Beyond 11 K - Sensex in troubled waters

No takers even at 2 year Lows, Global crisis looms large

The Blood bath continues globally and Indian stock markets are no exceptions. From this year's high of 21000, the sensex has tasted the realities of 10,700 levels. This has left a large number of Investors mere spectators to the shocking depletion of their hard earned savings invested in stock markets to earn a reasonably good return. The outlook on Sensex and Nifty remains weak as the credit crisis unfolds further and the bailout package fails to impress the Investors. The current situation in global markets is not expected to reverse in short term and the markets would take a fairly long time to revive to respectable levels. The International monetary fund (IMF) has already issued a warning that the world economy is entering a major downturn in the face of the most dangerous financial shock in mature financial markets since the 1930s.

Understanding the Current Credit Crisis

If you think that the credit crisis started in the month of September with Lehman brothers declaring Bankruptcy, think again! The current global crisis had started giving signals of the impending danger as early as late 2006 when the US real estate markets started to tumble down. So far, it is estimated that banks worldwide have had to write-down more than $550 billion in assets. Let me tell you that this crisis is very deep rooted and it is just the beginning. There are many more banks in line to announce their failures and investors are losing trust over the measures announce to revive the economies. the general feeling is that this relief is just a temporary support and the loss of faith in the whole system cannot be regained with these measures. People are fearing that the worst is not over and the US and other big economies are moving into deep shit. Of course the impact will be felt globally.

Just check the chronology of events that unfolded this crisis and then we will talk about the impact of this crisis on India

March/April 2007: New Century Financial corporation stops making new loans as the practice of giving high risk mortgage loans to people with bad credit histories becomes a problem. The International Monetary Fund (IMF) warns of risks to global financial markets from weakened US home mortgage market.

June 2007: Alarm bells ring on Wall Street as two hedge funds of New York investment bank Bear Stearns lurch to the brink of collapse because of their extensive investments in mortgage-backed securities.

July/August 2007: German banks with bad investments in the US real estate market are caught up in the crisis, including IKB Deutsche Industrie bank, Sachsen LB (Saxony State Bank) and BayernLB (Bavaria State Bank).

US President George W Bush rejects government intervention to ease the crisis in the home mortgage market and says he wants the market to work. He later pledges help for struggling homeowners to help ease the mortgage crisis.

Foreclosures of US homes in July were up 93 percent from a year earlier, to 180,000 owners.

September 2007: British bank Northern Rock is besieged by worried savers; British government and Bank of England guarantee the deposits; the bank is nationalized. The US Federal Reserve (Fed) starts series of interest rate drops to ease impact of housing slump and mortgage crisis.

October 2007: Profits at US financial giant Citi group drop sharply. IMF lowers 2008 growth forecast for the euro area to 2.1 percent from 2.5 percent, in part because of spillover from the US sub-prime mortgage crisis and credit market crunch.

December 2007: Bush unveils plan to help up to 1.2 million homeowners pay their loans.

January 2008: Swiss banking giant UBS reports more than $18 billion in write-downs due to exposure to US real estate market. In the US, Bank of America acquires Countrywide Financial, the country's biggest mortgage lender. Fed slashes interest rate by three quarters of a percentage point to 3.5 percent following sell-off on global markets. Another cut at month's end lowers it to 3 percent.

February 2008: Fannie Mae, the largest source of money for US home loans, reports a $3.55-billion loss for the fourth quarter of 2007, three times what had been expected.

March 2008: On the verge of collapse and under pressure by the Fed, Bear Stearns is forced to accept a buyout by US investment bank JP Morgan Chase. The deal is backed by Fed loans of $30 billion.

In Germany, Deutsche Bank reports a loss of 141 million euros for the first quarter of 2008, its first quarterly loss in five years. Fed spearheads coordinated push by world central banks to bolster global economic confidence by announcing moves to pump $200-billion liquidity into markets.

Carlyle Capital falls victim to US credit crisis as it defaults on $16.6 billion of indebtedness. US frees up another $200 billion to back troubled Fannie Mae and Freddie Mac.

April 2008: IMF projects $945-billion losses from financial crisis. G7 ministers agree to new wave of financial regulation to combat protracted financial crisis. 

June 2008: Home repossessions more than double as US housing crisis deepens. Bear Stearns execs join 400 charged with mortgage fraud.

July 2008: California mortgage lender IndyMac collapses. Troubles for Fannie Mae and Freddie Mac continue to grow. US Treasury, Fed move to guarantee debts of Fannie, Freddie. Bush defends move, telling Americans to take a "deep breath" and have "confidence in the mortgage markets."

US Congress gives final passage to multi-billion-dollar program to address mortgage and foreclosure crisis. Spain's largest property developer, Martinsa-Fadesa, declares insolvency.

September 7: US government seizes control of Fannie, Freddie in $200-billion bailout.

September 15: Lehman Brothers investment bank declares $600-billion bankruptcy. Merrill Lynch acquired by Bank of America. 

September 17: US bails out AIG insurance giant for $85 billion. 

September 19: White House requests $700-billion bailout plan from Congress for all financial firms with bad mortgage securities to free up tightening credit flow. 

September 22: Last two standing investment banks, Morgan Stanley and Goldman Sachs, convert to bank holding companies. 

September 26: Feds seize Washington Mutual in largest-ever US bank failure.

September 29: US House of Representatives rejects mammoth $700-billion bailout plan.

September 29: Governmental bail-outs announced for key banks in Britain, the Benelux and Germany as well as a state takeover of a bank in Iceland. British government intervenes to save major mortgage lender Bradford & Bingley. Netherlands, Belgium and Luxembourg to take over substantial parts of Belgian-Dutch banking and insurance company Fortis.

German Finance Ministry announces that government and top banks were moving to inject billions of euros into troubled mortgage lender Hypo Real Estate. Iceland government and Glitnir bank announce state takeover of 75-percent stake in Glitnir.

September 30: Wachovia Bank teeters on collapse, starts negotiating with Citi group for takeover deal. 

October 1: US Senate adopts massive bail-out plan, adding sweeteners to get House acceptance.

October 3:The House passes the bailout bill. The House of Representatives approves the $700 billion economic rescue package by a vote of 263 to 171. President Bush signs the bill into law.

Wachovia snubs Citi group and agrees to be bought by Wells Fargo for $15.1 billion in stock. Citi group had offered to buy only Wachovia's banking business for $2.2 billion.

U.S. employers shed 159,000 jobs in September, the most in more than five years. The unemployment rate holds steady at 6.1 percent.

October 6:The Dow plunges almost 800 points before staging a late-day rally to close down 370 points, falling below 10,000 for the first time in four years

Bank of America agrees to rework the mortgage terms of up to 400,000 distressed borrowers to settle lawsuits pending against Countrywide Financial, the defunct mortgage lender it purchased in July.

Over the weekend, Germany says it will guarantee all private bank accounts after a $50 billion plan to rescue Hypo Real Estate collapses.

October 7:European finance ministers more than double the guarantee on bank deposits to 50,000 Euros.

October 8:The Federal Reserve and European Central banks simultaneously order emergency rate cuts of a half a percentage point early in the morning.

The International Monetary Fund predicts a major global economic downturn

Japan's Nikkei index falls 9.4 percent, its largest one-day loss since 1987. The British government promises to inject tens of billions of dollars in capital into U.K. banks after two consecutive days of dramatic stock market losses. (Source - Deutsche Welle & Washington Post)

 

Impact of Global Credit Crisis in India ?

So far we have heard of US and European Banks announcing failures. So back home in India, Are we safe and immune to the credit crisis ? Well, I would say that as of now Yes. There are three main reasons for saying so

1. Indian has a Saving oriented culture as against US and European countries which has a spending culture. They factor their future earnings and borrowing accordingly. Hence they enjoy their present at the cost of their future. In India, people sacrifice a part of their present enjoyment to enjoy in future. So our basics are in place and this foundation has so far kept India out of this failure.

2. The major trigger for the credit crisis was the downturn in US Housing markets. This is not the case with India. The real estate prices in India are stable and the probability of a sharp fall is ruled out.

3. The public sectors banks in India have stringent norms for providing loans and hence the quality of loans in India is comparatively much better.

Having said so, let me tell you that India is not averse to a credit crisis given the growth of 25-30 % credit growth we have seen in past few years.  The private sector banks have been involved in a mad race to sell loans to individuals and if something of this sort happens in India Private sectors banks like ICICI bank, Citibank and other private sector plays will be in the forefront of this mess. Even then, the maximum impact I see is the erosion of the profitability of such banks and not a total failure, thanks to the stringent Banking regulations in India.

However Indian stock markets are not immune to the global crisis, and as more and more banks globally announce the failures, the markets are going to reflect the same in the indices. Since India has sizeable presence in the global markets, any global downtrend is sure to impact India and hence investors should keep this in mind. Since India has sizeable Foreign Institution Investment in Stock markets, any global downtrend will seriously impact the stock markets as the huge rise in sensex last year was majorly attributed to ample liquidity in the system which was brought by the FII Investments.

The Liquidity Game

The biggest concern for the Indian markets are that FII are fleeing from the scene. While FII's have pulled out nearly $10 billion from the Indian stock markets, the taps of liquidity have dried up. Mutual funds are seeing huge redemption pressure and individual investors who are already stuck with their money invested at higher levels in markets have lost confidence and are not ready to invest further. As I write this post Dow Jones and Nasdaq are down by more than 4%  and it shows that investors do not confidence on the bailout package offered by the government. Dow has seen 5 year low today !

I feel that this is not the end of the whole drama and I expect further pullout by the FII's and hedge funds from the Indian markets as they face difficulties back at their homes.

Crude and Inflation become lesser evils

When the stock markets in India started falling in the month of March, the blame was squarely put on the rising Crude Oil and staggering rise in inflation. However, Crude has come off its high of $140 per barrel to $84 per barrel on fears of lower demand due to ongoing crisis. Inflation has also started drifting downwards and the huge fall in Crude oil prices as well as commodity prices is expected to bring it down further. However, both of these factors have taken a backseat now given the bigger evil of global slowdown concerns.

How much can sensex fall from here ?

The sensex is near the 11,000 levels and has already tested the 10,700 levels. Given the concern that the current crisis is not yet over and the relief measures are not working, I expect the markets to fell further. The extent of further fall will depend on the how the crisis unfolds going forward, but a primarily it looks that the sensex may even touch 9,000 levels if the global situation is not brought under control. So we still have a risk of couple of thousand points from here.  You can wait before buying into the stocks and you will find better prices to enter from a long term perspective. Don't get carried away by small bouts of up-moves and use them to get rid of some bad positions. Don't try to trade for short term as the markets would be very volatile. Any long term Investment should only be made from at least 2 Years perspective.