Category: Opinion

There is a huge outcry and angst against the $700 billion bail-out plan by Messrs Paulson and Bernanke. The public is angered that they will have to foot the bill in form of taxes. And the cost of the bailout is almost as much as the Iraq war.

This anger is understandable, but there doesn’t seem to be any other way out of the current financial mess. The bailout is not just for AIG, Goldman, Fannie or Wall Street dark suits, it is, for all of us. This is a time when something needs to be done about the current financial mess and only the US Government has the necessary resources to do it.

First, let’s look at why the government is doing this at all?

Why should you bailout someone at a cost so high?

Treasury bills (T-Bills) are backed by Governments and the United States T-Bills are considered to be the safest investment in the world. Naturally the rate of interest on this is also the lowest because of the low risk, low return, principle.

For a brief period the yield on these went down to 0%, last week. That means that people were ready to invest in them even if they were getting no returns at all. Just, that their money was safe.

It is a dire situation. When was the last time you kept your money under your pillow and not in your savings account because you thought the bank may go under and you may lose all your money?

Right now no major banks or financial institutions are willing to lend to anyone, they just can’t afford more bad debts. Gradually the whole financial system will choke and collapse under its own weight.

If AIG closes, it doesn’t go down alone, it takes with it the vendors, employees and to some extent even the customers who are associated with it. AIG shuts shop, their employees go out of job and stop spending money on stuff like pizza and clothes causing Pizza Hut and Macy’s to go down. It sets in motion, a downward spiral which would have been very hard to stop.

The unemployment rate is about 6% right now, it was around 25% during the last Great Depression. Left to the market forces, it will not be surprising if we saw it rise to 10% by the end of the first or second quarter next year.

Someone had to step in, and that someone in this situation could only have been the Fed backed by the US Government.

So once they step in, what are they going to do?

What will they do with the $700 billion?

A fund will be created and financial institutions will sell their mortgages and other financial instruments to the government. This will give the financial institutions cash and help them do their every day business. Since their everyday business happens to be lending to people and other companies, this means that there will be more funds in the economy for investment and other activity.

The important thing to remember here is that because the government is buying assets from the financial institutions, this is not really a $700 billion bailout. It is quite likely that they will be able to sell these assets in a few years and at that time they will get cash for their sale. Those sales may not turn out to be $700 billion but it will not be 0 either. So in that sense it is not a $700 billion bailout.

It is a $700 billion cash injection in return for “toxic” assets but they are still assets.

Was this the only option they had? Why didn’t they do what Buffet did with Goldman Sachs?

Why doesn’t the Fed do what Warren Buffet did with Goldman Sachs?

Warren Buffet spent $5 billion to buy Goldman Sachs preferred stocks and got a 7% share in the company. That means that Warren Buffet will get an assured 10% rate of interest on his investment and will get an option to buy more stock of Goldman Sachs in the future at a price much lesser than the market price.

So why didn’t the government do the same thing? Buy the stock from the company, instead of their toxic assets?

Goldman Sachs get a $5 billion dollar cheque from Warren Buffet, but perhaps more importantly they get a vote of confidence from him. No man is more influential than him when it comes to giving a thumbs-up to a company’s finances. The original plan of Goldman Sachs was to get more funds after Buffet invested in them because their brand will get a boost and that is exactly what they did and did very succesfully.

On the other hand, if the Government were to invest money in any company using the “bail-out” fund, it will drive away all private investors. Instead of building confidence, that will shatter the confidence of investors in the company.

The other thing that Paulson and Bernanke cautioned Congress was that if the Government bought shares in such companies, then the government will get a say in how the company will be run. Politicians will be able to control many decisions of the company and that will drive how the company works.

This will definitely drive away other investors from investing in the company and even the US Govenment can’t infuse all the necessary funds to each ailing company in the economy.

Ultimately this would have led to a situation where, even after infusing all the capital, it would have gone waste.

There are definitely criticisms of this argument, but on the whole, I think this makes sense.

Will the plan work?

I think it will work. The plan gives a much needed infusion of cash in the market and creates conditions that will negate a deflationary recession. No one can do enough to avoid economic cycles, but a deflationary recession is much worse than an inflationary recession. This plan can steer us away from a deflationary recession and help the economy back on its feet, or at the very minimum stop it from falling on its face.

Manshu Verma

I came across a very interesting and perhaps unique example of an island which is fully self sufficient when it comes to its own electricity generation.

Samso is an island in Denmark with permanent population of only 4000 and an area of 40 square miles. The unique thing about this island is that they generate their own power by the use of windmills.

Almost all the power that is used by this island is generated through renewable sources. For example all the electricity is generated by the windmills that are located at the seas. Tractors are powered by rapeseed oil (canola oil) and homes are heated using boiling water that runs through all households and is heated by solar panels. On an island which sits on a freezing sea with short days and long nights, it is a wonder that the water is piping hot at any point in the day!

The economic angle to Samsa is that the shares in the wind turbines are sold to all the locals and the surplus is getting shared by the people of Samsa.

So, not only have they found a green way of running their town, they are making profit out this green adventure too.  In fact they are able to generate power surplus which they are selling off to the mainland also!

This small island is showing the way to the rest of the us in a world with oil prices soaring above 100 dollars.

You can read the wiki entry here: 

http://en.wikipedia.org/wiki/Samso

John McCain said today that if he comes to power he will fire the SEC chief Rox because the regulator has failed to perform his duty. This is a bid from the McCain camp to distance itself further away from the Bush administration and point out how many things that administration got wrong.

What is interesting is that not long ago, Nobel prize winner Joseph Stiglitz has also noted that regulators didn’t do their job well enough. He said that “key regulators like Alan Greenspan didn’t really believe in regulation; when the excesses of the financial system were noted, they called for self-regulation — an oxymoron”.

Stiglitz goes one step ahead and says that the goals of the CEO and the shareholders are not aligned and that is why they ended up doing a lot of things that ended up in hurting the long term finances of the company. When you consider that Lehman never even reported a quarterly loss after going public till early this year and then goes bankrupt suddenly, its just something that can’t be comprehended easily.

While both McCain and Stiglitz are recognizing a failure of regulation there are differences in the way they wish to approach the problem. McCain has always been a supporter of deregulation and favors not going after companies and increasing regulation. In fact just last week he said that the fundamentals of the US economy are still strong. A comment that drew much flak from a lot of quarters.

On the other hand Stiglitz proposes a creation of a “Financial Stability Commission” to take an overview of the entire financial system, more regulation to improve the safety of the financial system and more consumer protection laws.

Stiglitz has some very interesting ideas on how to avoid the next crisis and you can read them here:

http://www.cnn.com/2008/POLITICS/09/17/stiglitz.crisis/index.html

Scott Adams is the creator of the popular cartoon series Dilbert and he writes a very interesting blog. In fact that is the only one that I follow regularly. In fact on days when he doesn’t write, I feel disappointed.

He recently did a survey of economists to find out the views of economists, on who will be the best president for the economy – McCain or Obama. The results were published by him today on his own blog and you can go there and download the powerpoint which has got a whole lot of details about the results.

Link: http://www.dilbert.com/blog/

There is a lot of interesting information in there, let me point out to you what what I found most interesting:

• Overall 56% economists say that Obama will be better for the economy, 31% for McCain and  8% say there will be no difference
• According to the economists – Education, Health Care, International Trade, Energy and Encouraging Technology and Innovation are the top five issues for the economy. Mortgage housing crisis ranks 7.
• A lot of people had commented on Scott’s blog that the survey will show Obama, more popular with economists and it turned out to be true.
• Out of the economists who were surveyed, 48% are democrats, 17% Republicans and 27% Independents.

These were some things that I found interested, you should definitely check this out and see the details for yourself.

Manshu Verma

With Lehman and AIG on everyone’s mind the entire spotlight is on the US Financial market right now. In all of this gloom and doom stories surrounding US, the second largest economy in the world Japan has been completely forgotten by market pundits.

But the truth is that Japan’s economic situation is getting worse by the day and there is more bad news coming out from Japan this quarter.

The recent GDP numbers for the second quarter of 2008 suggest that the economy has contracted by 0.7% compared with last quarter and the other numbers do not look any good either.

• Private non-residential investment has contracted by 0.5% compared with the previous quarter
• Exports of goods and services are down 2.5% compared with previous quarter
• Private consumption has contracted by 0.5% compared with previous quarter

Exports and Private consumption have been two lynchpins of the Japanese economy and both are pushing each other in a downwards spiral right now.

The weak global markets have meant that the exports are weakening which is impacting sentiment of consumers at home and resulting in lesser private consumption. Those factors are impacting Japan in a very big manner right now. Coupled with its ageing population these systemic factors are plaguing its economy and it will take long term systemic reforms to get out of such a situation.

Short term measures are just not doing the trick, as evidenced by the failure of the recent stimulus package to perk up the economy.
There was a $110 bn stimulus package which failed to do much to boost the market sentiment (much like US?) and then there have been rate cuts that have failed to stimulate the economy either. These rates are very low right now and there is not much scope to reduce them any longer.

As long as there are no major negatives coming out of Japan (think Lehman) the world economy should be able to come out of this shock by early next year. However if things start going worse there as well, then we could be looking at a definite global recession.

Manshu Verma

In an interview with ABC’s This Week Alan Greenspan portrayed a very grim picture of the US Economy and said that this is “by far” the worst situation that he has seen in his career.

This comes on the eve of the 158 year old Lehman Brothers filing Chapter 11 bankruptcy. The firm had to go down, after it failed to find itself a buyer despite long negotiations. What is interesting is that most buyers walked away  after the US Treasury refused to provide any financial aid for Lehman, like it had done for Bear Sterns earlier.

When asked about his take on this Greenspan said “Rising speculation that Lehman Brothers Holdings Inc. may fail is generating less concern among investors than when Bear Stearns Cos. imploded in March.” He said that the conditions during the Bear Sterns bail-out were once in a “once in a half century, probably once in a century type of event.”

The housing market crash has created a downward spiral which has taken down a lot of financial giants and Greenspan expects that we may see one more major financial institution go down. His expectation is that the prices in the US housing market need to stabilize before the crisis can be over and this will happen around early next year.

In a nutshell according to Greenspan:

• How bad is the crisis? – This is the worse that he has seen.
• Will Lehman be the last victim? – We may see one more financial institution go down
• How will it get over? – When the prices in the US housing market stabilizes
• When will that happen? – Think early next year

This matches very closely with what a lot of other pundits are also saying and right now early January 2009, does not look that far away either.

I have had Infosys in my portfolio for a long time now and although it is giving negative return right now, I was wondering if it is a good time to buy some more stock now.

For one the fall in the dollar value impacted Infosys quite a bit in the early part of the year but the dollar has gained strength now. But more importantly Infosys still remains the best of the lot as far as the Indian IT companies are concerned and is available at attractive valuations right now.

1. Climbing the value chain: Infosys is rapidly moving up the ladder in terms of providing value added services. This is especially important because the application development market is becoming increasingly commoditized and in order to grow revenues by keeping the profit margins intact, the bigger companies need to enter newer areas. Infosys has done a lot of big ticket acquisitions in recent times and it gets around half of its revenues from newer areas and not the core areas of application development and maintenance.

2. Geographic Diversification: I was surprised to see that Infosys is now getting only 62% of its revenues from North America. This means that it relies really less on North America as its chief source of revenue and has done a good job of diversifying globally.

3. Reasonable Valuation: For a blue chip like Infosys the current valuation really looks very attractive. The company has given EPS guidance of Rs.95 for the coming year and the current stock price which has been hovering around Rs.1800 mean that the P/E is less than 20. That means that Infosys is trading at one of the lowest P/Es in the last five years or so and offers very attractive valuation.

So there you have it, three reasons why Infosys looks attractive right now.

I have never really been thrifty. I am not the kind of person who knows how to save a buck. That is probably because I always equated saving money with consuming less and didn’t like the idea.
Lately I discovered a way of saving money by buying the same stuff that I was buying earlier, only, cheaper. To a lot of people, what I am saying here must be common sense, but to me, it was a kind of a revelation.

I did a few things and that made me save money by not sacrificing anything. I started transferring the money saved, from my Checking to my Savings account; even if the amount was small, like a dollar or two and that helped even more. Because, after some time, you really get to understand that small things do add up a lot.
1.Buying used games: An avid Wii gamer, I buy a lot of games, some of which can go as much as $49. I started buying used games from Amazon and that helped me save a lot of money. I buy games which are labeled – ‘Very good’ or ‘As good as new’ from buyers with good ratings. This ensures that the games reach on time and also that their quality is great!

2.Clipping coupons: This is the one thing that really helped me save a lot of money. To some, it may sound cheap. But by spending a few minutes online, I was able to find coupons for things that I was anyway going to buy and saved money. The best example, is when I had to change my brakes at Midas. For a bill of over $800, I spent a few minutes online and found a discount coupon for $30. That helped save a few bucks which I had to otherwise spend.

3.Avoiding Cosco: I used to shop frequently at Cosco but the trouble with that, is the lot size. While the things are cheaper, I invariably used to buy more than I needed and ended up paying more cash at the end of the month. Now I don’t shop their at all and that has helped reduce overall spending.

4.Getting hooked to Digg and Yahoo! Answers: I used to visit sites like deals2buy and Amazon in my  free time and if I liked something and it didn’t cost much I used to buy things. These were real impulse buys. Lately I became active on Yahoo! Answers and Digg and found that I stopped visiting sites like deals2buy and that helped save money on those impulse purchases!

5.Getting Kroger and CVS cards: I really don’t know how it works but some retailers like Kroger and CVS give you their cards, which you can scan before any purchase and sometimes, you get money off on your purchases. You don’t need to pay for the cards and there is no fee whatsoever. Getting these cards has helped save a few bucks on groceries.

So there you have it, a few ways to save money while continuing to buy the same stuff.  I will be interested to know your thoughts on this, do you know of any other interesting ways to save money?

Manshu Verma

The recent olympics showed how serious China is at becoming a global superpower and emerging on the world scene as a great super power.

There are three news items which I read over the last week or so which showed China’s prowess at the world scene in three different areas.

The Olympics Medal tally happens to be the first one. China got a massive 51 golds this time and a total of 100 medals and US got 36 golds and a total of 110 medals. Last time around US had the upper hand in terms of golds with 35 golds for China’s 32.

China – Iraq $3 billion oil deal which is the first major oil deal after the fall of Saddam Hussein is really very interesting. Especially with the backdrop of how much the war is costing the US. The giant US and European companies like Shell, Exxon Mobil, Royal Dutch Shell, BP and Chevron are still negotiating with Iraq but it seems they have been nudged by China for the first major oil deal.

China is one of the biggest creditors of the United States. China’s share in the US debt is $503 billion and it is second only to Japan. Economists within and outside US are worried at the pace with which US debt has increased over the years. Will this be China’s gain?

Is it just China’s lucky week or is the tide turning?

Manshu Verma

At the beginning of 2008 the Rupee rate went as high as 39 to a Dollar and at that time it didn’t look like it will be back to 43 so soon. Economists and Analysts were heralding this as a new era and were asking everyone to reconcile to the new realities of the market.

Just a few months down the line everything has changed. While there are many reasons that pushed the Rupee to 43 levels, perhaps the most unexpected was that oil prices went up to $143 a barrel.

India imports 70% of its oil needs and when the price of oil doubles, it makes a big dent on the country’s fiscal balances. The current account deficit has almost doubled from 2007 in terms of value, and has reached 1.5% of GDP, up from 1% of GDP last year.

Basically that means that to continue to fund India’s imports, the country needs to keep buying dollars and by doing that the value of the Dollar goes up while the value of the Rupee goes down.

High oil prices also mean that the oil companies need to buy Dollars in order to get hold of the expensive oil and further push down the Rupee value. In absolute terms every 10 dollar increase in the price of an oil barrel increases the current account deficit by roughly $6.5 billion dollars and this has to be funded by more dollars.

The RBI has sufficient dollar reserves to ease the pressure off the rupee decline, but the high levels of inflation do not allow it to buy off dollars in the open market as freely as it used to do earlier.

All these factors play out together and push the rupee value down, which is good for exporters but not so good for oil prices and the trade deficit.

Manshu Verma