As I have suggested in previous newsletters, commodities and commodity stocks should form a key component of a diversified asset portfolio to protect against future inflation, as well as take advantage of the long-term trend of a growing imbalance between the demand and the supply of commodities causing a paradigm shift in price trends (as detailed by Jeremy Grantham of GMO in a 2011 quarterly note). Following-up on this topic, the theme of this newsletter is the case for agricultural commodities, and I summarise below an interesting monthly note from Niels Jensen, the CEO of Absolute Partners, a London based alternative asset manager:
-With the world population projected to rise to 8.3 billion by 2030, and the average calorie intake expected to rise from the current 2,780 kcal per day to 3,050 kcal per day, the implication is an increase of 30% in the global daily calorie consumption.
-In addition, diets in the developing world are likely to shift from a grain rich diet to a protein rich diet causing a significant increase in the demand for grain as livestock is inefficient in converting grain to energy. It takes 2-3 kgs of grain to produce 1 kg of chicken, 4 kgs of grain to produce 1 kg of pork, and 7-8 kgs of grain to produce 1 kg of beef.
-The rapid urbanisation of China over the last 20 years provides a glimpse into what the future might hold on a global basis – urban parts of China spend 2.7 times more on food items than rural areas, partly due to higher prices but also because of higher living standards.
-Between 1994 and 2009, China doubled its per capita annual meat consumption to 70kg, but ranks much lower than the US, New Zealand and Australia which average 100kg and Europe which averages 80kg.
-The increasing trend towards meat consumption in China is putting further pressure on its grain production, as about 70% of China's corn produce and 14% of its wheat are being used to feed it livestock industry.
-It is expected that by about 2015, China will have more middle class families (with annual disposable income of more than $10,000) than the US, totalling about 120 million households which will have a dramatic impact on not just autos, energy steel, cement and copper but agriculture as well.
-China is also constrained by a growing shortage of arable land and water - with rapid urbanisation causing more cropland being lost to city dwellers and forcing China to buy grains in international markets. In addition, China needs to feed 20% of the world's population with only 6% of its fresh water, leading to excessive ground water depletion in many parts of China.
-The OECD projects that the global middle class will increase by 3 billion by 2030, causing a historically unprecedented increase in living standards and a concomitant increase for livestock and grains amidst a backdrop of a declining amount of arable land due to urbanisation.
-The growth of the grain based bio-fuel industry (particularly in the US and Brazil) has exacerbated the pressure on the grain industry.
-Investment Implications:
-With arable land and water being finite resources, and the demand for these resources increasing significantly into the future, it would be critical to have exposure to agriculture in the form of farmland, grains and agricultural stocks. – where returns are expected to outpace bonds and equities over the next 5-10 years.
-However, few investors have exposure to agriculture, probably due to the difficulties in trading the futures market and the cyclicality of agricultural prices.
-Obtain exposure to specialised managers which engage in relative value strategies to exploit relative prices movements between different crops and managed futures.
-Invest in a portfolio of listed stocks, with a focus on providers of machinery and fertilisers to reduce the risk of betting on the wrong crop.
Some interesting observations and important implications for investment portfolios. Having exposure to arable farmland and a diversified portfolio of agricultural and water stocks ( through funds, ETFs and single stocks) as a component of the overall commodity exposure (which includes energy and metals) would be critical for outperformance over the longer term. Given the cyclicality of agricultural prices, it would be best to build exposure gradually and use dips in prices to add to exposure.
Regarding the recent weakness in many of the economic indicators for the US economy (with 11 out of 13 indicators missing consensus expectations), the grand daddy of all leading economic indicators (the LEI-see chart below) clearly indicates that the US economy is still ways from dipping into a recession. However, it is important to monitor if this weakening trend continues into the summer, as it does not bode well for the stock market as the second chart below illustrates.
Another troubling sign is the fact that the US High Yield bond has flat-lined over the last 4-6 weeks while the stock market and investment grade credit have outperformed (see chart below courtesy of AdvisorAnalyst) . We have seen this pattern before and the old saw that 'credit anticipates and equity confirms' has been extremely useful a number of times over the past few years (as the second chart illustrates clearly). So be cautious but not necessarily bearish at this stage!
The_Absolute_Return_Letter_0312(1).pdf
The concept of gold as an occasional part of an investment portfolio has tremendous merits- not necessarily only as a hedge against inflation (or deflation), but more because of its role as an insurance policy against monetary debasement. However, with gold having just completed an unprecedented 11 year bull run, the natural question to ask if it's time to sell or too late to buy. Dylan Grice, global strategist at Soc Gen, wrote an interesting note outlining the reasons why gold should not be sold (yet)- to summaries:
-Gold's historical role as a medium of exchange, as well as its finite supply, makes it an invaluable hedge against monetary mischief on part of governments.
-However, (as Warren Buffet recently pointed out) it pays no dividend or interest and could therefore be seen as an insurance policy with the cost being the foregone cash-flow return, with a big payout under an extreme inflationary event.
-Unlike other inflation hedges, like inflation protected bonds issued by governments and subject to default or stocks which can underperform (at least during the initial period) as most bear market troughs during the 20th century have occurred during inflationary periods, gold cannot be defaulted on and will payout substantially when you need it to.
-However, gold is not a "buy-and-hold" investment and, like all commodities, is essentially a speculative play which is bought to be sold at a future date.
-The main reason why he holds gold is to cover against the long-term solvency of the developed world governments. Governments from ancient Rome, to Ming China, to revolutionary France and America, and to Weimar Germany have resorted to inflation in order to avoid an explicit default on their debt.
-During such inflationary episodes, contracting money supply have not been politically acceptable courses of actions as they would have ushered in depression like conditions.
-During the Weimar period, the Reichsbank president Rudolf von Havenstein did not pursue a policy of monetary contraction as he was terrified of the social consequences of high unemployment and falling output.
-During the 3rd century AD, the Roman empire halted all military expansion which created a budget deficit as the cost of defending the borders continued to increase without the increases in revenue from newly conquered territories.
-The Roman emperors, rather than cutting military and other sundry expenditures , chose to instead debase the currency. This resulted in the world's first fiscally created inflationary crisis.
-Governments over the years have usually resorted to "kicking-the-can" down the road rather than resort to short-term painful measures to cut spending. To reduce developed world government debt ratios to pre-crisis 2007 levels, fiscal spending cuts averaging 6% of GDP would need to be made over the next 5 to 10 years.
-However, there are fortunately examples of governments eventually being forced (in response to a series of crises) to adopt measures to induce short-term pain - i.e. Margaret Thatcher's being elected in the late 70s with a mandate for short-term pain (to reduce inflation) , which did no exist 5 years earlier.
-Another example is Ireland –which is currently subject to draconian fiscal policies (to prevent an economic collapse), with output contracting by 10% from its peak, unemployment at 15% and housing prices down 60-70% from their peak. These policies would not have been possible 5 years ago.
-Developed countries with central banks are a long way away from reaching the point of serious fiscal retrenchment – but the unsustainability of government finances and the increase in government debt points towards an eventual debt crisis forcing fiscal rectitude. That will be the time to sell gold.
An interesting perspective on why to continue holding gold. While I do not agree wholly with some of his points (i.e. this is not the time for austerity), he does make a convincing argument on why one must hold gold as part of a diversified portfolio in the current environment– primarily as an insurance policy against government profligacy, which history unfortunately informs us is a somewhat natural tendency! As I have noted in previous newsletters, the performance of gold is highly correlated to increases in the US monetary base and the time to sell all gold will come when QE policies in the developed world come to an end (late 2013?). This is likely to be before a significant increase in inflation (2014 onwards?).
There is also some serious academic work (Summers, Krugman and others) which demonstrates that the price of gold is linked to the level of real interest rates . This view has intuitive appeal– with real interest rates negative, it makes sense to hoard gold now and push its use into the future thereby raising prices now and in the near future. So the price of gold has risen because expected returns on other investments have fallen. This could explain the recent drop in gold prices, with the expected returns on other risk assets increasing (and the chances of QE receding). As the graph below (via Sy Harding) illustrates, the support level for gold prices are at around $1,500, at which point (or close to it) it should be an attractive buy as the currency debasement policy in the developed world is likely to continue for a while longer.
US Leading Indicators:
Given the current euphoria surrounding the better economic numbers in the US, it would be prudent to pay heed to the latest note from the well-respected economic consultancy ECRI, which argues that the leading indicators in US point towards a recession later in the year! Some excerpts:
- The ECRI's U.S. Coincident Index (USCI), is the gold standard for measuring current economic growth, as it summarizes the key coincident economic indicators used to determine the official start and end dates of U.S. recessions; namely, the broad measures of output, employment, income and sales. So when USCI growth is in a downturn (bottom line in chart), it's an authoritative indication that overall U.S. economic growth is actually worsening, not reviving.
- In contrast to the 3% GDP growth widely reported for the latest quarter, year-over-year growth in GDP, after peaking at 3½% in Q3/2010, has basically flatlined around 1½% for the last three quarters. Broad sales growth has followed a similar pattern, while the growth rates of personal income and industrial production have dropped to their lowest readings since the spring of 2010.
- The exception to this weakening pattern is year-over-year payroll job growth, which continued to improve through January, and was essentially flat in February. However, the empirical record shows that job growth typically turns down after downturns in consumer spending growth, not the other way around. Because consumer spending growth remains in a cyclical downturn, we expect job growth to start flagging in the coming months.
- The year-over-year growth in ECRI's Weekly Leading Index (WLI) remains in a cyclical downturn (top line in chart) and, as of early March, is near its worst reading since July 2009. Observers of this index might be understandably surprised by this persistent weakness, since the WLI's smoothed annualized growth rate, which is much better known, has turned decidedly less negative in recent months. The unusual divergence between these two measures of growth underscores a widespread seasonal adjustment problem that economists have known about for some time.
-Fortunately, year-over-year growth rates are naturally less susceptible to these seasonal issues because they involve comparisons to the same period a year earlier that is likely to be skewed the same way.
-In the chart, please note the one-to-one correspondence between the cyclical swings in the year-over-year growth rates of the WLI and USCI since the Great Recession. Both surged initially, only to roll over, pop up briefly, and then turn down once again. It is notable that the WLI, which is sensitive to the prices of risk assets that have been supported by massive worldwide liquidity injections, has hardly been swayed from its recessionary trajectory. In spite of the efforts of monetary policy makers, actual U.S. economic growth has slowed, while WLI growth has barely budged from a two-and-a-half-year low.
Pre-budget Analysis : Pre-budget February 2012
The Finance Minister will present the FY2012-13 budget in the backdrop of a sharp rise in the fiscal deficit for 2011-12. Interest rates have risen sharply in FY12 and budget provisions are expected to largely determine future monetary actions, we opine. Thus, the FM's priority in the 2012-13 budget will be fiscal rectitude, we believe.
Overall, we believe that, the budget will aim to provide an investment - led supply push to growth as against a consumption - led demand pull (higher subsidies, etc). Lower deficit and borrowings (and interest rates) post tax increases will also encourage investments. The resultant easing of supply constraints will also reduce the pressure on inflation.
We believe that, the budget may have: Positive implications for Banking, NBFCs, Capital Goods, Cement, Construction, Logistics, Media, Oil & Gas, Power, Shipping sectors; Negative implications for Automobile sector and Neutral for sectors like Aviation, FMCG, Hotels, Information Technology, Metals & Mining, Real Estate, Telecom.
2 of 2 File(s)
Pre-Budget Analysis - Feb 2012.pdf
Budget 2012 - White Paper_personal.pdf
Initiating Coverage: Engineers India Ltd (EIL)
Engineers India Ltd (EIL) is India's leading publicly held company engaged in the areas of Hydrocarbon, metal and infrastructure consultancy. The company has a healthy market share in the Hydrocarbon consultancy segment and enjoys entrenched relationship with few of the major oil & gas companies like HPCL, BPCL, ONGC and IOC. Driven by increased activity in global energy scenario and rapid development in Indian Hydrocarbon space, we believe that the company is well poised for 13% CAGR in net profits between FY11-13E.
In our estimates, we project a 21% CAGR in consolidated revenues between FY11-13E from Rs.28 bn in FY11 to Rs. 41.6 bn in FY13E. Within the revenue streams, we expect consultancy & engineering business to grow at 6% CAGR and Lumpsum turnkey project segment (LSTP) to grow at 30% CAGR between FY11-13E mainly driven by 1) current order book at Rs 57 bn 2) continued momentum in the domestic Hydrocarbon Industry mainly refining and petrochemicals 3) pick up in investments in projects in power and infrastructure space 4) company's new initiative adding to revenues and 5) meaningful contribution from overseas Hydrocarbon markets mainly Middle East.
At the current price, company's stock looks reasonably valued on a discounted cash flow basis. We therefore initiate coverage on EIL stock with a BUY rating and one year DCF based target price of Rs.320.
Engineers
Daily Silicon Valley Reporter
Amazon Launches CloudSearch. Amazon is taking baby steps into search. While it doesn't quite challenge search czar Google, Amazon is launching what seems to be a pretty useful cloud-based search service that companies with vast data troves can install on their websites. Amazon is offering something of a clip-on alternative to engineering a search system in-house that will let companies avoid "the additional cost and complexity of managing and scaling their own search engine."
Facebook Expands Downloadable Archive. Facebook is allowing users a closer look at their own data, per an announcment today on the Facebook Privacy blog. It's an extension of "Download Your Information"--a service that Facebook launched in 2010. Now, the archive will show you friend requests, IP addresses, previous names, and other information, all available for download.
Microsoft Cloud Tech Will Reach 7.5 Million Indians. Microsoft has signed a deal with the All India Council for Technical Education, to give 7 million students and 500,000 professors access to their cloud-based educational platform Live@edu. The service will give Indian students access to email, document sharing and storage, and other online collaboration tools. Sony To Spend $926 Million On "One Sony" Makeover. A billion dollars is all kinds of cool these days. After Facebook spent that tidy sum on Instagram, Sony's announcing an almost equal investment--$926 million--toward restructuring costs this year starting in March. It's part of what CEO Kazuo Hirai calls the "One Sony" strategy, under which Sony will ditch its small dispay and chemical manufacturing operations, and instead focus on gaming, mobile, and television. Sony will also be cutting 10,000 jobs.
Japan Bank To Use Card-Free ATMs. A Japanese bank has installed tech from electronics maker Fujitsu, which identifies people by their palm scans. Biometric readers for ATMs exist in Japan already, but Ogaki Kyoritsu will be the first bank to allow authentication solely on hand scans and a PIN.
3 Publishers Settle DOJ Antitrust Suit. Three of the five publishers challenged in the Department of Justice e-book suit yesterday have agreed to settlements. Meanwhile, a similar investigation is underway led by the EU, but Apple and publisher partners are trying to head that off early with a settlement. In Australia, the Australian Competition and Consumer Commission is watching the issue, and could propose a suit soon.
Daily Silicon Valley Reporter
U.S. Files Antitrust Suit Against Apple And Publishers. After months investigating the relationship, the U.S. Department of Justice has filed an antitrust suit against Apple and a posse of publishers for banding together and uncompetively keeping the price of e-books high. Apple's defense, Bloomberg surmises, will be that the Apple-publisher partnership actually increased competition in the larger e-book space--one that is ruled by Amazon. Amazon, however, has become recently unpopular among authors and publishers for independently setting the price of books too low, a position that's alienated their publisher partners, some of whom may not renew their annual Amazon contracts this year.
Google Announces Google+ Redesign. Google is rolling out a massive redesign on Google+, keeping room for bigger, better displayed photos, a new profile page, and a nicer interface overall. Their video chat service Hangouts also gets prominence in the new setup. Facebook-like, a chat list with online friends now appears to the right. On the left, Google is introducing a customizable navigation bar that you can fill with your favorite apps.
Nokia Debuts New NFC Windows Phone. Nokia has officially debuted the Lumia 610 NFC--its first NFC-capable Windows phone. Running on the Orange network, Nokia is ready to ride the NFC wave that we expect will break this year outside the U.S. The Nokia 610 NFC is compatible with Master Card's PayPass system and Visa's Paywave.
Wolfram Alpha Takes On Shakespeare. Finally, you can do your own analysis of Shakespeare's best and boldest. Wolfram Alpha has tackled the Bard's texts in their vast data system--which you can now use to do a word search by play, search for characters, or spot other themes hidden in the playwright's work.
Spotify Launches Web-wide Widget. Spotify has launched a new "Play" button--an embeddable widget that can stream music on any website, blog, or Tumblr page "totally free, and totally legal." Spotify is already quite popular, in part due to a Facebook partnership; with the new widget, it hopes to extend its reach even further.
Software Flaw Earns Lumia 900 Buyers $100. Nokia execs have acknowledged a bug in the new Lumia 900's ability to access data, and traced it back to a software flaw. A fix is in the works, to be available by mid-April. In the meantime, Nokia is offering $100 in credit (and a free phone swap) to all customers who have bought and will buy the phone, all the way until April 21.
Foxconn Reports Plump March Revenues. Having weathered a Fair Labor Association audit, the Mike Daisey affair, and an unprecedented visit by Apple CEO Tim Cook, Foxconn is reporting increased revenues for March. The numbers add up to an unconsolidated total of $9.43 billion--a 17.8% increase by month, and 29.7% increase year on year.
Daily Silicon Valley Reporter
Best Buy CEO Brian Dunn Resigns. Brian Dunn has resigned as CEO of Best Buy after more than 20 years working for the company. His interim replacement is director Mike Mikan. Dunn's resignation comes as the company fights competitors like Amazon, and is reworking its strategy to sell electronics in brick and mortar stores, shutting down its big warehouse style stores for better designed, smaller ones.
5 Million Android Downloads For Instagram. Following yesterday's $1 billion purchase by Facebook, Instagram is reporting that they've hit 5 million downloads of their Android app within 6 days of its launch. That comes after a not too shabby opening score of 1 million downloads on the first day.
Amazon Debuts In-App Purchases. Amazon has rolled out in-app purchasing system on Android and Kindle devices, letting developers sell subscriptions and products from within an app, with a click. The service matches Apple's and Google's similar systems which are already in existence. Sony Forecasts $6.4 Billion Loss. Sony has recalculated its losses this year, and is coming up with a figure twice as large as its original estimate. Tax charges in the U.S. running up to $3.6 billion now round off their total loss this year to $6.4 billion.
Anonymous Crashes USTelecom and TechAmerica Websites. As punishment for supporting the Cybersecurity Intelligence Sharing and Protection Act, Anonymous has claimed credit for crashing the websites of two IT trade groups, USTelecom and TechAmerica. CISPA, the Hill explains, has been ominously compared to the SOPA/PIPA legislation, but others argue the bill could better help companies shield themselves against hack attacks. CISPA is due for a vote on April 23.
Iran Plans August Internet Shutdown. With a second Internet in the works, and as Iran confronts oil blockades and embargos from international bodies, an Iran telecom minister has revealed plans to shut down parts of the Internet in the country, replacing popular services like Gmail and Yahoo with locally built alternatives like Iran Mail and Iran Search Engine. The "National Internet" should be out by August, the International Business Times reports, and the first few services will begin being blocked in May.
Update: Iran's government has said that reports of an Internet shutdown in the country are false, the AFP reports, via statements released by the IT ministry on a website that was inaccessible outside Iran. Iran's second Internet however, has been in the works for some time.
Utah Medicaid Hack Leaked 280,000 SSNs. 280,000 social security numbers may have been leaked in a hack on the Medicaid servers that took place on March 30, according to a revised count by Utah officials. 500,000 more people may have had other personal information stolen, such as names or addresses. Utah is compensating people affected with one year of free credit protection.
Best Buy CEO Brian Dunn Resigns. Brian Dunn has resigned as CEO of Best Buy after more than 20 years working for the company. His interim replacement is director Mike Mikan. Dunn's resignation comes as the company fights competitors like Amazon, and is reworking its strategy to sell electronics in brick and mortar stores, shutting down its big warehouse style stores for better designed, smaller ones.
5 Million Android Downloads For Instagram. Following yesterday's $1 billion purchase by Facebook, Instagram is reporting that they've hit 5 million downloads of their Android app within 6 days of its launch. That comes after a not too shabby opening score of 1 million downloads on the first day.
Amazon Debuts In-App Purchases. Amazon has rolled out in-app purchasing system on Android and Kindle devices, letting developers sell subscriptions and products from within an app, with a click. The service matches Apple's and Google's similar systems which are already in existence. Sony Forecasts $6.4 Billion Loss. Sony has recalculated its losses this year, and is coming up with a figure twice as large as its original estimate. Tax charges in the U.S. running up to $3.6 billion now round off their total loss this year to $6.4 billion.
Anonymous Crashes USTelecom and TechAmerica Websites. As punishment for supporting the Cybersecurity Intelligence Sharing and Protection Act, Anonymous has claimed credit for crashing the websites of two IT trade groups, USTelecom and TechAmerica. CISPA, the Hill explains, has been ominously compared to the SOPA/PIPA legislation, but others argue the bill could better help companies shield themselves against hack attacks. CISPA is due for a vote on April 23.
Iran Plans August Internet Shutdown. With a second Internet in the works, and as Iran confronts oil blockades and embargos from international bodies, an Iran telecom minister has revealed plans to shut down parts of the Internet in the country, replacing popular services like Gmail and Yahoo with locally built alternatives like Iran Mail and Iran Search Engine. The "National Internet" should be out by August, the International Business Times reports, and the first few services will begin being blocked in May.
Update: Iran's government has said that reports of an Internet shutdown in the country are false, the AFP reports, via statements released by the IT ministry on a website that was inaccessible outside Iran. Iran's second Internet however, has been in the works for some time.
Utah Medicaid Hack Leaked 280,000 SSNs. 280,000 social security numbers may have been leaked in a hack on the Medicaid servers that took place on March 30, according to a revised count by Utah officials. 500,000 more people may have had other personal information stolen, such as names or addresses. Utah is compensating people affected with one year of free credit protection.
Daily Silicon Valley Reporter
India's BBM Tracking System In The Works. Indian security agencies have said that a system to help the government monitor BBM activity on RIM's BlackBerrys will be up and running soon. For now, authorities have agreed on a protocol for law enforcement to follow before they get approval and access to a user's data, if they suspect the devices were being used for criminal activity.
AOL Sells Microsoft 800 Patents For $1 Billion. AOL is selling a bulk of its patents--800 in total--to Microsoft. AOL will keep the remaining 300 patents of its original portfolio, but license those (non-exclusively) to Microsoft. The sale is fetching AOL $1.056 billion in total.
Eadweard Muybridge, the British photographer behind the iconic "The Horse in Motion" series, would have been 182 today. Google reminds us of the life and contributions of the photographer and publisher with this Google Doodle.
Sony Cuts 10,000 Jobs. Under new CEO and ex-PlayStation head Kazuo Hiria, Sony is cutting 10,000 jobs (6% of the company's global workforce, Japan's Nikkei points out). It's part of a larger restructuring plan to refocus efforts at the company, which has seen its fourth year of losses. The latest cuts are a result of a decision to do away with and consolidate the chemical manufacturing and small LCD operations, Japan's Nikkei reported.
Universal Hops On The iCloud. Movies once purchased from Universal Studios are now available for re-download from Apple's iCloud. Universal and Fox were not part of Apple's iCloud re-download scheme when it debuted in March because of contract restrictions with HBO, restrictions which HBO has since relaxed. With Universal joining four other studios already on iCloud, Fox is the last holdout.
$35 Tablet Makers Begin Legal Battle. When we last checked, a standoff between the original designers and manufacturers of India's "$35 tablet" was delaying delivery of the device. The tiff is now getting serious--the designers of tablet at IIT Jodhpur are suing manufacturing company DataWind for flouting the original stipulations of their tender agreement. DataWind, in the meanwhile, has pinned blame for the delay of the device squarely on the profs at IIT Jodhpur.
