The Eject button doesn’t work!!
But you can hope to avoid a crash landing!!!
The bail-out bill did not pass the Congress and neither would it have worked anyways!!!
Let us for a moment imagine that there was no financial crisis. If you do basic study of some facts – The US is still growing handsomely between 2-3% p.a. whereas India is growing between 7-9%. Indian PPP per capita GDP is $2700 and the US PPP per capita is $ 42000. Indian per capita (est.) national debt is $200 where as US per capita national debt is (est.) $37000. Of course this will/would go up once again after a bail-out. Yes the size of the US economy does matter but debt as a proportion of GDP (per capita) is 88% for a US citizen and 7.4% as an India. These are not strictly comparable nos but it tells you that an average American is leveraged more than 10 times that of an Indian. And that too as a nation! This of course is/was possible because the US economy, till date could attract debt both internally financed and externally by other nations and their central banks. The servicing of this debt remains a huge question.
Imagine, for a minute that the US is unable to draw on extra credit from the central banks of various countries, then US will have no alternative but to print money (inflation) to fulfill the supply of money, if only to provide for debt servicing. At the same time, they have to de-leverage, then they will have to simultaneously contract the economy (recession?). There is only so much more that the US economy can do by way of productivity improvements.
So even it was not for the credit crisis, it was quite clear that most of the growth in the past was indeed financed by the increased borrowing and very little due to productivity changes. A bit like buying a guzzler SUV with borrowed money rather than a Corolla with your own.
Assuming that there is intent to rectify the situation, the following is going to happen:
a. To reduce borrowing, there has to be a zero or near zero growth rate that arise out of borrowing – everybody knows the word “Recession”
b. The dollar value against various key currencies will have a determination of the net impact of all changes in the US economy.
c. Dollar denominated imports need to be replaced by dollar denominated consumption and manufacture and exports. This requires the dollar to be more competitive.
d. The interest rate of the dollar (Fed)will be the peg on which the interest rates of all the other central banks (particularly those that currently export to the US and have significantly ownership of US treasury bills) to make sure that the interest rate differentials are maintained to enable dollar-currency parity.
e. The inflationary pressure in America will be severe and can be only offset by significant productivity improvements.
f. Contraction of leverages will necessarily call for US capital to reach once again US shores.
The impact (US):
1. US companies particularly banks will contract their overseas exposure to optimize investment and returns. There will be flight of capital from various markets
a. Equity markets globally, and also from emerging markets Stock markets around the world will see flight out of their markets from here on. A further decline of 20% from here on (BSE at 13000 at the time of publishing) is possible.
b. Commodity markets particularly OIL by 2008 end year end will fall below $ US100 and will see $80-100 range in 2009
c. A long period of zero growth in consumption of may important items.
i. Food growth negligible
ii. Oil and energy negative
iii. Auto negative
iv. Lifestyle goods and luxury items negative.
v. Staples and daily living products and healthcare will probably do well.
d. Inflation will be higher than ever before (except the great depression)
e. Productivity enhancing technologies and products and services will be needed and hence IT, Technology, Alternative energy etc will be much needed.
f. Money saving ideas such as reuse of products will be back in fashion in the US.
g. Unemployment in certain sectors will be unimaginable. An overall drop in employment will be significant. It is not improbable to expect, for a short time, double digit unemployment. The overall earning potential per job will increase with inflation but number of jobs will shrink. Top end jobs will continue to be strained and average income though higher will be reflected only the lower skilled jobs. Think job incomes will show lower growth.
2. The growth in the US economy will eventually come out of Exports and Infrastructure ( a bit like India) horizon ~ 3 years from now
a. Exports from US energy giants and Capital equipment companies will require markets and technical manpower from India and other countries and this will present global job opportunities for Indians etc.
b. The US will open up investment to sovereign and other funds to a higher investment in infrastructure – Blocking of UAE ports authority will not happen again. This growth will bring immense opportunity to labour in the US and technology and resources of the world.
i. Arising out of this will be the increased demand for Steel and other infrastructure products from the world, giving an impetus to commodities. 2010-2012
ii. The US will be unable to borrow significantly to enhance this expansion of this economy, giving opportunities for global companies to participate for full ownership of both assets and infrastructure.
3. The Dollar as a global currency will be severely put to test. It is almost certain that many commodities will attempt to decouple with Dollar and look at a basket of currencies for determining the price. The proportion of demand from Individual countries and as a result their currency will create a new index for commodity pricing. Hence Indian Rupee will be a significant part in the basket of currencies in a commodity such as Gold or Steel or Ore and so will the Chinese Yuan. OIL may not be traded in Dollars in many markets and the choice of currency will be determined by the contribution to demand and growth of demand. Once again, India and China amongst many other countries will play a role.
The Dollar will be focused on driving value for exports; will reel under shortage from overseas supply; will be replaced by other currency(s) as a primary global currency. Added to this is the indebtedness of the US economy which will force the Dollar to nosedive from here.
The only reason it hasn’t is because nations including India have been unable to unwind their US treasury positions whose returns will turn negative if the Dollar falls. So the grind will be slow and painful. Naximum predicts a 20% fall of the US dollar against all currencies from here on, maybe 12-18 months.
4. Gold as a hedge against inflation or instability has gained promise in recent days. But Gold can no longer fulfill the role of ever stabilizing financial systems and hence a single commodity may not fulfill this role anymore. New international negotiations will begin to understand in which way any other commodity(s)/index or factor can be used to stabilize transnational instability and to reduce the US (and China by then) overhang on the world economy. Naximum believes it will bring forth issues like natural resources of a country, reserves of energy and water into the fold and probably bring about a new way of determining the true value of a currency against which all other currencies will operate ~5-10 years
So, Don’t worry about the bail-out, it was always a parachute not large enough for the US economy and only meant to soften the crash landing. Now, it is up to the pilot of the American economy, the understanding of its people and the cooperation of the whole world that will help bring about a landing with the least amount of internal damage; and collateral damage to the rest of the world!!!!!
Monday, September 29, 2008
Thursday, September 18, 2008
Zero Sum Game
In the last couple of years, the number of times that I have said to people around me - my wife, my friends and colleagues " I told you so!!!" almost makes me believe that I must be carrying the Nostradamus gene which has suddenly come to express itself.... Here are some of the things I prophesized - The BSE index had overreached itself at 12500 and 14000 was just too high for it to have a sustainable position. Naximum (me) kept lips sealed as this 14000 was long breached and crossed 21000. Well, it’s trying to stay at 14,000 for the last six months. I had expressed that Oil will cross $100 when it was still in its $55-65 range. Hey!! it reached $ 147 before seeing the $100 mark again. Four years ago, I repeatedly appealed to most people, that India was the place to be and I was laughed at. Last year, I mentioned that India was not the place to be (market wise) and I was laughed at. About two years ago ( two Ganapati's ago), I had mentioned that India will express double digit inflation, when it was still 5-6%, and now it is 13% at the wholesale level. I had mentioned that there cannot be 9% + growth in this country for 5 + years in a row. The government was thinking otherwise. In a country with no power, no roads, no bandwidth, very few new and large airports, there can be only so many cars, planes, services that can be accommodated. Ain’t I right now!!!.
Then, there was the foreign exchange issue. I said to my friends that the money you make will be determined by the understanding and play in the currency markets. That too played out. The last straw was the coming of the financial crisis in the USA. Believe me folks, I knew it was coming. For over 8 months or so, I kept telling my wife that the financial services sector is not a sector one should be in. (She works for a global financial services company). The fact of the matter is I knew it was coming.
So, how come I am so smart and ain’t rich!!! The answer is that I didn’t listen to myself but you could have!!! And that’s the real reason for starting this blog!!! Welcome to Naximum’s WC Economist blog…..
My blog today is about the Zero Sum Game. All of us have played Monopoly or one of its variants some time in our lives. The purpose of the game is to make sure you win by building houses and hotels to a point where all your competitors keep on shedding their wealth, mortgaging their assets till such time that you are the winner. The lesson one learnt here was that, to be Rich, you had to make somebody poor. Over time, we learnt to increase the stakes, complexity and the playing time of the game. It made Monopoly interesting, intellectually stimulating but at the end of even a couple of days of marathon playing, there was a rich winner and poor losers.
Life, at least, life in Monopoly is always a Zero Sum game.
These lessons have taken deep roots in to our consciousness and we execute some of our ways in life, in precisely the same manner…..
Entrepreneurs and businessman create valued added services and products and they do well when there are buyers for the same. They create opportunities for employment, new skills, innovation and so on. The wealth by and large came to be distributed reasonably evenly, the lion’s share being the entrepreneur’s. This was not a zero sum game.
These entrepreneurs needed capital and that created banks. Banks would lend and charge interest commensurate to the risk involved. This system existed for a cool 500 years in Europe and some parts of Asia. Then, there were capital markets, grain markets and stock exchanges which gave opportunities outside of the banking world for a select few to invest and/raise capital. These soon became the official gambling surrogate.
This Zero sum game, we are well aware is the basic nature of monopoly, stock and commodity markets where to make money someone else has to lose money. Everyday millions are made and millions are lost. It is a zero sum game. One would argue that if the market (index) is going up, then everybody is making some money, at least the seller is. The buyer will wait his turn. The buyer then keeps turning seller and buyer in quick succession and keeps on making money. But we have all learnt this is never the case. At some point, the last in the line loses money. All this is fine, if it remains random and distributed. But it isn’t. The average market can grow only to the extent of the average increase in profit (achieved and expected); assuming an on par issue. How much visibility of business, profits etc. is really possible in today’s world. It can vary from one year to 10 years (for eg. Shipping) depending on the industry. But when you have the companies valued for 10 times the projected future (fifth year from now)FY05 earnings,.... more like 15 years (P/E multiple) ahead...It is bound to go wrong. And it did. You can compound the profits only so much to determine the value of an investment in stock markets (P/E multiple).
The merchant banking - investment banking firms and broking houses started out as consulting firms advising people how to raise money so that the companies can finance their business growth. They conveniently innovated and created a slew of financial papers – all kinds of shares, debentures, bonds, CDO, commercial paper etc. These products need to be created with the help of the entrepreneur. After all, it was his company that needed money. However the value of this paper was determined by the appetite of the investing masses and public institutions and the public at large and not necessarily by the value of the company, its record or its quality of management and integrity. All efforts therefore, were directed to whet the appetite of these investors. Markets were driven to rally upwards, advertising, TV channels, press all worked to increase the hype around these instruments. What these investment bankers, brokers and quasi bankers became were greedy hyenas, hungry for commissions openly advocating firms to use any means required to raise money at outlandish premiums. I didn’t apply to a single IPO for any of the offerings made in the last 2 years. More than 70% have been below their issue price at 15000 levels of BSE index. It goes to show that the firms were advised poorly and probably didn’t take the good counsel that they were offered. Commissions are based % age of gross $ and not on flat fees. That’s what made the difference.
This is the Zero sum game that played out over 2 years or more.
A real estate developer from New Delhi was the World's wealthiest man for a few days and he only, lost his status as the world's wealthiest man but he still possesses all the wealth that he collected but the million shareholders who have lost a substantial part of their wealth. Then there was the case of the Power company whose valuation was 1000 times its current profit (EPS) and it expected to invest in power projects that would ultimately breakeven at the end of 7 -9years. After collecting the money, they are now giving some of it back….. How can anybody have a vision of prices for a piece of paper that talks of future profits in multiples of 20, 30 and so on…This too is quite easily digested by some, after all, isn’t this a bit like the Monopoly, a bit like the stock market play all of us indulge in. Ask those who lost their life earnings in such real-estate and energy plays on the stock market. The end result was that the Investment banker cum broker cum wheeler dealer became fat with commission and almost became as big as a bank. Of course he has much money of his own, his client’s and customer’s with which he could compete with banks.
In the process, the merchant bankers and their lot have created a huge number of millionaires and billionaires around the world, while leaving large sections of people, populations & countries out of the wealth creation program.
We have heard this -The rich have become richer and the poor have become poorer.
This too is a zero sum game.
The financial institutions also created a creed of professionals who make a huge part of their take-home from variable pay – Commissions and bonuses. These questionable professionals hawk dreams to entrepreneurs, home owners and other asset class customers and misrepresent to investors – giving a gilt edge to the reality. That too, within and outside the regulatory framework.
We have the “sub-prime” crisis purely because of a culture of greed and dishonesty.
How is it possible? How can it impact India? Why should we worry and learn from this episode?
When the supply of money and seedy professionals are abundant, the funds have to find a way to be used up and deployed. The money was provided from two major sources – The US treasury and the US Fed (like our RBI). The US treasury kept on borrowing by issuing treasury bills consistently to all global central banks, Govt’s and other government and non-government run institutions around the world. The Fed kept interest rates low for all and sundry to borrow money and assume any risk, which in any case was felt as very low in the growing US economy. As a result, the US government was reckless in war(IRAQ), the entrepreneurs and common people reckless in their spending on business plans (VC’s, Angel investors), goods and commodities imported from cheaper destinations like China and India; and the Common people were deceived into accepting unwarranted risk by the greedy professionals who made superlative amounts of money pushing sub-prime loans. The result was a huge surge in home ownership, house valuations and a real estate boom in construction and sales coupled with a significant employment generation to immigrant workers.
Then it all happened.. The investors and greedy bankers saw the end of the housing boom and went after other asset classes, driving the yet subdued markets in OIL to dizzy heights. Each asset management company by then had leveraged itself to guarantee debt and assets almost 14-25 times its generally accepted capability. That is each dollar in their account funded 14 -25$ of assets and debts.
The red flags by the rating agencies were delayed by over 6-12 months. And when they came the cookie crumbled…. There was distrust and acrimony and “SAVE YOUR ARSE” cycle began causing the markets to slump and a threat of collapse of the global financial system.
This is what happened…. It was inconceivable…. But it happened and continues to unfold….
The US at the moment is 25% of the global economy and anything that happens there affects everybody as the US Dollar is the major global trading currency, the US Fed is depository of all extra cash from all countries (T-bills), including India and Bangladesh and the US financial system is a router for funds into various stock and commodity markets in the world.
When there is a disruption in this economy, the whole world is affected. No more cheap money, no more easy lending, no more stock market bull run.
But why should an average Indian pay the price of these largely Amercian excesses. Well my dear friends, The Americans will pay and so will the world including India. The only reason is that while a few people in India, handful of investors worldwide, whole lot of greedy finance professionals, CEO’s and Arabs made money, the price of their success has to be paid by us losers.
Life is but a game of monopoly. A zero sum game.
The players who played the game now want out; leaving the others holding duds. Now these duds are to be passed to the unsuspecting public. It’s largely the American tax payer and the other global economies including India.
The lesson my dear friends - Monopoly is the game, your children should master!!
It is the ultimate Zero sum game that is now just played over years and decades. But let the lesson be a little different…
There is no winner without a loser. Be suspicious of every trend that displays incredible money making opportunities.
Make sure your children learn not to be losers. If you are left holding the Dud, you are the loser.
Sometimes, it might just be the right thing not to play the game anymore…. Or at least get up just in time to raise hell and let someone else sit in your place and hold the dud.
More when Washington screws it up even more…..
WC ECONOMIST
Then, there was the foreign exchange issue. I said to my friends that the money you make will be determined by the understanding and play in the currency markets. That too played out. The last straw was the coming of the financial crisis in the USA. Believe me folks, I knew it was coming. For over 8 months or so, I kept telling my wife that the financial services sector is not a sector one should be in. (She works for a global financial services company). The fact of the matter is I knew it was coming.
So, how come I am so smart and ain’t rich!!! The answer is that I didn’t listen to myself but you could have!!! And that’s the real reason for starting this blog!!! Welcome to Naximum’s WC Economist blog…..
My blog today is about the Zero Sum Game. All of us have played Monopoly or one of its variants some time in our lives. The purpose of the game is to make sure you win by building houses and hotels to a point where all your competitors keep on shedding their wealth, mortgaging their assets till such time that you are the winner. The lesson one learnt here was that, to be Rich, you had to make somebody poor. Over time, we learnt to increase the stakes, complexity and the playing time of the game. It made Monopoly interesting, intellectually stimulating but at the end of even a couple of days of marathon playing, there was a rich winner and poor losers.
Life, at least, life in Monopoly is always a Zero Sum game.
These lessons have taken deep roots in to our consciousness and we execute some of our ways in life, in precisely the same manner…..
Entrepreneurs and businessman create valued added services and products and they do well when there are buyers for the same. They create opportunities for employment, new skills, innovation and so on. The wealth by and large came to be distributed reasonably evenly, the lion’s share being the entrepreneur’s. This was not a zero sum game.
These entrepreneurs needed capital and that created banks. Banks would lend and charge interest commensurate to the risk involved. This system existed for a cool 500 years in Europe and some parts of Asia. Then, there were capital markets, grain markets and stock exchanges which gave opportunities outside of the banking world for a select few to invest and/raise capital. These soon became the official gambling surrogate.
This Zero sum game, we are well aware is the basic nature of monopoly, stock and commodity markets where to make money someone else has to lose money. Everyday millions are made and millions are lost. It is a zero sum game. One would argue that if the market (index) is going up, then everybody is making some money, at least the seller is. The buyer will wait his turn. The buyer then keeps turning seller and buyer in quick succession and keeps on making money. But we have all learnt this is never the case. At some point, the last in the line loses money. All this is fine, if it remains random and distributed. But it isn’t. The average market can grow only to the extent of the average increase in profit (achieved and expected); assuming an on par issue. How much visibility of business, profits etc. is really possible in today’s world. It can vary from one year to 10 years (for eg. Shipping) depending on the industry. But when you have the companies valued for 10 times the projected future (fifth year from now)FY05 earnings,.... more like 15 years (P/E multiple) ahead...It is bound to go wrong. And it did. You can compound the profits only so much to determine the value of an investment in stock markets (P/E multiple).
The merchant banking - investment banking firms and broking houses started out as consulting firms advising people how to raise money so that the companies can finance their business growth. They conveniently innovated and created a slew of financial papers – all kinds of shares, debentures, bonds, CDO, commercial paper etc. These products need to be created with the help of the entrepreneur. After all, it was his company that needed money. However the value of this paper was determined by the appetite of the investing masses and public institutions and the public at large and not necessarily by the value of the company, its record or its quality of management and integrity. All efforts therefore, were directed to whet the appetite of these investors. Markets were driven to rally upwards, advertising, TV channels, press all worked to increase the hype around these instruments. What these investment bankers, brokers and quasi bankers became were greedy hyenas, hungry for commissions openly advocating firms to use any means required to raise money at outlandish premiums. I didn’t apply to a single IPO for any of the offerings made in the last 2 years. More than 70% have been below their issue price at 15000 levels of BSE index. It goes to show that the firms were advised poorly and probably didn’t take the good counsel that they were offered. Commissions are based % age of gross $ and not on flat fees. That’s what made the difference.
This is the Zero sum game that played out over 2 years or more.
A real estate developer from New Delhi was the World's wealthiest man for a few days and he only, lost his status as the world's wealthiest man but he still possesses all the wealth that he collected but the million shareholders who have lost a substantial part of their wealth. Then there was the case of the Power company whose valuation was 1000 times its current profit (EPS) and it expected to invest in power projects that would ultimately breakeven at the end of 7 -9years. After collecting the money, they are now giving some of it back….. How can anybody have a vision of prices for a piece of paper that talks of future profits in multiples of 20, 30 and so on…This too is quite easily digested by some, after all, isn’t this a bit like the Monopoly, a bit like the stock market play all of us indulge in. Ask those who lost their life earnings in such real-estate and energy plays on the stock market. The end result was that the Investment banker cum broker cum wheeler dealer became fat with commission and almost became as big as a bank. Of course he has much money of his own, his client’s and customer’s with which he could compete with banks.
In the process, the merchant bankers and their lot have created a huge number of millionaires and billionaires around the world, while leaving large sections of people, populations & countries out of the wealth creation program.
We have heard this -The rich have become richer and the poor have become poorer.
This too is a zero sum game.
The financial institutions also created a creed of professionals who make a huge part of their take-home from variable pay – Commissions and bonuses. These questionable professionals hawk dreams to entrepreneurs, home owners and other asset class customers and misrepresent to investors – giving a gilt edge to the reality. That too, within and outside the regulatory framework.
We have the “sub-prime” crisis purely because of a culture of greed and dishonesty.
How is it possible? How can it impact India? Why should we worry and learn from this episode?
When the supply of money and seedy professionals are abundant, the funds have to find a way to be used up and deployed. The money was provided from two major sources – The US treasury and the US Fed (like our RBI). The US treasury kept on borrowing by issuing treasury bills consistently to all global central banks, Govt’s and other government and non-government run institutions around the world. The Fed kept interest rates low for all and sundry to borrow money and assume any risk, which in any case was felt as very low in the growing US economy. As a result, the US government was reckless in war(IRAQ), the entrepreneurs and common people reckless in their spending on business plans (VC’s, Angel investors), goods and commodities imported from cheaper destinations like China and India; and the Common people were deceived into accepting unwarranted risk by the greedy professionals who made superlative amounts of money pushing sub-prime loans. The result was a huge surge in home ownership, house valuations and a real estate boom in construction and sales coupled with a significant employment generation to immigrant workers.
Then it all happened.. The investors and greedy bankers saw the end of the housing boom and went after other asset classes, driving the yet subdued markets in OIL to dizzy heights. Each asset management company by then had leveraged itself to guarantee debt and assets almost 14-25 times its generally accepted capability. That is each dollar in their account funded 14 -25$ of assets and debts.
The red flags by the rating agencies were delayed by over 6-12 months. And when they came the cookie crumbled…. There was distrust and acrimony and “SAVE YOUR ARSE” cycle began causing the markets to slump and a threat of collapse of the global financial system.
This is what happened…. It was inconceivable…. But it happened and continues to unfold….
The US at the moment is 25% of the global economy and anything that happens there affects everybody as the US Dollar is the major global trading currency, the US Fed is depository of all extra cash from all countries (T-bills), including India and Bangladesh and the US financial system is a router for funds into various stock and commodity markets in the world.
When there is a disruption in this economy, the whole world is affected. No more cheap money, no more easy lending, no more stock market bull run.
But why should an average Indian pay the price of these largely Amercian excesses. Well my dear friends, The Americans will pay and so will the world including India. The only reason is that while a few people in India, handful of investors worldwide, whole lot of greedy finance professionals, CEO’s and Arabs made money, the price of their success has to be paid by us losers.
Life is but a game of monopoly. A zero sum game.
The players who played the game now want out; leaving the others holding duds. Now these duds are to be passed to the unsuspecting public. It’s largely the American tax payer and the other global economies including India.
The lesson my dear friends - Monopoly is the game, your children should master!!
It is the ultimate Zero sum game that is now just played over years and decades. But let the lesson be a little different…
There is no winner without a loser. Be suspicious of every trend that displays incredible money making opportunities.
Make sure your children learn not to be losers. If you are left holding the Dud, you are the loser.
Sometimes, it might just be the right thing not to play the game anymore…. Or at least get up just in time to raise hell and let someone else sit in your place and hold the dud.
More when Washington screws it up even more…..
WC ECONOMIST
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