Weekly wrap up

Markets ended on a weak note on Friday with the BSE going down by 2.5%. It started on Monday at 10080, peaked at 10180 and ended at 9238. The fall on Friday could mostly be attributed to advance tax numbers which were down 22.4% YOY. Advance tax numbers are a reflection of what companies earnings will look like and these numbers were worse than expected. The fall starting from the beginning of the week can be attributed to technical resistance points at 10200.

 

Banks outperform the index due to lower than expected inflation numbers. It fell by 6% for the week compared to 6.5% for the BSE. The expectation is that the RBI can now aggressively cut rates which should benefit banks and kick start the lending process.  The oil & gas index fell by 9% while the metal index fell by 9% and the IT index fell by 8%.

 

The possibility of war between India and Pakistan will have a negative impact on market sentiment.My view is that the markets will continue to move downward and will bounce at 8900.

 On other global news, Manufacturing in the U.S. probably shrank at the fastest pace since 1980 as the deepening global recession forced customers in North America, Europe and Asia to cut back. For more information check out http://www.bloomberg.com/apps/news?pid=20601084&sid=aiV5FT1F6hfk&refer=stocks

 The TED spread, the difference between what the government and banks pay to borrow for three months, fell for a fourth week. It declined one basis point to 1.48 percentage points, down from a record high of 4.64 percentage points Oct. 10. This indicates that banks are now far more willing to lend to each other. This also ties in with a rise in treasury yields this week as investors rely less on treasuries to keep their cash. The rise in yields is also due to an increased supply of treasury bonds.

For more information check out http://www.bloomberg.com/apps/news?pid=20601009&sid=aiw3cE2FfsLU&refer=bond

Market summary for Dec 17

Dollar is at 13 year low against yen and expected to weaken further due to the fed’s rate cuts and its statements it will continue to use unconventional methods to boost economic activity.  So far, this has not triggered an unwinding of the yen carry trade. However, could this be on the cards? If so, we could see a quick decline in emerging markets equities. My feeling is that if it has not happened yet, it is probably not going to happen

Fed sets the fed funds rate at a range of 0-0.25%. This is the first time I have heard of it setting a range as opposed to a number.  However, we can see the 13 week T-Bill trading at around the range which almost seems to be the norm nowadays. The T-Bill is always ahead of the curve when it comes to predicting rate cuts.

 Opec decides to cut production by 2 million barrels but oil prices barely budge. Markets have already factored that cut in and even a fed rate cut that led to a decline in dollar did not boost oil prices. There seems to a realization that demand destruction has well and truly hit home.  What I hear is that Chinese processing of crude oil is down as well and that Americans have driven 100 billion fewer miles between November 2007 and October 2008, compared to the prior year.  However, this action provides a good support for gold and barring a massive deleveraging effort that took place in October, gold should hold its value. It has already rallied significantly though from $720 to $850 so any gains could be limited.

 Indian markets are on the verge of a downtrend. The BSE and NSE hit technical resistance points post which it corrected despite favourable global cues. I believe the rally is most likely over. We should see sideways to downward movement.  I would not be surprised to see it go below 9000 given the enormous negative news flows out there.

Beneficiares of the market meltdown

So we have a once in a lifetime meltdown caused by a bunch of Wall street banks thought to be infallible, going down bankruptcy lane or going to the government with a begging bowl to save their skin. Made me think, is there anyone out there who benefits from the change in environment.

Well, we finally have a strong push for changes in the regulatory environment that makes Wall Street banks, especially ones that are pure play investment banks, come under the ambit of regulations set by the federal reserve. One of the changes proposed could substantially change the face of the OTC (over the counter) market. Currently, the entire forwards market trades over the counter. It is estimated the interest rate swaps that use LIBOR as a benchmark is close to $345 trillion. Yes, that’s trillion. In addition, the credit default swap market, another OTC market was at its peak, a $61 trillion market. These markets were essentially operated by large wall street banks which were considered to be infallible and therefore counterparty risk was never an issue.

The fall of Lehman however changed the dynamics forever. The repurcussions of the fall of the relatively small Wall Street bank were felt worldwide resulting a terrible October month that was felt even by the common man on the street. A large part of this pain was felt due to counterparty risk.

Exchanges are meant precisely to take care of counterparty risk. New regulations to standardize trading over exchanges mean a bonanza for these firms. Imagine what can happen if an additional $400 trillion worth of trading happens over exchanges instead of the OTC market. The fees that they could generate over trading could be staggering. This represents a huge growth are for these firms. We therefore have firms like the Chicago Mercantile Exchange, InterContinental Exchange and NYSE Euronext racing to create trading platforms for these forwards and credit default swaps.

So how about these as investment opportunities? These firms trade in U.S markets under the tickers, CME, ICE and NYX and are trading at extremely low historical valuations. This is so not just because the market meltdown but also due to lower trading volumes that lead to lower fees and therefore, lower revenues.

The future for these exchanges is bright though. Growth opportunities are significant and valuations, extremely compelling. Smells like a good opportunity, doesn’t it?

On Auto bailout and IIP numbers

So we have a day when the auto bailout doesnt go through, asian and European markets sink, U.S market futures are down 3% and then, lo and behold, markets are up convincingly in the green. The resistance markets are showing is phenomenal. Neither a terrible unemployment report with 533000 jobs lost, the most since the 70's when expectations were at 340000 and a failed auto bailout that puts at risk 5 million jobs can hold back markets. These are sureshot signs that markets have bottomed out. Markets, however went up on some comments from the White House that the auto bailout would be funded from the TARP, which does not required congressional permission. I'm willing to bet that the big 3 will get the money they require one wayMind you, this does not mean the the mess in the U.S is over. Credit card defaults and auto defaults are next in line. Home prices are expected to decline in 2009 too and this could mean further liquidity contractions and writedowns. However, what this tells me is that markets are more or less convinced that policymakers are willing to do whatever it takes to get the economy back on track. The concern with doing whatever it takes, essentially flooding the economy with money, since reducing interest rates have not really worked, is that the dollar has to start depreciating at some point of time. This process has already started except against the Yen, which is more a result of the Yen carry trade i think. However, an unwinding of the Yen carry trade which leads to the appreciation of the Yen against the dollar happens when markets fall. This is not the case though. So not exactly sure whats happening on this front. Hedge fund deleveraging is more or less over I believe, or if it is happening, then it is more orderly.

About the Indian markets, we see the same resilience. Growth for 2009-10 has been pruned to sub 6%. IIP numbers came out -ve, the first time in 13 years and stunned everyone. Markets which were about 3% down at the time of the announcement stayed flat started moving up and ended up on a positive note. This -ve number is a positive for banks since it signals that RBI would have to be more aggressive when it comes to cutting interest rates. FII's have started buying in this market. I guess the reasoning is that India has above average rates of growth and should therefore attract FII money. However, the current rally is purely technical and I expect, it will go back down soon. However, I dont think it will go below 8500 anytime soon. In my opinion, this is a fantastic buying opportunity if you have a 1 year horizon. Oil is a great sector to invest in since I believe the worst is over for it. Banks and infrastructure will be good sectors to invest in.
These are interesting times and a great investment opportunity. If there is a time to make money, it is now..

market view

A couple of quick comments. I believe oil has bottomed out and is likely to reverse back to $50 levels. I say this because oil has gone up in spite of bad news about a decline in China's exports and drastic reductions in India and China's economic growth forecast by various firms and agencies like the World bank and the IMF. This would be a good time to take an exposure in stocks that are linked to oil. In the Indian markets, we have Aban offshore, Cairn Energy and RPL. I would look at buying them in dips. I see similar reactions to stocks that trade in the U.S markets. Stocks like Schlumberger, Transocean, Valero, Exxon all are up over the last few days. The dollar is starting to decline which would give impetus to oil, gold and emerging markets.
About the direction of the markets, I believe they should could touch 10500 levels and then it will most likely reverse. This i say based on technicals and also that the government is coming out with another stimulus package next week that is expected to be bigger than the first one.