European doom & gloom: end-game or catalyst for a turnaround​?

Highlights:


End-game or catalyst for a turnaround?
Amid the European doom and gloom and continued German opposition to the Eurobond proposal, market hopes for the Eurozone to pull fresh rabbits out of the hat are quickly diminishing.  Below we consider what are the potential scenarios:

·         Plan A: muddle-through.  A continuation of the status quo, which is for the European policymakers to believe that the economic reality is less dire than what the market is signaling, and to hold to “core” principles eg. Germany’s opposition to Eurobonds as that will be a “monetization of sovereign debt”. Bundesbank President Jens Weidmann also said an expansion of EFSF powers risks increasing the burden on “financially strong countries” and are “another big step towards a collective liability and reduce the disciplining function of capital markets without strengthening control and influence on national fiscal policies in return”.

A recent White House statement suggested that US president Obama and German Chancellor Merkel agreed that “concerted action would be needed in the months ahead to address the current economic challenges and to assure global economic recovery”.  The five key central banks – ECB, Fed, BOE, BOJ and SNB did signal this willingness last week when they assured markets of USD funding across the year-end to tackle the liquidity issues for the European financial system. Beyond coordinating USD funding through swap lines, it is unclear how open the Eurozone policymakers are to taking suggestions on how to handle the crisis, as seen from the immediate rejection of US Treasury Secretary Geithner’s suggestions at the recent Eurofin meeting.

Domestically, Merkel is struggling with holding her CDU coalition together after a string of poor showings at several key state elections amid skepticism whether Greece should and could be saved, especially ahead of elections which are due in 2013. So unless we see a sharp turnaround in Germany’s stance towards the EFSF expansion, Eurobonds proposal, and establishing a Eurozone TARP-equivalent to take over the bad assets (mainly the PIIGS government debt) sitting on European banks’ books, the “muddle-through” scenario will be the default situation, which ironically adds to the risk of a crisis moment.

·        Plan B: Greece defaults. Actually with Greece’s CDS trading above 5980 bps and the 1-year bond yielding above 100%, the markets have already priced in the likelihood of a Greek sovereign default in the imminent future.  The only uncertainty is whether it will be an orderly or disorderly event.  The probability of this happening may be accelerated should the troika reject Greece’s budget-reducing measures as inadequate and withhold the next €8b tranche and the second bailout package, and/or Germany’s lower house Bundestag vote down the EFSF amendments on 29 Sep, when markets take Greece, the troika and Germany to task on this. Kathamerini newspaper reported that Greek PM Papandreou is considering holding a referendum to whether remain or exit from the euro common currency, hoping to use the vote as a mandate for implementing austerity measures required by the troika.

As it is, there are suggestions that the German government is considering a “Plan B” to help shield banks and insurers from losses if Greece defaults. Germany’s biggest lenders and insurers owned about €17.5b of risks relating to the Greek government. Germany’s bad banks may be most at risk should Greece default, namely Hypo’s FMS Wertmanagement and WestLB’s Erste Abwicklungsanstalt who bear €8.76b and €1.21b of Greek sovereign investments and loans, which are more than half of German banks’ Greek debt. In comparison, Deutsche Bank AG and Commerzbank AG hold a combined €3.35b, according to reports compiled Bloomberg.

Nevertheless, Germany’s banking system may fare better off than that for France in the case of a Greek default - BIS data showed that German banks’ foreign claims and other potential exposures on an ultimate risk basis vis-à-vis Greece (both private and public sector) stood at US$23.8b at end-March, of which 59% was to the public sector.  French banks, in contrast, had US$56.9b exposure to Greek debt, of which 24% was in government claims. France also have not set up bad banks to hold their Greek investments. Therefore, Credit Agricole SA and Societe Generale SA had their ratings cut one notch by Moody’s on 14 Sep, while BNP Paribas SA had its Aa2 long-term rating kept on review for downgrade.

·        Plan C:Eurozone policymakers, namely Germany, tackle the sovereign solvency and contagion issues whole-heartedly and holistically.  This would require fundamental changes to the current stance towards the EFSF expansion, Eurobonds proposal, and a Eurozone TARP-equivalent to take over the bad assets (mainly the PIIGS government debt) sitting on European banks’ books.  If this materialises, and the probability looks small at this juncture given the mixed signals by different policymakers, this could spell relief of a more lasting nature.

At this juncture, we remain cautious about the European banking sector. To compare the European banking sector deterioration with the US experience post-Lehman, we overlaid the current Stoxx 600 banking sub-index with the SPX500 Financial sub-index in the pre/post-Lehman period. T = 6 months before Lehman collapsed in the US & Feb 2011 when PIIGS fears resurfaced.

 Assuming that the situation could potentially play out in a similar fashion (so far, the drying up of USD funding, holdings of peripheral European government bonds could sink further etc), the Stoxx 600 banking sub-index could fall further to reach a Lehman trough, assuming that a systemic banking crisis is a real risk for the Eurozone.  Hence, it is still too early to conclude that European banks are “cheap” on a forward PE valuation. The fact that some of these banks’ CDS are already at 3-year highs are reflective of the risk-reward ratio at this juncture.

Mark Faber Warning - Bigger Financial Crisis on the Way

Why Identifyin​g a Bubble Is So Much Trouble: Cochrane

We seem to be surrounded by “bubbles” -- tech stocks, real estate, and now maybe sovereign debt.
You might expect that any textbook would have a precise definition of this phenomenon; some set of characteristics that distinguish sensible high prices in good times from prices that are “too high” or in a “bubble.” Alas, “bubbles” seem to be in the eye of the beholder.
Does that mean it’s all just empty talk? No, and there is solid academic research that helps us to think about what “bubbles” might mean, and how both policy makers and investors might think about them.
Here are the central facts: High valuations are, on average, followed by many years of poor returns, and vice versa. High valuations are not, on average, followed by years of good cash-flow growth, or by ever-higher valuations.
This fact holds across markets:
-- High stock price/dividend, price/earnings, or market/book ratios are on average followed by years of poor returns, not years of higher dividend and earnings growth, or permanently higher prices, and vice versa for low prices.
-- High yield spreads (low prices) on long-term bonds are on average followed by good returns on long-term bonds, not by increases in short-term interest rates, and vice versa.
-- High credit spreads (low prices) on low-grade debt are followed, on average, by good returns on that debt, not a proportionally high bankruptcy rate, and vice versa.
-- High interest rates abroad relative to the U.S. are followed, on average, by good returns to U.S. investors in that debt, not by foreign exchange-rate depreciations, and vice versa.
-- High house prices relative to rents are followed, on average, by flat or declining house prices over many years, not by increases in rents, and vice versa.
No one substantially disputes these facts. The question is: What does all this tell us about why prices are high or low in the first place?
The facts don’t support the theory that prices are high because people always expect a “greater fool” to pay a still higher price. If that were true, high prices would have no connection on average to subsequent returns or cash flows, and would correspond to forever higher prices. We just don’t see that.
The data also deny the simple discounted cash-flow view. If investors think that dividends and earnings will grow strongly in the future, they will be willing to buy a stock for a large multiple of today’s earnings. Although those bets won’t turn out right every time, on average, high price ratios today will be followed by good growth in dividends or earnings. They aren’t.
So what’s going on?
‘Macroeconomic Risk’
The “macroeconomic risk” view holds that the discount rate for a given cash flow can vary over time. Price booms come in good macroeconomic times, when the average investor is “searching for yield” and willing to take on some extra risk. Such investors bid up the price of unchanged cash flows.
Price busts come in horrible macroeconomic times, such as those we are enduring. In these periods, the average investor may rightly say, “I understand returns are better going forward, and there is the buying opportunity of a lifetime in junk bonds. But I’m about to lose my house and my job, the bankers are about to shut down my business, and I can’t take any extra risk right now.” Such investors drive prices down until the same prospective cash flows can deliver returns large enough to overcome their justified fear.
Over-Optimistic Investors
The “irrational” view is that investors’ required returns don’t change, but they simply get it wrong. Sometimes they get over-optimistic and bid up the price as if cash flows are going to be great. Sometimes they get irrationally depressed. In either case, they don’t learn from the centuries of experience.
“Macro risk” researchers note the strong connection of prices to economic events, captured by explicit and rejectable economic theories of discount-rate variation; they complain about ex-post storytelling. The “irrational” camp points to puzzling surveys. For example, investors who bought Amazon.com at the height of the tech boom reported mathematically impossible cash-flow forecasts.
But surveys are easy to misinterpret: “Expect” and “risk” in casual conversation have very different meanings than “conditional mean and variance” in our models. And economics was meant to explain behavior, not self-perception. Rats in mazes do a good job of obeying the laws of economics, but they’re not so good at responding to surveys.
Financial Frictions
A new view says market swings are all about financial frictions, not mass risk aversion or psychology. In the financial crisis many assets seemed to fall in value because of the run in the shadow banking system, or temporary illiquidity in markets. The question is whether this view can explain broad movements across many directly held assets like stocks, or whether it’s confined to specific smaller markets.
A final view is tantalizing. Every “bubble” has also featured a “trading frenzy,” from tulips in the 1600s to tech stocks in 1990 to condo-flipping in Miami in 2006. Perhaps traders hold high-priced assets despite low average returns because the assets are useful in helping them to profit from small bits of information, just as we hold money despite a low return because it’s useful for buying things. If so, the rest of us should stay away from “bubble” assets.
Research has, at least, given a lot of structure to the “bubble” question. We know that variation in price ratios corresponds to discount-rate variation, not to changes in expected cash flows or the ability to find a greater fool. The challenge is to understand that discount-rate variation. A focused debate, based on clear facts and explicit theories, is real progress.
(John Cochrane is the AQR Capital Management Distinguished Service professor of finance at the University of Chicago Booth School of Business and a contributor to  Business Class.  A survey of much of the research mentioned in this essay is included in his recent article “Discount Rates,” in the Journal of Finance. The opinions expressed are his own.)

http://www.bloomberg.com/news/2011-09-22/why-identifying-a-bubble-is-so-much-trouble-john-h-cochrane.html

Why capitalism’s time is up

In its basic concept, capitalism should be about people making things for other people, and making a decent wage for doing so. Then the people for whom the goods are made sell them for more than it cost to make them. Some of those sales will be to the people who made the stuff, and some will be to third parties unrelated to the manufacturing process.

Now, if I’m the guy who owns the company that makes the stuff, I’ve probably invested my own money; or I’m at least responsible for repaying funds loaned to me by someone else. That means I’ve taken some personal risk, and the reward I can achieve for assuming that risk is called profit.

So far, so good.

But it has never quite worked that way, for one reason and only one reason – greed. Economists have thousands of fancy charts and graphs to deflect us from this reality, and a litany of arcane explanations; but the simple reason is greed.

The main problem for us, though, is that capitalism is the only choice we have. How do I know that? Because a world of experts tells me so – nearly every day. Typically, those experts are among the group most likely to benefit from having me believe this. They are the business class, along with their functionaries and apologists, who infest the universities, mainstream media, and politics. Capitalism is not a choice, they inform us; it is the proper natural condition of the world. And we are reassured that those who argue against capitalism are, well, bewildered, or confused, or maybe just plain crazy.

Capitalism is what we’re told we have; corporatism is what we really have. It’s predatory, it’s vicious, it’s driven by the overbearing impulse to manufacture crap we don’t need, to build obsolescence and short life into most of the stuff we buy. It’s driven not by those people who were willing to put their own hearts and souls into a business for which they accept the personal risks and rewards; instead, it’s in the thrall of soulless and morally insufficient corporations. The people who run those corporations are shielded from any personal risk, personal responsibility, or moral imperative. Their sole goals are to line the pockets of shareholders, and themselves.

And capitalism as we live it and practice it today is failing. So if this is the best we have, can the end for us all be very far behind?

Capitalism (even when wearing a corporatist hat) is incredibly productive. It produces a flood of goods, although no one questions whether that’s a good thing. But it is also a system that is fundamentally anti-democratic, unsustainable, and inhuman. What capitalism gives those of us in the arrogantly-named First World is lots of stuff, in exchange for any hope of progressive government, the possibility of a livable future for our children, and our very souls.

So how is capitalism anti-democratic? Well, we have to remember that democracy’s promise is that it gives ordinary people a meaningful way to participate in the formation of public policy, rather than a mere subsidiary role in ratifying decisions made by the powerful. But capitalism is a wealth-concentrating system, and common sense tells us that when you concentrate wealth, you concentrate power. And we all understand that the wealthy and powerful dictate public policy to politicians.

Clearly, then, capitalism and democracy are mutually exclusive. Average Betty may have the same number of votes as Bill Gates, but no one seriously believes she has as much influence on public and social policy as Bill.

The unsustainability of capitalism should be obvious to anyone with more than half a brain. In case you hadn’t noticed, this is the only planet we have. And all the stuff that’s on it, and in it, will eventually run out. Despite wild-eyed dreams to the contrary, this is the only place we are ever going to live, and there is nothing much we can do about the limited resources. Oh sure, some technology improvements might squeeze a little more out of what we have; but eventually it’ll all be gone. It is completely delusional not to accept this reality.

Now, capitalism may not be the only unsustainable system that humans have developed, but it’s the most obviously unsustainable and it appears to be what we’re stuck with – because there is no other way, right? Because it’s natural, and inevitable, like the air, right?

The inhumanity of capitalism is a little harder to prove, but it is rather obvious. The theory of contemporary capitalism is that we are greedy, self-interested creatures – homo economicus. Well, are we greedy? Of course we are – all of us, to some degree. But we are also capable of selflessness, of compassion. We can engage in aggressive and passionate competition, but we also have a capacity for cooperation and solidarity. So if our own acts and actions are so widely varied, why must we have the choice only of an economic system that deliberately strengthens our most inhumane traits and undermines the most decent aspects of our nature?

No matter where you look, you’ll find greed and the pursuit of self-interest. Which leads us to accept the proposition that the greedy, self-interested aspects of our nature are dominant. But that’s because we’re forced into a system that rewards greed and self-interested behaviour. It’s a circular argument – if greed and self-interest aren’t rewarded, they don’t tend to rise to the surface; where they are rewarded, it’s like leading pigs to a trough.

We appear to have lost sight of the fact that an economic system doesn’t just produce goods and services. It also produces people, because we are all shaped by our work experiences and the goods we consume. If we spend all our time and money consuming cheap crap in a desperate effort to dull the pain of unfulfilling work, where are we going to end up?

The first step in our rehabilitation is calling the capitalist system what it is: anti-democratic, unsustainable, inhuman. Once we’ve accepted that reality, it’ll make it easier to begin a move to a system that is less predatory.

It cannot be true that the only way to run this world is with a system in which the slime rises to the top while half the world lives in abject poverty. Fighting against capitalism is not crazy; struggling for a sustainable future and democratic societies is not crazy. And it is certainly not crazy to work toward holding on to our humanity.

Is China the next Dubai

To question China's relentless and inevitable rise to the top of the world's economic pyramid today is to invite ridicule. Investors like Jim Rogers have long thought that China is the only worthy investment story on Planet Earth. Anthony Bolton, the United Kingdom's answer to Peter Lynch, recently threw his hat in the ring, emerging from retirement and moving to Hong Kong to start a China fund. Other China bulls have predicted that the Chinese stock market could overtake the United States in terms of market capitalization within three years.

 

This is heady stuff for a country that didn't even merit its own chapter in the World Bank's "The East Asian Miracle: Economic Growth and Public Policy," published only 15 years ago. Back then, it was all about Japan and the Asian Tigers -- Taiwan, Singapore, Hong Kong, and South Korea. Even today, China is a story of remarkable contrasts. Yes, it boasts currency reserves of $2.3 trillion, making it, by that measure, the richest country in the world. But China also is a country where 200 million people live on less than $5 a day. Understanding that China's rise won't happen without some serious bumps along the road is the key to making -- and keeping -- money from the "China Miracle."

Is China the Next Dubai: Lessons from the Tiny Emirate

Superficially, Dubai's rapid development from speck of dust in the desert to mirage made real is not that different from China. Cheap financing combined with world-class aspirations fueled Dubai's property boom that included the world's tallest building, the Burj Dubai. Dubai property prices doubled between 2005 and 2008, as commercial and residential real estate in the middle of the endless desert became as expensive as cramped quarters in New York and London. The emirate's rulers even targeted a China-beating annual GDP growth of 11% to 2015. Eighteen months later, the vacancy rate for Dubai office buildings is 40%, even as planned new construction is set to double the city's office space over the next two years.

China bulls will dismiss uncomfortable comparisons with Dubai with a knowing chortle. After all, the population of China is a thousand times greater than the tiny emirate's. And Dubai's $50 billion GDP is less than the economic wealth that China has generated in the last three months. Yet, perhaps this is precisely the reason you should pay attention to the rising din of China critics. Even as the media falls all over itself to praise the remarkable efficacy of China's $585 billion stimulus package, "Bond King" Bill Gross of PIMCO made investors squirm when he observed that the all-knowing economic philosopher kings running the Chinese economic show may inflate... gasp!... a bubble of their own.

 

Is China the Next Dubai: The Sin of Over-investment?

Much like little bubble brother Dubai, the problem in China is best summed up in a single word: "over-investment." Even as U.S. and global consumers are closing their wallets , China is building more steel, more factories, and more malls for which there is almost no demand. Much like in Dubai, many Chinese skyscrapers stand empty, even as whole new cities are being built where the vacancy rates are as high as 75%.

 

One blogger described one of Beijing's leading malls, "The Place," as "stunningly dysfunctional, catastrophic... with fifty percent of the eateries in the basement boarded up. There is simply too much stuff, too many stores and no buyers." Perhaps no project better illustrates China's dilemma than the spectacular, $450 million Bird's Nest Olympic stadium, designed to last for 100 years and withstand a magnitude-8 earthquake. Yet, the stadium now stands empty, with paint peeling ignominiously from its slick girders. "You build it and they will come" is a better Hollywood movie plot, than a sustainable development strategy.

Scratch the surface behind China's impressive growth numbers, and they tell an unsettling story. Consider that 19 out of 20 dollars of China's GDP growth this year is from investment in fixed assets -- empty malls, ghost cities, and tens of thousands of bridges that lead to nowhere. China is investing at a pace like no other country in history.

 

Post-war Germany achieved a peak investment to GDP ratio of 27% in 1964; Japan's peaked at 36% in 1973, and South Korea's at 39% in 1991. The comparable number in China today is 50%-plus. Yet, not only are the Chinese building a lot of stuff they don't need, they also are getting a heck of a lot less bang for their buck. From 2000 to 2008, it required $1.5 in debt to produce $1 of GDP in China. Today, it takes $7 of credit to yield $1 of growth in GDP. No one has done that poorly since, well, the bad old days of the Soviet Union.

Is China the Next Dubai: Enron Revisited?

The knives are coming out to make money on China's collapse. Jim Chanos, founder of the investment firm Kynikos Associates and iconic short seller, has put the Chinese market in his sights. Chanos made his reputation -- and a good chunk of his fortune -- as one of the first Wall Street analysts to see that Enron's earnings were pure fiction. Chanos believes that much like Enron, inconsistencies in China's statistics -- like the surging numbers for car sales but flat statistics for gasoline consumption -- confirm that the Chinese are simply cooking their books. The Chinese even have a phrase for ripping off foreigners: "Neng pian, jiu pian" -- "If you can trick them, then trick them."

 

The bad news is that, if Chanos is right, the collapse of the Chinese economy will be 100 times worse for the global economy than the brief hiccup that was Dubai. If China's economy stops running hard, it will have profound effects on its ability to finance the exploding U.S. deficit. In Chanos' view, the slowdown in China may be as big of a watershed event for world markets as the subprime collapse was in the United States. Little wonder that he is betting the farm on shorting China's economy.

For students of financial history, the coming collapse of China is as painfully obvious today as it will be to others with the benefit of 20/20 hindsight. That doesn't mean that China won't eventually emerge as a global economic power. After all, the rise of the United States from a tiny country of 2.2 million people in 1800 to the world's leading power a century later was punctuated by at least half a dozen financial manias followed by depressions.

 

But as the British economist John Maynard Keynes observed, "in the long run, we're all dead." If you have a shorter time horizon, batten down your investment hatches. The investment seas may get rough.

Why Dubai Matters

Sure, it will pay a hefty price for its debt woes. But the city-state's open economy has attracted legions of foreign investors and serves as a model for its Gulf neighbors

By Stanley Reed

Dubai — After Dubai announced in late November that the state-controlled investment firm Dubai World was seeking to reschedule payments on some $26 billion of debt, global markets went into a tailspin. While foreign bourses quickly rebounded, local shares have taken a pounding, and the credibility of Dubai's leadership has suffered serious damage.

 

Yet lost in all the drama is the fact that Dubai is an important economic experiment in a strategically vital region. The humiliating debt implosion aside, the emirate remains the most dynamic business hub in the Gulf and has become a model for its neighbors.

 

In a region of conservative, autocratic countries long chained to the boom-and-bust cycles of the oil industry, Dubai stands out for creating an open economy that has diversified well beyond energy. With nowhere near the oil and gas reserves of other Gulf countries such as Saudi Arabia and Kuwait, it had to. "Dubai shows that if you are part of the global economy, you do well; you don't have to have oil," says David Aaron, director of the RAND Center for Middle East Public Policy in Washington.

 

There's no denying that the emirate overreached and will pay a hefty price. Dubai led the region in allowing outsiders to own property, opening up its real estate market to foreign investment in 2003, and created a mortgage industry to finance their purchases. But lax rules ushered in wild speculation. With real estate prices rising at a double-digit annual clip, investors made a killing buying apartments with low deposits and quickly flipping them.

 

Then when the credit crunch came, buyers fled and developers saw their cash flow dry up. Hardest hit was Nakheel, a subsidiary of Dubai World that created the iconic palm island real estate development off the coast. It has about $8 billion in debt and $13 billion in other liabilities such as bills from suppliers, Barclays Capital (BCS) reports.

 

Dubai's leadership has doubtless mishandled the recent turmoil. The emirate's debt problems have been looming for at least a year, but ruler Sheikh Mohammed bin Rashid Al Maktoum has made little progress in coming to grips with the challenge. As recently as October, Dubai raised nearly $2 billion in new money through an Islamic bond issue.

 

Asked about the emirate's ability to pay its debts, Sheikh Mohammed told reporters: "I assure you, we are all right."

 

Part of the problem is that while Dubai is more open than its neighbors, it's no Jeffersonian democracy. It is dominated by a handful of people, and their decision-making and finances remain opaque. The debt crisis illustrates that. Until recently, no one knew how much debt Dubai had and which state-linked companies it might back in a crunch. Just as murky was the extent to which its wealthier neighbors, chiefly Abu Dhabi, were willing to bail it out.

 

Investors who had assumed the best got spooked when it appeared Dubai couldn't meet its obligations. "To lower the perception of risk, Dubai must become more transparent quickly," says Matthew Vogel, head of emerging markets research at Barclays Capital in London.

Hassle-Free Business Climate

Nonetheless, Dubai remains the region's nimblest competitor. It is a tolerant and comfortable base for anyone seeking a foothold in the Arab world, and today Americans, Europeans, Asians, and Middle Easterners work side-by-side in the senior ranks of its big companies.

 

Salaries are high, and there's no personal income tax. Luxury apartment buildings abound, many of them weekend getaways for residents of neighboring states who flock to Dubai to enjoy lavish restaurants and bars often filled with available young women. Then there's all that famous froth such as the indoor ski slope, the sail-shaped Burj Al Arab hotel on the beachfront, and the world's tallest building, the soon-to-open Burj Dubai.

 

Beneath all the glitz, though, Dubai has become a place where serious business gets done. While the city-state has just 1.6 million residents and a gross domestic product of $80 billion, it is the business gateway for a region with a $1 trillion economy, millions of eager young consumers, and hundreds of billions of petrodollars to invest.

 

Microsoft (MSFT), General Electric (GE), Cisco Systems (CSCO), and a host of other A-list multinationals have flocked to Dubai because of its open culture, top-notch infrastructure, and hassle-free business climate.

 

And virtually every leading investment bank is present in the Dubai International Financial Center, a lavish gray-granite complex with ornate fountains built on what was a desolate patch of sand just a few years ago. A big draw is the emerging market for Islamic financial services, which has become a $1 trillion business globally.

 

"Dubai will continue to lay the foundations for sustainable growth," says Michael Geoghegan, group chief executive of HSBC, the leading lender in the United Arab Emirates with $611 million in loans out to Dubai World. "I am confident that Dubai and the U.A.E. will overcome any short-term issues they face."

Model Gulf State

Dubai's homegrown companies have made their mark, too. At the core of debt-plagued Dubai World is a first-class ports operation, and the company has vast real estate holdings and a host of other businesses that span the globe.

 

Emirates, the airline founded by the ruling Maktoum family in 1985 with $10 million in capital, is now among the world's top 10 carriers and a major customer for both Airbus and Boeing (BA). And Dubai-based Abraaj Capital, an independent group owned by local and Saudi investors, has grown into the leading private equity firm investing in the region.

 

Dubai's success hasn't gone unnoticed in the neighborhood, and nearby states are following its lead. Gas-rich Qatar is promoting its own financial center. Abu Dhabi has announced an $8 billion financial-services joint venture with GE.

 

And it's working hard to transform itself into a higher-end version of Dubai with even fancier hotels and branches of the Louvre and Guggenheim museums. Even hyperconservative Saudi Arabia has taken a leaf from Dubai's book by liberalizing its financial system to draw in Western investment banks such as Morgan Stanley (MS) and Deutsche Bank (DB).

 

What these countries see in Dubai is a chance to move beyond the petro-economy that has provided their wealth but does little to create jobs. The Gulf region has millions of young, underemployed people who want a better life—and who risk being drawn toward Islamist extremism if they don't get it.

 

Some of the most talented of these have made their way to Dubai, where they find a more meritocratic culture that offers seemingly endless opportunities. "They look at this place as somewhere that allows them to do things that they can't do [at home]," says Tarik Yousef, dean of the Dubai School of Government. "It has been built out of nothing."

Hard Choices

While Dubai's neighbors want to emulate its success, that doesn't mean they won't exact a serious political toll for the recent turmoil. The U.A.E., a federation of seven city-states ruled by hereditary clans, is largely bankrolled by Abu Dhabi, but Dubai is its business center. Sheikh Mo, as Dubai's leader is popularly known, is vice-president and prime minister.

 

Abu Dhabi's ruler, Sheikh Khalifa bin Zayed Al Nahyan, serves as president, and he's unlikely to simply write a check to bail out Dubai. Instead, he will probably force Sheikh Mo to make hard choices about developer Nakheel and other troubled enterprises. Some in Abu Dhabi will even want to see Dubai pay for its profligacy by turning over stakes in major assets. The two sides "will sit down and say this is sustainable, this isn't," says Hashem Montasser, Dubai-based managing director of EFG-Hermes, the leading regional investment bank. "I am sure there will be differences."

 

Until Dubai cleans up its act, it will be much harder to find the money needed to keep building the new highways, the public transit system, and other big infrastructure projects that have helped give it its edge. Already businesses in the emirate say it's tough to line up bank credit, and that won't ease anytime soon. "We are expecting it to be very difficult for Dubai-based entities to raise money," says Farouk Soussa, a Standard & Poor's (MHP) analyst in Dubai.

 

Given Sheikh Mo's missteps in the current crisis, he may find himself increasingly under the thumb of his neighbors in Abu Dhabi. It hasn't gone unnoticed that solo portraits of him on billboards in prominent locations across Dubai have been replaced by signs showing both the Dubai leader and Sheikh Khalifa.

 

Dubai may no longer be allowed to run an independent foreign policy. Sheikh Mo has long kept the city-state close to Iran—and tapped into its capital—while most other Gulf states see the Islamic Republic as one of their greatest enemies. And Abu Dhabi, which worries that the U.A.E. is losing its character due to excessive immigration, may push to tighten up on visas for visitors from Iran, Russia, and elsewhere.

 

"The entire U.A.E. will gravitate toward Abu Dhabi," says Ian Bremmer, president of New York-based risk consultancy Eurasia Group. "That means Dubai will become more conservative socially and politically. Dubai's branding will be toned down."

"Don't Count Dubai Out"

That toned-down branding means the emirate will surely rein in some of its excesses. Although the skyline and palm islands won't disappear, further over-the-top development will likely be put on hold. The city-state has "realized it's no longer about building the world's tallest tower," says Saud Masud, research chief for Swiss bank UBS (UBS). "Now it's about Dubai's legacy and its long-term future."

 

And the crisis could help spur greater transparency—admittedly the weakest part of Dubai's economic model, says David Kirsch, an analyst at Washington-based consultancy PFC Energy. "This will put more pressure on Dubai to tighten up on regulations and improve governance," Kirsch says.

 

It is also hard to see Dubai losing its role as the region's leading business hub. It's true that Qatar's Doha, Abu Dhabi, and even the Saudi capital, Riyadh, are scoring some successes in attracting banking and other businesses. And with greater access to capital, they'll be able to close the infrastructure gap with Dubai. But few expatriates are going to want to settle in those places, which don't really want lots of foreigners and their unfamiliar ways anyhow.

 

While Dubai's current problems may be severe, the viability of its economic model remains sound. Demand for business services is down now, but it will surely bounce back once the credit crunch eases. "Don't count Dubai out," says Carlyle Group co-founder David Rubenstein.

 

 "It has world-class infrastructure, a high-quality talent pool, and will continue to be an important financial center for decades to come." Singapore, which has served as an inspiration for Dubai, learned from the crash of 1997-1998 and emerged much stronger from it. Dubai, too, now has the opportunity to take lessons from its mistakes and thrive once again.

IKF Technologies- Here's some food for thought

source: aiii

Till some time back, IKF Technologies was a favorite amongst
investors. Here's some food for thought for all those interested in
it. IKF Technologies Ltd. was incorporated on 22nd, February, 2000 in
the name of IKF Software.com Limited to carry on the software
development business, ITES-BPO and call center. The name of the
company was changed to IKF Technologies Limited with effect from 5th
July 2001. The above two lines speak volumes of the quality and the
opportunistic behavior of the management. These lines are making a
clarion call, that, the management lays more stress on the name,
rather than the operations of the company. In early 2000, the software
industry was booming, so they added software and dot com to their
name. In those times, any company which came with the IPO and had
software in its name, proved to be a multibagger within few days.

Now, what made the company change its name almost after 1 year of its
public issue? Companies change name, when there's a drastic change in
the operation of the company and when the core business of the company
does not remain same. For, IKF , its core business was still software
development and the only reason behind such a move could have been,
the general dislike in 2001, for companies engaged in software
business. That's why I said, the company is more into cashing in on
the sentiments of the investors, rather then through their business
activities.

These days the company is again into limelight, and the gullible
investors are making a multibagger out of this penny stock. The reason
for frenzy and excitement over this counter is quite understandable.
IKF technologies has floated a subsidiary with the name IKF Green fuel
ltd., which it says is one of the front runners in the bio-fuel
industry. I am putting in these details, just to make you aware of the
facts about the company.

Lets dig deep into the numbers

The company has been making tall claims since the beginning of year
2008 about its expansion into the bio-diesel industry, and the area
under cover for the cultivation of jatropha plants. If we take into
account the sales mix of the company for FY2008-09, then 99.99% of the
revenue for the company came from IT enabled services. Now, its been
more than 1 year, since the company started talking about bio-fuel,
but even in the results, as latest as Jun'09, IT enabled services
contribute almost 100% to the revenue of the company.

An interesting fact that came to my notice while going through their
income statements, is that for quarter ending Dec'08, the company's
expense on staff came down by more than 50% in comparison to the
previous quarter. This, downward movement is suggestive of two things:

The company's head count has been reduced to half. But, how can that
happen for a company trying to expand itself into other businesses,
and also looking for funds in the range of 400-500 crores.
So, if the above point is ruled out, then the second case may be that
the company is manipulating its accounts in order to report a higher
Net profit.

Whatever may be the reason, but this thing makes me a bit skeptical
about the activities of the management. Another point of concern, is
that although the company has raised money by issuing GDR, but there
has been a decrease in promoter holding, and they hold just about 8-9%
in the company.

Business Analysis

The company has talked a lot about its bio diesel initiatives in the
past, nothing substantial has happened so far. Going forward, even the
IT and ITES segment revenue for the company will be affected, owing to
the current global crisis. I read in one of their announcements, that
an approval has been obtained for an alteration in the object clause
of of the Memorandum of Association of the Companies Act, 1956 to
enable the Company to commence the activity in the field of
Telecommunication and Solar Power generation. The company is so small
and has not been able to establish its other businesses well, but is
trying to put its hands into too many things. This might not work out
well for the company in the short term as well as in the long run.

Personally, I would not recommend this counter to any of my readers,
as I am not confident about the management and the tall claims made by
them. All the claims made by them, seem to be completely devoid of
substance and it seems as if they just try to play on the mind of an
innocent investor.

For more such stock analysis
visit www.hbjcapital.com, www.multibaggerpennystocks.com

Regards
Ekansh-Hbjcapital (ekansh@hbjcapital.com)
9350529926

Oil-rich Sheikhs in the Middle East are scared. How ?

Because they are buying gold like crazy!

First, we got the news that Saudi investors spent $3.47 BILLION on gold in a recent two-week period. On a ratio-to-GDP basis, that's like investors in the U.S. spending $131 BILLION.

Why are they doing this? The only explanation I've heard is that the Saudis are turning to gold as a safe haven in the midst of the global financial crisis. And since the financial crisis kicked into high gear in August ... something must be scaring them quite a bit more right now.
Second, Reuters reports that Iran is converting some of its foreign currency reserves to gold. Iran has $120 billion in foreign currency reserves ... there's no details on just how much was shoveled into the yellow metal.

Third, gold dealers in Dubai reported running low on gold during the recent Indian holiday, the Festival of Lights, a traditional time for Indians to buy gold. More than 50% of the population of Dubai originally comes from India. And about 20% of the world's gold is traded in Dubai.

The world is in the grip of economic hard times — over 40 countries are officially in a recession. Japan just joined that unhappy club. And the euro-zone nations are already there.


The oil producers are used to a world where U.S. oil imports always go up. But that world has been turned on its head. In September, crude oil imports dropped to 8.4 million barrels per day, down a whopping 16.5% from the average of 10.1 million barrels registered a year earlier.
U.S. crude oil tumbles.

This is helping the U.S. trade deficit, but for all the wrong reasons. The way to get lower oil prices is through conservation. Now though, Americans are being forced to conserve by economic hardship.

And since the U.S. uses one-fourth of the world's oil, our falling imports are a major driver of cratering oil prices ...

There is strong support for oil at $50. But you know that the Saudis, Iranians, Venezuelans and other OPEC heavyweights made their budget plans based on much higher prices. And cheap oil means the only way they can make up revenue is by pumping more oil ... which should weigh on prices even more.

Looking forward, it gets worse for the oil producers ...

Just last week, the Energy Information Agency projected that OPEC could earn $595 billion in 2009. That's way, way down from projections of $979 billion of net oil export revenues in 2008, and even lower than the $671 billion it earned in 2007.

Saudi Arabia earns 29% of OPEC's total revenues. If their revenues go back to 2006 levels, what will that do to the political situation in a country that is already sitting on a fundamentalist Islamic powder keg?

Yeah, that might be a really good reason for the Saudi fat-cats to buy gold

whether this step reap gains or backfires remains to be seen.

Annual report analysis: Pantaloon Retail (Outperformer) from IDFC - SSKI Research

Pantaloon Retail (CMP: Rs352)            

Mkt Cap: Rs58bn; US$1.3bn       Bloomberg code (PF IN)

Key highlights of PRIL’s Annual Report

Operational highlights - Standalone

·          In FY09, Pantaloon Retail (standalone) added 1.8m sq. ft of retail space (2.4m sq. ft in FY08) with 9.7m sq. ft of retail space under operations as of June 2009. Revenues grew by 25.6% yoy to Rs63.4bn with value retail revenues at Rs45.3bn and lifestyle retail revenues at Rs17.7bn.

·          Owing to the economic slowdown in FY09, PRIL witnessed a significant slowdown in same store sales growth – for value retail to 7.4% (10% in FY08) and for lifestyle retail to 6% (10.3%). Nevertheless, the numbers are far ahead of that for rest of the industry, which witnessed same store sales decline.

·          Overall EBITDA margins improved by 140bp to 10.5%. While gross margins dropped by 30bp to 30.1%, PRIL witnessed substantial savings on overheads like employee cost, advertising cost and lease rentals. Overheads have also eased as PRIL has cut down on non-profitable formats.

·          While EBITDA grew by 45% in FY09, PAT is up by just 12% on the back of higher depreciation and interest costs. Interest cost increased from Rs2bn to Rs3.2bn on the back of increase in total debt from Rs21.9bn to Rs28.5bn and higher weighted average cost of debt (from 11.15% to 11.37%).

Balance Sheet highlights - Standalone

·          PRIL’s balance sheet size increased by 28% from Rs41.1bn in FY08 to Rs52.4bn. Of this, capital employed on the standalone retail business has increased from Rs35.2bn to Rs42.8bn.

·          PRIL issued 15.1m shares on preferential basis at Rs183/ share, thereby raising Rs2.75bn, of which 11m shares were to the promoter company – PFH Entertainment. PRIL also issued 5m warrants to promoters and promoter group at Rs183. Around one-fourth of this amount (Rs229m) was received during the year.

·          Debt on the books has increased from Rs21.9bn to Rs28.5bn with secured term loan increasing from Rs12.9bn to Rs17.7bn. Debt equity ratio at the end of FY09 stood at 1.3x (levels similar to in FY08) and Debt to EBITDA has come down from 4.76x to 4.26x.

·          Overall gross block addition during the year stood at Rs5bn. While capex towards furniture and fixtures was Rs1.6bn (1.8m sq. ft of retail expansion), PRIL has invested an incremental Rs1.6bn into computers and software. This investment is in line with the measures taken for improving inventory management systems.

·          PRIL’s investment in subsidiaries and JVs has increased significantly during the year from Rs5.9bn to Rs9.5bn. Of the incremental Rs3.7bn of investments in subsidiaries, PRIL has invested an additional Rs1.18bn in Home Solutions Retail, Rs219m in Future Knowledge and Rs823m in Future Generali India Life Insurance.

·          Net Working Capital as of end-FY09 stood at Rs23.7bn, up from Rs19.9bn in FY08. On per sq. ft basis, net working capital stood at Rs2,453, lower than Rs2,528 in FY08.

·          Inventory stood at 103 days and inventory per sq. ft has increased from Rs1,815 in FY08 to Rs1,850 in FY09. Loans and advances have increased from Rs9.6bn in FY08 to Rs12bn in FY09, including Rs8.16bn of deposits (Rs7.15bn in FY08) and Rs3.57bn of advances to other-than subsidiaries (Rs1.8bn in FY08). Of the total deposits, we estimate ~Rs4.5bn to be towards deposits on existing operational stores (10-11 months of rentals) and ~Rs3bn towards upcoming stores.

Operational highlights - Consolidated

·          PRIL’s consolidated revenues stood at Rs76.7bn (Rs58.4bn in FY08), pre-tax loss at Rs161m (Rs145m of pre-tax profits in FY08) and PAT after minority interest of Rs100m (Rs219m in FY08).

·          Among the various subsidiaries, key contributors to PRIL’s consolidated revenues are Home Solutions Retail (contribution of Rs10.7bn), Future Agrovet (Rs3.9bn), Future Logistics (Rs1.9bn), Future Capital Holdings (Rs1.3bn) and Future e-commerce (Rs1.2bn).

·          PRIL’s subsidiaries and Joint Ventures have cumulatively incurred pre-tax losses of Rs2.3bn. Of this, Home Solutions business has accounted for Rs569m of losses, Future Capital Finmart Services (Future Money) incurred losses of Rs469m and pre-tax losses in Future e-Commerce stood at Rs284m.

·          Future Logistics raised USD10m during the year by placing a 10% stake to Li and Fung, one of the leading logistics service providers. Li and Fung has an option to further increase its stake to 26% by incremental infusion of USD20m.

·          Future Generali Insurance (Life and Non-Life) businesses also added Rs340m to the losses while Future Axiom Telecom accounted for another Rs329m of losses. PRIL has scaled down business operations of Future Axiom Telecom.       

Balance Sheet highlights - Consolidated

·          PRIL’s consolidated balance sheet size has grown from Rs54.3bn to Rs67.5bn.

·          Consolidated debt has increased from Rs27.7bn in FY08 to Rs38.6bn in FY09 with overall interest expenses rising from Rs2.2bn to Rs4.2bn.

·          Total gross block has increased from Rs18.8bn to Rs25.9bn and investments have increased from Rs7.3bn to Rs9bn.

·          Among the subsidiaries, Future Capital’s balance sheet size is Rs11.4bn (up from Rs9.6bn) and Home Solutions balance sheet stood at Rs8.2bn.  

Valuations & view

PRIL continues to be the largest and fastest growing retailer in India with 11m sq. ft of retail space under operations and 2.5m sq. ft of retail space being added annually. Growth from here, we believe, would be more calibrated as PRIL focuses on proven and profitable formats like Big Bazaar, Food Bazaar, Pantaloons, Central and Brand Factory. While we are confident of 26%+ CAGR in revenues over FY09-11, PRIL’s efforts on inventory management (auto replenishment system, warehouse management system, SKU rightsizing, etc) would help right-size the retail balance sheet. The demerger of Future Capital and Future Generali business operations would further reduce the pressure on retail balance sheet. With Rs9bn of cash profit generation, Rs5bn from the recent fund raise and rightsizing of the balance sheet, PRIL is well placed to deleveraged its balance sheet  -- this, we believe, will trigger a re-rating of PRIL’s retail business. We maintain our Outperformer call on the stock with a price target of Rs402.

SoTP based valuations

	Basis of valuation	Entity valuations (Rs m)	Per share value (Rs)
Standalone retail operations	8x EV/E FY11E	81,548	418
Home Solutions	Capital Employed	1,653	9
Future Logistics	90% stake at value attached by Li Fung	4,320	22
Future Capital	55% holding - current market cap	8,312	43
Other subsidiaries	Capital Employed	6,177	32
Total entity valuation		102,011	523
Less net debt - standalone		23,443	120
Equity value		78,568	402

 IDFC - SSKI Research

Dubai Crisis impact on Indian Stock Market

Indian Highest foreign exchange earner is remittance and it has been higher than Indian exports and UAE forms 25% of the inflows into India. So any crisis in Dubai will have more impact for India than any other country in my view. Indian demand has come from its consumption and this has been possible due to large Indian work force working in Gulf region feeding rural demand in India.

Dubai, part of the oil-exporting United Arab Emirates, said on Wednesday it would ask creditors of state-owned Dubai World and Nakheel to agree to a standstill on billions of dollars of debt as a first step toward restructuring.

Dubai World, the conglomerate that led the emirate's expansion, had $59 billion of liabilities as of August, most of Dubai's total debt of $80 billion. Nakheel was the builder of three palm-shaped islands off Dubai.

The news shook markets recovering from the collapse of the U.S. housing bubble and contagion that threatened to rupture the global financial system last year.

US was India’s biggest export destination until 2007-08, the emergence of oil-rich UAE as the biggest buyer of Indian goods, according to disaggregated data now available with the commerce ministry, is primarily because of a paradigm shift in the gems & jewellery business.
UAE pips US as India’s top export market http://www.financialexpress.com/news/UAE-pips-US-as-India-s-top-export-market/545394/

Nakheel has an equal joint venture with the country's largest realty firm DLF for developing townships. Nagarjuna Construction (NCC) has an exposure of about Rs 1000 crore in Dubai, data compiled by Religare Hichens Harrison shows http://timesofindia.indiatimes.com/biz/india-business/Market-watching-UAE-funds-stake-in-Indian-cos/articleshow/5277102.cms

Indian exports to the UAE for the period 2006-2007 standing at $11.7 billion as compared to $7.33 billion in 2005-06.”

Read more: http://www.thaindian.com/newsportal/business/uae-emirate-attracts-indian-investors_10031127.html#ixzz0Y7VQ7mAL

UAE Ambassador Mohamed Sultan Abdulla Al Owais said UAE’s trade volume with India — $87 billion — represented more than half of India’s trade with Gulf Cooperation Council (GCC) member-countries.

Read more: http://www.thaindian.com/newsportal/business/uae-calls-for-greater-trade-ties-with-india_100267465.html#ixzz0Y7VoITk7

With dark clouds gathering around the global economy once again on concerns that two of Dubai-owned companies may default on their debt obligations, fledgling corporate India, which has begun spreading its wings globally in recent years, is feeling some impact here. India infrastructure companies especially have exposure to the Dubai economy and its once-booming real estate business.

Let’s run a status-check on which companies, especially in the infrastructure sector, are exposed to Dubai and how it may impact their businesses.

Nagarjuna Construction

YD Murthy, Executive VP - Finance of Nagarjuna Construction, said that the company has only one venture in Dubai, a 440-apartment project, and is going slow on it.

The company is also doing a Rs 100-crore water pipeline project at Dewa, Dubai. “There is no default payment problem at the Dewa project,” Murthy said. “The company’s Middle-East exposure is mostly to government-owned agencies,” he added.

Larsen & Toubro

Larsen & Toubro has exposure in multiple segments in Middle East, R Shankar Raman, Executive VP - Finance told CNBC-TV18. “The company has exposure in the hydro-power segment. Our total exposure to the Middle-East over the last two years is to the tune of USD 200 million,” he added.

Punj Lloyd

The infrastructure player has no exposure to Dubai or real estate exposure in UAE, Luv Chhabra, Director of Corporate Affairs at Punj Lloyd said. “We are doing only oil & gas projects in Abu Dhabi where there are no concerns at all,” he said. “40% of our order book comes from West Asia. The crisis has particularly hit the real estate sector in Dubai. No impact is expected in other states like UAE capital, Abu Dhabi.”

Voltas

MM Miyajiwala, Executive VP and CFO at Voltas, said the company is executing a Rs 900-crore project in Dubai as part of a joint venture where Voltas has 37% stake. “We are executing the project for Emaar and the client has fully funded the project. Thus, we are not anticipating any delays,” he said. “Our order book is primarily from Abu Dhabi and Qatar. Dubai also has not defaulted on any of our payments.”

Bank of Baroda

Bank of Baroda has some real estate exposure to Dubai accounting to 5–6% of its loan book but CMD MD Mallya there won’t be any impact. “Interest on all loans in Dubai have been paid till last due,” he said. “Bank of Baroda has 10 branches in the Gulf region. It has small banking exposure, mainly for remittances in the region.”

Mallya added that the bank also has exposure in Abu Dhabi, Ras-Al-Khaimah and Bahrain.

Unitech

The company said it had not exposure to Dubai real estate.

DLF

DLF has no exposure to Dubai, it said.

Indiabulls Real Estate

The company does not have any direct/indirect investment in Dubai and West Asia, it said. “Any of the Indiabulls Group companies and in particular Indiabulls Real Estate doesn’t have any direct or indirect investment in Dubai or Middle East,” the group stated in a release.

Hiranandani Group

The unlisted group is constructing a project in Dubai, 97% of which was already sold and 65% payment had been received, Chairman Niranjan Hiranandani said. “The Dubai market crash won’t have any negative impact on the company.”
Hiranandani added that Indian property prices should go up because of the Dubai market crash.

Omaxe

Omaxe is likely to exit its two real estate projects in Dubai. “We will soon decide on exiting the Dubai realty projects,” Dow Jones quoted Omaxe Chairman Rohtas Goel as saying.
“We had planned a Rs 2,850 crore investment in Dubai,” he said. “We have already paid Rs 50 crore to Nakheel as first instalment and may seek refund if we exit the Dubai project.” He added that Omaxe was yet to receive possession of any land from Nakheel.

HDIL

HDIL has no exposure to Dubai, it said.

SpiceJet

Dubai World’s investment arm, Istithmar, holds 13% stake in SpiceJet

Aban Offshore

The oil exploration company has deployed six rigs in West Asia.

Here’s how the stocks reacted on the indices. Prices are those trading at 14.00, Friday:

Company	Price	% Chg
Aban Offshore	1,215	7.70
HDIL	295.5	6.97
Indiabulls Real Estat	190.7	5.45
Bank of Baroda	517	5.44
SpiceJet	44.7	5.40
Nagarjuna Const	153.75	4.86
Omaxe	91.05	4.56
Punj Lloyd	197.05	4.44
DLF	339.1	4.28
Larsen & Toubro	1,562.10	4.20
Unitech	3.05	3.95
Voltas	162	3.31
Hiranandani Group

http://www.moneycontrol.com/news/business/dubai-crisis-which-indian-companies-may-be-affected_427638.html