Mohnish Pabrai on Cloning as a Strategy

This interview was first published by the Global Association for Risk Professionals on October 29, 2013

http://www.garp.org/risk-news-and-resources/2013/october/mohnish-pabrai-on-cloning-as-a-strategy.aspx

As a hedge fund manager, Mohnish Pabrai does not have to be fully transparent with his results- except to the investors who receive his reports. But he makes no secret about his targets and successful results in terms of compound returns, nor about the fact that they are grounded in value investing principles, particularly those espoused by Warren Buffett.

Anyone can gain insight into Pabrai's way of thinking in books he has written: "The Dhandho Investor: The Low - Risk Value Method to High Returns" and "Mosaic: Perspectives on Investing".

Pabrai talks up a principle of his own, which he describes as cloning. Successful formulas are visible for all to see, but, as Pabrai observed in a recent interview, there is something in human nature that devalues cloned ideas and strategies. “Be a cloner… but clone the best”, advises the managing partner of Pabrai Investment Funds.

The Irvine, Calif. firm is billed as a family of hedge funds inspired by the Buffett Partnerships, with more than $500 million of assets.

A Mumbai native and former IT consultant- founder of TransTech in 1990, which was sold 10 years later to Kurt Salmon Associates- Pabrai won the 1999 Illinois High Tech Entrepreneur Award given by KPMG, the State of Illinois and the City of Chicago. In 2005 he and his wife, Harina Kapoor, started the Dakshana Foundation, with the goal of recycling most of their wealth. The foundation is focused on alleviating poverty in India through education and scholarship grants.

The interview with Pabrai was conducted by Dr. Nupur Pavan Bang (nupur_bang@isb.edu), senior researcher, and Dr. Vikram Kuriyan, director of the Centre for Investment, Indian School of Business, Hyderabad.

Tell us about your belief in the concept of compounding.

Einstein called compounding the 8th wonder of the world. Let me tell you a story.

One day an inventor of games brought a game to the king- the game of chess. Since it was about battle between two armies, the king was amused and spent a lot of time playing the game. So impressed was he that he offered the inventor to ask for any reward. The inventor asked that he be given an amount of rice that would be equal to what the board could hold if we were to start doubling one grain of rice from the first square of the board up to the 64^th square.

The king thought that this was a petty and stupid request and ordered for the reward to be given. The minister who was in charge of arranging this did not return for a few days. Upon inquiring about the delay the minister said that the whole kingdom did not have the 18,446,744,073,709,551,615 grains of rice required, or close to $300 trillion worth. Much greater than the combined wealth of the earth.

Such is the power of compounding. This is a concept that many great investors have time and again used for wealth creation. The celebrated Warren Buffett is a great example.

Warren Buffett and Charlie Munger have had a lot of influence in your life. How did you first learn about them and what got you interested in them?

In 1994, I was 30 years old and heard of Buffett for the first time. I did not have any knowledge about investments or capital allocation. Around that time, a couple of his biographies were published. I read them and looked at his track record from 1950 to 1993. Over 44 years he had compounded money at 31% a year. If you compound money at 26% a year, it will double every three years; at 31% you will double in less than three years. I thought about the story of the chess board again and realized that if Warren continued doing what he was doing, he would become the wealthiest person on the planet. He did became the wealthiest person on the planet.

I have never been to a business school and thought of investment, but few things stood out to me. In the investing world, hardly anyone followed Warren Buffett and hardly anyone generated returns the way he did. However, I thought that his approach to compounding was right, and these things were related. Buffett’s approach looked replicable, but no one was doing that. I liked compounding and thought of giving it a try.

How did you start? Where did you get your initial capital from?

I had sold some assets in the business I was running at that time [1994] and ended up with $1 million in the bank. I had no immediate use for that money. When I read Buffett’s biography,  I decided to play his game for 30 years. If I compounded at 26% a year, and my money would double every 3 years, a million would become a billion in 30 years. I thought that even if I fail by 95%, or 97%, I would be okay.

Swami Vivekananda used to say, "Take one idea, make that one idea your life. Think of it, dream of it, live on that idea. Let the brain, muscles, nerves, every part of your body be full of that idea, and just leave every other idea alone. This is the way to success". That is exactly what I did.

Could you tell us a little bit more about your journey from then on?

In 1995 I started putting the million dollars to work. By 1999, $1 million had become $5.1 million, growing at 43.4% per annum, way above my target of 26%. So I said, I think this could be done.

When did you start Pabrai Funds?

I used to give investment tips to friends and family. They would ask me to manage their money. So, in July 1999, I set up Pabrai Funds with $1 million in assets from nine investors. From 1999 to 2007, we compounded at 37.2% per annum before fees, 29.4% after fees.

Did the financial crisis hit you?

Oh yes, it hit everyone! From the mid 2007, for the next 21 months, we compounded at a negative 47.1%. That came to an end in 2009. Eighteen and a half years after I first started [1995 to mid 2013], I have compounded at 25.8% per annum. Short by 0.2. The good news is that I still have 11.5 years left, and in investments, the more you play, the better you get at the game (unlike tennis). I am excited to see how next 11.5 years unfold.

So how do you compound at 26%- especially since you were not formally educated in finance or investments? [Editor's note: Pabrai left his master's degree program at Illinois Institute of Technology to start his consulting and systems integration company, TransTech.]

When I set up Pabrai funds, I looked at the Buffett Partnership. It was closed in 1969; I opened in 1999. In that 30-year period, I did not find a single fund that replicated the Buffett model. I got all the information that I could about the model from published sources, took it to my lawyer and told him to simply replicate it. I adopted cloning in a very serious manner. I then started investing in stocks in which Buffett and his Berkshire Hathaway invested.

Why is it that we don't see many others succeed like you have? If it's only about cloning, anyone can do it.

That's right. Anyone can do it. But nobody does. There is something strange in the human genome which makes people think that cloning is beneath them. Everyone wants to do something unique.

There are other examples of cloning that have succeeded. If you look at Microsoft, Excel was cloned from Lotus; Windows, Word, and a lot of its other products are cloned. It's not even a great cloner, as most of its products take a number of versions to remove bugs. Even though Microsoft is not a great cloner, it is one the most successful companies in the world.

McDonald's spends a lot of time to figure out locations for their franchisees. They do a lot of analysis. While Burger Kings that compete with McDonald's, just look at where McDonald's is opening up.

There is a lot of debate going on about letting retailers like Wal-Mart into India. What perplexes me is that there is nothing in Wal-Mart's business model that anyone cannot figure out by walking into their stores. There is nothing in their model that cannot be replicated. India does not need Wal-Marts. It just needs an entrepreneur to look at their model and replicate it.

Do you blindly follow Warren Buffett and invest in any company he is investing in?

There were some professors in the U.S. who looked at every stock Warren Buffett bought from 1975 to 2005, and they did an analysis. If you bought what Buffett bought after it became publicly known, on the last day of the month at a higher price and held it until Buffett started selling and sold it after it was known publicly that Buffett had sold, and got the price which was the lowest price on the last day of the month, and you did this for every stock he bought and sold for 30 years, you would beat the index by 11.5% a year.

Bottom line, cloning is a very powerful notion. No good books have been written on cloning yet. If you take what Buffett did, then you are already beating the S&P by 11.5% per year. Mostly what Pabrai Funds did was to copy the other investors. I just give a slight tweak to it. I don't buy what others are buying. I look at what they are buying. Then I buy what I can understand and limit myself to two-three decisions a year.

How has your strategy evolved over the years?

We don’t learn from success. When we stumble we learn a lot. I am grateful that every time I stumbled, it has lead to growth. The period 2007-'09 was wonderful from a growth and learning perspective. Over the entire 1999-'07 period there were no negative returns. Not only did we make 37.7% per annum on a compounded basis, but there were no negative returns. We thought nothing went wrong, and I never saw the housing bubble.

In 2008-'09, financial system was out of oxygen. I had companies which depended on access to capital markets and financing. They just went into a tailspin. In one case, our investment went to zero. We had permanent losses. We had things which were knocked down on price and we had no ability to be offensive. We had no cash. I learned the rule that cash is king. Most of last year I was sitting with 20% cash. That was a big change.

Another change in my approach was the development of a pre-investment checklist, which is very powerful. It looks at mistakes made by other investors. This checklist helps me in catching those mistakes. One of the Warren Buffett biographies reveals that as a kid he used to walk in a strange way. It was to absolutely take out the probability of falling. He picks stocks similarly. He looks at the downside- how can he lose money. So  I did the same...questioning and re-questioning many times about how can I lose money on an investment. The checklist helps me there.

Also, I started having conversations with another investment manager. I got this advice from Charlie Munger, who said he always has someone to talk to about his investments. Until 2008 I never talked to anyone about investments. We mostly never agree, but conversations are helpful.

What about your fee structure?

My investors love my fees structure- which is copied straight from Buffett. Zero management fees for assets under management.  First 6% of returns go to the investor. Above that 6%, I get one-fourth and they get three-fourths. So if the portfolio is up 10%,  I get one-fourth of 4 percent (that is, 1%). If it is up 5%, we get nothing.

Warren Buffett is a Value investor. Isn't it very restricting to just copy him? There may be many more opportunities out there that may not strictly fall under the Graham and Dodd definition of a value investment, and yet be a great opportunity.

Well, Buffett is a multi dimensional investor. Dozens of investments that he has made are not moat based or may not be value investments. For example he has done a lot of restructuring and arbitrage deals. It is not so much about moat or value investing. It is about what you pay for a business. If you pick four or five investors and decide to pick the best of their ideas with some of your own criteria put in, you will be fine. You can skip the businesses which you don't understand or which are in conflict with your own criteria, and you will still have enough options to invest. Keeping it simple and buying at a great price are important. It is also important that if you are cloning, you clone the best.

Superman or not, Raghuram Rajan has indeed made a difference

This article was first published in the business section of www.rediff.com on October 28, 2013; Co-author: Puran Singh (ISB)

http://www.rediff.com/business/special/special-superman-or-not-raghuram-rajan-has-indeed-made-a-difference/20131028.htm

"I am not a superman", he says, but the reaction of markets to his initiatives has been super indeed. He took over the office of RBI Governor amongst much hustle and media gush on September 4, 2013. Having predicted the financial crisis and carrying an image of an internationally recognised economist, Raghuram Rajan was seen as the savior for the Indian economy that had multiple economic issues to grapple with.

He had his guns ready and fired right away on the day he took over. He endorsed transparency and financial stability in addition to issues related to inclusive growth and development. A range of measures were announced that included elimination of license requirements for new bank branches, appointment of committee to assess RBI’s approach to financial inclusion, allowing rebooking of cancelled forward exchange contracts by exporters and importers, issue of cash settled ten year interest rate future contracts, interest rate futures on overnight interest rates, special concessional window for swapping FCNR (B) dollars, increase in foreign borrowing limit of banks to 100 per cent of unimpaired Tier I capital, etc.

On Financial Infrastructure front, he expressed an intention to implement Electronic Bill Factoring Exchanges to facilitate prompt bill payment facility to Micro Small and Medium Enterprises (MSMEs). He acknowledged the need to have Debt Recovery Tribunals and Asset Reconstruction Companies for efficient loan recoveries.

For households, the governor announced that they will issue Inflation Indexed Savings Certificates, come out with national giro-based Bill Payment System to facilitate bill payments any time, start mini ATMs operated by non-bank entities for better financial access.

These measures were well received by markets as the key economic indicators improved swiftly. Depreciating rupee that had been a cause of concern for some time, gained considerably from a low of Rs 68 per dollar on August 29 to stabilise at Rs 62 per dollar by September 16.

Sensex rode on investor expectations of favourable policies by the RBI and rallied by a maximum of 700 points, eventually crossing the psychological mark of 20,000 points. Forex reserves also remained stable during the time. Gold imports remained low at 7 tons in September helping India's current account deficit. Only thing that remained unleashed was inflation that rose to 6.46 per cent for the month of September 2013 (see Figure 1).

Figure 1: Key Financial Indicators before and after Raghuram Rajan’s taking over

Source: Reserve Bank of India; www.bseindia.com; www.oanda.com;

In order to arrest inflation, in his first monetary policy review on September 20, Rajan increased the interest rate to 7.5 per cent (by 25 basis points), against the common expectations. This might have irked Finance Minister P Chidambaram, but he remained quiet, while he had openly criticised Rajan's predecessor Subbarao for a similar move.

Rajan maintained that controlling inflation was important which eventually provided a growth environment pretty much in line with his predecessor’s line of thinking. He made up for the increase in interest rate to some extent by rolling back the rate on Marginal Standing Facility (MSF rate is the rate at which the RBI lends emergency funds to the banks) to 9.5 per cent from 10.25 per cent earlier (it helped reduce the cost of funds to banks and hence their lending rates).

In one of the measures, norms for Non-Resident Indian (NRI) deposits and overseas borrowings by banks were relaxed. This helped the foreign exchange reserves of the country. When Rajan took over, the reserves were at three year low of $274 billion. A month after, the reserves are up by $5.6 billion.

The month of September also saw gold imports go down that resulted in trade deficits to trim down to a 30 month low of $6.76 billion, resulting in a much lower second quarter (July-September 2013) deficit of $29.9 billion as against $50.3 billion in the first quarter (April-June 2013).

On October 3, Rajan met Chidambaram and decided to provide additional capital to banks for lending to auto and consumer durables sector. On October 7, RBI reduced the Marginal Standing Facility rate by another 50 basis points (now 9%) to bring down the cost of funds to the banks (RBI had increased the MSF rate from 8.25 per cent to 10.25 per cent in July 2013). Two reductions in MSF indicated that the rupee position of India was comfortable. According to Rajan, current account deficit of $70 billion was achievable at a stable rupee.

On October 10, RBI allowed banks to raise funds from international institutions until 30 November 2013 for general banking purposes (not for capital enhancement). On October 12, Rajan announced that major reforms in the form of allowing foreign banks to enter and takeover domestic banks were to be introduced in the coming months.

He promised near national treatment to the foreign banks subject to couple of operational conditions. In a meeting at IMF on the same day, he pointed that India must not be seen as a country in crisis as he did not see India running for IMF money in next five years and even beyond.

In a speech at Harvard University, Rajan stated that Indian economy was to pick up in fourth quarter of the financial year as government cleared stalled resource projects worth $115 billion. Also, good monsoon season was expected to boost agricultural production. He also pointed that economic troubles of India had to do with unwinding of stimulus during financial crisis and increased spending on things such as gold rather than any structural problems.

RBI launched new Real Time Gross Settlement (RTGS) system for large-value funds transfer for settlement of inter-bank transactions (first implemented by RBI in 2004) on October 19. Its advanced liquidity and queue management features were expected to make financial markets more efficient.

On October 21, Confederation of Indian Industries and Association of Chamber of Commerce and Industries urged Rajan to cut key policy rates for better liquidity conditions. However, the seven month high inflation figure of 6.46% for September does not go in their favor. Given Rajan's reputation, we may see another hike in interest rates on October 29 and given his ability to communicate to all stakeholders, the finance minister may not even be in a position to criticize his policies as it may not be received well by the markets.

In this short span of time, Raghuram Rajan has introduced/announced many initiatives, most of them yielding positive reactions from markets. Whether this is first aid or permanent solution, is too soon to tell.

Raghuram Rajan goes home

In an exclusive feature on Raghuram Rajan, columnist Savita Iyer-Ahrestani writes about the challenges of running India's central bank. I have been quoted in the article published by the Global Association of Risk Professionals. Do read it by clicking on the link below:

http://www.garp.org/risk-news-and-resources/2013/october/raghuram-rajan-goes-home.aspx?altTemplate=PrintStory

Concentration: the case for putting all your eggs in one basket

This article was first published in the Financial Times, FTfm, on September 30, 2013; Co-Author: Khemchand H. Sakaldeepi

http://www.ft.com/cms/s/0/d4e511fc-250f-11e3-bcf7-00144feab7de.html#axzz2gLgr9ACE

Is diversification the best way to invest in the market today? Not really. The portfolios of major investors worldwide make the case for another, often-ignored, strategy: concentration. Business schools need to refrain from pushing the merits of diversification without highlighting the efficacy of concentration.

“Do not put all your eggs in one basket. Diversify.” In 1952, investment aspirants received this clarion call fromHarry Markowitz, a US economist and Nobel laureate.Peter Lynch, the famous US businessman and stock investor, “never saw a stock he didn’t like” and was a great proponent of portfolio diversification. While managing the Magellan fund, at the peak of his career, Mr Lynch’s portfolio had more than 1,000 stocks. To date, portfolio diversification remains the most important lesson taught to students of investment and risk management. The concept is a common thread in the investment approach of most fund managers and investors.

However, if we look at the portfolios of the rich and famous, they are, surprisingly, mostly concentrated. Several great investors, spread across geographies, have very concentrated portfolios. Warren Buffett, George Soros, Rakesh Jhunjhunwala and many others are renowned proponents of portfolio concentration. To Mr. Buffett, over-diversification presented a “low-hazard, low-return” situation and thus he dismissed it. A concentrated portfolio pivots on the absolute conviction of the investor in his or her stocks and his or her risk appetite.

A diversified portfolio, on the other hand, works well if the investor is optimistic about the stock, but wary of the associated risk. Investors like the first billion-dollar Indian investor, Mr. Jhunjhunwala, walk a fine line between the two.

John Maynard Keynes, the influential British economist, was another staunch supporter of concentration. “As time goes on, I get more and more convinced that the right method in investment is to put fairly large sums into enterprises which one thinks one knows something about and in the management of which one thoroughly believes,” he once said.

Mr. Buffett, echoing Benjamin Graham, the father of “value” investing, says he does not just buy an insignificant thing that bounces by a small percentage every day on the stock market. He buys part of a real business and thinks like the owner of a business would.

Mr. Buffett says: “Wide diversification is only required when investors do not understand what they are doing.” Bruce Berkowitz, founder of Fairholme Capital and a leading “value” proponent, adds that just a handful of significant positions are enough to do unbelievably well in a lifetime.

In 2012, the results of a study from the Paul Woolley Centre for the Study of Capital Market Dysfunctionality, University of Technology Sydney, showed that if skilled fund managers invested in concentrated portfolios, they would improve their performance markedly as compared with the portfolios that they would build under the compulsion to diversify. Despite mitigating stock-specific risks, the method of diversification cannot fortify the portfolio against market risks.

Advocates of concentration also opine that building or creating wealth with a diversified portfolio is difficult, unless the entire market is experiencing a bull phase and all the stocks in the portfolio are performing well. Even then, you may not get the full advantage of a multi-bagger as your investment in that particular stock would be just a fraction of your entire portfolio. The anti-diversification camp proposes that to generate wealth some concentration is required, provided people know how to assess their risk appetites and simultaneously pick winning stocks.

Fund managers today are caught in a catch-22 situation. Is wealth generated first by diversification and then maintained through concentration or vice versa? Knowing that concentration has been the mantra for success for most investment gurus, is it savvy to jump on the “diversification bandwagon” by adhering to popular belief? Awareness of such dilemmas and seeking clarity on them is essential for future managers.

It is, thus, time for business schools to introduce concentration as an important strategy in wealth creation, management and enhancement. Special attention needs to be given to this in business pedagogy, as the training of financial advisers and finance students will remain incomplete if it is restricted to the hallowed realm of diversification as the only plausible investment strategy.

Duvvuri Subbarao: Green Horn that Locked Horns

This article was first published in the business section of www.rediff.com on September 11, 2013; Co-Author: Puran Singh

http://www.rediff.com/business/slide-show/slide-show-1-special-duvvuri-subbarao-green-horn-that-locked-horns/20130911.htm

"May you live in interesting times. I can hardly complain on that count. I had come into the Reserve Bank five years ago as the 'Great Recession' was setting in, and I am finishing now as the 'Great Exit' is taking shape, with not a week of respite from the crisis over the five years."

- Duvvuri Subbarao on his term as the Governor of RBI

He began his tenure on September 5th, 2008 as the 22nd Governor of the Reserve Bank of India (RBI). Within days, the roller coaster ride began. Global financial crisis set in and the newly appointed RBI governor, Duvvuri Subbarao, geared up for toughest of the times RBI had seen.

India had limited exposure to international markets in the year 2008. As a result of which impact of global financial crisis was not as severe. However, a comfortable rupee position and foreign exchange liquidity had to be maintained along with economic growth.

Under his leadership, RBI kept the domestic markets, to a large extent, alienated from the international meltdown to avoid liquidity or solvency cascades. Apart from conventional steps for liquidity infusion such as reduction in rates, he took unconventional steps such as rupee-dollar swap facility for Indian banks, refinancing window for Non-Banking Financial Companies and facilitating refinancing of the credit to small industries. Through these measures, liquidity to the tune of $75 billion or approximately 7 percent of GDP of the country was induced in the economy post November 2008.

Everyone agreed that the country had fared relatively better during the global financial meltdown. Subbarao's original term of three years was extended for another two years by Government of India in September 2011. Most bankers and economists supported the move as any change in apex bank’s policies may not have been the best for the economy at that point of time.

The year 2012 brought more challenges for the Governor. Increased liquidity in the economy had led to a period of high inflation starting from 2009-10 that eventually became a hot potato. In February 2012, RBI decided to increase the bank rate from 6% to 9.5% for the first time in nine years (there had been no change in the bank rate since April 2003) calling it a technical adjustment.

The bank rate was decreased to 9% in April 2012 to support the growth push that the economy needed. But seeing the ineffective efforts of government to rein in the deficit and high inflation, Subbarao decided to hold the bank rate unchanged from then on despite pressure from the Center to lower it further. He had to make a tough choice between reining inflation and supporting growth through fiscal policies that the government had in mind. For lack of belief in the government’s plans, Subbarao took a stand in favor of the common man and refused to further cut the rates much to the disappointment of Mr. Chidambaram who publically expressed his anguish over it.

Listed among ‘India’s 50 Most Powerful People 2009’ by Bloomberg Businessweek, Subbarao stood against the wide calls to cut interest rates by the industry and the government. He stuck to his belief that inflation hurts the common man and hence curbing it was more important even if it meant sacrificing part of the growth.

Subbarao made efforts to make RBI a body that was ‘communicative, honest, open minded and accountable’ rather a black box which was a mystery for people. He had the opinion that people should know what RBI does. He aimed to demystify RBI and make it a role model for central banks globally.

In this direction, RBI designed financial literacy programs and pushed the states to introduce financial education curriculum at school and college levels to help enable the people to demand services from banking system.

In similar direction, he pressed on IT enabled banking, promoting financial awareness, and starting financial inclusion drives. In February 2013, in its new guidelines for banking licenses, RBI mandated that the aspirants, in their business plan, include ways to achieve financial inclusion.

He was criticized for not maintaining high forex reserves when rupee was appreciating during 2009-10. Also, his tenure was worded as the worst by a RBI governor by Arvind Panagariya, Professor of Economics at Columbia University. During the last few months of his tenure, he was blamed for falling rupee. Despite all criticisms he stuck to his guns and defended his decisions. While the government blamed RBI’s tight monetary policy and non-cooperative policy behavior for deteriorating economic situation, RBI governor convincingly reallocated the blame to loose fiscal policies of the government and policy paralysis.

A Green Horn five years back, he retired locking horns with the bosses. On September 4th, 2013, as he handed over charge to Raghuram Govind Rajan as the 23rd Governor of the RBI, he may not have been the favorite of the finance minister of India, Mr. Palaniappan Chidambaram, but had certainly raised RBI's stature as an autonomous body. He charted an independent path from the government, refused to succumb to the pressure from the Center.

Punishing India’s love of gold will not yield result

This article was first published in the Financial Times, Beyond Brics, on September 10, 2013; Co-Author: Puran Singh 

http://blogs.ft.com/beyond-brics/2013/09/10/guest-post-punishing-indians-love-of-gold-will-not-yield-results/?#axzz2eZQyQtBv

"Getting married this year would be very costly for me. With gold prices at all-time high, jewellery shopping will literally wipe out all my savings. My parents will insist that I buy at least 50g of gold jewellery for my future wife. It does not make sense  right now at such high prices", says a friend who is planning to postpone his marriage to his fiancé.

India's finance minister P Chidambaram has blamed the $86bn (4.5 per cent of GDP) current account deficit on India's "passion for gold", and has introduced various measures to curb demand. There are several reasons why such steps are unlikely to succeed. 

At the start of 2013 import duty on gold was increased from 4 to 6 per cent. At the same time, the duty on raw gold was doubled to 5 per cent. In February, gold deposit rules were relaxed by the Reserve Bank of India (RBI). In March, the RBI started monitoring gold coin sales by banks. In May, the RBI restricted consignment-based gold imports by banks. In June, import duty on gold was hiked to 8 per cent. In July, RBI tied gold import quantity to total imports. 

But, the demand for Gold did not budge downwards. Having failed to curb demand, a hike in import duty was announced in August for the third time. The import duty currently stands at 10 per cent.

The bad news for the RBI and Chidambaram is that 2013 is scheduled to have 31 extra wedding days in India, because according to the lunar calendar only 117 days will be lost to Chaturmas (considered inauspicious) compared to 148 days in 2012.

If it can, the Government of India should come out with an incentive for couples planning to get married to not do so this year. About half of gold jewellery shopping in India happens during weddings.

India produces a negligible 2.3 tonnes of gold a year and consumes almost 1,000 tonnes a year. No points for guessing where the balance comes from. Increase in gold demand in any year has to be met by importing more, and given the importance of gold in Indian marriages, any reduction or postponement in gold demand is not a reasonable assumption.

Apart from weddings, festivals are the second most important occasion for the Indians to buy gold jewellery. Just under a quarter of the demand for gold jewellery is bought during festivals in India, according to a survey by AlphaWise and Morgan Stanley Research in 2012, compared to 43 per cent for weddings.

Diwali, the most important festival for Hindus is in early November and people buy gold on Dhanteras to please Goddess Laxmi (the Goddess of wealth). Our presumption is, given the sentiment attached to buying gold and the returns it has offered post 2008, people will not mind buying gold even at soaring prices. 

In history, wars have been fought over the ownership of gold. Now the battles take place in the form of derivatives, exchange traded funds, and mutual funds. Gold is still much sought after, but more so for its financial than aesthetic value. The government of India and RBI are fighting another war against its own people. 

People are wondering why the RBI and the government would try to curb gold imports to solve a problem that is created due to government overspending and policy paralysis. Why would a government which is not able to protect its citizens from inflation prevent them from buying gold, which is considered a hedge against inflation?

Gold gives a common backdrop to an India which is otherwise diverse in religion, faith and culture. Embedded in the Indian psyche as symbol of prosperity and wealth, owning gold is akin to the American dream of owning a home. 

Hence, the curbs on gold may not yield the desired result. But it will succeed in building up further anger against the ruling government.

A bit on the virtual currency

This article was first published in the Hindu Businessline, Investment World, September 07, 2013; Co-Author: Khemchand H Sakaldeepi, CFI, ISB

http://www.thehindubusinessline.com/features/investment-world/market-watch/a-bit-on-the-virtual-currency/article5104362.ece

The first time I heard of a currency issued by an institution, apart from the Government or the Central Bank of a nation, was way back in 2002. A relative, devotee of Maharishi Mahesh Yogi, told us about “Raam”. Raam is a currency in circulation in Holland and parts of United States, issued by the Stichting Maharishi Global Financing Research (SMDFR), a charitable foundation based in Holland. Two questions came to my mind: First, who guarantees the payment to the bearer? Second, if many more institutions start to issue currencies, wouldn't it lead to a lot of chaos?

Similar, and more, questions were raised in our minds when we heard of Bitcoin for the first time.

In 2008 Satoshi Nakamoto (a pseudonym for the person or group of people who designed the original Bitcoin protocol) posted a paper describing a cryptocurrency protocol. He created an open source client and issued the first Bitcoins in 2009 that are encrypted so that it cannot be misused or reused. This is just like a wallet (free to create) on your desktop and you can use a currency that does not belong to any country or any region or any organisation, for transactions. Instead of a central bank mining the currency, the mining of Bitcoin is done by users all across the network. There are inbuilt checks in the open source algorithm which prevents any conflicting transactions or prevents people from paying the same bitcoin to two different people.

Bitcoin can also be bought using regular currencies such as dollars, or pounds or euros. Currently, one bitcoin can be bought for approximately $107. One can payout in bits (as in computers). Free email, free calls (skype/viber), now free transfer of money! It’s an absolutely logical evolution. However, my original questions remain. Is the currency backed by some organisation/ bank /or government? No. It has value because there is demand for it. If tomorrow there is no demand, its value will be worthless. Is there a possibility of that happening? Yes and No. Regulators are seriously concerned in the US and other countries and they are watching the currency and allied activities closely. They may take extreme steps and ban the use of Bitcoin. Thailand recently banned trading in Bitcoin.

On the other hand, there is a growing community of users who are in favour of digital currency.

Will it lead to chaos? The value of the currency is definitely very volatile. It is first of its kind. There may be more digital currencies which would crop up in the future. It may lead to chaos, even network security breaches. Adopting good practices by users may be the key.

“All over the world people are trading hundreds of thousands of dollars worth of Bitcoin every day with no middle man and no credit card companies. It’s a startup currency which has never happened before” says weusecoins.com. Organizations like Amazon, Barnes & Noble, iTunes and many more accept bitcoins for transactions. The virtual currency is also very popular in China, as popular as in US and the UK, reported Rob Minto in Beyondbrics, Financial Times (July 9, 2013).

All this sounds cool but how big is it? It has definitely made some headlines recently. Cameron and Tyler Winklevoss, twins known for battling Mark Zuckerberg over ownership of Facebook Inc, have filed for an initial public offering of a Bitcoin ETF designed to allow investors to track the performance of the digital currency bitcoin. It will be just like an index that represents the bitcoins. The response to the proposal is, however, lukewarm at best.

The fear of criminal activity, money laundering, high volatility, no regulation, bubble, are all rife. So are the whole generation of users who swear by the currency and consider it an economic revolution. We are not clear about the implications of virtual currency yet. Though it is definitely challenges the way we conceive money. The question to ask is whether money as we know it is undergoing a tremendous change.

Allocate Assets wisely to meet your financial goals

This article was first published in iNM, Volume 5, August 2013, pg. 6; Co-author: Saumya Rastogi, NMIMS
http://www.joomag.com/magazine/inm-august-2013/0974557001377541082

We all have different roles and responsibilities, depending upon the stage of life we are at. Due to this, the requirements of one individual differs from that of the other. A bachelor’s needs and responsibilities would be very different from that of a person with a family. Thus the assets in which a bachelor should invest his funds should be very different from the assets in which a person with family invests. Investing funds in different assets according to the needs and risk taking abilities of individuals, in appropriate proportions, and managing this concoction over time, is known as Asset Allocation.

Different assets in which investors invest their money include bonds, stocks, shares, bank deposits, mutual funds, real estate, gold etc. A good asset allocation is one in which the wealth of an individual is properly distributed across different financial instruments in a way that helps the individual achieve his objectives. In the event of negative performance by one of the assets, others cover up for the loss. Asset allocation diversifies the risk in an organized and planned manner.

Assets are selected based on the goals of the individual. The goals could be short term or long term, lump sum requirement of money or equal amounts spread over many year. The time available to achieve the financial goals is also important in determining the asset class mix. And of course the risk appetite and ability.

The risk appetite of investors are grouped under three categories; aggressive, moderate and conservative. Aggressive investors look for investing in asset classes which are very risky, like equities, hedge funds and certain commodities. Conservative investors prefer to stick to asset classes like debt mutual funds, fixed deposits, small saving schemes, public provident fund etc. which have very low or no risk attached to them. People with moderate risk appetites like to take measured risks. Mutual Funds may be a suitable asset class for them.

Risk taking abilities differ from risk appetites and is not generally understood by investors. A person may have the appetite to take very high risk but may not have the ability to do so. For example, a person may be a risk lover, but may have many mouths to feed and less money to spare. Hence his ability to take risk is very low, which must be accounted for when allocating assets.

It is commonly seen that investors make investments without analyzing their needs and requirements and end up with wrong choices. They either follow the trends in the market, or suggestions given by friends and family or simply imitate someone else. Young investors mostly buy assets on equated monthly installments and equate it to forced saving. They do not realize that buying assets which depreciate is not saving or investing. Retired investors prefer to invest money in mostly safe and riskless assets.

According to Hemant Rustagi, CEO, Wiseinvest, a wealth management firm, the mistake committed by investors is that they identify the instruments even before they decide on asset allocation. Investors do not choose instruments as per their needs but according to their awareness or suggestions which are given to them. This leads to misallocation of assets as the objective of asset allocation is not considered. Thus, the most important thing to begin with is to understand the requirement and the objective of asset allocation for an individual.

Over the years it has been seen that Indians prefer to invest in Fixed Deposits and Gold irrespective of their investment objectives. The investment in risky assets like shares and mutual funds are less than three-four percent of household savings. Even a necessary asset class like Insurance receives less allocation than fixed deposits.

On the other hand, investment in gold is highly preferred by individuals in India. This is because Indians have sentiments attached to gold, it is liquid and it is considered to be a hedge again inflation. The ever increasing demand for gold is another reason for minimal interest in other asset classes.

It is time to start investing for achieving specific financial goals. Be it education, marriage or a house. Plan, allocate, manage, be disciplined and achieve.

The NRI's Market

This article was first published in India Abroad, August 30, 2013, pg. 21

http://www.indiaabroad-digital.com/indiaabroad/20130830?pg=21#pg21

Rupee depreciates to Rs65.56 per dollar before recovering for the day. An average Indian would ask, "Why should I worry about the exchange rate? I am neither going on a World tour, nor am I sending my kids to study in America!".

Well, as the currency depreciates, the price rises ensure that you need more and more of it to buy the same quantity of goods. The purchasing power comes down due to inflation and pressure on the interest rates. As in the case of India, due to the depreciating Rupee, the Reserve Bank of India may not be able to decrease the interest rates, in spite of demand from the industry to do so.

So a mango Indian says, "Okay. I got it. I feel the pinch of the rising prices. I feel my car is a white elephant. Petrol prices go up every month. I wish my company paid me salary in US Dollars".

Now that is the best scenario. Earn in US Dollars and spend in Indian Rupees. The exporters and the manufacturers who have their facilities in India, that is their expenses are in Rupees, but export their goods and services, that is earnings are in Dollars, fall in this category. As do the Non-Resident Indians (NRIs).

According to the World Bank, the Indians form one of the largest immigrant population in the world (next only to China), around 1 percent of the total population of India. The estimated total remittance of money by NRIs, from more than 190 countries, in the year 2012 is a daunting figure of $69billion, higher than that of China, as per data from the world bank. It is approximately 3 percent of our GDP and 75 percent of our Current Account Deficit (CAD).

It does not come as a surprise then that the government is trying to woo the NRIs to repatriate more funds into the country to support the burgeoning CAD and the falling Rupee. The government has deregulated the interest rate on non-residence external (NRE) and Foreign Currency Non Residential (FCNR) Account deposits to incentivize the NRIs to park their funds in India.

Taking cue from this, many banks have increased the interest rates that they offer on these accounts. For example, IDBI bank increased the interest rates to 9.5 percent (by up to 50 basis points) for long term deposits in NRE accounts.  It also increased the interest rates by 100 basis points for the FCNR accounts.

As a result, the repatriation of funds from NRIs based in US, UK, Singapore, Dubai have increased in the last month. It clearly makes good investment sense for the NRIs as the interest rates offered by banks in countries like US, UK, Singapore and Dubai can range from a meager 0.5 percent to 2 percent at the most.

The falling rupee has also rekindled hopes of owning a property in India for many NRIs who want to maintain a home in India and would eventually like to come back to their own country. A survey conducted by the Associated Chamber of Commerce and Industry of India (Assocham), revealed an increase in the interest of the NRI community in real estate. The real estate has become more affordable to them in Rupees terms. The property prices as such are depressed in India due to high interest rates on home loan and lack of demand internally due to the state of the economy.

It may also be a good time to invest in the equity markets for those who can take the risk and tide over the uncertain times with nerves of steel. Many stocks are at their 52 weeks low. Many others are selling at very low P/Es and discounts to their book values.

Overall, as Simon Newcomb, a Canadian-American astronomer and mathematician writes in his book, "The A B C of Finance", published in 1877, "...a depreciating currency is the greatest source of injury to the business of a nation, being nothing less than a national calamity".

But, it is good news for those earning in currencies against which Rupee is depreciating.

Why is Gold so dear to everyone?

This article was first published in the business section of www.rediff.com on August 28, 2013; Co-author: Puran Singh

http://www.rediff.com/business/slide-show/slide-show-1-special-why-is-gold-so-dear-to-everyone/20130829.htm#1

'Dear' to people, but not so ‘dear’ to Indian Government at the moment. Or rather, too ‘dear’ for Indian government. The gold has kept the finance minister on his toes since the beginning of this year as continuous measures to curb gold imports have failed to reduce the ‘dearness’ of gold to people.

It is worthwhile to muse why the shiny metal has had an inherent appeal and emotional connect with people since ages.

How much gold is there?

Ever wonder how much gold is there? Let us see. Imagine you have a living room that measures 65 feet in length, breadth and height. Now imagine that it is full of gold. That is it. That is all the gold above ground in the world.

However, if you were to convert this block of gold into a wire of five micron thickness (thickness of human hair is - 75 microns), you would be able to wrap planet earth 11.2 million times. Now it seems a lot, doesn’t it? In other words, you can’t judge a book by its cover. Besides its metallic properties, there is much more to gold that makes it an obsession to mankind.

Who is after gold?

Kingdoms: Gold has been a reason for wars between kingdoms throughout human history. In 1500s, King Ferdinand of Spain destroyed Inca and Aztec civilisations while looking for gold. While some civilisations were lost due to gold’s pursuit, America owes its discovery to it for Christopher Columbus was in search of route to India and China to find the source of China’s gold when he accidentaly found America in 1492.

Individuals: In 1848, people from across the world rushed to California in hope of securing gold flakes for themselves. Later in 1888, discovery of a gold mine near Johannesburg in South Africa triggered another gold rush.

Economies: Gold became vital part of international financial system in 1870s when, to assert the importance of Gold, all major countries linked their currencies to gold and adopted gold standards.

Central banks: Central banks in the world turned net buyers of gold starting 2010. It serves as a guarantee that governments will redeem their promises and secures the value of local currencies.

Investors: Negative correlation of gold with stock market movements is its most appealing attribute for investors helping them safeguard the investments from market movements. In addition, investors use it as a store of value and inflation free investment.

Who else finds value in gold?

Sportspersons: Gold became a prized possession of sportspersons since 1904 Olympic Games in Missouri, US, that started the tradition of gold medals for winners of games.

Astrophysicists: Scientific value of gold was discovered in 1961 when it was used in a spaceship as a protecting device against radiation.

Pharmacists: In 1985, medical significance of gold was discovered when SmithKline & French, a pharmaceutical company in US, developed a gold-based drug for the treatment of rheumatoid arthritis.

Physicists: In 2001, Boston Scientific, a leading medical innovation firm, invented a gold-plated stent used in heart surgery to allow adequate flow of blood to heart.

Is gold the most valuable?

Platinum ($1,521 per troy ounce) is a more precious metals than Gold ($1,417 per troy ounce)!

Yet, Peter Jackson chose to use gold ring as ‘The Precious’ in Fiction Film Trilogy ‘Lord of the Rings’ grossing $2.92 billion which is roughly one third of India’s gold import in a year. There is certainly more to gold than its monetary value.

The religious connect

Gold has a huge religious significance, especially in India, a country with diverse religion and cultures.

Hindus: In Puranas, ancient Hindu texts, Hindu God Brahma is referred to as Hiranyagarbha which means born of golden egg. In Hindu mythology, many goddesses have been described as golden-hued that symbolizes purity and ultimate beauty. Manu, the ancient law-giver to Hindu rishis recommended wearing golden ornaments on specific occasions. Also, Indian mythological scripts describe how god and goddesses rode golden chariots.

Sikhs: Maharaja Ranjit Singh in 1830 gold plated the Harmandir Sahib in Amritsar that symbolized wealth and prosperity.

Christians: According to the Bible, on the birth of Jesus, gold was one of the three items gifted by three wise men on behalf of human kind to symbolise sacrifice and love for God.

Is more gold good?

Depends on whose shoes you are in. If you are an investor who can afford to buy gold at peak prices, Good! But ask Finance Minister and he will advise against it.

RBI does not have enough dollars at the moment to pay for gold imports.

All you wanted to know about CAD, but were afraid to ask

This article was first published in the business section of www.rediff.com on August 21st, 2013

http://www.rediff.com/business/slide-show/slide-show-1-perfin-all-you-wanted-to-know-about-cad-but-were-afraid-to-ask/20130821.htm

High current account deficit means that a country is buying more from outside than it can afford to.

CAD, CAD, CAD … the most repeated ‘word’ in the financial world, today. India’s economy is in a mess – blame CAD; inflation is spiraling out of control – blame CAD; rupee is sinking – again blame CAD (recently a pink paper while discussing rupee woes, wrote, ‘the undercurrent of an unsustainable and rigid CAD on rupee is a common knowledge’).

So what is CAD, and why is it so dangerous? Can the government control CAD? Read on to know all about current account deficit.

What is Current Account Deficit

A current account simply is an account of all money that comes into the country [as receipts for exports of goods and services, investment income or as capital] and all money that goes out of the country [as payments made for importing goods and services, paying out income for investments made by foreign entities in the form of interest or dividend, or outflow of capital from the country]. When the outflows are more than the inflows, a deficit occurs in the current account of the nation, which is widely known as the Current Account Deficit (CAD).

The CAD of India  was US$ 87.8 billion during Financial Year 2012-13. How was this figure arrived at?

The composition of CAD

India exported goods worth $306.6 billion during the financial year. The exported goods included textiles, gems and jewellery, mineral fuels, etc. On the other hand, it imported goods worth $502.2 billion, half of it on account of gold and fuel. This is the reason there is so much stress on reducing the oil and gold import bills by the Reserve Bank of India and the Ministry of Finance.

The falling rupee is not helping matters as it makes the import of fuel and gold more expensive in Rupee terms.

India also exported services worth $145.7 billion and imported services to the tune of $80.8 billion during the financial year. There was a net surplus. The surplus can be increased by increasing exports further or by decreasing the import of services further.

The falling exchange rates might help the exporters increase their market share by offering discounts. When the rupee falls, the exporters get more Rupees for every dollar. Hence their revenues in Rupees goes up. Similarly, import of services become more expensive.

Inflows due to other forms of income like transfer of money by Non-Resident Indians and investment income received, amounted to $78 billion while the outflows amounted to $35 billion.

Total inflows minus the total outflows amounted to a CAD of $87.8 billion (Table 1), forming 4.8 percent on our Gross Domestic Product (GDP).

Composition of the Current Account Deficit (in US$ Billions)
	FY 2012-2013
	Credit (Inflows)	Debit (Outflows)	Net
Goods	306.6	502.2	-195.6
Services	145.7	80.8	64.9
Primary and Secondary Income	78	35	43
Current Account Deficit			-87.7
Source: RBI

Why should we worry about a high CAD?

High CAD means that a country is buying more from outside than it can afford to. The consequence of this may not be felt too much in the short term. But in the long term, the domestic currency can start to lose value as payments in dollars far exceed the amount of dollars that the country receives. The demand for dollar goes up, making its value appreciate, which in other words means that the domestic currency loses value. This is what we are experiencing in India right now.

If the domestic currency loses value, the foreign investors lose interest in the economy of the country as the returns may not be adequate to them when they convert back the Rupees to Dollars. For example, if an investor invests $100 in India when the exchange rate is Rs50 per dollar, he buys assets worth Rs5,000 in India. After one year, the value of the asset is Rs6,000. The appreciation in value is 20 percent.

The investor wants to sell off the asset and take back his money to the US. So he sells his assets and gets Rs6,000. When he goes to convert the Rupees back to US dollars, the exchange rate being quoted by the bank is Rs62 per dollar. So the investor get $96.8 in exchange for Rs6,000. The investor has actually lost money. He has lost 3.2 percent on his initial investment of $100.

This explains why, in the long term, investors would shy away from a country with depreciating currency, which is one of the consequences of a high CAD.

Measures to control CAD

In order to control the CAD, the government would put in place various restrictions on the import of non-essential goods to start with. As in the case of India, the finance minister Mr. P. Chidambaram recently announced a curb on the import of Gold coins and medallions. Other measures like making it easier for foreigners to invest in India, making it easier for companies to raise money outside India (this brings in foreign exchange, though interest needs to be paid on it) were also announced by the finance minister.

If these steps do not reduce the CAD, further measures could be more restricting or severe in nature.