DeepWealth

Reliance Communications dubbed "poster child of everything wrong with Corporate India"

2011-07-21T01:18:00.002-12:00

Direct Link to Veritas Canada Report.

Misappropriating A Fortune - The Full Version Reliance Industries Ltd.

MoneyLife Exclusive Article on the above report

Note:
RPower IPO was also an instance in my view, which shows the path they follow.
Hype, DrumUp, Dump.
and Create risk free wealth for themselves by using creative accounting when listing companies.!

Common fudges in India Inc's accounting standards

2011-07-11T20:42:00.000-12:00

In recent times, many companies have resorted to inflating their numbers in keeping with their reputations or to meet investor expectations. What started as a trickle is now a full-fledged practice.

Fortunately, equity analysts have been quick to sift through annual reports and flag instances of creative accounting. Here are some of the more common fudges in corporate India's accounting standards.

http://economictimes.indiatimes.com/quickiearticleshow/9186447.cms

Good India NSE / BSE Related Fundamental Stock Screeners

2011-07-10T02:52:00.001-12:00

Found Three Sites which have Really GOOD stock screenrs

Capital4.com: Stock Screener,

Ask Kuber Screener

TraderCockPit

Happy Scanning.!

For fundamental data check this link
http://deepwealth.blogspot.com/2006/01/fundamental-information-scanners-of.html

>Five Key Fund Investment Lessons

2006-07-09T17:22:00.000-12:00

The Morningstar Investment Conference is one of the best events of the year for fund investors. But few individual investors actually go; the audience is mostly financial advisers and money management pros, experts who in many cases are worried more about the latest trend than about the basics that make for investment success.

An average investor who came here for the recent Morningstar event and listened carefully would have come away with five big lessons that seemed to come up in session after session:

1. Beware the attraction of short-term bets when looking for long-term outcomes

There have been countless studies of fund investor behavior showing that typical consumers don't do as well as the funds they buy. The discrepancy is caused mostly by losing confidence in a fund and jumping around, constantly trying to make headway with whatever is hot today.

Michael Mauboussin, chief investment strategist for Legg Mason, compared it to grocery checkout lines or changing lanes in the highway, always searching for what appears to be the fastest route to your destination.

"Very rarely does changing lanes get you there significantly faster," Mauboussin said during his keynote address, "but there are risks involved in making the change and you can wind up further behind -- or worse -- if you make the change at the wrong times."

2. When it comes to information, 'availability bias' is a problem

Morningstar is in the investment-research business and has made its name helping investors see through the skin of securities, first mutual funds and then stocks and exchange-traded funds. Where old-time investors had to rely a lot more on blind faith, today's investors have tools -- like Morningstar ratings, regular performance updates and much more -- that they depend on.

But several speakers noted that investors tend to have a problem with "availability bias," where they confuse access to information with relevance. Think of it like the Queen of Hearts in "Alice in Wonderland," where every bit discussed in court is decreed "very important!" although most of it is meaningless.

Investors frequently ascribe significance to short-term performance numbers, or watch the flow of money into various asset classes, thinking they say something important about long-term trends; frequently, this is how people wind up missing out on gains and buying into declines.

3. About half of all funds available today deserve to die

No one actually says this on the podiums at the Morningstar event, but they whisper it in the exhibit hall and in conference rooms.

The exhibit hall featured a number of companies whose best products could charitably be called mediocre, but realistically should be described as awful. Many firms created funds simply more for their ability to sell them rather than their capability for managing them well.

Thousands of laggards would be out of business if fund investing was a meritocracy. Since fund companies won't close these funds, it is up to investors to hold funds to a simple standard, namely that results are not disappointing over a long stretch of time.

4. Expect large-cap stocks to hit their stride in the next 12 months

You can't go to an investment conference without getting some prognostications for where the market is headed, and the consensus among experts at the Morningstar event was that the big names are due for a pick-up.

Large-cap stocks -- particularly for value-oriented investors -- are about as cheap as they have been in a long time, having lagged small-cap stocks for six to eight years (depending on which benchmarks you prefer). Stellar fund managers such as Bill Nygren of the Oakmark fund or Bill Miller of Legg Mason Value Trust have been migrating towards large-cap names.

For buy-and-hold investors -- as well as people who fled the bear market for the comfort of recognizable names -- a boost in the large-cap arena would be good news indeed.

5. There's a balance between running with the herd and being so contrarian you're wrong

Many of the top managers at the event discussed how they like to go against popular thinking, with the basic idea being that when everyone on the deck of the ship tilts to one side, the safest place may be the other side.

But the only difference between a contrarian and a fool is that the contrarian tends to be proven right (eventually), while the fool who kept trying to beat the herd failed to even keep up with it.

In plain speak, that means that when all of the experts start loving, say, large-cap stocks, that doesn't mean it's time to bail out of everything else. Diversification allows you to participate in the best of the market, no matter which way certain asset classes are running.

>Moats and Risks

2006-07-03T07:11:00.000-12:00

Finding great companies is as much an art as it is a science. If successful investing were as simple as plugging historical numbers into an equation, excess returns could theoretically be had by all--and therefore by no one.

The best approximation of a firm's intrinsic worth is the present value of its future forecast cash flows discounted at its cost of capital. This definition inherently contains plenty of "science," but the key word here, where the paths of different investors often diverge, is "forecast." It is here where variation of opinion and intuition regarding a firm's profitability, competitive advantages, and cash flow certainty create the opportunity to dig up treasures now that few others see until it's too late.

Bridging the Gap
There are several tools that we can use to interpret the fundamentals of a firm in order to bridge the gap between art and science, hopefully paving the way to a nice profit in the process.

Two of favorite bridges that help us arrive at a prediction of a company's intrinsic value and a "consider buying" price are moat and risk.

Briefly, an economic moat is a firm's ability to utilize its sustainable competitive advantages to outperform rivals and earn returns greater than its cost of capital.

The risk of a company, on the other hand, is the strength of the underlying business and the predictability and certainty of its future cash flows. Risk is determined by analyzing factors such as cyclicality, leverage, legal issues, and other outside events. In turn, risk ratings affect the size of the margin of safety that we build into our investment.

But not everyone's opinion, interpretation, or prediction of these metrics is the same. This is where we believe value can be found: by correctly selecting firms with economic moats that are trading at attractive discounts to our fair value estimate, given the margin of safety implied by risk rating.

Causation or Correlation?
So how exactly should moat and risk be interpreted in the investment decision-making process? Below is a breakdown of the 1,797 stocks we cover at Morningstar as of June 28, 2006:

The critical point is that, in general, stocks with moats tend to have lower risk ratings, and no-moat stocks tend to have higher risk ratings.

One can conclude from these figures that there is indeed a strong correlation between moat and risk. However, it's not a causal relationship. Not all stocks with moats carry low risk, and not all risky stocks lack moats.

The Great Sports Metaphor
Let's compare moat and risk in the context of something a bit less intricate: baseball. What makes a moat for a baseball team? Perhaps it is the club's ability to earn returns (score runs) greater than its costs (its opponents' runs). Let's go with that. If a team can do this--outscore its opponents--for an extended period, it will have an excellent record. A baseball "investor" would want to own a team with competitive advantages--such as strong hitting and pitching--that wins more games than it loses in the long run.

So what determines the riskiness of a team? Remember, we believe that the risk of a firm represents the certainty of its future cash flows, or our confidence in our fair value estimate and the price at which we would recommend investing. Baseball risk would therefore be the year-to-year predictability of a team's record. Contributing factors would be those such as the club's experience, performance consistency, player turnover, and injury-proneness.

Whether you're a fan or not, the New York Yankees are one of the most consistent baseball teams in history. They would most likely be awarded a low risk rating. But not only are the Yankees consistent, they are consistently successful. It is not hard to see how a set of low risk factors can coincide nicely with a winning record. After all, a steadily performing, experienced team of healthy veterans (a team with low risk) has little else to worry about except getting better; consequently, it may very often be able to best its opponents throughout the season.

Back to finance. Take companies like Microsoft MSFT, Coca-Cola KO, or Fastenal FAST--all firms that we believe have both wide moats and below-average risk. Like the Yankees, we think that the likelihood of these corporations outshining their respective competitors in the long run is good. We also believe that the transparency and certainty of their future cash flows is rather high--hence the low risk rating and small margin of safety.

While a wide moat and low level of risk do not cause one another, they are certainly related, or derived from the same kinds of "scientific" metrics.

Think of it this way: A firm's ability to outperform peers and earn more than it spends usually results in strong cash-flow generation.

In an "iron-sharpens-iron" sort of manner, strong cash flow can often build on itself, muting cyclicality, reducing the need for leverage, and making returns more predictable. Just like the low-risk baseball team, more-predictable returns mean that the company can better concentrate on moat-widening operations rather than risk-narrowing ones.

There Are Always Exceptions
Just because a firm has a moat or wins more games than it loses does not mean it is without sizable risk. Every so often, an inexperienced, "risky" baseball team with a more-uncertain future emerges as a league-power. This kind of team may be much more unpredictable than your typical moaty team, but its ability to defeat its opponents may nonetheless be undeniable. Might this team still be a good "investment"? Certainly, we would say, but only at a much larger discount to our fair value estimate!

A great corporate parallel here is Merck MRK. We believe that Merck has an economic moat; its successful portfolio of proprietary drugs has enabled it to outperform competitors and generate high returns on capital. If all goes well, we expect this to continue. However, our certainty in the level of its profits and cash flow is less than with a typical firm. Merck's shares may be subject to considerable volatility, as lawsuits and legal costs related to product recalls threaten to stifle its ability to keep cash flows consistent.

Finally, let's take a quick look at the opposite extreme: a below-average risk, no-moat stock. The leading bookseller in America, Barnes & Noble BKS, operates in a fairly stable industry with reasonably predictable cash flow. However, the bookselling trade is a rather stagnant business and tends not to provide returns on investment in excess of a firm's cost of capital. Barnes & Noble would therefore be akin to a baseball team that, while reliable, is unfortunately expected to reliably chalk up a losing record year after year (sadly, my beloved Chicago Cubs come to mind).

Clearing the Bases
The key takeaway from this discussion is that risk rating is considered separately from--but is by no means unrelated to--a firm's ability to sustain an economic moat.

Furthermore, while the moat rating affects discounted cash-flow modeling assumptions, the risk rating directly contributes to our margin of safety.

Microsoft and Merck earn similar wide-moat benefits in our valuation model, but we would prefer to buy Merck at a 36% discount to our fair value estimate, while we'd be comfortable buying Microsoft at just a 15% discount.

Therein lies the difference. Moat reflects our confidence in a firm's competitive position, while risk reflects our confidence in its future cash flows and the price at which we'd consider buying.

>Historical Posts

2006-06-27T19:37:00.000-12:00

For old Gold dig here.

>The secret behind great investments

2006-06-26T15:28:00.000-12:00

The secret behind great investments is `gutsy moves'

The masters don't gamble. "They invest deliberately and purposefully, and they outperform the average investor as a result."

Markets have been going down and up. If that makes you feel queasy, here is help. "You can achieve success in the stock market if you follow a set of well-defined investment principles and refuse to abandon them when the market acts irrationally," assures Scott Kays in 5 Key Lessons from Top Money Managers, from Wiley (www.wiley.com).

First check if you belong to the majority in the world of investment that comprises those who want hot stock tips. "Unwilling to learn the rudiments of investing, they invest in companies because `they've been going up.' The thrill of the action is as important to them as the profits they make." To them, investing is not about maximising the returns over time.

The minority are the few who study the art of investing "in a constant effort to increase their knowledge and improve their skills." Kays points out that these people take time to learn what matters when buying the stocks. "They don't gamble; they invest deliberately and purposefully, and they outperform the average investor as a result."

Chapter 1, titled `The return of common sense', reminds us that many complex investment strategies only veer investors away from the crux. "What kind of pattern is the stock's price chart forming? What was the stock's relative strength last week? The masters classify these questions as irrelevant distractions."

More right than wrong

Great investments are about `gutsy moves,' requiring the execution of the fundamentals, using `straightforward methodologies,' even as lesser mortals look for `something flashy, something unusual, to give them an edge.' The difference is simple: "The naïve talk of what should do well over the next few weeks; the masters consider the long term."

The author devotes a chapter each to five top money managers, beginning with Andy Stephens of Artisan Mid-Cap Fund. The art of portfolio management, the way Stephens does it, is to be right more than being wrong — at least to be right in a bigger way. "It's a trade-off between capitalising on opportunities and protecting my downside if I make a mistake," he says.

Structural competitive advantage that he seeks in enterprises has four components, viz. dominant market share, proprietary asset, lowest cost structure, and defensible brand. "Firms that possess two or more of these advantages will likely perform in the upper quartiles of their industries. Because their cash flow is safeguarded, investors can value these firms with a higher level of confidence."

Lessons from mother

Next expert is Bill Nygren of Oakmark Select Fund, who learnt all about investing from his mother. She kept the family on a strict budget, he remembers. "A true value shopper, she visited three supermarkets each week, checking out the specials they were each running... If an item was fully priced, she bought less of it or passed on it completely."

Kays notes that buying quality, undervalued-companies gets you only halfway to a successful investment experience. "Knowing when to sell a security is just as important. Fortunes have been lost because investors have tried to squeeze every penny out of winning situations and held on to positions long after they should have gotten rid of them."

Sell a company when its price reaches 90 per cent of its fair valuation, Nygren advises. "Liquidate a position when a company fails to perform fundamentally as you expected. If you realise you made a mistake, the sooner you admit it and deal with it, the more likely you will minimise its impact on your performance," are further insights of immense value.

No lottery tickets

The third expert that Kays introduces you to is Christopher C. Davis of Selected American Shares. The foundational principle he adopts to select securities is, "Stocks are not pieces of paper like lottery tickets, but they represent ownership interests in real businesses." Once you accept that, answer the following two questions: "What kind of businesses do you want to own? And, how much should you pay for them?"

According to Davis, "Businesses that grow their values at above average rates for long periods of time make the best investments." His three criteria of superior businesses are: Financial strength (as evidenced by a strong balance sheet and high returns on invested capital), competitive advantages (such as brands, patents and economies of scale), and shareholder-oriented management (with a strategic vision and a realistic plan).

To assess the last criterion, that is, shareholder orientation, Davis digs deep to understand `the thought process and logic' of the company managers' capital allocation decisions. "Before he invests in a company, he ensures that managers have a strong understanding of their cost of capital and the return they expect to achieve on investments."

Compound mystery

Bill Fries of Thornburg Value Fund, the fourth expert you encounter in the book, recounts how his eighth-grade teacher unlocked the mystery of compound interest, and sparked his interest in saving and earning money on money!

What is his investment technique? He divides his portfolio into three types, viz. basic value, consistent earners, and emerging franchisees. Fundamental research that he uses filters out for promise and discount. "A cheap stock can remain cheap indefinitely," he cautions. Identifying cheap stocks is easy; what's tough is "finding companies that can achieve a healthier than generally expected future."

Two core philosophies

The fifth expert is John Calamos Sr, of Calamos Growth Fund. His core philosophies are two. One, "to create wealth, you have to give up some of the upside to preserve capital on the downside." Calamos quips, "I'm long-term bullish, short-term scared, all the time." While the economy can create significant prosperity over time, "the stock market can drop unexpectedly at almost any moment," he warns. "When that happens, he wants to maintain his principal intact, even if that means missing out on some of the market's growth during the good times," explains the book.

His second philosophy reads, "No strategy works very well for very long, so you have to keep evolving your process." Calamos says there is no `magic quantitative equation' that works all the time. "If such a formula existed, everyone would use it and it would no longer work. What works at any point in time constantly shifts."

>The Leverage in the System and the Weak US$

2006-06-26T14:55:00.000-12:00

We always like to quote Bastiat and highlight that economics is all about what we see, but more importantly, what we do not see. Take consumer leverage as an example. For years, the perma-bores have warned us that the amount of leverage the US consumer was taking on invited an economic disaster. Instead, and despite numerous crisis (9/11, Iraq War, Enron, Sars, Katrina, Refco...), the US consumer has continued to do what he does best: consume. Most people did not see that the increase in leverage (what we saw) was made possible by the fall in the volatility of US economic growth (see Our Brave New World).

A worse trend, also prevalent amongst financial commentators, is to link two events that have strictly nothing to do with one another. Take this weekend's Financial Times headline: US Dollar Takes a Pounding Because of Current Account Deficit (then why doesn't the AU$? Or the GBP?). As our clients know, this is "non sequitur" if ever there was one and it is about as credible as the "interest rates go up because of the budget deficit" argument of a few years ago. The first part of the phrase is true (the US$ is falling), the second part of the statement is true (the US does run a current account deficit) but the link between the two is completely arbitrary (try finding a correlation between current account deficits and currencies). As our readers know, the truth of the matter is that the FT's headline is based on three premises, all of them wrong:

1. That imports and exports should balance over time. This is factually incorrect, the US has had a current account deficit for most of its History, except during a few years after WWII. This has not stopped the US from having a spectacular growth and a relatively stable currency. Moreover, looking at the past fifteen years, we find that the best performing OECD economies (UK, US, Australia, Spain) have run large deficits while the model students with the current account surpluses (Germany, Switzerland, Japan) have been economic laggards. So what is the point of surpluses?

2. That imports and exports have similar margins. Wrong again, if one imports cars and sells software, the margins are not the same. If the US trade balance were to be computed with profits and not with sales the US would have a huge surplus (see What Investors Should Know About the US Current Account Deficit).

3. That one should compare the deficit with the GDP. Wrong yet again. One should compare the deficit with the size of the assets that the foreigners can buy with their excess dollars. As Anatole tried to demonstrate to Steve Roach at the recent Morgan Stanley conference (see Do Imbalances Matter?), the current account deficit is miniscule when put in comparison with the size and the growth rate of the US assets.

But yet the US$ is today very weak. And if it is not the US current account deficit and the ever-forthcoming refusal of foreigners to fund the US' lavish lifestyle, what drives this weakness? And how long will it last?

This brings us back to what we see (the US$ falling, the large US current account deficits...) and what most do not see (the unwinding of the Yen carry trade, the buildup of large amounts of leverage in the system where it is the least monitored etc...).

1- The End of the Yen Carry Trade

We have argued for a while (see The Importance of Japanese Liquidity Flows, or the May Monthly Review...) that the combination of Japan's quantitative easing policy + zero interest rate policy + FX stabilization policy, led to a massive export of capital by Japan to the rest of the world, to an enormous bull market in fixed income everywhere (see Of Bonds and Zombies) and from there, to a bull market in most asset classes (real estate, distressed debt, equities...).

As Japanese authorities pumped money into the system, told investors they could take money for free and re-assured everyone not to worry about potential swings in the value of the Yen, the Yen remained under pressure and stayed far below its purchasing parity against the US$ and Euro.

In our research, we argued that Western central banks could not hope to tighten monetary policy while Japan's three policies (QE, ZIRP, FX stabilization) remained in place. In other words, their tightening efforts would always be negated by Japan's easy and free money. This meant that if Western central banks were serious about removing excess liquidity from the system, they would have to start leaning heavily on Asia's central banks (see The BoJ in the Line of Fire).

And sure enough, this is what happened last month at the G7 meeting. Following its pledge to abandon its policy of quantitative easing (note the collapse in the growth rate of Japanese monetary base-and note the dates previous collapses occurred), Japan seems to have abandoned its policy of FX stabilization. Indeed, the Yen has rallied very violently from Y118 to Y109 without as much of a pip from the MoF or the BoJ.

Now interestingly, the markets initially seemed to brush-off the Yen's rise. But when the Yen passed Y110/US$ last Friday, it was as if someone had cried "fire" in the proverbial over-crowded theatre. Or, as our friend Dennis Gartman likes to say, all of a sudden at Y110/US$, the "margin-clerks took over from the money managers".

And this brings us to a first observation: recent events in the financial markets have had less to do with US$ weakness (hence the stupidity of the FT's headlines) as with strength in the Yen. Indeed, unlike 2004 when the US$ was falling against every currency, this time around, the US$ is falling, but a number of Emerging Market "risky" currency (which had done so well in 2004) are falling even faster. In the past week, against the US$, the Turkish Lira has fallen -13%. Yesterday alone, the Indonesian Ruppiah fell -3.7%, the RSA Rand fell -3% (despite high gold prices), the Polish Zloty lost -1.9%... Undeniably the margin clerks are back in charge and the yen carry trade is being unwound.

So far, so good. And without wanting to crow, we would say that the above developments made sense and seemed to go "according to plan". Apart from one factor: the impressive rise in the Euro (and other European currencies).

2- Listening to Outliers

Given the end of the Yen carry trade, and the mini-squeeze currently happening in financial markets, the rise of the Euro came (as our readers know) as a large surprise. And it is by studying the "surprises" (a pleasant euphemism for mistakes) that one usually finds the most interesting information. Indeed, our work is based on the study of historical relationships, and the application of logic. And when historical relationships and/or logic fails it is usually that something "new" or something "different" is happening. This is why we never shy away from saying that "things are different this time"; as expensive as these words might be, they are a whole heck of a lot cheaper than saying "things are always the same"!

Having said that, looking at the Euro's recent rise, we are inclined to conclude that there is little difference this time. In fact, the situation is very similar to the situation we experienced in the late 1970s. Let us explain.

3- Two Pools of Reserves

Let us start with a few undisputable facts:

Fact #1: Most countries in the World, especially modern developed countries are "short oil"; they do not produce enough oil domestically to meet their needs.

Fact #2: Oil is priced in US$. In fact, since the end of WWII, the US$ has been by and large the recognized currency of international trade. When France buys oil from Algeria, the barrels are quoted in US$. When China buys tin from Malaysia, US$ are exchanged. If Nokia buys chips in Taiwan, the chips are priced in US$...

Fact #3: Given that the world needs US$ to trade, the US is sort of forced to run a current account deficit and export US$ (otherwise, how would Nokia get the US$ to fund its purchases in Taiwan?). This explains why improvements in the US current account deficit usually lead to global economic meltdowns somewhere in the world - all of a sudden, there are not enough US$ to go around (see What Investors Should Know About the US Current Account Deficit) and entire countries can be found "short US$".

Putting the above three facts together, it makes sense that countries whose daily activities cause them to be "short oil" and "short the US$" will want to store either one, or both, to prevent any financial accident from happening. Consequently, we can say that we have two large pool of US$ liquidity in the world at any one time: a pool of oil reserves, and a pool of US$ reserves

These two pools of reserves are of course interconnected and the best way to envision is to imagine a scale on which you place two reservoirs. One reservoir is full of money, and the other reservoir is full oil. Now if the "oil reservoir" starts to cost more (i.e.: move up on the scale) then all else being equal the "money reservoir" should go down. Of course, all else is not equal. If nothing else, the "money reservoir" is fed at all times by the US current account deficit. And this is where it gets interesting.

4- Oil & the US$

As things stand, the World consumes around 85 millions barrels of oil per day. And as we all know (but unfortunately, as we did not foresee), the price of oil has jumped by US$25/bl over the past 12 months. So, if nothing else, the "dollar working capital needs" of the world must have increased by approximately US$775bn (85m barrels of oil * 365days *25 US$). So point #1: given the increase in oil prices, the world needs an extra US$775bn (and note that we do not even go into the need for extra US$ because of higher metal prices, higher soft commodity prices, rapidly growing global trade etc...).

Now let us assume that the world's oil inventories (whether on ships, in refineries, in the SPR...) have stayed more or less flat at around 100 days of consumption. Then the financing of this excess inventory alone costs the world US$212bn (100 days*US$25*85m barrels). So simply between the rise in oil prices, and the rise in the costs of keeping oil inventories, the demand for US$ will have increased by around US$1,000 billion. And with this rising demand, one might have expected (we did!) a rising price for the US$. One might also have expected (we also did!) that the need for US$ will have lead to a reduction in central bank reserves. Indeed, as illustrated in the diagram above, higher oil prices typically lead to weaker central bank reserves. But as we know, central bank reserves did not shrink in late 2005 and early 2006 (against our expectations). Far from it: they continued growing by over 12% per annum or US$ 220bn in the past year.

Putting it together, this means that:

A) Demand for US$ resulting from oil has increased by US$1000bn in the past twelve months.

B) Reserves have grown by US$

So in other words, in the past twelve months, the World has spent more dollars, and saved more dollars than ever before. How is this possible?

Did the US central bank dump US$ into the system? Not really.

Did the US consumer push an enormous amount of US$ outside of the US through the current account deficit, hereby allowing for the simultaneous use of dollars and saving of dollars? Not to this extent.

Did the world go out and borrow US$ in size to pay for its oil? Now here is an idea that works! And not only does it work; we have seen it before.

5- Oil & US$ Borrowing in the Late 1970s

In 1979, we experience the Second Oil Shock. At the same time, the general perception in the market was that the United States could not be trusted to keep the US$ as a store of value. Inflation ran rampant and "cash was trash".

With the second oil shock, large amounts of petrodollars fell unto a number of countries and financial participants (Saudi Arabia, Nigeria, Venezuela...) who had neither the skills nor the infrastructure to deal with such amounts. Consequently, large amounts were deposited into OECD bank accounts (Citigroup, JP Morgan, BNP...). These banks immediately turned around and lent the money to countries which had been put in difficulty by the rise in oil prices, and thus had current account deficits (Brazil, Mexico...). It was called recycling the petrodollars.

To justify these policies, the chairman of Citibank (Walter Wriston) reassuringly told investors that countries do not go bankrupt. And sure enough, the trade worked for quite a while: the US$ declined steadily (partly because the dollar recipients were constantly "diversifying" outside of the greenback) and commodities kept rising.

However, one day Mr. Volcker came in and put US short rates at 20%. And, of course, the US current account deficit swung into surplus as US consumers tightened their belt. As this happened, we found that the World not only had an inherent short position on oil; it also had a short position on the US$.

And sure enough, the countries who had borrowed the US$ could not afford the new rates anymore than they could afford the oil prices. They went bankrupt (Mexico first, the rest of Latin America afterwards), and Western commercial banks found themselves on the hook. The commercial banks "rescheduled the loans" which allowed them not to go bankrupt, officially. But, on a cash flow basis, the OECD commercial banks were in fact short the dollar by an amount equivalent to the defaults. They had to purchase the dollar back, regardless of its price and the dollar exchange rate happily doubled from �81 to '84 on the simple necessity to cover a short position which had been established inadvertently.

Incidentally, this is why markets can be violently irrational, and for a long time, simply as an echo of a phenomenon which took place quite a while before and that everybody has forgotten. Markets have memories, and these memories are the positions that have been established in a different period and cannot be disclosed for fear of a run on the institutions which have these wrong positions. But these positions must be liquidated and adjusted nevertheless, and it takes a long, long time...

We had an echo of this very same phenomenon in Asia in the period 1995 to 2000. In 1995, everyone was convinced that the THB, MYR, KRW were massively undervalued and due a large revaluation. Everyone borrowed US$ (since rates were cheaper than local rates) to finance local projects (usually real estate). As money continued to plow in, returns on capital weakened. Soon the returns on capital moved below its cost and Asian currencies were forced to devalue. Asian banks, and the OECD banks that had lent to them, found themselves de facto "short the US$". As Asia repaid its US$ borrowing in the period 1997-2000, the US$ rose higher than anyone expected (including ourselves) and central bank reserves barely grew (despite large current account deficits).

6- Today's Short US$ Position

Over the past year, we have bored clients repetitively with the chart below:

The grey bars represent the annual increase in China's FDI plus China's trade surplus; basically the US$ billion amount that China earns any given year. The red lines represent the annual increase in reserves, or the US$ billion amount that China saves any given year.

As our reader will not fail to notice, something a bit odd started to happen in 2001: China started saving substantially more money than it was earning. An odd fact from which we could only draw the following conclusions:

A) Large amounts of capital found its way to China through unofficial channels (although Macao's growth would have led us to the opposite conclusion!).

B) Chinese and foreigners were betting on a revaluation of the RMB by borrowing US$ and buying RMB assets (real estate, factories...).

Having ourselves participated in such trades (i.e.: buying Beijing apartments with 80% variable rate mortgages in US$), our natural inclination was to think that the explanation might lay there. And in recent weeks, our theory that China has been building up short term US$ borrowing was confirmed by the government who declared: "China's short-term foreign debt far exceeds the level deemed safe by international standards, raising the risk of insolvency for some companies... At the end of 2005, China's outstanding foreign debt totaled $281.05 billion, a 13.6% increase from the year earlier (or an amount equivalent to 32.8% of China's total reserves)...". So according to the government, nearly a third of China's reserves can be accounted for by short term US$ debt. And we would venture to say that the Chinese have not been the only ones to borrow US$ to play the "inevitable decline" of the US$ (remember that in 1980, this was also the perception).

In recent years, we have seen large amounts of US$ borrowing taking place outside of the US. This means that an improvement in the US current account deficit could trigger a massive economic crisis; all the guys who are short would find themselves unable to earn the US$ to service their debt. So policy makers should be careful what they wish for... for if they get it, they won't like it!

Still, we hear our clients say, this is all well and good... but it does not help explain the recent meteoric rise in the Euro! But hopefully, this might.

7- The Impact on the Euro

As we have highlighted above, higher oil prices make for a much higher demand for US$. But of course the US$ also end up in someone's pocket.

Destination #1: Rational and professional investors. When the second oil shock hit the World, most oil producers were not organized to adequately absorb the wall of money that fell onto their (still small) economies. This time around, however, a number of countries have improved their financial infrastructure substantially (growth of ADIA, SAMA, KIF etc...). These professional investors will know that cash in US$ is their source of fund (since it comes from oil). So it makes perfect sense for them to try and diversify away from the US$ (since that is what they earn and will continue earning). So for the cash that befalls them, they can find the following use: a) other currencies (the US$ thus falls). b) global bonds (so the negative correlation between oil and bonds breaks down), c) global equities (so stocks do well, especially the more illiquid ones who benefit disproportionately from liquidity flows), d) other commodities and gold.

Destination #2: Russian oligarchs. The destination of choice for the money here is either their local market (Russian equities and bonds power ahead), Swiss banks (and the CHF/Euro rise), or the UK (the GBP and London property prices go through the roof). Little of that money makes its way back into the United States partly because of distance (the US is much further than Europe) and partly because the US is too often a hassle for private investors to deploy money in (forms to fill in, capital gains taxes, dividend income taxes etc...).

Destination #3: Shady Characters. Unfortunately, we live in a world in which rising oil prices mean higher revenues for shady characters. And we do not mean Louis' in-laws in Oklahoma but places like Venezuela, Iran... These countries, as soon as they receive their US$, will feel a strong urge to sell them and buy Euros, Gold, Sterling or anything else which does not have a picture of George Washington attached to it. Most probably, these monies will stay in bank accounts (Iran), or be invested in silly projects (Venezuela). In any event, the returns on invested capital of that money will likely be low...

So putting it all together, we currently have a nice merry-go round in the financial markets whereas:

1) Oil prices increase, leading to

2) Large US$ borrowing from oil importers to pay for the rise in oil, so

3) Large amounts of "borrowed US$" are received by oil producers who

4) Sell the US$ either for rational diversification or irrational policy, leading to

5) A growing perception that the US$ can only fall, which, in turn re-enforces the willingness to borrow US$ (Point #2)... and off we go around the merry-go round again.

8- How Do We Stop the Merry-Go Round?

The first option is of course that the oil price starts to decline, hereby a) making it less necessary for non-oil countries to borrow US$ and b) pushing less money into the pockets described above.

The second option is that the cost of capital in the US continues to rise to the point where servicing US$ debt starts to become ever more costly. On this point we would note that, if one is a Chinese producer and one feels that the RMB will rise by 5% a year for a long while, then the cost of capital in the US is nowhere near a level which would discourage US$ borrowing. However, after the past week, can a Turkish producer say the same thing? Or an Indonesian producer? Or a South African producer? All these guys might not be as convinced as they were a few weeks ago that the US$ can only go down (for them, lately, it hasn't!).

The bottom line is that oil consumers around the World have decided to postpone as much as they could the moment of reckoning which the increase in oil prices should have triggered. They have decided to borrow dollars (or yens?) to buy oil. As a result, a number of countries are now not only short oil, but are increasingly short the dollar. This means that, slowly but surely, we are building a corner on the US dollar similar to the one we built in the period from 1978 to 1980, or from 1995-97...

To discover the guilty parties, simply look at the last two pages of The Economist, and check which oil importing countries run large current account deficits (Turkey, Poland, Hungary, Slovakia...). As a rule, also avoid the countries with an overvalued exchange rate according to purchasing parity, and/or fixed exchange rates (Euroland, UK, Australia, New Zealand...). Maintaining an overvalued exchange rate by borrowing abroad is a time honored tradition for incompetent governments. It always ends in tears (Argentina, Korea, Mr. Major in the UK...).

As far as the oil producers are concerned, they are getting far more dollars than they expected. So they diversify these excess dollars either irrationally, or rationally. But they do not realize that a lot of the dollars that they are getting are not "earned" dollars, but "borrowed" dollars (see the increased indebtedness of Chinese companies, or individuals in US dollars as an example). As a result, US assets have underperformed the rest of the world assets for no valid reason at all. As soon as the flow of money to these countries will dry, the US assets will go up versus the other assets. This is a very good opportunity to start accumulating assets with positive cash flows in US dollars.

By GaveKal Research

>3 red flags signal a troubled stock

2006-06-24T06:56:00.000-12:00

Here's how to identify three of those telltale signs, which I call red flags, warning of future bad news. You can easily check for these red flags using the financial statements. You'll need a calculator, but the calculations are easy. Once you get the hang of it, you'll be able to do the analysis in less than five minutes. You'll find it well worth the effort.

Red flag 1: Deteriorating gross margins

I'll start with gross margins, which are most useful for detecting deteriorating competitive conditions. Gross margins measure the profit a company makes on each widget it sells before accounting for overhead, marketing, research and development cost, interest and taxes. Gross margins tell you a lot about a firm's competitive position. Rising gross margins tell you that a firm is either reducing production costs or raising prices. Whatever the reason, margins tend to move in trends and rising margins point to future positive earnings surprises.

Conversely, deteriorating margins say that either production costs are increasing and the firm can't raise prices proportionally, or that it is cutting prices in an attempt to maintain market share. Since either condition portends future earnings shortfalls, declining gross margins is a red flag.

Calculate gross margins by dividing gross operating profit by sales for the same period. To rule out seasonal variations, always compare the most-recent quarter's gross margin to the same quarter one year ago.

Red flag 2: Accounts receivables vs. sales
Corporations usually don't pay cash when they buy from another company. Instead, they have a predetermined time, say 90 days, to pay for the goods. The amounts owed to a company by its customers for goods received are termed "accounts receivables."

Usually, receivables track sales. For instance, if a company sells twice as much as it did the year before, you would expect its receivables to double. Sometimes sales grow faster than receivables, which signals that the firm is doing better at collecting its bills, which is good.

But beware when receivables increase faster than sales. That means customers are taking longer to pay their bills. Here are three reasons why that could happen:

The company is slow in billing its customers.

Customers don't have the cash to pay.

The firm is giving its customers longer payment terms to encourage them to order products that they really don't need, a practice known as "channel stuffing."

While No. 1 is fixable, reasons No. 2 and No. 3 will likely result in sales and earnings shortfalls in the not-too-distant future.
To analyze receivables, compare the ratio of receivables (found on the quarterly balance sheet) to sales (income statement) for the most recent quarter to the same ratio for the year-ago quarter.

Red flag 3: Rising net income combined with a decline in operating cash flow
Cash flow measures the cash that moved in or out of a company's bank accounts during a reporting period. Since cash flow must be reconciled to actual bank balances, it is a more-reliable measure of a company's results than reported earnings, which are subject to a variety of arbitrary accounting decisions.

Operating cash flow measures the change in bank balances resulting from a firm's main business. When a firm calculates its net income, it deducts a variety of non-cash accounting entries such as depreciation and amortization.

Operating cash flow is mainly net income with those non-cash accounting entries added back in. So, generally, operating cash flow should exceed net income. But in fact, many firms find ways to report positive net income when they are actually losing money when you count the cash.

Recent academic research found that comparing reported net income to operating cash flow is a good way to spot future problems.

Specifically, the researchers found that the combination of rising net income and declining operating cash flow is a red flag pointing to future earnings shortfalls.

Doing the analysis doesn't even require a calculator, but interpreting a cash-flow statement is a little tricky. The quarterly statements show the cumulative year-to-date totals for each quarter instead of each quarter's individual figures. For instance, if a firm's fiscal year starts with January, its June quarter figures include the total of the March and June quarters. To get the June quarter's operating cash flow, you would have to subtract the March totals from the June totals.

However, there's no particular advantage to analyzing the quarters separately. So, I take the easy way and compare the most-recent quarter numbers to the year-ago figures, regardless of whether they represent single or multiple quarters. To do the analysis, simply compare the change in net income to the change in operating cash flow from the year-ago quarter to the most recent quarter.

Here are the numbers you would have found had you checked Jos. A. Bank's cash-flow statement after it reported its January 2006 quarter results (Since the company's fiscal year ends with its January quarter, the cash-flow statement figures for January actually represent the entire fiscal year).

Better safe than sorry. Nothing always works in the stock market and these three red flags are no exception. Sometimes cash flow drops because a company loads up on inventory for a new product introduction, or gross margins drop due to short-term conditions.

Nevertheless, successful investing is more about avoiding disastrous losses than it is about riding hot stocks. Paying attention to these red flags will help you do that.

>India fostering road revolution

2006-06-24T03:50:00.000-12:00

After the success with green and white revolutions, India is now fostering a similar exercise in the roads sector, Prime Minister Manmohan Singh said on Saturday as he announced a decision to enlarge funding to the National Highway project to Rs 222,000 crore (Rs 2,220 billion).

The UPA government has "speeded up construction and development of national highways. We now have a road programme National Highway Development Project costing Rs 220,000 crore to be implemented in 7 to 8 years," he said laying the foundation stone for the Bangalore-Electronics City elevated highway project.

The Bangalore project is expected to take the pressure off the city's woefully inadequate road infrastructure.

"We are six-laning the Bangalore-Nelamangala stretch of NH-4, including a 4-km long elevated corridor. . . four-laning the Bangalore-Devanahalli section of NH-7. . . Bangalore-Kolar section of NH-4 is being four-laned," he said.

Noting that the country is witnessing a road revolution, similar to the green and white revolutions of the past, Singh said the NHDP, which originally had two phases, has been expanded to include seven phases covering the entire country.

"To NHDP-I and NHDP-II, we have added NHDP-III under which 11,000 km of high traffic density highways connecting state capitals and important centres of tourism and economic activity are being developed. And most importantly, these are being developed largely through public private partnership," Singh said.

The investment on this phase was Rs 55,000 crore (Rs 550 billion), he said.

Besides, the government would be six-laning the entire Golden Quadrilateral project connecting the four metros, improving 20,000 km of two-lane highways, developing 1,000 km of access-controlled expressways and constructing by-passes and ring roads in and around important cities, Singh said.

"I look forward to the day when the face of this nation will be changed by a dense network of world class highways, reaching out to the farthest corners of the country," he said.

With the government's commitment to bridge the rural-urban divide, Singh said there would be demand for road connectivity and for rapid transport system with urban centres and rural areas.

"Our road system, does not as yet cater to these kind of demands. We must therefore strengthen these links between urban and rural areas, as well as between cities in close proximity. This is extremely important if the benefits of development has to move beyond the limited confines of cities to our vast hinterland, so that millions of toiling farmers can also become partners in progress," he said.

Singh said some people wrongly pose the question of development as a conflict between city and vilage. "This is a false notion, no country can develop if its villages do not develop."

>India Facts-1

2006-06-21T23:27:00.000-12:00

>MOODY’S: ASIAN BANKING OUTLOOK

2006-06-21T23:01:00.000-12:00

MOODY’S: ASIAN BANKING OUTLOOK STABLE AS SYSTEM GAINS OFFSET UNCERTAINTIES

Intermediate-tem risks for Asian banks overall are balanced by the positions of stronger banks in economies that have grown more diversified and, arguably, more productive, says Moody’s Investors Service in a new report, noting that on balance a stable outlook is warranted for the region and its sub-systems.

The report, “Asia Banking Outlook 2006” – which is the first annual update of a series begun in 2005 – incorporates substantial quantitative analysis of 15 countries’ banking sectors, with India and Vietnam included for the first time. Moody’s is the first international rating agency to have published ratings for Vietnamese companies.

“These banks’ risk management and supervision, unified under Basel II, are now much more robust,” explains Wei Yen, Managing Director for Moody’s Financial Institutions Group in Asia. “Regional economies are now much more open and market oriented, and government interference in economic affairs has diminished.”

“Moody’s sees these positives as mitigating concerns about the sustainability of current economic expansion and potential asset bubbles in some countries, as well as more global issues such as demand slowdown, trade disputes and currency and disease factors,” adds Yen, a co-author of the report.

The report comments that there still exists strong liquidity and excess capacity in most of the banking systems surveyed under Moody’s coverage. While mergers have been slow to result in any meaningful capacity reduction, and slow growth and abundant liquidity have resulted in intense competition, a cautious approach to risks has boded well for asset quality. As a result, overall NPL levels have declined as loan loss reserve coverages have improved.

“Capital has been gradually restored through improved earnings and fund raising, with hybrid securities representing a new trend. The improved banking system health should allow banks to face a moderate weakening of the operating environment, should one occur,” Moody’s Yen observes.

The report describes how government support is still evident in many systems and is an integral part of Moody’s debt and deposit ratings. Having learned bitter lessons from the Asian financial crisis, regional governments now are more interested in developing stronger banks through promoting market discipline and stronger supervision, instead of direct involvement, as many have done in the past.

As a further positive sign, Moody’s sees that the consumer revolution in Asia is only in its infancy and, despite near-term pains in countries such as South Korea and Taiwan that saw rapid build-ups of consumer debt, that the consumer sector remains under-penetrated and hence a future growth engine for banks. While cultural differences may influence how fast or how far Asian consumers will go, the rating agency believes this migration will drive demand for financial services and bank profits for many years to come.

>Sector Wise Jump

2006-06-21T04:17:00.000-12:00

Metals showed the highest recovery from the lows. (they had lost the most also)

Sector	June06 Low	Current	% Gain
Metals	6430	7785	21.07309
BSE CD	2355	2767	17.49469
BSE CG	5675	6656	17.28634
BSE IT	3015	3510	16.41791
OIL & GAS	4245	4897	15.35925
BSE500	3360	3860	14.88095
BSE100	4476	5115	14.27614
BSE30	8800	10053	14.23864
AUTO	4000	4530	13.25
BSE HC	2800	3156	12.71429
BSE PSU	4320	4815	11.45833
BANKEX	3950	4310	9.113924

>Are Indian companies ready to take on the world?

2006-06-17T23:50:00.000-12:00

Are Indian companies ready to take on the world?

FEW observers, when the reforms began in 1991, could have predicted the sea change that Indian business has undergone since. It is a fair bet that the next decade and a half will see a transformation just as sweeping.

Ranked by their stockmarket value, only three of India's top ten companies at the end of the 1991-92 financial year were still on the list at the end of March 2006 (see table 5). Two are big consumer-goods firms, ITC and Hindustan Lever. The third is Reliance Industries (RIL), from which a big chunk, now known as the Reliance-ADA group, was hived off after a bitter public battle last year between Mukesh Ambani and his younger brother, Anil.

The new arrivals illustrate three trends in Indian business since 1991. One is the emergence of the new industries of IT, BPO and telecoms (TCS, Infosys, Wipro and Bharti). Another is the partial withdrawal of the state from the parts of the economy it used to dominate (ONGC, Indian Oil and the National Thermal Power Corporation are all state-owned companies, listed on the stockmarket since 1991). Third, and overlapping, is the huge importance of the energy industry.

As for the next 15 years, it is hard to pick winners in the present buoyant mood. Tata's Mr Gopalakrishnan is far more cautious than many in India about the country's prospects. "More than half the current optimism", he says, "is in the human mind." A new generation that has never experienced global growth of 4% a year before, he thinks, is getting carried away. After all, the world is full of big uncertainties: terrorism; America's fiscal and current-account deficits; their mirror image, China's export dependency; and so on. It is unlikely, he says, that India can sustain growth at 8% a year, or move on to 10%.

Yet even he thinks that there is "no industry that is not going to boom." The dismemberment of the sprawling Reliance empire seems to prove the point. Besides its grandiose retail plans, RIL this April received record commitments for an IPO of shares to help finance the building of another oil refinery. The parts of the empire that are now in Reliance-ADA include companies in some of the fastest-growing industries: communications, financial services, entertainment and utilities. The communications arm alone claims a 20% market share of the mobile-telephone market, which is expected to grow to 500m users in the next decade.

However broad-based the boom, it is not a caucus race, where everybody will win and all must have prizes. Only a few Indian companies are fully ready to compete internationally, with professional managers independent of the owners' meddling. Most Indian business is still in the hands of family firms, and most people take it for granted that this will continue. The boss of a big manufacturing firm, asked at a business conference about succession planning at his (listed) firm, did not miss a beat. The important thing, he said, was not to allow minor relatives—nephews, cousins and so on—to run their own departments or subsidiaries. Much better to set them up in firms of their own and give them contracts. A senior Citigroup executive dealing with smaller firms says these are doing so well they are running out of uncles to lead new businesses.

Most of the companies mentioned in this survey are family concerns. The board of Gokaldas Exports, the garment-maker, includes three brothers and three of their sons. Atul Kirloskar is proud to run a "fourth-generation" company. Both branches of the Reliance family stress their continuity with the "legacy" of the Reliance group's founder, the father of Anil and Mukesh Ambani. Tata Sons is still run by the head of the clan, Sir Ratan Tata. Even Wipro is largely owned by Mr Premji, whose father founded the firm.

Family ties
It used to be argued that the reluctance of families to cede control of Indian companies prevented them from becoming international successes. That may well be true of many smaller firms. The larger ones, however, are being forced to become more transparent and "professional" by the demands of the stockmarket and of globalisation. The dismemberment of Reliance by sibling rivalry rather than by commercial pressures seems to belie this. But in the nine months after the demerger, the constituent parts of the former group saw their market capitalisation rise by some $25 billion. It was hard to feel sorry for the benighted minority shareholders.

A study of Indian companies by the Institute of International Finance, a think-tank in Washington, DC, concluded that corporate government in India was "above average", and that some companies, such as Infosys, "serve as examples of how equity markets reward well-governed companies". The best Indian companies are well placed to take on the world.

Ambani family values
Mukesh Ambani lists four forces that will drive competitiveness in the coming decades, and argues that all play to India's strengths. The first is globalisation, where both in terms of labour (through its own diaspora and through the legions working in outsourcing) and in terms of the capital markets, India is well integrated. The second is technology, where India now plays a part at the cutting edge of global research and development. The third is demography, where the supply shortages reported in this survey should blind no one to the fact that 23% of the increase in the world's working-age population over the next five years will be in India. Where else, as Mr Ambani asks, could anyone contemplate the sort of recruitment his retail plans envisage? Lastly, there is democracy, which might pose short-term obstacles, say to the reform of labour laws, but provides a long-term stability and resilience that China, for example, has yet to demonstrate.

For all four reasons, it is hard not to be optimistic about Indian business. A fifth is the high calibre of some of its present leaders. Typically, they have spent some time being educated abroad and are full citizens of a global world, holding panoramic views of economic trends and of India's role in them. But typically, they are also patriots and philanthropists who see it as part of their duty to make things better for Indian society.

Of course the failings of Indian society also have an impact on business. In Bangalore in April, after the death of a 77-year-old much-loved film actor, Rajkumar, tens of thousands took to the streets to honour his passing; but the mourning soon turned into ugly rioting in which eight people died. The city, jewel in India's IT crown, was largely closed for business for two days as an excluded underclass took the chance to vent its spleen. Business leaders know that including the excluded majority in the rise of modern India is essential for social harmony, and ultimately for the success of their firms. They also know that compared with improving their bottom lines, this really is the hard part.

>Service segments log 20-60 per cent growth in FY06

2006-06-14T20:58:00.000-12:00

Service segments log 20-60 per cent growth in FY06



Bangalore: As many as 18 service sector segments of the Indian economy are projected to clock 'excellent growth' levels of 20-60 per cent in FY06 as compared to FY05. This impressive growth is being attributed to catalysts like the expanding of railway passenger network, production and sale of commercial vehicles and the addition to existing telephone connections, particularly mobiles. Growth in the services sector continued to be broad-based in FY06. Trade, hotels, transport and communication services continued to lead by growing at double digit rates for the third successive year, Vishal Bali, CEO of Wockhardt Hospitals Group and convenor-healthcare of CII(IQ), said at a press conference here today to announce CII's Annual Service Quality Conclave (ASQC) in Bangalore on June 21-22. The conclave is expected to be attended from across all service industries like - hospitality, airlines, travel, tourism, financial services, courier, telecom and IT industries, Chanda Kochhar, chairperson, ASQC 2006, said. The conclave is also expected to help delegates to learn from innovative business leaders and service quality practitioners and show them and their organisation how to succeed in an ever-challenging business environment, she added.

>India can strike gold with carbon credits

2006-06-14T20:57:00.001-12:00

India can strike gold with carbon credits



India, which contributed about 3 per cent of the global green house gases (GHG) against the global average of 5.2 per cent, has cleared over 360 clean development mechanism (CDM) projects. These projects in India could fetch nearly US$ 6.3 billion in the next seven years, said Srikanta K Panigrahi, director (environment and forest), Planning Commission. “India’s carbon credits market is growing and the country has the potential to emerge as the leader among developing countries in exploiting the market for certified emission reductions (CER) towards addressing the issue of global warming through the CDM under the United Nations Framework Convention on Climate Change (UNFCCC),” he added. Mr Panigrahi was addressing a seminar on CDM organised by the Federation of Indian Chamber of Commerce and Industries (Ficci) here on Tuesday. CDM was one of the three mechanisms to be mooted by the Kyoto Protocol in 1997 to curb the emission of GHGs. Developed countries, which have overshot emissions levels will either have to reduce emissions or borrow/buy them from developing countries, said Mr Panigrahi. India contributes about 3% of the global green house gases against the global average of 5.2%. It has cleared over 360 clean development mechanism (CDM) projects. These projects in India could fetch nearly Rs 29,000 crore in the next seven years. Elaborating on global emission trading, Mr Panigrahi said, “The US accounts for 30% of global emissions, against 3% by India. Now, India can transfer part of its allowed emissions to developed countries. For this, India must first adopt CDM and accrue carbon credits.” He informed that CDM projects had the potential to earn up to 250 million CERs till 2012 and up to $150 billion by selling carbon credit points (CCPs) to developed(annex-1) countries. Mr Panigrahi also noted that CCPs, which were currently sold for 22 to 30 euro per tonne of carbon dioxide, might go up to 120 euro per tonne by November 2006, said Mr Panigrahi. Sushil Jiwarjaka, director Ficci, western regional council said that the market for CER units (carbon credits) was taking shape since January 2005, which could create a potential worth two billion euro in the short and over 10 billion in the long term. “India has the potential to generate 250 million carbon credits, which are worth about $1.5 billion,” said Mr Jiwarajaka. He also noted that the carbon finance programme by the World Bank alone, had over $700 million to bankroll credits from CDM projects. The centre estimated that Indian companies could earn up to Rs 14,765 crore over the next years through trading of such carbon credits. Mr Jiwarajaka said that the sectors where CDM opportunities exist included energy, municipal waste management, industrial process, housing and tertiary, transport, agriculture and forestry.

>Venture capitalists stay bullish on India

2006-06-14T20:57:00.000-12:00

Venture capitalists stay bullish on India



Mumbai/ Pune: All venture capitalists are looking at the Indian plan as a 'must have' business requirement for funding. What this means for the Indian entrepreneurs looking for funding is that it can't get any better than this, said some prominent members of the world VC community at the Nasscom Product summit in Pune on Tuesday. To understand the high regard that the VC community has for India, sample this. The total VC funding expected to come to India in the next 12 months, "Is $2 billion in 12-15 months," said Sanjay Anandram, Managing Director, JumpStartUp. Consider the fact that just one company Intel Technology's VC arm, Intel Capital has announced a $250 million fund for India last December. Dr Kumar Shiralgi, director, Intel Capital India said, "Since last December we have already invested in five companies-- Persistent Systems, Maya Entertainment, MobiApps, Mauj.com, a People Interactive Group Company and Real Image from our $250 million fund." The company, with globally 350 companies in its portfolio, invested in over 40 companies in India since 1998. There is good news for startups as well. "In the next 12 months there will be at least five different seed funds having a $30 million fund, that is about $150 million and these small funds will be able to support the requirements of startups whose fund requirements are small like $25,000- 50,000 and hence can't be supported by the larger VCs," said Sandeep Murthy, Partner, Sherpalo Ventures, Indian Representative for Kliener perkins Caufield & Byers. The global firm with online businesses like Expedia, Match.com, and others has two investments in India-- Naukri.com and cleartrip.com, a startup e-commerce site which will be launched by the month-end. The sanguine forecast for India is taken further by Sridhar Iyengar, president, TiE Global who notes that for an entrepreneurial ecosystem, the requirements are money, smart people and academia, besides the companies need to collaborate and compete at the same time for ideas to foster and develop. He says. "I see that happening here now and within the next five years, India will have the same entrepreneurial ecosystem as that of Silicon Valley," To put it in a nutshell, the optimism for India can be summarised in Iyenger's words, "The global scenario is the Indian scenario."

>Ethanol Investment: Golden Opportunity or Fool’s Gold

2006-06-14T00:05:00.000-12:00

“A Research Report on Ethanol Investment: Golden Opportunity or Fool’s Gold?”
By Russell Hasan

Introduction: The Ethanol Boom
We are strong advocates of alternative energy, and we are happy to see the American ethanol industry growing. But we are also advocates of informed investments and not “irrational exuberance” manufactured by hyperactive investment bankers and a media that goes with the flow. This report is a cautionary note for investors interested in American companies producing ethanol from corn, pointing out various factors and data to consider before risking losses in ethanol investments.
The investment banks who led us to the golden pastures of dotcom before 2000 and the subsequent burst bubble are the same that are now leading the charge for corn ethanol. Corn ethanol is projected to be a sure bet for investors, just as dotcom was at one time. We believe that a near-term boom and bust in corn ethanol is possible if the individual investors are not careful. In this report we examine eight points of caution for ethanol investors, after which is a conclusion focusing on the long-term potential of ethanol.

1. Supply and Demand: Ethanol use in gasoline, as a replacement for the toxic gasoline additive MTBE, has been mandated by the government. Several states have also passed ethanol mandates or are considering mandates. Ethanol producers are blessed with extremely generous financial incentives, including a $0.51 of tax exemption on federal excise tax per gallon of ethanol blended with gasoline, a $.10/gal tax credit for “small” producers making less than 60 million gallons, and a $0.54/gal import tariff on ethanol. We have the capacity to produce 4.7 billion gallons annually, with capacity of 2 billion additional gallons under construction, according to the Renewable Fuels Association. By 2012, mandatory ethanol consumption will rise to 7.5 billion gallons per year, required by President Bush’s Energy Policy Act of 2005. If U.S. corn ethanol capacity exceeds 7.5 billion gallons in 2012, prices may decline sharply. If corn ethanol capacity in the near future exceeds the mandatory ethanol consumption levels for the near future, then there will be pressure on ethanol prices much sooner. If the current rate of capacity increase continues, then this scenario will definitely take place.

2. Government Support: The use of ethanol for powering vehicles is not new. Henry Ford designed and built ethanol-powered vehicles almost a hundred years ago. But it did not catch on, and there was little attention paid to ethanol in the middle of the 20th century, when gasoline prices were acceptable. Following the OPEC oil crisis of the 1970s, President Carter offered a $0.40 per gallon tax incentive and engineered the first ethanol boom. The ethanol industry unfortunately fell apart with the collapse of crude oil prices in 1986. It can be argued that high oil prices are driving the recent interest in ethanol, and if oil prices go down significantly, due to factors involving oil producers and beyond the control of the ethanol industry, political support for mandates, tax cuts and tariffs may dissipate. If this government support were removed it would put a major damper on ethanol profit margins. Much of Carter’s rhetoric about the need for energy independence is similar to recent speeches by President Bush. If the political concern for alternative energy of the Carter era could fade away, it is conceivable for current political interest to fade as well.

3. Competition from Gasoline: Ethanol offers the promise of domestic energy independence, but it must be able to compete with gasoline to have long-term profitability. It must also be mentioned that ethanol is at a disadvantage compared to gasoline in mile-per-gallon fuel efficiency. According to fueleconomy.gov, a car that gets 16 miles-per-gallon on gas will get only 12 miles on E85. It was also recently reported that the wholesale price of ethanol “was around $3 per gallon compared with about $2.28 for gasoline (before being mixed with ethanol).” Even with GM and Ford having made announcements about producing more flex-fuel cars capable of running on E85, and with more gas stations offering E85, it is questionable whether motorists will find E85 economically justifiable.

4. South American Imports: Brazil, a major player in ethanol, now accounts for more than 50% of the 20,000 barrels/day of U.S. ethanol imports. Brazilian production costs have been 40-50% lower than the U.S., according to a Congressional Research Service Report for Congress of 2005. It may be as low as 20% now. Even with the supposedly prohibitive tariff, which violates WTO rules, Brazilian sugarcane ethanol is competitive with domestic corn ethanol. Brazilian exports to the U.S. are limited only by its capacity constraints. Japan plans to invest $1.29 billion in Brazil towards the production of sugarcane ethanol and biodiesel, which will increase Brazilian ethanol capacity significantly before the end of the decade. Caribbean and CAFTA countries, because of the duty free access provided by the Caribbean Basin Initiative and CAFTA, have been long time exporters of ethanol to the U.S. CBI and CAFTA allow Caribbean and Central American countries to purchase ethanol from other countries such as Brazil, reprocess it, and export to the U.S. without paying the import tariff.
It is questionable whether America can champion globalization and keep the ethanol import tariff indefinitely. It is also a matter of time before Brazilian ethanol finds its way to the U.S. via the Caribbean. Brazilian sugarcane ethanol is more energy efficient than American corn ethanol and cheaper than gasoline. By 2010, Brazil will export 2.5 billion gallons of ethanol, which is likely to put enormous pressure on domestic ethanol. Thus, competition from Brazil and the Caribbean may lower the price of ethanol in America in five years.

5. Corn Supply: Corn, a perennial surplus commodity, is now in tight supply because of ethanol. As with all agricultural commodities, corn prices are affected by weather conditions. Ten years ago, for example, corn prices had reached $4.70/bushel, approximately twice the price today. That year had seen a 25% drop in the production of ethanol.
The secular long-term tightness of corn is expected to continue for some time. China, a traditional exporter of corn, has now become a net importer. No one knows how severely China will impact corn prices. Of the 11.1 billion bushels produced in the U.S., the ethanol industry consumed an estimated 1.6 billion bushels or 14% in 2005. Corn production is estimated to be 10.5 billion bushels this year with ethanol industry usage projected to rise above 20%. Export markets, poultry and livestock industries will be adversely affected. Poultry prices may rise sharply. The corn ethanol industry will be vulnerable to long-term supply of its raw material, corn.

The near term outlook of corn supply does not appear to be assured. USDA reported corn stocks of 3.8 billion bushels as of March 1st. During the Dec-Feb quarter, consumption of corn did not go down as much as was expected due to the higher prices. Worldwatch Institute cautions that “if U.S. corn use and exports were to continue at the same rate in the months ahead as during the December-February period, U.S. corn stocks would be totally depleted by July 28th – roughly 2 months before the next harvest begins.” The demand for corn ethanol is inelastic at present and hence the ethanol industry will be able to cope with likely higher prices. However, lower margins and complaints about possible higher poultry and livestock prices may bring the corn ethanol enthusiasts down to Earth before fall this year. Alan Greenspan recently testified before Congress saying that he has doubts about corn supplies being sufficient for corn ethanol to replace gasoline. If he is right, and the above factors affect corn supplies, then there will not be enough corn to make large-scale ethanol production viable.
Ethanol cannot be shipped by pipeline. It has to be barged and trucked. As such, bigger producers may not have an inherent advantage over smaller ones. Many small producers are owned by corn producers’ co-ops. During periods of tight corn supply, small co-ops may do better than larger companies without captive corn supply. There is also a tax break that benefits only small ethanol producers, further making smaller producers preferable to larger ones.

6. Cellulosic Ethanol: Cellulosic ethanol, whose large-scale commercial production is probably at least five years away, will dominate ethanol in the future. There is a Canadian company already producing 260,000 gallons per year of cellulosic ethanol. Several companies working to perfect enzymes for cellulosic ethanol production claim to be close to perfection. Cellulosic ethanol can be produced from straw, switch-grass, short maturity super trees, and biowaste. Curiously, cellulosic ethanol has been unfairly criticized recently as requiring more energy to produce than it yields. Only one process, acid hydrolysis, requires more energy. Current research is concentrated on several other processes which are expected to be the least energy consuming of all kinds of ethanol production. (Corn ethanol has also been criticized as requiring more energy than it yields, but a majority of studies dispute this claim.)
The Department of Energy’s Energy Efficiency and Renewable Energy (EERE) office claims that “in terms of key energy and environmental benefits, … cornstarch ethanol clearly outpaces petroleum-based fuels, and that tomorrow’s cellulose-based ethanol would do even better.” They also say that while “corn ethanol reduces (greenhouse gas) emissions by 18% to 29%; cellulosic ethanol offers an even greater benefit, with an 85% reduction in GHG emissions.” A Natural Resources Defense Council-commissioned paper in “Environmental Science and Technology” claims that 1 unit of fossil fuel energy produces 1.3 units of ethanol energy, while 1 unit of fossil fuel may create 6 units of cellulosic ethanol energy, meaning that cellulosic ethanol might be almost six times more efficient. Nathan Glasgow and Lena Hansen of Rocky Mountain Institute report that “while corn-based ethanol reduces carbon emissions by about 20 percent below gasoline, cellulosic ethanol is predicted to be carbon-neutral, or possibly even net-carbon-negative.” In his Congressional testimony Greenspan claimed that cellulosic ethanol held more promise than corn ethanol. It has also been claimed that the byproducts of the process of creating cellulosic ethanol can be burned to power the process, making it more oil-independent than corn ethanol. The previously mentioned Canadian company is seeking loan guarantees from the Department of Energy to help build a cellulosic ethanol production facility in the United States, specifically in Idaho. Still, for the time being the vast majority of American ethanol producers are making corn-based ethanol, which will not compete favorably with cellulosic ethanol in the long term. The ability of U.S. producers to make the switch from corn to cellulose in the future is hard to predict.

7. The Price of Oil: The world is running out of crude oil and this is shaping up to be the decade for alternative energy initiatives. The transfer from MTBE made corn ethanol the first to come out of the gate. There is enormous short-term upside – driven by the same people who brought us the dotcom boom and bust.
Ethanol stocks now follow the daily ups and downs of oil prices. Crude oil, volatile as it is, has been nonetheless trading within a narrow range. Ethanol stocks following crude oil has been a zero sum game. It is questionable whether there is gain from this.
It is also possible that at the first sign of crude oil price softening, “big money” will get out of ethanol investments. This in turn could reduce political support for ethanol, in which case the farm state Senators may not be sufficient to maintain the ethanol tariffs and tax breaks. We have taken the political stand of advocating the continuation of the ethanol incentives, both for the sake of investors and because domestic ethanol promotes American energy independence and reduces polluting emissions. However, if the incentives are removed, which some politicians want, American ethanol companies will face shrinking profit margins.

8. Celebrity Endorsements: Ethanol has almost reached tabloid stardom. We are inundated with stories about celebrity endorsements of ethanol. For example, many of us have read about Richard Branson’s dinner with Ted Turner at which ethanol was discussed. It is worth noting that cellulosic ethanol was discussed at that dinner. Ethanol stocks got a boost when Bill Gates invested $84 million in an ethanol company. What is little discussed is that he purchased preference shares at roughly 50% of the price of common stock, making this a smart investment regardless of the price of ethanol. Big names involved in ethanol may distract investors from the hard data of the ethanol industry.

Conclusion: Cautious Optimism
It is our firmly held belief that the next great fortunes are going to be made in the alternative energy industry. Unfortunately, corn ethanol is not a simple opportunity of this kind, for the reasons described above. Although this industry may be profitable for the next five years, it is highly probable that the American corn ethanol industry, except possibly for small co-ops, will face strong pressure from corn supply concerns, sugarcane ethanol imports from Brazil, and new cellulosic ethanol technology in five to ten years. Competition from gasoline will be brutal if oil prices fall, and profit margins will suffer fatal blows if government incentives like the tariff are removed. Companies overwhelmed by these factors will probably cause the ethanol bubble to burst by the end of the decade. Hopefully, the major American ethanol producers will find ways to weather this storm, particularly by exploiting new cellulosic technologies or securing cheap corn supplies, in order to achieve long-term profitability.
We are pro-ethanol and we believe that investment in the ethanol industry is necessary to grow capacity to promote the environment and to secure our energy

independence. Clean energy is necessary to prevent global warming, and energy independence will free us from reliance upon politically unstable foreign oil. As such, ethanol has a value that cannot be defined in dollars and cents, and it deserves our support. It is also clear that certain factors, such as government initiatives and high oil prices, make ethanol an attractive investment in an industry with strong growth potential. However, investments in ethanol should be based upon statistical data from specific companies, including stability of raw material supply, manufacturing cost, competition, and other market conditions, as well as each company’s long-term plans, rather than investing in ethanol because of its surge in media popularity. In other words, investors should seek good long-term investment opportunities in ethanol rather than short-term investments which may lose money if the factors mentioned above cause the short-term ethanol bubble to burst, but leave ethanol producers’ long-term prospects optimistic.
There are opportunities for companies able to secure corn supply and exploit government incentives to remain competitive, particularly if demand is strong and oil prices remain high. However, the major long-term opportunities are with cellulosic ethanol. We hope that American ethanol companies can find a way to be on the cutting edge of ethanol technology in order to achieve strong long-term stability. Going back to the analogy of the dotcom bubble, many dotcom companies that were overpriced collapsed when the bubble burst, but the better companies survived and are still interesting for investors to this day. The ethanol industry may follow a similar path, meaning that the investors who buy fool’s gold will suffer losses, but there are still golden opportunities for smart investors.

2006-06-14T00:01:00.000-12:00

>The Perfect Value Investor

2006-06-12T12:01:00.000-12:00

The Perfect Value Investor
by James Montier

Occasionally when I present on the seven sins of fund management, someone at the end (obviously a valiant soul who has managed to stay awake) will ask me how I would structure an investment process. In the spirit of good politicians everywhere, I am going to save my answer to that question for another weekly. However, I recently read a paper along similar lines that I thought was worth sharing. Louis Lowenstein of Columbia University examined 10 value managers selected by Bob Goldfarb, CEO of Sequoia Fund. Lowenstein asked him to select ten dyed-in-the-wool value investors who all followed the essential edicts of Graham and Dodd; obligingly, Goldfarb selected the list below. To this list we have added a second Tweedy Browne fund, Tweedy Browne Global Value.

This may not be the most scientific of approaches, but nonetheless should allow us to draw out some of the characteristic behaviors of some of the best value investors. We have updated and extended Lowenstein's work.

The table below shows the funds and some of their key characteristics.

Trait I: High concentration in portfolios

Contrary to the proclamations of classical finance, these investors tend to run highly concentrated portfolios. No portfolio diversification for these guys. Tracking error has little or no meaning to this group of investors.

Across these funds, on average, nearly 40% of the assets are in the top ten holdings. Across a wide universe of funds, the top ten holdings account for only around 10% of assets. The average number of stocks held is around 35 (and this is raised by the presence of three international funds, it would be closer to 20 for the domestic-only funds). In contrast, the average US domestic mutual fund holds around 160 stocks!

This seems to reflect a different philosophy on two counts. Firstly, these value managers seem to need a reason to invest - not investing is their default, so in order to actually go out and buy a stock, these investors need to be convinced of the merits. Presumably in accordance with Graham and Dodd's guiding principles, this is represented by a margin of safety. As Graham wrote, "The margin of safety is the central concept of investment. A true margin of safety is one that can be demonstrated by figures, by persuasive reasoning and by reference to a body of actual experience".

Secondly, the average fund management outfit appears to be run either by the risk management department or the marketing department. I've come across several examples of this in the last few years. One client was relaying to me the joys of his risk managers telling him that he had to deploy more risk, because he was under his risk budget! Of course, when markets fall, those very same risk managers with their trailing correlation and volatility will be the first in line to tell you to sell your positions. Risk managers are the financial equivalent of those who give out umbrellas on dry days, but snatch them back as soon as it starts to rain.

Another informed me that they were setting up a commodity fund. Why? Because the marketing department said there was an appetite for such a product. Does this not strike anyone as vaguely (and perhaps alarmingly) like the TMT bubble?

The result of these bizarre dynamics is that the average fund manager is more worried about tracking error and benchmark risk, than about finding the best investment for his clients. So their default is likely to be ownership. Hence they need a good reason not to invest in a stock. The fiduciary responsibility to the client is forced to take a backseat. Perhaps investment managers should take an equivalent of the Hippocratic Oath to do no harm.

As is often the case, Maynard Keynes sided with the value investors. He wrote:

To suppose that safety-first consists in having a small gamble in a large number of different companies where I have no information to reach a good judgement, as compared with a substantial stake in a company where one's information is adequate, strikes me as a travesty of investment policy.

Letter to F.C. Scott, February 6, 1942 (The collected writings of John Maynard Keynes).

This was a view shared by Loeb in his classic, The Battle for Investment Survival. He opined, "Diversification is an admission of not knowing what to do, and an effort to strike an average".

It should be noted that concentrated portfolios are not, in and of themselves, a deliberate choice on the part of these funds, but rather stem from their investment discipline. There simply aren't that many good value opportunities to be found. The Brandes Institute published a paper in late 2004 exploring the use of concentrated portfolios. They concluded, "In aggregate, and across peer groups, we find that concentrated portfolios, in and of themselves, do not provide improved returns, nor do they provide improved volatility-adjusted returns". This emphasizes the fact that the concentration amongst our group of value investors is the result of a process rather than a deliberate decision in its own right.

A graphic illustration of this point can be seen by examining the performance of a basket of stocks that Fortune assembled in the year 2000. The basket was labeled "10 stocks to last the decade - here's a buy-and-forget portfolio". The aim of the stocks was to allow you to "retire when ready", according to Lowenstein. The list of companies is shown below. Only one of these stocks had a PE of less then 50x!

The performance of this basket is shown in the chart below. At least Fortune got one thing right - it was a portfolio to forget! It is still down around 40% from the time at which Fortune suggested its purchase. A prime example of what Ben Graham would have described as a permanent loss of capital.

The investors in our value group focus themselves upon business risk - will profit margins shrink? Are there risks on the balance sheet? - rather than market risk (stock volatility), which these investors seem to treat with the scorn it deserves. They know that the market as a whole is best characterized as suffering bipolar disorder (the proper name for manic depression). As Ben Graham wrote:

One of your partners, named Mr. Market, is very obliging, indeed. Everyday he tells you what he thinks your interest is worth and furthermore offers either to buy you out or sell you an additional interest on that basis. Sometimes his idea of value appears plausible and justified by business developments and prospects as you know them. Often, on the other hand, Mr. Market lets his enthusiasm or fears run away with him, and the value he proposes seems to you a little short of silly.

Trait II: They don't need to know everything, and don't get caught in the noise

The investors in this group seem to be aware of the need to focus on a few key items of information, rather than attempting to try and overload themselves with noise. Lowenstein quotes Marty Whitman of the Third Avenue Value Fund as saying, "the fund doesn't have superior information; �the trick' is to use publicly available information in a superior manner". To this end, these funds don't employ legions of analysts wasting time forecasting next quarter's EPS; instead, they spend their time trying to understand the valuation and associated risks.

Trait III: A willingness to hold cash

Their willingness to hold cash is clearly visible from a cursory glance at the table on page 2. Currently they hold around 11% cash, nearly 3x the level held in the average US mutual fund. The average hides a wide range of current cash levels. For instance, FPA Capital is holding nearly 39% cash whilst Legg Mason Value holds a mere 1.1% cash.

Most of the traits displayed stem from the underlying philosophy of the funds in question. The generalized willingness to hold cash is the result of lack of investment opportunities. In his year-end letter to shareholders of 2003, Seth Klarman wrote that his large cash position was the "result of a bottom-up [and failed] search for bargains". The guiding principle amongst our group of value gurus is, to borrow Buffett's expression, "holding cash is uncomfortable, but not as uncomfortable as doing something stupid".

Trait IV: Long time horizons

I have often remarked that inherent within a value approach is the acceptance of long time horizons. You never know when a stock will reflect a sensible value. A good example was provided by the UK market in early 2003. The dividend yield on the UK market was higher than the 10-year government bond yield, suggesting that dividends were expected to decline on a decade view. This struck me as just plain wrong. A plethora of valuation work showed the UK to be unambiguously cheap (for details see Global Equity Strategy, 30 January 2003). The presence of forced sellers was making the UK market a bargain.

However, as with all bargains, they can repay you in one of two ways. Firstly, prices could correct. Secondly, they could just generate a high return via paying out high dividends for a long period of time. You never know which path will be taken. Hence the need for long time horizons.

Our selection of value managers all display long horizons. The average stock-holding period amongst these funds is over five years. The maximum is 17 years, the shortest 3 years. All compare favorably with the mutual fund industry's average stock-holding period of just 1 year (according to Morningstar).

This is supported by the chart below showing that average holding period for stocks on the NYSE. Back in the 1950s/1960s, investors used to do exactly that: invest. The average holding period was 7-8 years. However, today it appears as if everyone has become a speculator, with an average holding period of just 11 months.

When I present these findings, investors often dismiss the picture as yet further evidence of the way in which hedge funds have altered the investment landscape. However, the Morningstar data above, and the data from John Bogle below, show that long-only fund managers are just as much to blame for the time horizon shrinkage as the hedge funds. This may be because they feel the need to compete with the hedge funds but, regardless, they are certainly complicit in the shift from investment to speculation.

As Munger and Buffett have noted on many occasions, "If the job has been correctly done when a common stock is purchased, the time to sell it is - almost never".

Trait V: An acceptance of bad years

Nearly all of the funds in our list have witnessed periods of negative returns, and/or underperformance relative to a benchmark (although note Trait I on the disregard for such items). Many of them saw large redemptions during the TMT bubble, but were prepared to stick to their tried and tested approach to investing. Lowenstein cites Eveillard (manager of the First Eagle Global Fund) as saying, "I would rather lose half my shareholders than lose half my shareholders' money".

Despite the very impressive performance data contained in the table on page 2, many of the funds examined have underperformed the index in as many as seven years out of the last ten! Absolute losses are relatively rare, with only 2 or 3 years seeing negative returns in the last 10.

In a paper published by Tweedy Browne, they report a study that showed for a group of value investors with excellent long-term track records, that underperforming an index some 30-40% of the time was perfectly normal. This fits well with our previous study of underperformance using an artificial universe of skilled fund managers who, despite having an information ratio of 0.5, saw 70% of their numbers witness 3 or more years of consecutive underperformance (see Global Equity Strategy, 7 June 2005).

Trait VI: Prepared to close funds

In a world where asset managers are often rewarded with reference to funds under management, the quotation from Eveillard above is, sadly, an unusually ethical approach. Indeed, many of these funds display unusually high ethical behavior and high levels of self control; in as far as many of these funds are closed to new investment. The managers are highly cognizant that there are limits to the size of funds which they are capable of running without hitting problems.

Your always looking for value analyst,

>Why Savvy Manager is still bullish

2006-06-12T11:34:00.000-12:00

	Even as foreign institutional investors seem to be dumping India, after three years of flirtation, darling fund manager Samir Arora declares he is still in love with Indian equities.

	The stock markets have seen extreme volatility led by a dramatic change in sentiment. At the heart of the crisis is the shift in global investment climate.

	With interest rates across developed markets on the rise, investors are taking the flight to safety, thereby downgrading emerging market equities.

	Even as the tide seems to be turning against the emerging markets, India – the most sought after market of them all in the past two years – seems to be getting bowled faster than one would have ever anticipated.

	Since May 10, Indian equities have fallen over 25 per cent, leading the pack of losers among global markets. Experts cite the higher share of portfolio flows during the recent rally and high valuations relative to other emerging markets as the reason for the fall.

	But Singapore-based hedge fund manager Samir Arora demolishes this argument. In a tete-a-tete with The Smart Investor, Arora explains why high multiples for Indian equities are justified. According to Savvy Manager (Arora’s nick name since his Alliance Capital days), markets may be close to bottoming out.

	India isn’t expensive One reason touted by regional analysts on India is that our valuations are higher than valuations of other comparable markets. India’s price-earnings multiple is higher than other markets in the region, but so is the expected growth rate of Indian companies.

	It does not appear in any way that the relatively higher P/E multiple for India is unjustified.

	India has the best strength and breadth of companies among the emerging markets with companies in the sectors like software, engineering, consumer and pharmaceuticals including subsidiaries of MNCs listed on the local stock exchanges.

	Most other emerging markets are dominated by companies in energy, materials, banking and technology (hardware) companies, which typically get lower valuations owing to their cyclicity and higher capital expenditure requirement etc.

	For example, it is ridiculous to compare P/E of India with that of Russia and argue that the Russian market has lower P/E than India. The Russian Index is primarily weighted in energy and materials and, hence, the lower P/E for that market is logical and consistent.

	In Indian indices, the P/E multiple is also inflated because of the presence of multinational consumer, pharmaceutical and engineering companies. Most of the branded consumer companies in the world are multinationals like Levers, P&G and Nestle.

	Therefore, it is not possible to generally buy good consumer companies in most emerging markets. In India, investors can buy listed Indian subsidiaries of multinational companies.

	Whether one likes it or not, these companies trade at valuations higher than domestic consumer companies (available in other emerging markets) with lower brand power. This increases the P/E of our market, but for entirely justifiable reasons.

	Similarly, if investors want to play the theme of growing investments in the power sector in emerging markets, they can only buy utility companies. In India, the presence of listed companies such as Siemens, ABB and Ariva allow a more direct way of investing in the sector, though these companies trade at higher valuations.

	Separately, it may be interesting to note that Bank of China, which is only one of many banks in China, has a market capitalisation higher than the entire Indian banking sector – private and state-owned banks put together.

	India has got its due, not undue share Year to date, India has received $940 million from foreign investors ($2.2 billion in cash market less $1.3 billion sold in the futures market). Foreign investors have invested a larger amount in Indonesia and more than double of this in Thailand year-to-date.

	Last year, foreign investors infused more than $10 billion into the Indian markets. Many strategists argue that India got a disproportionate share of the inflows into the emerging markets in recent years. The country’s share of inflows appears high when compared with its weightage in the global emerging market indices.

	However, no one seems to ask a more basic question: Why is India’s weightage in the index so low? This is because MSCI in its infinite wisdom chose to make ‘free float’ the key determinant for determining country and stock weights.

	Three years ago, the weightage of Samsung Electronics in the global emerging markets index was higher than India’s weightage in the same index. Now, is it not possible that investors around the world care for factors beyond ‘free float’ when choosing to invest in different countries?

	Another factor that investors look at before investing in various countries is corporate governance. A March-2006 report on corporate governance in Asia and Australia – Beyond the Numbers – by Deutsche Bank ranks India second in Asia, on par with Singapore and next only to Australia.

	Gold wealth effect ignored At present, the two consensus trades of many strategists are long gold and short/ sell India. What these strategists do not appreciate, realise or even bother about is that Indians are the largest holders of gold in the world.

	This is distributed more equitably than other forms of wealth, with the middle and weaker sections of society holding more gold relative to other assets.

	The World Gold Council estimates that Indians own more than 15,000 tonne of the yellow metal. The value of this gold has appreciated by nearly $80 billion in the past six months. Considering the size of our GDP, this is a substantial number by any calculation and must be factored in by investment strategists.

	Commodities can’t be concern In recent months, investors have been unnerved by the fall in commodity prices. What Indian investors do not appreciate is that commodity or material stocks are a very small part of the index.

	Only 8 per cent of MSCI India Index is in materials stocks, but the same number is much higher for countries like Brazil and Russia. India is a developing country with huge infrastructure needs and investment.

	Also, the country is a beneficiary of lower commodity prices for it is a net consumer and not a net producer of commodities.

	Recent rally makes up for the past Another reason touted by the bears is that the Indian market is up 300 per cent in the past three years, about 45 per cent of that can be explained by increase in earnings.

	During the same period, trailing 12-month P/E increased from around 13 to 21. Since there was significant re-rating, that part of the gains must be evened out.

	The logic of the bears is that markets should move in step with corporate earnings growth – although this is correct over the long term, there is no reason why this should happen over a three-year period.

	Three years ago, it was an extraordinarily bearish period with the Indian market (excluding the violant moves due to the dotcom boom and securities scam) actually falling from some 3800 levels in May 1994 to 3000 in May 2003, despite steady earnings growth during the same period.

	It is obvious that the year 2003 was a better time than any other time to buy Indian equities, but to benchmark the appreciation from that time and say that therefore the market has gone up too much is a weak argument.

	Markets aren’t really correlated The business news channels everyday highlight the cues that they are getting from other markets. Investors look at overnight close of Dow Jones and NASDAQ in the morning along with how Asian markets are faring.

	In the afternoon, everyone looks at how European markets are doing and we believe that we are faring in line with these global cues.

	Although it may appear on a day-to-day basis that all markets are moving in tandem, looking at slightly longer data shows that various markets actually move quite differently from each other.

	It is interesting to see that India has been the worst performing market among BRIC countries by a wide margin over all periods.

	Markets may have bottomed out No one can exactly say whether the market has bottomed or not. A better way is to see whether the market will be higher than the current level six to 12 months hence. There are several vital signs which show that the market is somewhere close to bottoming out.

	All the good news is being ignored by the market – higher than expected GDP growth, the arrival of monsoons on time, growing FDI inflows (the $4 billion from IBM, for instance). The market cannot ignore these ground realities for too long. Since the market slump began, the open interest in the derivatives market has reduced significantly. This only suggests that the speculative positions in the market, especially the over-leveraged positions, are out. Plus the precipitious fall recently will make traders more cautious which itself will reduce overall risk in the market. The fall registered in May 2006 is the third-biggest monthly fall since 1994. Last month, the Sensex plunged 14 per cent, while May 2004 and March 2001 witnessed higher monthly declines at 15 per cent. The point to be noted is that after every big monthly fall, the market has invariably stabilised or recovered in the subsequent months.

>In India, taking the sting out of joblessness

2006-06-04T17:58:00.000-12:00

The chief economist of Morgan Stanley, Stephen Roach, is wondering how India will create jobs in factories that are "more heavily populated by robots than by human workers."

It's a valid question. And the only answer seems to be, "by setting up thousands of such factories."

It won't be easy.

Taking into account both the current stock of jobseekers and the expected increase in the labor force, India has to find work for 150 million people, more than the combined population of France and Germany, to reach full employment by 2010.

While that is patently unrealistic, it underscores the enormity of a task that will test Indian policy makers until the share of working-age people in the total population stops rising in about 2035.

Unemployment may turn India's "youth bulge," which is expected to bring the country its long-awaited demographic boon, into a blue-collar tragedy. In the absence of factors that would enable job creation, automation is making a bad situation worse.

Bajaj Auto, India's No. 2 motorcycle manufacturer, had more than 21,000 workers in 1997.

Over the next eight years, the company tripled revenue by cutting the number of employees to 11,000 and by increasing assets per worker almost sevenfold. Part of this capital infusion went into robots that weld chassis frames.

Full Story Here

>Interview with Jim Rogers

2006-06-04T00:54:00.000-12:00

WITH THE PRICES OF OIL AND INDUSTRIAL METALS like copper, zinc and nickel screaming higher in recent months, such observers as Warren Buffett and Morgan Stanley's Steve Roach have proclaimed that commodity markets are in a bubble destined to burst soon.

But Jim Rogers, fabled hedge-fund manager of the 'Seventies and now ardent commodity bull, finds such talk ridiculous. Indeed, he has been pounding the drum for investing in commodities in recent years in numerous speeches and media interviews, even writing Hot Commodities, a book propitiously published in late 2004 that predicted a coming price boom in everything from aluminum to zinc.

Barron's caught up with Rogers on a recent rainy morning as he worked out on a stationary bike in the fourth-floor exercise room of his five-floor mansion on New York's Upper West Side. Bloomberg Radio droned in the background as he talked while occasionally glancing at a laptop computer, perched precariously on the machine's handlebars. "How can anybody say that a bubble has developed in commodities yet" -- brief pant -- "with sugar 80% below, silver 75% below and corn and cotton less than half their all-time price highs?" he huffed. "You can't have a bubble when the media has only begun to pay attention to commodities in recent months after years of disinterest. We're now only in the early part of a long-term commodity price boom that has years to run and will likely see literally dozens of raw- material prices make new highs. Even crude oil and copper have a long way to go, even though they recently set price records."

How long will the surge run? Based on the past longevity of commodity bull markets (Rogers mentions ones that, by his reckoning, lasted from 1906 to 1922, 1933 to 1953 and 1968 to 1982), the current boom could last eight to 14 more years. The commodities-bubble crowd scoffs at that, just as skeptics did when Rogers predicted the current boom a few years ago.

COMMODITY PRICE BOOMS, says Rogers, are typically the product of years of underinvestment in new productive capacity -- whether in exploration for new oil or metal deposits, construction of new smelters and refineries or planting of new orange or rubber trees -- in response to low prices. Meanwhile, demand creeps up all but unnoticed until imbalances suddenly erupt and prices surge. Producers -- with the possible exceptions of grain farmers and cattle ranchers -- can't respond quickly because of the long lead times required to finance and build new capacity.

Over the years, commodity prices have tended to surge during periods when the stock and bond markets have labored, exhibiting what modern portfolio theorists call non-correlation with the financial marts. For instance, commodities did poorly during the stock market booms of the Roaring 'Twenties and the post-1982 bull market, while outpacing stocks during the Great Depression and the 'Seventies, Rogers notes.

Recent studies seem to bolster this observation. One, superintended by capital-goods analyst Barry Bannister, now of Stifel Nicolaus, found that over the past 130 years, commodities and stocks have alternated performance leadership in regular cycles, averaging about 18 years. A 2004 study by Gary Gorton of the University of Pennsylvania and K. Geert Rouwenhorst of the Yale School of Management that examined market returns from July 1959 through December 2004 concluded that passive, systematic long investments in commodity futures generated total returns comparable to the S&P 500's, while both asset classes smoked the corporate bond market. Even better, the two academics concluded, commodities were less volatile and hence less risky than stocks over those 54 years. And their lack of correlation with stocks made them worthy diversification tools.

It's no surprise, perhaps, that commodities march to a different beat than stocks and bonds. Unlike their financial counterparts, commodities are hard assets that both contribute to and benefit from inflation -- particularly, unanticipated inflation. Rising inflation hurts stocks by crimping companies' profit margins and consumers' purchasing power. Inflation's fraternal twin, rising interest rates, likewise can savage bond returns by sapping the real value of interest and principal payments.

To Rogers, the past few years have witnessed another changing of the guard; commodities will rule over stocks and bonds for the next decade or more. Inflation will continue to flare and not just because of rising raw-material prices. According to Rogers, new Fed Chairman Ben Bernanke is "an amateur with no knowledge of markets" whose academic work revolved around how nations could avoid depressions by printing more money. And, finally, he throws into this witches' brew the likelihood of a collapse in the dollar as a result of America's accelerating debtor status. Rogers views commodities as the ultimate refuge from these scourges.

FUNDAMENTALS WILL TELL the tale for commodities. Rogers invariably points out in speeches that no major oil fields have been discovered in more than 35 years, nor major new metal-mine shafts sunk in 20 years. And many existing "elephant" oil reservoirs, such as those in the North Slope and the North Sea, are fast depleting. And who can trust the Saudis to tell the truth about their real oil reserves? That leaves the global market depending on production gains in Russia (a "bunch of mafiosi who have probably already reached their peak production level") and such basket cases as Nigeria and Venezuela.

Sure, oil from the Caspian Sea and the Alberta tar sands eventually will hit the market. Wind, solar and geothermal hold promise, as do biomass-generated power and other alternative energy sources. But tapping them will take lots of time and money, warns Rogers.

On the demand side, there's the U.S. consumer, who in the 'Nineties considered McMansions, gas-guzzling SUVs, fancy appliances and ubiquitous electronics a national birthright, gobbling up gasoline, natural gas, electricity, timber, steel, aluminum and lead (for batteries) at a fearful rate. Add to that 1.3 billion Chinese and 1.1 billion Indians -- all largely walled off from the global economy during the last commodities boom -- joining the global scrum for natural resources.

CHINA IS NOW the No. 1 consumer of copper, steel and iron ore, and No. 2 in the use of oil and energy products to feed its industrial maw, which is growing at a prodigious rate of nearly 20% a year. And the torrent of textiles, refrigerators, color TVs and computers aren't just flowing to overseas outlets like Wal-Mart. Burgeoning economic growth is also creating a Chinese middle class aspiring to better meals and more creature comforts. In Rogers' view, it's delusional to deny that competition for commodities will continue to heat up as a result of China's pell-mell rush from a peasant economy to economic giant. Today, there are only 30 million private vehicles on the roads in China, versus 235 million passenger vehicles in the U.S., even though China has almost 4½ times as many people.

So far, the scramble for natural resources has mostly affected energy and metal prices. But Rogers thinks the price boom will soon spread to "soft commodities" (like cotton, sugar, coffee and wool), rubber, lumber and -- perhaps most telling -- grain and oilseeds. Already, lots of corn and sugar production is being siphoned off into ethanol output.

"Future Chinese demand under their 'People First' campaign will be enough to push up prices in these sectors," he says. "In some grains, for example, stocks are beginning to tighten despite global bumper crops in recent years and an absence of major droughts. Despite low per-capita soybean, meat and chicken consumption by worldwide standards, China is already a major importer of soybeans and other grains and figures to get even bigger as diets improve." (See Commodities Corner)

Rogers has more than an academic familiarity with global economic and political trends. In the early 'Nineties, he set a Guinness record by motorcycling 100,000 miles across six continents. Then he made a three-year, round-the-world journey between 1999 and 2001 in a custom-modified, two-seat Mercedes, setting another Guinness record by covering 152,000 miles and passing through 116 nations. The trips gave rise to two popular adventure and investment primers: Investment Biker and Adventure Capitalist.

So enamored of China is Rogers that he and his wife, Paige, have even considered moving to Shanghai or Singapore (a bastion of overseas Chinese wealth). They've received visas from Singapore for a trial stay in that city-republic this summer and put their New York home on the market for $15 million. And their three-year-old daughter, Hilton Augusta, is being taught Mandarin by a Chinese nanny. "I'm convinced that China will become the No. 1 economy in the world in 20 years or so, and that knowledge of Mandarin will be indispensable for any child of today," says Rogers.

Cover Story -- Part II

ROGERS FIRST GAINED celebrity by co-founding the wildly successful Quantum Fund with George Soros in 1973. The hedge fund used gobs of leverage to notch a return exceeding 4,000% over the remainder of the decade, despite a poor stock-market environment. Rogers then retired at age 37, somewhat prematurely as it turned out. Soros' hedge-fund empire grew in subsequent decades, making him a multi-billionaire, while Rogers' net worth, which he declines to disclose, is a fraction of that, although it's certainly not insubstantial.

Yet Rogers has scarcely disappeared from public view in recent decades. Like a sunflower bending its face to the sun, he's long been drawn to the media's glare. He's a frequent guest on financial and news shows on TV, even moderating several financial programs for a time. His books and dynamic style have made him a much-sought-after speaker in the U.S. and abroad. He was also a popular member of the Barron's Roundtable in the 'Nineties, known for his sporty bow ties and touting of idiosyncratic investment ideas like Southeast Asian white pepper (or "peppah" as rendered in his inimitable Alabama accent).

His detractors were often put off by his sometimes apocalyptic predictions and his claims, made after the fact, of having caught just about every global market move from a temporary stock surge in Botswana to adroitly sidestepping Korean shares just before they tanked in 1997. He has long been bearish on the U.S. dollar, though in the 'Nineties that was a losing proposition. As a private investor with no verifiable track record, Rogers was vulnerable to charges of showboating.

ALL THAT CHANGED in the summer of 1998 when Rogers, wary of the then-roaring U.S. stock market, concluded that the future lay in commodities and developed a proprietary index of 35 of them, each with a futures market. They were weighted in line with his view of their relative importance in global industrial and food consumption.

Thus, he included azuki beans and rice in his grain and oilseed category, comprising in all about 20% of what was grandly dubbed the Rogers International Commodity Index, or RICI. Other commodity indexes ignore them. The Rogers Energy sector (crude, heating oil, unleaded gas, etc.) was assigned a weight of 44%, far lighter than the more price-sensitive weighting of over 65% that energy recently commanded in the popular Goldman Sachs Commodity Index. Industrial metals, from aluminum and copper to zinc and tin, have a 14% rating, nearly double the 7.1% weighting given precious metals. The latter is an indication that Rogers is hardly a gold freak. Finally, the index is rounded out by the afore-mentioned soft commodities and livestock.

And now, once again, Rogers is throwing some serious heat. Since its advent on Aug. 1, 1998, the RICI has clocked a total return of 265.59% through the end of April 2006, for a compound annual return of 18.61% over the period. Only the South Korean stock index, the Kospi, of some 50 international indexes tracked by Barclay Trading Group boast a higher return (313.49%) than the RICI over the period. In comparison, the S&P 500 limped in with a 31.81% total return, while the Nasdaq Composite did even worse with just 24.04%. The Rogers Index, with its nearly 266% return, also beat the Goldman Index (up 201.65%) and the 80.81% return posted by the Reuters-CRB Index.

AS ROGERS STARTED the commodity index, he began offering index funds through Beeland Management, a company he controlled. Beeland is his middle name.

The funds were intended to mimic his index and various subsectors of it by buying futures in the underlying commodities at their precise weightings. The bane of individual investors in commodity futures has always been leverage. But instead of posting just the 5% to 10% margins on positions required by exchanges to guarantee performance under the contracts, his commodity index funds put up 100% collateral on the value of the contracts. In fact, the Rogers funds assume that the investor will earn the 90-day T-bill rate on the 90% or so of excess margin, while patiently waiting for the futures positions to work their magic. Money was to move seamlessly between the exchange margin and excess margin accounts. If underlying futures positions declined in value, the excess margin account could be tapped to top up exchange margin positions. In the event of rising future values, appreciation would create extra margin in the exchange accounts. And this could be transferred to the excess margin account.

IT WAS THIS very mechanism that malfunctioned last fall when Beeland's commodity broker, Refco, filed for bankruptcy after apparent malfeasance by top Refco executives was discovered. Some $370 million of Beeland funds' excess margins ended up trapped in an unregulated unit of Refco, rendering Beeland just another unsecured creditor in the bankruptcy. As a consequence, the Beeland funds were shut amid a hail of lawsuits between Beeland and Refco and by investors in the funds seeking recovery of their money and damages from Rogers and Beeland, among other defendants.

Other funds, however, have licensed the Rogers Index. Merrill Lynch offers a RICI Trakr stock (ticker: BUV0) on the Chicago Mercantile Exchange's electronic arm; it has already attracted about $1 billion. Credit Suisse, UBS, Daiwa, Barclay and other banks likewise run commodity pools based on the index. For U.S. investors, the Trakr is perhaps the most attractive vehicle because it qualifies for the favorable capital gains accorded stocks.

In all, some $90 billion in institutional and individual investor money has poured into various commodity index products with the Goldman Sachs index boasting around $60 billion of the total. Hot performance has been part of the lure, to be sure. In addition, the commodity markets have become infinitely more respectable as a result of academic studies, such as the earlier-mentioned Gorton-Rouwenhorst paper, asserting that fully collateralized futures positions shield investors against inflation while offering stock-like total returns over the long haul, though timed to different stages in the economic cycle.

Some observers contend that the advent of commodity index funds, along with the addition of exchange-traded funds based on a single commodity, such as gold or silver, artificially pumped up prices through collective buying. The ETFs purchase physical commodities as money pours in, while the index funds concentrate on futures that are near expiration. The latter activity also boosts "spot" or cash price of commodities, some maintain.

ROGERS FINDS SUCH contentions preposterous. First, he argues, the commodity index funds are minuscule, compared with the index funds that operate in the stock and bond markets. Also, commodities index funds must constantly roll their futures positions forward as their existing futures approach expiration. This relieves buying pressure on nearby futures. The Rogers funds, in fact, buy only futures two delivery periods away from expiration.

Finally, the large commercial interests that trade commodities aren't about to let speculators wrest control of prices. "ExxonMobil can drown all the index funds, hedge funds and other speculators in the energy markets if anyone tries to manipulate prices," Rogers asserts. "It's largely the surging global demand for raw materials that is pushing prices up."

Rogers is the first to concede that the bull market in commodities will have plenty of nasty corrections and volatility along the way. That's the nature of bull markets. Gold, on its way to its record of $850 an ounce in 1980, suffered a 50% correction in the mid-'Seventies, falling from nearly $200 to $100. The Rogers Index itself dipped some 25% in the months following 9/11. Then, it resumed its upward trajectory.

Obviously, a major terrorist incident, a bird-flu epidemic, a global financial crisis or a hard landing in the Chinese economy could trip up the commodities bull. But, according to Rogers, any slide would likely be temporary and offer a good buying opportunity.

None of these events change the underlying dynamics of the global economy. Supply will remain constrained for some time. And demand won't disappear. Not with China's 1.3 billion people, fired by rising aspirations and epic entrepreneurial zeal, driving the market. Consumption is likely to outstrip supply if only because of the developing world's hunger for a better life.

THE COMMODITY BOOM, like all bull markets, eventually will end in a crescendo of hysteria. The public will feel an overwhelming desire to invest in raw materials rather than stocks or bonds. Financial publications will be chronicling the derring-do of commodity kingpins with the reverence and wonder once accorded the dot-com billionaires. Seemingly insatiable demand for commodities will provoke investment in new sources of supply, but few investors will notice as supply and demand start to come back into balance.

But that day won't dawn for a decade or so, says Rogers, who hopes to be on to the next big thing by then.

>Some Munger Ideas

2006-05-26T07:15:00.000-12:00

On the IQ of the 'Smart Money'
Munger does not normally make any comments of his own before the question-and-answer session, but he did this year because, "so many of you [attendees] have come so far." He reminded the crowd that, "if there's any efficiency at all, asset classes converge in the long run," and used that comment as a launching point to talk about the dangers of chasing performance and listening to self-interested experts charging high fees. After noting that alternative asset classes--such as commodities and real estate--have done very well over the past few years, he pointed out that many institutional investors have only recently been allocating more assets to these areas.

Munger drew a parallel between this trend and what happened with venture capital investing several years ago. "Places like Harvard and Yale [endowments] were early into venture capital, so they got access to the best managers. Envy then rippled through the world of investment management, and firms rose up to satisfy the demand. Everyone piled in during the late 1990s, and promptly lost half their money. Something like that will happen again in other areas."

The key point here is that chasing the asset class that's been the most hot most recently rarely works out well for investors. It generally works out very well, however, for the consultants and investment managers selling the "product" that's been created to satisfy investors' demand. As Munger put it at the meeting, "How can anyone be so uncynical about human nature?"

Many managers and investment professionals will create and hawk whatever will sell, regardless of whether it's right for investors. Remember all those Internet funds launched near the top of the Nasdaq? Or all the recent launches of emerging-markets and precious-metals funds? Caveat emptor.

On Asset Prices
Munger: "Every asset class I see is priced on a fairly rich basis.... Junk bonds seem to me to be pretty junky. The easy bargains are picked over because people like you are willing to come so far to hear about value investing. Of course, if a thing is despised enough, you can run a Geiger counter over it and make it go click."

He then related the story of someone he knew who'd started a fund to invest in companies in sub-Saharan Africa, illustrating that even such an out-of-the-way corner of the world was being picked over. Munger also recalled a comment made by Buffett at the Berkshire annual meeting concerning how cheap Korean stocks had become during that country's financial meltdown in 2002: "There were flour mills trading at 2 times earnings. Warren thought he was young again."

The underlying message here is simple to understand, but difficult to carry out: Investing in what's out of favor or overlooked will generally bring a better return than buying whatever happens to be in the headlines. It's a message that's made Munger and Buffett very wealthy, and it's a central theme of Morningstar's investing philosophy.

On Opportunity Costs
Buffett often talks about how much more money Berkshire could have made if he had acted on certain opportunities rather than "thumb sucking," as he has put it. Munger hit on a similar theme a couple of times during the Wesco meeting.

"The proper thing to do is look back and think what huge opportunities we all missed," he said. "We didn't scan enough areas looking for opportunities."

Then later in the meeting: "You can miss a lot. As long as you get some, and don't make monstrous mistakes, you'll do fine. But you should constantly review mistakes of omission." Munger related the story of fund manager Chris Davis' wall of shame--on which he posts the certificates of stocks that represent his worst losses--and mentioned that everyone should have a "wall of shame squared," reviewing all the things "you could have done if you'd been a bit more rational."

I couldn't agree more. As Munger put it simply, "You will be a better investor if you do this."

On Everything Else
As usual, Munger's answers to questions from the audience were rife with great quotes. Here are a few that I managed to scribble down, with context appended where it's necessary.

"There's always a lot of nonsense that's conventional."

On the way the accounting profession has handled accounting for derivatives: "I don't think giving up is the right word. They've sold out."

When asked for some financial detail on Iscar, the Israel-based metalworking company recently purchased by Berkshire: "That's a very intelligent question, so I will give you a very intelligent answer. I'm not going to tell you."

"I don't know how we'll fix corporate compensation. When people rise high in life, they have a duty to act as an example. Look at judges and generals, for example. The culture's horribly awry, and I don't know how to fix it."

"There will be some repeat of LTCM somewhere. You can count on it."

"The harder you work on something, the more confidence you have in it. But you might be working on something you aren't good at."

When asked whether he considers buying businesses outright and managing them more honorable than managing a portfolio of equities: "Hell, yes. It's a more engaged life. Why must people constantly flip just to add an extra zero?"

When asked whether he has an opinion about naked short-selling: "My jihad calendar is full up."

>7 Lessons from the Racetrack

2006-05-12T07:44:00.000-12:00

7 super cool ideas..! enjoy :p

1. "At the racetrack ... every bettor is playing only against the other bettors.... Your opportunity for profit at the racetrack consists entirely of mistakes that your competition makes in assessing each horse's probability in winning."

It's both important and sobering to remember that on the other side of every transaction is another person,who holds an exactly opposite view. Achieving above-average returns (on a risk-adjusted basis) requires seeing value where others currently don't.

2. "This is the way we all have been conditioned to think: Find the winner, then bet. Know your horses, and the money will take care of itself. Stare at the past performances long enough, and the winner will jump off the page.... The issue is not which horse in the race is the most likely winner, but which horse or horses are offering odds that exceed their actual chances of victory."

A good company is easy to spot, a good value is not. Many people spend all of their time searching for the next big stock idea, yet wouldn't have a clue about what's already priced into the stock of whatever company they find. Knowing how to value a business is key.

3. "...Handicap[ing] horses is work that you do before the betting opens. As soon as those first prices go up on the board, you are looking for discrepancies between your odds and those set by your opponents....

You must have a clear sense of what price every horse should be, and be prepared to discard your plans and seize new opportunities depending solely on the tote board."

The key is that good investors, like good horseplayers, do their homework ahead of time to become familiar with what they're looking at. Good investors put themselves in the position to act quickly when bargains emerge because, as every shopper knows, a good bargain doesn't last long.

4. "It might not be a great deal of fun, but you could sit around and wait for mismatches, races in which one horse is so clearly superior to the competition that anyone could fairly agree that he has a better than 50 percent chance of winning the race.... There is no shame in passing a race because you just don't
see any value in it."

"Sitting around and waiting for mismatches" is exactly what Warren Buffett has done for the past half-century. He is well aware that "shame" comes not from shrewdly "passing a race," but recklessly entering one. "You don't get paid for activity," Buffett instructed, "You get paid for being right."

5. "What defines sucker money is not the horse selected, but the acceptance of odds on that horse that are substantially out of line with its chances of winning."
A bad (or good) investment has as much to do with what price was paid as it does with what business was bought. So it's entirely possible that the stock of a bad business can offer attractive returns. And just as a bad company can make for a good investment bet, a good company can be a bad investment bet.

6. "...The world's savviest bettor cannot win with bad opinions"

There are plenty of people who come up with very precise valuations for companies (down to the penny in some cases), yet their knowledge of the companies is scant, and therefore, their valuations worthless. Truly understanding the business is a prerequisite for valuation.

7. Finally, as Crist says, "If all of this seems too calculating and joyless, by all means feel free to forget about it and enjoy yourself at the races betting horses you fancy regardless of their price. You'll have plenty of company, and the rest of us could use your money."

>Buffett solves his cash crisis

2006-05-09T17:26:00.000-12:00

If every year you had more cash than the year before, would you have a problem with that? If every year you had a lot more cash than the year before, would you have a problem with that? And if, at last count, your cash had piled up to $37 billion, would you have a problem with that?

You would if you were Warren Buffett -- and this embarrassment of riches has been bothering the chairman of Berkshire Hathaway (Research) Inc. for years.

Buffett: This is a significant event in Berkshire's history.

That's why his announcement this week that he is spending $4 billion in cash to buy Iscar, an Israeli-based machine-tool maker, is so important. "It's the first business we've purchased that's based outside the US," Buffett said on Saturday in his remarks to 24,000 shareholders assembled at Berkshire's annual meeting in Omaha. "I think we'll look back on this in five or ten years and see this as a very significant event in Berkshire's history."

A turning point
The Iscar purchase is a sign that Buffett and his vice chairman, Charles Munger, may be finding a way out of Berkshire's unique kind of cash crisis. Most companies struggle to produce excess cash after paying all their costs. Buffett's investments are so lucrative that he struggles to find ways to put all their excess cash to work.

Those billions in cash are a problem for Buffett because:

• Interest rates are low, so idle money earns meager returns.

• He believes the value of the US dollar will decline for years to come, making cash a wasting asset that may be worth less with each passing year.

• At Berkshire's current market capitalization of roughly $130 billion, it's hard for Buffett to find publicly traded stocks both cheap enough and big enough to make a difference in his company's overall results.

• The hundreds of billions of dollars pouring into hedge funds and private equity funds have made it difficult to buy private businesses in the US at fair prices.

All these factors combine to make Buffett's original game – buying small, publicly traded US companies – next to impossible. And they make it almost as hard to buy bigger US stocks, too. At Saturday's annual meeting, Buffett revealed that Berkshire – which as of March had $37 billion in cash – is looking at one acquisition for about $15 billion in cash. (He, Bill Gates, and the royal family of Saudi Arabia may be the only people alive who could consider such a thing.) But he warned sternly that this particular deal has a "low probability" of occurring.

"We don't like excess cash," said Buffett, "but we like dumb deals even less. It's likely, but far from certain, that three years from now we will have significantly less cash." And how much less is "significantly" less? "We don't need anything remotely like $40 billion [in cash]," explained Buffett. "We would be much happier if we had $10 billion." (Hey, who wouldn't?)

No dividend
So how will Buffett get rid of all that extra cash? To me, the most interesting thing about his remarks at this year's meeting was the word he never uttered: dividend. In years past, Buffett has admitted that if he could not find a better use for the mountain of cash that his shareholders have entrusted him with, then he would have to consider paying out a special dividend, much as Microsoft (Research) did in 2004. This year he never spoke the D-word, which suggests to me that the Iscar deal may be a template for a new solution to his cash problem. Iscar has several advantages:

• Based in Israel and operating mainly outside the US, it generates most of its cash in foreign currency.

• It was a private transaction, so Buffett did not have to outbid competitors in a public auction.

• It was a sizable deal, enabling him to put a good chunk of cash to work at once.

• And, most importantly, it will send a signal to major family-owned businesses around the world that Buffett is now a buyer of choice beyond the borders of the US.

By turning the Wertheimer family, the main owners of Iscar, into instant billionaires, Buffett has sent out a wake-up call to similar potential partners everywhere.

It's important to realize what's going on inside Buffett and Munger's heads. They view capital allocation – how the cash should be redirected among the dozens of different businesses that make up Berkshire Hathaway – as their single most important responsibility. They also think they can add at least as much value with smart capital allocation as they can with smart stock picking. After all, inside a conglomerate like Berkshire, even a business with only marginal profits can be valuable if Buffett and Munger can redirect its excess cash to a faster-growing division that has a better use for the capital.

With each passing year, they seem to become a little less interested in buying small stakes of companies that trade in the stock market – and more interested in buying majority holdings in private businesses. That, they believe, is how they can now get the biggest bang for their big bucks.

Buffett and Munger are more thoughtful about what to do with cash than any other business leaders in America. That's because they know that cash is like most good things in life: It takes only a tiny bit too much to turn it from a blessing into a curse.

As Buffett's mentor, Benjamin Graham, explained in Chapter 19 of his book The Intelligent Investor, the better a boss is at managing the operations of his business, the worse he is likely to be at managing its finances. That's because a well-managed business mints money – and those piles of cash lead to temptation.

Most corporate managers could find 37 billion ways to spend $37 billion – nearly all of them bad. They might go on an acquisition binge, paying any cost and bearing any burden to buy any company they came across. They might build a 60-story skyscraper with their name on it, expand their product lines into markets they knew nothing about, or spend a fortune on research and development for goods that nobody wanted.

Even more likely, they would pay themselves hundreds of millions of dollars in stock options, then spend even more money to buy back the company's shares on the open market. They would call this "enhancing shareholder value," since it would supposedly keep the new stock options from "diluting" the stake of existing shareholders.

For several years Buffett seems to have been casting about, trying to find a way to solve his peculiar cash crisis without having to admit defeat and pay out a big (and taxable) dividend. The Iscar deal is a strong hint that he may have largely solved this problem. Of the $25 billion to $30 billion that Buffett hopes to invest over the next few years, it wouldn't surprise me a bit if the lion's share of it went into private companies based outside the U.S.

>India and China

2006-05-09T06:40:00.000-12:00

China is in a tearing hurry to tap the Indian market and the CCPIT’s assistant chairman Wang Jinzhen lost no time in putting his cards on the table. China would like India to accord it market economy status as quickly as possible. It would like clarity on foreign direct investment in the retail sector, and it would be helpful if India’s infrastructure sector could be opened up to Chinese companies without further ado. Additionally, it would also like the controversy surrounding its telecom giant Huawei Technologies resolved quickly, so that new investment in India could be speeded up, as the record on investments has been fairly dismal so far (see ‘Needles of Suspicion’).

But whatever the misgivings on either side, trade is booming —even if there is no agreement on who is gaining. According to the latest statistics released by China Customs, two-way trade grew 79 per cent to touch $13.5 billion in 2004, and reached $18.7 billion in 2005. This means the target, set three years ago, of reaching $20 billion by 2008 could be met two years before schedule. It also means that China will soon be overtaking the US as India’s main trading partner.

Why does Indian industry blanch at the idea of an FTA with China? The answer lies in the structure of their economies and their relative strengths. Slightly over 50 per cent of China’s GDP comes from manufacturing and construction, 34.5 per cent from services and just under 15 per cent from agriculture. The fear is that the world’s factory will be flooding India with its products.

Compare this with India’s profile. More than half of its GDP (52.2 per cent) comes from services, while industry contributes just 26 per cent. As one businessman points out, “What will we gain from an FTA with China? Not lower tariffs because their tariffs are already low. All it will do is open the floodgates. Just look at what it has done to the big economies. Both the US and Japan have a huge trade deficit with China and we are pygmies compared to them.”

Ready or not, Indian industry will have to learn to tango with the dragon. China is here and it means business.

>Information Vs Knowledge

2006-05-05T20:14:00.000-12:00

Until the lens of experience focuses information, it does almost no good.
No matter how much the marketing machines of the Information Age would have us think otherwise, information by itself isn't power: knowledge is.
And turning information into knowledge requires more time, experience, and effort than an afternoon spent starting at a screen full of facts.
Information is passive. To make it knowledge, you need to assimilate it. Put it in context. Understand it.
Knowledge streamlines and focuses our relationship with information.
Knowledge helps us avoid information we don't want or need and leaves us with the stuff we can use.
In an age in which endless amounts of bits and bytes are always available, it's a daunting task to spot the worthwhile stuff.
It's easy for the Net to overwhelm us or lull us into the misconception that simply having access to something is as good as knowing it. --Michael Penwarden

>Nice Articles from The Stock Valuer

2006-05-01T04:12:00.000-12:00

>Taking Account. FII and MF investment Trend.

2006-04-20T23:21:00.000-12:00

Open the image in new window to read details and (click to zoom.)

Only in recent past have Indians started to put money in large amount in equity.
And matching the FII's in inflow.

The reverse of this would have made tons of money for Indians.. alas that is not the case.
And purchsing at high levels "due to high and dry feeling" and calling it investment is much more loaded with risk than purchasing when mkts were down in the dumps in 2001 to 2003..!!

Long live the Indian Investors.

>Traditions in Value Investing

2006-02-09T15:11:00.000-12:00

In a great book and a must-read for investors, “What is Value Investing?”, the author, Lawrence A. Cunningham, writes about the many traditions of value investing.

“Value investing is partly a state of mind. It is characterized by habitually relating the price of a stock to the value of the underlying business. Basic principles of fundamental analysis are the tools. They arise from three traditions.

Benjamin Graham's margin of safety principle is the first one. It requires assurance that a stock's price is substantially below its estimated value. The test requires conducting a full business analysis. To begin, value investors use simple filters that narrow the range of candidates to those that an investor understands and can evaluate (commonly known as a circle of competence).

John Burr Williams refined value investing's second core tradition. This quantitative tradition requires estimating a company's intrinsic value measured by the present value of its probable future cash flows, conservatively estimated using current data. This principle captures the intuition that a dollar in hand today is worth more than a dollar paid in the future.

Philip A. Fisher added value investing's third tradition. This qualitative tradition requires the diligent investor to find a company exhibiting strong long-term prospects. These are indicated by characteristics creating a business franchise, such as consumer loyalty, unmatched brand-name recognition, and formidable market power. Also relevant are high-quality managers who can be counted on to channel the franchise's rewards to the company's shareholders.

Warren E. Buffett is the consummate and best-known integrator of these three traditions. Buffett practices a comprehensive method of value investing. He refers to the exercise simply as investing, viewing the modifier "value" as redundant. Other disciples weight the components differently, producing a range of value investing styles. All are united by appreciating the difference between price and value.

GRAHAM: THE FATHER OF VALUE INVESTING

Benjamin Graham's The Intelligent Investor is the classic work on value investing by the philosophy's chief architect and greatest exponent. Many have read the book, originally published in 1949 and in several subsequent editions. The key idea is to protect against error by developing a long-term strategy and stock selection framework.

Graham's more detailed 'Security Analysis, coauthored with David L. Dodd, elaborates the deeper architecture (devotees regard the second edition, published in 1940, as the most informative version). Emphasis is on the balance sheet (assets and liabilities) to determine business value. Current editions of that classic, written by others, also stress analyzing the income statement (revenues and expenses) to appraise value.

Debate centers on whether these texts are timeless classics or outdated. Neither extreme position is correct; in fact, they are both partly right. Critics complain that the original editions are outdated because they emphasize businesses of the day such as railroads, utilities, and heavy manufacturing, and Graham focused on the balance sheet and asset values; today's businesses depend on greater contribution from nonphysical assets, and the investment community focuses more heavily on the cash that assets generate rather than the values assigned to them on balance sheets.

Today's economic environment encompasses more varied businesses ranging from on-line music to pharmaceuticals, enlarging the domain beyond Graham's favored business illustrations. Contemporary businesses use a wider variety of asset classes and varying degrees of reliance on hard assets versus intangible assets. Values in copyrights and patents often surpass those of traditional industrial assets.

Still, Graham's key principles endure. The bedrock principle remains the "margin of safety" -paying a price far enough below value to avoid major capital market losses. The main objective is to preserve capital. Paying too much risks the excess to marketplace hazards and the vagaries of a company's business. This principle is akin to the over riding tenet of medicine, first do no harm (primum non nocere)-first, lose no money.

Graham defined investments as economic positions which, upon analysis, promise safety of principal and an adequate return (at least equal to the rate of inflation). Anything else is speculation, he thought. The philosophy opposes speculation, in favor of good businesses for the long term. It requires evaluating companies, whether AnheuserBusch, Microsoft, or Zeneca. The principles generally do not work over short time horizons but can be very rewarding over generations.

Graham furnished a 10-point analytical screen for investment selection. Half-measured financial strength and half-measured risk aspects. Critical on the financial strength side were a high ratio of current assets to current liabilities and sparing use of long-term debt compared to book value and liquidation value. To reduce risk, Graham limited prudent selections to firms with returns measured by earnings at least twice that of high grade corporate bonds and whose current price-to-earnings level is less than half the highest such level over the past five years.

Graham knew that luck, good and bad, plays a role in investing (and life), but that luck does not control everything. The goal is to limit Lady Luck's downside. Contemporary violators are day trading, momentum tactics, and market timing. All are high-risk practices intended to exploit market movements using nonvalue criteria. Current strategies embracing the traditional philosophy include slowly, carefully building a collection of a manageable number of understandable investments, as well as dollar-cost averaging (the practice of investing set dollar amounts in a particular security at designated intervals).

Graham divided the investor universe into two broad categories: defensive and enterprising. For either, however, minimizing losses is more important than maximizing gains. With losses minimized, average gains generate above-average results.

FISHER: PIONEER OF GROWTH EMPHASIS

Graham focused on financial analysis of companies, paying less attention to management quality or business environment. Fisher enlarged fundamental analysis by focusing on these qualitative aspects. Management is important to growth companies, and assumes greater importance for all companies amid accelerated business change and given innovation in risk management and business strategy.

Fisher appreciated such business tactics as brand-name development and product packaging that create value, economic goodwill, and the ability to generate returns on equity greater than industry or peer averages. That power can be leveraged in a globalizing world where brand name can be established worldwide and used as a launching pad for additional product lines or extensions. Examples include entertainment companies marketing multilingual versions of a product in print, cinematic, VIIS, DVD, and Web formats.

Fisher narrowed the number of value investment candidates by emphasizing that even companies priced below intrinsic value could be lousy investments. Businesses can be underpriced for valid reasons, such as poor management. Attractively priced investments also turn mediocre when they become fully priced, in his view.

In Fisher's era, investment wealth arose either from traditional value investing (buying underpriced securities and holding them until fairly priced or overpriced) or fairly-priced businesses poised to grow so rapidly in sales and earnings (today we would add cash flows) that profits arise from that growth. The former describes traditional Graham-based pure value investing. The latter is Fisher's pioneering sense as a growth rather than a value investor and leads to the distinction (somewhat false) between the two.

Fisher furnished a 15-point checklist to identify a growth company. It includes whether the company's potential markets are large enough to enable many years of sales growth. Consider the difference in reaching a market-saturation point between automobile manufacturers and makers of car batteries. Amid globalization, market expansion is greater for global companies able to distribute existing products worldwide and respond with new products ideally tailored to regional tastes.

WILLIAMS: CASH FLOW'S ROLE

The value of a business, a share of stock, or any other productive asset is the present value of its future cash flows. Williams elaborated this point, emphasizing what developed into discounted cash flow (DCF) analysis, today's most popular valuation methodology. Its popularity, however, hides the important reality that value is easier to define than to measure (easier said than done). The tools Graham and Fisher developed remain crucial in this exercise.

One hazard of undue reliance on DCF analysis is a temptation to classify stocks as either value stocks or growth stocks: Many professionals, including those at mutual funds, try to differentiate their products from others using this distinction. But it is a distinction with limited difference.

Valuing a business (or any productive asset) requires estimating its probable future performance and discounting the results to present value. The probable future performance includes whatever growth (or shrinkage) is assumed.

So growth (or lack of it) is integral to a valuation exercise. This supports the point that the phrase value investing is redundant: Investing is the deliberate determination that one pays a price lower than the value being obtained. Only speculators pay a price hoping that through growth the value rises above it.

Despite this nomenclature confusion, value investing is conventionally defined as buying companies bearing low ratios of price-to-earnings, price-to-book value, or high dividend yields. But these metrics do not by themselves make a company a value investment. It isn't that simple. Nor does the absence of such metrics prevent an investment from bearing a sufficient margin of safety and qualitative virtues to justify its inclusion in a value investor's portfolio.

Growth doesn't equate directly with value either. Growing earnings can mean growing value. But growing earnings can also mean growing expenses, and sometimes expenses growing faster than revenues. Growth adds value only when the payoff from growth is greater than the cost of growth. A company reinvesting a dollar of earnings to grow by 99 cents is not helping its shareholders and is not a value stock, though it may be a growth stock.

BUFFET: INTEGRATOR

Warren Buffett brings these points together. Value investing consists of analyzing businesses within one's circle of competence to find those whose return on incremental capital is high, compared to what capital costs, and then investing in those that can be bought most cheaply. Table 1 summarizes value investing's key figures and their major contributions.

Table 1 – Value Investing’s Architects

FIGURE	ROLE	KEY POINTS	WRITINGS

Graham	Father of value of investing	Margin of safety; focus on balance sheet; 10-point checklist	The Intelligent Investor; Security Analysis; The Interpretation of Financial Statements

Fisher	Qualitative dimension, growth role	Scuttlebutt; focus on earnings; 15-point checklist	Common Stocks and Uncommon Profits

Williams	Discounted cash flow analysis	Focus on cash	The Theory of Investment Value

Buffett	Integration	Circle of competence business analysis	The Essays of Warren Buffett: Lessons for Corporate America (Compilation of annual letters)

VARIATIONS ON THE THEME

There are many variations on the-value investing theme. The philosophy permits particular applications that vary to suit individual taste and ability. Leading value investors employ a range of styles.

Fisher is a good example. Many contrast Graham, the father of value investing, and Fisher, the father of growth investing. But because value investing and growth investing are really cousins of one another, Fisher is better understood as developing a variation on value investing's themes. The difference is more a matter of style and emphasis than fundamentals.

Among the most famous published accounts of success reported by students of Graham-Dodd's teachings is Buffett's essay The Superinvestors of Graham-and-Doddsville. He documents a range of value investors who adopted varying styles of the philosophy. Some diversify investments widely while others allocate wealth to a concentrated group of stocks. Most place a high premium on understanding the particulars of any business before investing, yet some will invest while holding only a reasonable level of expertise on a business.

Columbia University Business School professor Bruce Greenwald published a series of essays updating and elaborating Buffett's Superinvestors theme. He highlights numerous value investors to underscore slight variations of approach. Some refine valuation methods to define value as what informed industrialists would pay to own a business's equivalent assets. Some relate historical price fluctuations to intrinsic business value. Others combine this innovation with more traditional valuation metrics to enhance investment discipline. Some emphasize the role of catalysts such as takeovers and bankruptcy reorganizations that can transform underpriced businesses into realized investment results.

Of the variety of value investors and their styles, those most closely aligned to Graham might be called pure value investors. Those giving more weight to other traditions or contemporary influences might loosely be described as modified value investors. However described, the fusing theme among value investors is appreciating the difference between stock price and business value. All also believe in the gospel of the margin of safety. A common characteristic is superior investment results.

THE REST OF US

Value investing is challenging. Ascertaining business quality and estimating value are difficult. Many curious investors who learn what value investing requires opt for the busy person's version of contemporary intelligent investing: the index fund. As index investing's leading exponent John C. Bogle has quipped, value investing is the second most promising investing philosophy. For those lacking requisite discipline to conduct value investing, Bogle's quip is apt. For those possessing knowledge of value investing, there is no better method.

Compare the returns on two of America's most prominent investment options in the past few decades: the Magellan Fund, made famous by Peter Lynch's growth variation on value investing, and the S&P 500, representing Bogle's famous index approach to investing. Between 1971 and 2000, Magellan outperformed the S&P index in the most years, usually by significant margins. In the handful of years when the S&P index outperformed Magellan, it generally did so modestly.

Requisite intelligence for value investing is moderate, not requiring Mensa-level genius. However, it requires common sense and good judgment. Exercising those faculties, in turn, depends on a refined intellectual framework that helps an investor resist emotional temptations. Practitioners should adapt and incorporate the framework to meet their particular needs.

Value investing partakes of a certain intellectual curiosity. Devotees tend to be interested in ideas. They read books on business analysis and investing, an important exercise considering that no single book (this one included) can furnish everything required on any given subject (investing included).

Some high-profile value investors are also inclined to write about their craft. Graham, Fisher, and Williams all wrote books explaining their trade. Others emulate Buffett's practice of writing letters to investors elaborating their philosophies.

Reading and rereading quality investment books and essays expands one's perspective. (thats why i many times shame-less-ly copy paste :p) In addition to the writings of the investors and authors mentioned above (and this book's author), reliable treatments of value' investing include the books written by Robert G. Hagstrom, Janet C. Lowe, Timothy P. Vick, and Martin J. Whitman. Experience enriches a reader's investment knowledge, it becomes increasingly clear that value investing is a foundation philosophy. Studying its' principles through a cool, calculating, logical method produces an outlook and frame of mind that's more of a philosophy than a toolbox. Tools are important-and this book mentions the key ones-but an intellectual foundation remains the distinguishing hallmark.

Value investors are open-minded. They are not technicians and do not practice a how-to shop. They know how to select the right tool for the job. This knowledge requires a sense of history, business, accounting, good judgment, basic human psychology, and specific knowledge necessary to understand particular businesses (actuarial science for insurance, consumer preferences for fashion goods, informational appetites for media companies).”

>10 Value Investing Tenents

2006-02-09T14:51:00.000-12:00

In a good book that all investors should read “What is Value Investing?”, the author, Lawrence A. Cunningham, summarizes the ten principles of value investing.

“Value investing is ultimately common sense applied to capital allocation. Its general philosophy and key tools summarized in previous chapters can be distilled further. Worth extracting are the following 10 value-investing tenets.

MR. MARKET PRINCIPLE

Value investors make a habit of relating price to value. They recognize that stock markets rise and fall. The prices of individual stocks likewise swing widely. In the case of stocks and stock markets, a bull exhibits excessive optimism, a bear excessive pessimism. Dreary rationality, where value investors live, lies in between. There are stocks priced above what the underlying business is really worth and stocks priced below that. While over long periods of time the process evens out, the ideal strategy is to search aggressively for investment prospects priced below value.

BUSINESS ANALYST PRINCIPLE

Value investors do not guess when the market or a stock is at its peak, trough, or specific points in between. There will nearly always be times when some positions are priced attractively compared to value and others when the opposite is the case. During periods characterized by bullishness, as the late 1990s, there are fewer value opportunities; during bearish times, as in the early and mid-2000s, there are more. The universe of prospects enlarges as markets fall and contracts as they rise. Tendencies in either direction reinforce themselves, as pessimism or optimism spreads. This requires knowledge of business, accounting, and valuation principles.

REASONABLE PRICE PRINCIPLE

It is never worth the value investor's time or effort to forecast when tops and bottoms are reached. If price is a fraction of value, value investors buy, knowing that there is a chance that the price will fall lower. Over long periods of time the gap will narrow and often reverse.

PATSY PRINCIPLE

Patsies lose money in stock investment. Market timers and others with the inability to assess the underlying value of businesses should not even participate in the art of stock selection and investment. Those so afflicted are like the patsy in poker, the person unaware that his funds will shortly be held by someone else. Poker and stock-picking are tricky enterprises, not for the overconfident.

CIRCLE OF COMPETENCE PRINCIPLE

Value investors make hardheaded 'assessments of their competencies. If they doubt their skill in stock selection, they steer clear. Value investors know their limits, thickly drawing the boundaries of their circle of competence. They avoid investment prospects beyond those boundaries as well as anything even close to the boundaries. This rules out broad segments of industry, enhancing prospects and economizing on time and resources devoted to studying businesses. Those who cannot even identify a circle of competence should avoid stock picking altogether.

For those who feel a need to allocate a portion of their wealth to stocks, choose vehicles other than individual stocks, such as mutual funds, index funds, or do so through a diversified retirement account. However, these operate as subparts of the broader market, and therefore can be over- or underpriced. This means applying the same ten principles of disciplined investing, but perhaps less rigorously so.

MOAT PRINCIPLE

Market gyrations, price-value discrepancies, and risks of overconfidence warrant exercising extraordinary caution in selecting an investment. In focusing on the business, value investors ascertain whether the business itself is substantially insulated from adversity. Value investors avoid businesses threatened by product market downturns, recessions, competitive onslaughts, and technology shifts. The business itself must be fortified by a moat, a defensive barrier to these ill effects such as arise from brand-name ubiquity, staple products, market strength, and adequate research and development resources. Franchise value is exhibited by high, sustainable returns on equity.

MARGIN OF SAFETY PRINCIPLE

Value investors worry that they might be wrong when complying with these first five principles. So they add a belt in addition to these suspenders. Drawing on the point that prices are different than values, value investors insist on as large a favorable margin of difference between them as possible. Doing so produces a margin of safety against judgment error. While none of these 10 principles should be ignored, this is the most fundamental and universal. Obeying this one promotes obedience to the others as well.

IN-LAW PRINCIPLE

The headline-grabbing accounting scandals of the early 2000s underscore the age-old importance of trust in investing. Value investors invest only in the stock of companies known to be run by faithful stewards of investor capital. They seek proven track records of good judgment and fair treatment. History is not always reliable, but any hints of malfeasance in a manager's record are enough to disqualify his employer. Value investors imagine managers of companies they are considering as prospective in-laws. If they would not want their child to marry a company's top manager, they don't invest money in that company.

ELITISM PRINCIPLE

Few stocks or other investments live up to these principles rigorously applied. Value investors treat companies as applicants to an exclusive club they run and wish to keep exclusive. It is far safer to make the error of omission than to make the error of inclusion. Those invited to join a value investor's portfolio after applying this elitist exclusionary policy can be invited often, more of their stock bought as circumstances warrant. It is far more important to diversify across asset classes-having a savings account, some bonds, real property, and stocks-than it is to diversify across stocks.

OWNER PRINCIPLE

The cumulative effect of these principles is a characterization of the value investor's role in corporate investing as the owner of not just stock, but a business. Hence the principles of business analyst, moat, margin of safety, and son-in-law. It requires appreciating stock selections in the same way the owner of a small business treats decisions concerning his store, farm, or firm. It requires a long-term view and means avoiding the rapid-fire share turnover characteristic of so many shortsighted market traders. That's what value investing is.”

>Damodaran On Valuation

2006-02-02T22:29:00.000-12:00

Prof. Damodaran needs no Introduction.
Even then for people interested in investing, who dont know him, take time out to visit www.Damodaran.com

Some of his Investment related writings

Damodaran on Valuation : Second Edition

Investment Philosophies

Investment Valuation - 2nd Edition

THE DARK SIDE OF VALUATION

Investment Management

for more.
http://pages.stern.nyu.edu/~adamodar/New_Home_Page/public.htm

>Oil from Grass.!!

2006-01-31T04:13:00.000-12:00

[Update 02/02/2006]
Auhtor of AlFin commented on this article. I visted his log and really liked what he has up there.
Would encourage you to visit his logs. The topics he has written on deeply intersts me.

For more on this topic of ethanol visit. Ethanol from Cellulose: More than anyone dreamed?
[Update ends.]

Instead of coming exclusively from corn or sugar cane as it has up to now, thanks to biotech breakthroughs, the fuel can be made out of everything from prairie switchgrass and wood chips to corn husks and other agricultural waste. This biomass-derived fuel is known as cellulosic ethanol. Whatever the source, burning ethanol instead of gasoline reduces carbon emissions by more than 80% while eliminating entirely the release of acid-rain-causing sulfur dioxide. Even the cautious Department of Energy predicts that ethanol could put a 30% dent in America's gasoline consumption by 2030...!!

read more HERE..

some points...

Ethanol has already transformed one major economy: In Brazil nearly three-quarters of new cars can burn either ethanol or gasoline, whichever happens to be cheaper at the pump, and the nation has weaned itself off imported oil.
To refine enough ethanol to replace the gas we burn (140 billion gallons a year) would require thousands of biorefineries and hundreds of billions of dollars. Yet one of capitalism's favorite visionaries is convinced that very soon filling up on weeds and cornhusks will be no more remarkable than tanking up on regular. Says Richard Branson, whose Virgin Group is starting an ethanol-inspired subsidiary called Virgin Fuels: "This is the win-win fuel of the future."
Sugar cane, the most energy-rich ethanol feedstock known to science. Sugar cane generates far more ethanol per acre than corn
Ethanol accounts for more than 40% of the fuel Brazilians use in their cars.
With Brazilian ethanol selling for 45% less per liter than gasoline in 2003 and 2004, flex-fuel cars caught on like iPods.
"I spent two years trying to convince myself that this was never going to be more than another minor alternative fuel," he says. "What I discovered was that ethanol might completely replace petroleum in this country. And a lot of countries. This was a great shock to me." Vinod Khosla.
Nth Power, a San Francisco energy-investment firm, estimates that $700 million of the $21 billion flowing into venture funds last year were earmarked for "clean technology" startups.
"In terms of key energy and environmental benefits, cornstarch ethanol comes out clearly ahead of petroleum-based fuels, and tomorrow's cellulosic-based ethanol would do even better." Energy Department.
Because cellulosic ethanol comes from cornstalks, grasses, tree bark--fibrous stuff that humans can't digest--it doesn't threaten the food supply at all. Cellulose is the carbohydrate that makes up the walls of plant cells. Researchers have figured out how to unlock the energy in such biomass by devising enzymes that convert cellulose into simpler sugars. Cellulose is abundant; ethanol from it is clean and can power an engine as effectively as gasoline. Plus, you don't have to reinvent cars. Ratcheting up production of cellulosic ethanol, however, is a gnarly engineering problem.
Genencor says its enzymes have cut the cost of making a gallon of cellulosic ethanol from $5 five years ago to 20 cents today. Now refiners have to learn how to scale up production. Canada's Iogen is the furthest along in commercialization; another hopeful is BC International, a Dedham, Mass., company that's building a cellulosic ethanol plant in Louisiana.

What to do after reading this.!!

Find companies which do this research and creates patents on how to most effectively change from raw forms of cellulose to ethanol.
Find companies which make the chemicals and enzymes which help in this conversion process.
Find companies which makes machines to process the sugarcane or corn or whatever it takes to make ethanol.
And find companies which would make ethanol using this machines and enzymes.
also find companies which would grow the sugar cane and corn.
Find companies which would help in transportation, storage etc etc of sugar cane.
find em all...!!

>Thinking and Pyschology

2006-01-30T22:26:00.000-12:00

Arpits "Thinking Like a Kid" is a nice write up.

Some more similar interesting links

Tilson Irrationality Columns

Charlie munger on the psychology of human misjudgment

The Value of Predictability

Behavioral Finance

Easy Money

Physics Envy

Lunch Money Indicators Finding Integrity

Letter to Clients

After you have done reading see this again.
>Reasoning and Mind

>Key Ideas From Money Monarchs

2006-01-30T05:54:00.000-12:00

Since the Mind cant hold too many things here I try to distil the important words and ideas from India Money Monarchs which I think are important and need follow up thinking. We would come again to see more on this.
At the end a small note from me on what come to my mind now after doing this cut-paste work..!

Rakesh Jhunjhunwala

I think the momentum in the Indian economy now, is like never before. With every passing day, every Indian is getting more confident. This itself will contribute to the growth of the economy and the momentum. We are still in the structural secular bull market. And I don't think something can slow it.
We are entering the first stage of the domestic inflows. The moment the investors gain, they will invest more. And I think there is humungous domestic money to come. Unimaginable. You know Indian savings in 2010 is projected to be $410 billion. If 10 per cent is to flow, it will be $40 billion.
Two things worry me. First , the world economy, because I think American consumption has to come down. How it will come down, how global currencies will realign, what effect is it going to have on global demand, that's going to be very important. The American economy is going to tank in my opinion. When that happens, it will have a big effect on the sentiment towards equity. So we must be alert.
Second, I think oil prices beyond a point are going to lead to higher inflation and higher interest rates.
Corporate profit growth in India may slow down. But if the essential story of an improvement in quality of profits, higher consumption, and a growth rate of 8 per cent is intact, I don't think a fall from 25 per cent growth in profits to 15 per cent is really going to disturb the market. It is events outside of the market, which will shake the confidence and also affect corporate profits substantially that would worry me.

Raamdeo Agarwal

This is a very strange time when all assets are at all-time high. Four or five years back if somebody had said that oil is going to $70, I mean would you touch stocks? Common sense would suggest that you should be out of stocks. But when oil hits $70, the stock market also hit an all-time high. I think, it is because of global liquidity. Like Warren Buffett has said, at any point of time, the tiniest change in the interest rates will change the value of every single form of asset in every part of the world. And I think it's coming true. The world is floating in liquidity.
Equity allocation is most irrational not only in India but all over the world. The highest allocations come at the peak of the market. And the lowest allocations come at the bottom of the market.
If you see the RBI data in last 10-15 years, I think financial investing constitutes about 0.2 per cent of the total GDP. When our savings rate has gone up to as high as 30 per cent, your risk-free return has come down from 15 per cent to about 5-6 per cent. When your risk-free return is 5 per cent, you equity allocation has to be the highest. But unfortunately, allocation is still low. So, it is very clear that people understand only price. Fortunately for three consecutive years we have had a fantastic rise, first year 85 per cent, then 16 per cent, and now close to 40 per cent. Now people are realizing that bank deposits at 5-6 per cent are not worthwhile. Let's look at the Indian stock market.I think this is not the best time to buy into the stock market. I'm not saying that we are beyond the interval or anything like that. But what I am saying is that if allocations increase, it could really blow up.

Sanjoy Bhattacharya:

If you look at Indian Mkt from the context of the next decade or the next 15 years, there is absolutely no doubt about how markets will move. And I'm proud to be an Indian today. This is a very exciting country to be in right now.
A hell of a lot of growth that we are going to see in the next two or three years is not going to be profitable growth, but unprofitable growth.

Bharat Shah:

In the context of the life of a country or our own investing life, one year is not so critical. I think there is huge opportunity for compounding, whether this year will be it on not, I don't know, but I certainly do believe that for next few years that these are great money making opportunities. There are some outstanding opportunities, in every bull market and there are ideas -- ideas which are still attractive. And in every bear market there are some overvalued businesses. I don't see that changing now.
From 1997-98 which was roughly the time when good companies decided they had to ramp up, cut costs, become efficient,go global, improve manpower quality, raise the asset efficiency, improve working capital efficiency and all of that. Many good companies have done that, and used capital very wisely. They didn't really inject any money in into the business, and turnover grew modestly but the profits grew much faster.
From around 2003 onwards we are seing companies putting more money into the business, they are raising the scale and that's the phase that we are seeing a little bit more of capital intensity creeping into the overall corporate environment.
I think in these 2-3 years, the easy pickings of the earlier years have gone and that was a phase where x percentage growth in topline produced x plus y percentage growth in operating profits and disproportionately larger x+y+z kind of effect at a pretax profit level. So companies did extremely well on the bottom line front. I think last couple of years, we are seeing a mild correlation of x percentage growth in topline leading to maybe a modest x+y percentage growth in profits. Going forward, I think there is every possibility for many of the businesses that x percentage growth in topline will mean x minus y in the bottom line. And I think it is important to be aware of that. You don't want to be touching the ones who are embarking on capex, but you want to hunt for the businesses receiving capex. So rather than hunting for Tiscos of the world who want grow their capacity 10 time in next 15 years, I would probably like to look at businesses which will benefit from that.

R Sukumar

I think the market is being driven by the fact that India was totally undiscovered and there is money coming in and I think this is the tip of the iceberg. It's going to be much much bigger and when you really look at the demographics and the implication it has on the savings rate and the type of money that people can put into the market over the next 20 or 30 years, the amount can be mind-boggling. The money that is coming into the equity market is obviously increasing.
My rough estimate is that there is about $1 trillion with the households currently. So every one percentage point shift could mean about $10 billion of flows into the markets. And if you assume it's going to be a 10 per centage point shift, we are looking at $100 billion. And FIIs in the last 11 years haven't put in $100 billion. So, I think from a pure demand perspective, it's going to be pretty mind-boggling over a period of time.
In the long term, innovation will ensure that oil price is not going to impact the economy too badly. But from short to medium perspective, innovation is not going to help.
We are in the business where we are saying don't come to the market unless you're looking at 5 and 10 years. So to speak about 2006 I think is plain unethical. But if you look at 2006, I don't see the foreign inflows increasing dramatically.
From a domestic point of view there is scope to increase and we are seeing some signs of increasing. So I think both are positive.
I think oil is definitely a short to medium term worry.
The worry is clearly that the supply pipeline is building faster and there is a lot of incentive for a lot of promoters who don't really create value to raise capital at this point of time. Whether it happens or not I think is the issue.

Madhu Kela

I am very optimistic on the real estate sector.
One, when I look at the overall market cap of real estate companies in relation to what the overall market cap of the India is, it's disproportionately low.
Second, you know as Rakesh said that crooks become honest when they become wealthy. And the markets have proven many a times that too much emphasis on that honest management may help you talk good but it doesn't help you generate good returns. So you have to look at managements which can deliver. And look at the size of the economy and look at the size ofreal estate development which has happened. Look at -- you know Hong Kong is a $200 billion economy, Singapore is $125 billion economy -- when you go into these countries, look at the kind of real estate development which has happened. And look at -- we are going to be $1 trillion economy in the next couple of years and the state of real estate development in our country. And that is what I meant when I said we look at external opportunity. The opportunity looks staggering. Now, our job is to find that hungry promoter and buy it at the right value. And sit tight.
I think the pace of infrastructure development in our country is what is really worrying me a lot. The pace of the whole infrastructure unbundling has to happen much much faster than what we have seen.
The companies which are benefiting out a domestic economy expansion and are benefiting out of domestic consumption will continue to do well. The other thing which I have been quite positive over last 2-3 years and continue to remain positive on the outsourcing opportunities minus IT. Pharmaceuticals, auto ancillaries, there are lot of sectors which are opening up -- and most ideal placed companies are wherever you have 60-70 per cent turnover coming from the domestic side of the business and 30-40 per cent turnover coming from the export side of the business. And the size of the export opportunity looks very large.
I think you have a look at the sum total of investing in your favor. You can't look at oil in isolation. Because if you looked at oil in isolation, you would have been worried even at $50 and would have been sitting on cash. The reality is markets have moved up 50 per cent and oil has also moved up by $20. So as long as the sum total of investing remains in your favor, oil in isolation will not be a big worr

Prashant Jain

When we look at risks, we look at two things. One is event risks which impact the sentiment of equities globally or locally. And second is events or factors which will impact the earnings growth or the economic growth of country.
We don't see many risks which will reduce or impact the economic growth in this country on a sustainable basis. I mean to put things in perspective if you go back 20 years oil used to sell for may be Rs 10 to a litre. Today it is Rs 45 to a litre. So clearly it has not impacted economic growth.
I think oil impacts us two ways. One is it increases inflation world over, but it does not put our companies at a comparative disadvantage to others. Because cost of production is the same. And second is it reduces consumer surplus. Which again I don't think is very relevant in the Indian context because such a high savings rate and such a high growth in income.
That is why oil even if it spikes, it may impact the sentimental equities, but I don't think it will have a lasting impact on corporate profits or economic growth over even a 2-3 year period. So, I don't see too many events which will reduce the economic growth potential in this country. But sentiment could suffer. I mean if I think if something happens in Iran or Iraq or generally sentiment towards equities worldwide turns bearish. I think today we are far more globally integrated, we see huge amount of capital inflows. So I think if the sentiment towards equities deteriorates, we will suffer. But I don't see any concern as far as economic growth is concerned.
What has happened in the last two or three years is that PEs were very low and because of deleveraging, improving cost efficiencies, falling cost of borrowings, the profit growth has been disproportionate. And as Indian stock markets have been discovered by the locals and the PEs are now quite reasonable.
Number one, I think going forward we will see profit growth is slowing down, And number two, the profit growth will not be uniform all across sectors. But regarding stock prices moving by 20-30 per cent in a month or in a matter of weeks, I think it is always like that. You may hold a stock for three years but in 10 per cent of the days, it will give you bulk of the returns. So I am not particularly worried about Siemens going up by x percent on a particular day. But one thing what I am sensing is in the market is that the premium for quality has certainly shrunk. And as an investor or a manager, what I'm trying to do at least is to focus more on the quality. And I think, big money is over.

My Take:

We had a high-tide mkt for last 3-4 years. Anything and everything has gone up.
In the latest quarterly or semi annual reports which come up we see lower profits, some companies even show -ve growth in sales.
Many companies especially in commodity area are talking of huge expansions and capex.
FII inflows have made new records.
As Proff. Sanjay said, a lot of growth we see in future is not going to be profitable growth.
What to do now?

Turn defensive.
Listen less to great growth charming stories.
Look at companies which can sustain their margins while they grow.
Find companies which dont take a ton of new loans to finance growth.
Find companies which have generated above average return on Total Enterprise Value.
Again in case we see a down cycle which last for say 2 years, come back to growth stories and listen to them when no one would trust them.
For now use 2-3 layers of Protective Rubber..!!

>Round Table With Indian Money Monarchs and Reading List

2006-01-30T01:56:00.000-12:00

Seven stock market stalwarts debate the prospects for Indian stocks in the annual round-table organised by Capitalideasonline.com.

In this cathedral to capitalism, in this hallowed hall, the soul of the Indian stock market, if you will, when this group of witnesses last assembled in 2003, the Sensex was at 3000 -- it has now tripled; the number of Indian companies with a $1 billion market cap has crossed 75 and India's market cap is over $500 billion.

http://www.business-standard.com/bsonline/storypage.php?&autono=213262

and dont miss..

The Ultimate Reading List

>Magic Formula Must Readings.

2006-01-28T08:59:00.000-12:00

A good post. Shows good thinking.
http://3gv.blogspot.com/2006/01/magic-formula-part-1.html

How to Make magic formula even more magical.. !!
http://3gv.blogspot.com/2006/01/most-magical-formula-of-all-bull.html

The original site of the founder of MagicFormula
http://magicformulainvesting.com/

Some pdfs which helps get the thinking straight.

http://www0.gsb.columbia.edu/accounting/seminars/PIOTROSKI.pdf

http://www.defaultrisk.com/pp_score_14.htm

https://www.bernstein.com/CmsObjectPC/pdfs/R&S_0408_BananceSheetAccruals_JPM.pdfusing

http://www.leggmason.com/funds/knowledge/mauboussin/MMonValuation_LMWWversion.pdf

Got more insight material in this art of magic.
Leave ur comments and views.

>4 year Equity Cycle

2006-01-27T19:24:00.000-12:00

One more reason to remain cautious in year 2006.
Almost unfailingly the 4 year cycle has worked in US mkts.
We might also catch the infection after the current euphoria diminishes.

Time to remain invested only in exceptional companies and to give a hard review to each stock in ones portfolio.

>A Small Discussion on Scanning Companies

2006-01-25T20:44:00.000-12:00

To address the question of how efficient a firm is in using its capital.

We have to define a few things.
1. What do we call as Return?
2. What do we call as Capital?
3. What is the re-investment required for sustain.

Some concerns
1. The earnings per share of a firm reflect not just the earnings from operations of a firm but all other income as well. Thus, a firm with substantial holdings of cash and marketable securities may generate enough income on these investments to push up earnings.
2. In addition, earnings per share and equity multiples are affected by how much debt a firm has and what its interest expenses are.

Owner Earnings = Net income + Depreciation & Amortization – Capital Expenditures

Enterprise Value = Market Value of Equity + Market Value of Debt - Cash & Marketable Securities

I like this ratio Owner Earnings / Enterprise Value

Why not include Interest paid in numerator while we including Debt in the deniminator.
1. Penalise companies which have a lot of Debt.
2. This is also in recognition of the "Safe Scalability" of the company. If a company needs a lot of debt to sustain, imagine how much more fuel it would need to grow.
3. This is a safe measure..!!

I use Enterprise Value to gauge the 'total' capital in the hands of management. Just looking at equity or assets is not my preference. Since when you try to scan for stocks, very frequently during "good times" companies with high Debt will shows excellent ROE while in truth they could be destroying value.

Combine this scan with Low PE and you have a very good cluster of companies to start of your deeper analysis.
Again the E in PE is the modified Owner Earning as shown above.

Other things which I look at apart from the above two are:
1. High Operating Profit Margin. (direct show of competitive strength, try to gauge if it can remain this way)
2. Return on Total Assets.
3. Moderate to High Sales growth.
4. Growth without taking on tons of Debt.
5. Non-Cyclical. (get into Cyclicals if you think the Commodity business is at the lows of the cycle & the company is more competitive then the rest in the pack)
6. Triggers which would lead to dramatic changes.
7. Insider Accumulation.
8. Low PE.

To read more on this follow this link.
>ROIC + Earnings Yield? Magic Formula for Value Investing?

Need to know places where you can Scan Indian companies Follow this link
>Fundamental Information & Scanners of Indian Stocks

Have a view? Or you think this is un-optimal do share your views. Share links which you find helps in scanning and understanding more. Cheers..!!