance suddenly takes the hit - and I can't say for sure, but if the equity tranches of the CDOs of these banks have taken multi-billion dollar losses, who knows how much they own that they consider "insured and therefore safe".

What is also troubling is that in the rush to close loans since the 2005 times, people didn't quite do the documentation right and now some foreclosures are getting thrown out the door for not having correct paperwork in place. The cost to do that will have to be borne by the banks, and that is another huge-ass loss. And they've already paid the bonuses, unfortunately. Those who haven't, say they will continue to - because they are afraid to lose people. (No, I don't get it either, but you have to understand that losing most of your staff is a short term nightmare, and no one in this business thinks long term when it comes to bonuses at least) Any Indian company that has outsourced or provided BPO services on such terms is most likely going to get screwed - as the banks are going to say that they messed it up and that the function will have to happen in-house. Why? Because maintaining and managing the doc trail requires a lot of work, training, local contacts and domain knowledge etc. and there are going to be a lot of such professionals in the US who need work (and do it faster as they understand it better)

Let's get to India now, finally. Why do we care? Global liquidity is one of course, and the fact remains that because we don't have loan securitisation (or "factoring") anymore, we don't have the intensity of the problem internally. But we have something, definitely - US home prices started to decline in 2005 - I have personally seen Bangalore real estate prices coming down in 2007. In two years, we are going to see some shake ups if the trend continues - and what will happen then?

Too much supply, too little demand. The market value of a house can become less than the loan outstanding. This can trigger margin calls ("pay up the difference"). High interest rates, and slowing global economy. In India, we can't just walk off with a "foreclosure" and the process takes time, and banks can't securitise and pass off the risks. So the banks will have to take the hit, and perhaps that will drastically reduce their ability to give out more loans, meaning further income losses as well. Where they do foreclose, they will auction and the resulting sales will bring market prices even lower, and there is no organised real estate fund or player to do the buying. (heck, you can't even short right now)

That could lead to further problems with real estate sales, and in turn with higher discretionary spending (as people struggle to pay off mortgages, they cut down on buying high end cars etc.). The overall market decline will take years to undo as it has to run through the cycle.

Note: I am not predicting this will happen. I'm just saying that the problem could progress in this manner. Yes, we could reduce interest rates dramatically - something our RBI will surely do in a crisis. But it may be too little too late - as the RBI already seems to be complaining about too much bad lending. Sticky wickets.

I'm not buying a house right now, for sure. But then, I can't afford to anyway, so call it sour grapes :).

Posted in Subprime

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