S&P sacks its President Deven Sharma

I was surprised with this news for 2 reasons – first, i didn’t know that S&P is being headed by an Indian & secondly, i am still trying to find reasons behind this move. Deven Sharma will be replaced by Citi Bank’s COO Douglas Peterson by next month. S&P sacks its president just after 2 weeks of its historical & controversial decision to downgrade US, which created ripples across global markets.

When markets are struggling to find a direction, i think this move gives investors some reasons to justify their view about market direction. Investors may take it as positive because it means S&P might have made a mistake in downgrading US or it may give indication that other rating agencies like Moody’s & Fitch will become even more cautious (or may remain quiet) on US debt rating. I don’t know the true reasons but i believe

- S&P’s parent McGraw-Hill is a listed company. They might have faced lot of criticism from its investors (may be those investors also lost their money because of S&P’s downgrade) for downgrading US

- US treasury secretary has criticised S&P’s move as  “terrible judgment”. Even the Congress criticised S&P’s decision

- S&P may be trying to revamp its image. S&P was criticised for the $2 trillion mistake they made

- It may be just a regular change (but this one is highly impossible)

Already there are reports saying S&P is being probed by the U.S. Justice Department in connection with its ratings of mortgage securities. Let’s wait & see whether there was some foul play or it’s just politics.

Deepening of financial crisis – S&P cautions on India & Japan

Stocks across the globe had tumbled on S&P’s decision to downgrade US last weekend. As expected (As mentioned in the previous post), S&P also lowered credit rating of US Govt sponsored Fannie Mae, Freddie Mac, Federal Home Loan Bank & few more institutions’ debt to AA-plus from AAA. Despite assurance from US treasury secretary & also positive comments from Warren Buffet, US & Europe stocks tumbled once again. Obama is expected to deliver a speech today – let’s see how markets react. US treasury secretary said the rating agency showed “terrible judgment” in lowering the U.S. government’s credit rating. Not to left behind to be on headlines, Moody’s kept the US’ credit rating at its top rating but warned it could downgrade US before 2013 if the fiscal or economic outlook weakens significantly.

We may like it or not, markets are at S&P’s mercy. The good part is still they haven’t commented anything on US banks – but we can expect some comments or rating changes on few financial institutions in couple of days. The crises will be deeper if few large banks are downgraded. To every one’s surprise, S&P cautioned that it could lower the sovereign ratings of countries like India, Japan and Malaysia, which are still to come out of the economic meltdown of 2008. I wonder if entire world is downgraded then what is the point of downgrading. Tomorrow also may not be different from today. It’ll be a completely news driven market for next few days. The movement will be drastic, either way.

S&P’s controversial & historical decision to downgrade U.S

In a historical & controversial decision, Standard & Poor’s downgraded the U.S.’s AAA credit rating for the first time to “AA Plus” from “AAA”. This downgrade is not about bonds, interest rates etc.. its’ an insult & humiliation to American pride. Nobody ever dreamed about it. Nothing seems impossible

The bottom line is – US bonds are no more risk-free as per S&P

S&P’s statement - The downgrade reflects our opinion that the fiscal consolidation plan that Congress and the administration recently agreed to falls short of what, in our view, would be necessary to stabilize the government’s medium-term debt dynamics. More broadly, the downgrade reflects our view that the effectiveness, stability, and predictability of American policymaking and political institutions have weakened at a time of ongoing fiscal and economic challenges to a degree more than we envisioned when we assigned a negative outlook to the rating on April 18, 2011. The outlook on the new U.S. credit rating is negative, the S&P said in its statement, a sign that another downgrade is possible in the next 12 to 18 months.

Why controversy - S&P informed the US Treasury on Friday afternoon that its committee had decided to downgrade US sovereign debt. Ratings agencies typically inform issuers of their decision before a press release is issued. But US officials quickly noticed an error in the agency’s calculations. This resulted in a change in the projected debt to GDP ratio. Instead of the 87 percent in 2021 miscalculated by S&P, it should have been 79 percent, a roughly $2 trillion mistake. S&P confirmed it changed its economic assumptions after discussion with the Treasury Department but said it did not affect its decision to downgrade.

AAA rated countries - So the AAA rated exclusive club has missed world’s biggest economy. Australia, Austria, Canada, Denmark, Finland, France, Germany, Luxembourg, Netherlands, New Zealand, Norway, Singapore, Sweden, Switzerland, United Kingdom and also Isle of Man, a British crown dependency off the UK’s west coast are the remaining.

Reactions - US said the rating agency’s flawed analysis has put its own credibility and integrity at risk. China, the largest foreign holder of US debt, said that Washington needed to “cure its addiction to debts” and “live within its means,” just hours after the rating agency Standard & Poor’s downgraded America’s long-term debt.  EU questions the credibility of rating agencies. China questions Dollar as reserve currency. This downgrade may be a blow to Obama as he seeks re-election next year.

Impact - S&P has been maintaining this stand for a long term. Markets have information about the possibility but they might not have expected this quickly.  The $2 trillion mistake may raise the credibility of S&P. And also the time they took to recalculate the $2trillion error was very quick – the point is What was the hurry to Downgrade. US Govt backed banks & financial institutions may also be downgraded as they rely heavily on US Govt. The bond yields may spike up as knee-jerk reaction but may come down to normal levels as investors have very limited alternatives. Few funds have the mandate to invest in only AAA rated securities – so they may have to pull out to invest in other countries like Germany, France etc. If bonds react negatively then US borrowing costs will go up, that pushes higher budget cuts to negate higher interest rates. Moody’s & Fitch still maintain AAA for US – markets may take positive cues from it. The impact on stocks is unknown – but certainly it is not positive. A lot is dependent upon how treasury securities react.  Let’s wait for MONDAY

Don’t catch the falling knife – Very few get the handle & the rest get the blade

I woke up this morning to see Dow Jone’s (DJIA) worst performance since Dec 2008. Down Jones crashed over 500 points after losing close to 5%. You don’t need to be over smart to expect what could be the day looks like for Indian stock markets. By the time Indian markets are opened, stocks across Asia were crashing. Not surprisingly, Udayan Mukharjee from CNBC TV-18 started discussing about 5200 level & possibility of markets falling to 4700 level etc ..etc. “Gone with the Wind”. Our markets also crashed but recovered in the afternoon on optimism of US unemployment data, which was due in the evening.

To give some hope, US unemployment data surprised markets – “US Payrolls rose by 117,000 workers after a 46,000 increase in June that was more than originally estimated. The jobless rate dropped to 9.1%”. But markets were not convinced with the reported nos – markets again fell over 1% . When we are reading about job cuts everyday, who believes these nos. Dow Jones fell for 11 consecutive days except 1 mild positive closing  in between. Nifty also losing support levels one after another. Of course, when investors are frenzy then who cares about support or resistance. More panic is awaited unless some assurance from policy makers or central banks reinstate confidence in financial markets.

PANIC is the most dangerous word in financial markets. We were all confident till few weeks back – but not anymore.

“Don’t catch the falling knife – Very few get the handle & the rest get the blade.” It is better to wait till markets stabilise.

Expect another red Monday for stock markets. Forget about the stocks & enjoy this weekend. May be painful & hectic week is awaiting.

Good Morning “Central Banks” – Begining of lower interest rates?

All of a sudden, Central Banks across the world have become very active. They might have taken cues from credit rating agencies, who were busy these days commenting on everything on every day. Swiss National Bank unexpectedly cut interest rates and increased the supply of francs to depreciate currency. By the time markets try to interpret this move, Bank of Japan sold 1 trillion Yen ($12.6 billion) and eased monetary policy to depreciate Yen. Given the export nature of the economy, it makes sense for Japan to undervalue its currency to instigate economic activity after massive loss from earth quake. But the duartion of the effect of this move is unknown as Dollar depreciation due to slower economy activity can take these currencies back again to previous levels. These sudden moves may be out of the fear that weakness in US & Euro may push investors to find other safe investment destinations. Meanwhile to confirm that US economy is slowing – JPMorgan Cuts Q3 US growth forecast by 1%.  The European Central Bank & The Bank of England also kept interest rates unchanged at 1.5% and 0.5% respectively. If we require more confirmation of slower economy, we have lower oil & higher Gold prices – Nymex crude fell to $90 per barrel, Brent Crude fell to $110 per barrel.

By the time i write this, Europe & US markets tumbled around 2.5% extending their worst fall. In India, Nifty broke crucial 5400 level, which it was holding for a long time, and it can fall another 100 points or so. Our politicians busy solving inflation ignoring all other global issues.

Opposition leader said - I want inflation to come down to 3%
FM replied - I have no magic wand to control inflation
RBI may say - At max i can raise interest rates one more time, but certainly not beyond that
We confess - Bhayya we don’t have a clue

I think interest rates will be lower across the world for couple of quarters & we may expect at max one more rate hike in India and after that our interest rates also have to come down. Start to think about debt funds………

Recession or Slowdown ???? Down Jones falling continuously

US stock market index “Dow Jones Industrial Average (DJIA)” is down for 9th straight day – worst continuous fall since Feb 1978. Such a long losing streak didn’t happened even in 2008 also. In 2008, stocks fell sharply but never for 9 straight sessions.  This time this fall is consisent but not sharp.  However DJIA managed to close in green after 8 days despite weak opening. Markets getting bad news from everywhere – Europe, US & even India. Europe is struggling with Sovereign debt crisis. Even though US averted default by raising debt ceiling, it has to grapple with slowing economy & effects of budget cuts on already sluggish economy. Markets were confident rather than optimistic about last minute deal on raising debt ceiling, but they aren’t so optimistic about economic growth. Since the debt ceiling has been done, investors are focusing more on fundamentals now – GROWTH

One can sense the symptoms of recession/slowdown from earnings & employment
HSBC to cut 30,000 jobs by end of 2013
Barclays has cut 1,400 jobs so far this year & planning to cut another 3000 jobs
This list may go on. Apart from job cuts, companies started to reduce costs to maintain their profitability. Earnings have been not that great this quarter so far except few companies.

It may be slowdown rather than recession or it may be too early to call. The worst thing one can expect is – what will happen if S&P downgrades US?  US’s borrowing costs may not spike up as investors have limited alternatives. But the consumer confidence will take a hit. The cumulative effect of European crisis, slow US economy, lower US credit rating, weak earnings, high inflation, higher unemployment, low credit growth, low consumer confidence etc can lead us to another RECESSION. I think  this is the time for central banks to take more proactive steps to increase consumer confidence & enhance economic activity to maintain the growth.

India’s case is little different from western countries. Our problem is high inflation rather than low GDP. We are forcing consumes to spend less to reduce inflation at the cost of lower GDP. Already PM’s Economic Advisory Council lowered GDP forcast to 8.2% from 8.5%. Given all these issues, RBI will face tough time when they meet again to review credit policy if inflation continue to be at elevated levels. With crude oil prices falling due to weaker global growth, it may give some relief to RBI. If RBI let interest rates remain unchanged next time despite higher inflation then we can sense that even RBI thinks that some thing is wrong globally.

Don’t be surprised if your companies reduces facilities, pay you lower hikes etc…..

To RBI & U.S……………….No more shocks pls, we need stability

RBI Governor Mr Subba Rao is the busiest person these days. RBI once again raised interest rates for 11th time in a row. This time RBI surprised markets by increasing 50 bps against expectations of 25bps. Finally, Repo rate is at 8%, so reverse repo adjusts to 7%. Markets are not at all prepared for Repo beyond 8% but one can sense that RBI is ready to increase rates once again if inflation doesn’t come under control. Inflation is bad……..agreed, but how much growth we can sacrifice for containing inflation. “Govt can lose elections due to higher inflation but i haven’t seen any Govt losing elections because of lower GDP growth rate”. Isn’t it the Smart thing to do?

Food Price – Primarily driven by monsoon, so RBI can’t do anything about it

Crude Oil prices – It’s completely dependent upon global markets, again RBI can’t do anything. But one thing, if Rupee appreciates due to high interest rates then our import bill becomes lower

So RBI is concentrating on other parts of inflation. RBI lowered its credit growth target to 18% from 19%. Unless banks raise lending rates, credit growth is not going to come down. That may be the reason why RBI has chosen to raise 50bps rather than 25bps. Markets obviously didn’t like it, so they are falling……..

On the other side of the world, IRRESPONSIBLE & IRRATIONAL behavior from U.S lawmakers putting pressure on global financial markets. We are hardly 5 days away from Aug 2, still no decision on raising debt ceiling. One can expect a decision by this weekend. Otherwise, it’ll be a red Monday for global markets. Surprisingly, US markets haven’t reacted as much as global markets. It may be because of the faith they have on their lawmakers or because they know that investors have no other debt investment opportunities other than US. If EU had been strong then US would have faced bigger problem as investors prefer to invest in EU bonds rather than taking risk with US bonds. Now investors have limited options. Emerging countries can never absorb so much of debt.

If dollar depreciates then

- Imports become cheaper for U.S, so their deficit can come down. Which also means export orient countries like China will be the losers. India will also be negatively affected as most of our IT companies earn revenue from U.S only

- U.S economy can see some positive growth & may be unemployment can come due to higher economic activity

- Bond & Stock investments in U.S by foreigners will earn them lesser money while US investors earn higher money from their investments abroad.

In fact they can see many positives at this stage from dollar weakness. May be US lawmakers also wish dollar to depreciate before they raise their debt ceiling.

“In a heavily crowded place, if some one says BOMB, BOMB…then panic creates more havoc than actual bomb. I hope U.S will act before panic starts in financial markets. AAA credit rating is so sacred, once u dilute it then it becomes very difficult to get back the sanctity”. Watch out for this weekend – so can’t really wish someone “Happy Weekend”

Expect another rate hike from RBI but don’t expect anything from U.S

RBI is meeting once again tomorrow to review monetary policy – it means another 25bps repo rate hike (reverse repo will automatically adjusts upwards by 25bps) is expected. I think markets are prepared for this but the underline tone about RBI’s stand towards inflation is the key thing to watch out. Most investors are in the perception that this would be the last rate hike. Any negative surprise can drag markets down. We are not sure whether RBI will speak anything related to saving bank rate deregulation – which also could be negative for banks.

Meanwhile the U.S daily serial regarding raising the debt ceiling is still continuing. Even though investors are expecting there is imminent end card to this serial, but it is going on & on. We have few commercials in between in the form of Moody’s and S&P. They are promoting themselves at the time when every single data point is being evaluated in the market. Moody’s further downgraded Greece to next only to default. When people are  discussing about U.S downgrade, who cares about what they do with Greece.

So markets will be more cautious in the next few days. Anyway we are not far away from Aug 2 when U.S officially can’t pay its bills.

US politics v/s US economics

Few months back, i never heard of Govt default. At least till few weeks back, i never thought of people discussing about US default. Now these are the hot topics. Can anyone tell me what could be the consequences if US defaults?

Nobody knows because it never happened & nobody ever bothered to analyze also. If bankruptcy by one investment bank Lehman Brother could create such havoc in financial markets across the world then What will be the aftermath of US default?

Even the President Obama, Republics & Democrats…… every one understand the scenario. But it is the politics before 2012 presidential elections delaying the deal till Aug 2. US yields considered to be risk-free rate across the globe & dollar is the reserve currency. When S&P warned that it may cut US’ debt rating from AAA if debt ceiling isn’t raised – Nobody cared about it & even markets were muted to this. Next S&P mentioned that it may cut US’ AAA debt rating even though ceiling is raised unless they have substantial deficit reduction plan – Markets were little cautious about this. Because investors are concerned that Congress may not come to agreement on budget cuts. If US loses its credit rating then interest rates spike up, lending comes down so as spending, higher cost of funds force US to borrow even more at higher rates, lower spending and lending drags GDP growth down………these issues are tip of an iceberg only.

If US stops borrowing they can’t run their economy. If they borrow more, it is the risk they are paying for the growth. As long as US maintains its GDP growth rate, they may not be having any debt issues. Take the case of Italy – Their debt-to-GDP ratio is similar to that of US’ only but they are struggling due to stagnating growth. This could be the worst case scenario for US.

We can be certain about US raising its debt ceiling before Aug 2 but there is possibility of S&P downgrading US. As of now US companies are reporting strong earnings – at least the tech companies. If this dust settles down then investors can really concentrate on earnings & other macro factors.

What’s happening in markets esp Infosys?

As expected this week has been another volatile week. Earnings season started in India & also in US. We have seen another disappointing earnings from Infosys which took the stock for a beating. Investors were not sure whether the poor performance is stock specific or entire IT sector related. However they got some assurance when TCS posted better than expected earnings. Generally Infosys was considered to be a benchmark for IT companies but not anymore, i guess. Everyone is looking at TCS nos. The market cap gap between these 2 companies widened further to INR 70,ooo cr. Infosys is slowly slipping from top company. Now NTPC has overtaken Infosys in terms of market cap as 5th largest company and ITC is very close. To make things worse, low cost service providers like Cognizant are growing so fast putting pressure on these companies’ margins. If things don’t improve in US & Europe then these IT firms may face tough challenges.

IT companies earn most of their revenue  from western countries. If US & EU economy slows down then they may go for IT budget cuts. The competition is getting so tougher, these top IT companies may be forced to reduce their costs to compete with CTS / HCL….etc, which clearly lowers their margins otherwise they may lose their clients. The worst case scenario is “What could happen if EU countries decide to outsource IT work to other high debt EU countries like Greece or Portugal in order to strengthen EU?. Check out this news related to Mphasis -

http://articles.economictimes.indiatimes.com/2011-07-12/news/29765518_1_santander-s-uk-centre-operations-uk-staff

It indicates that this type of situation is also highly probable. The reason they mentioned was poor customer feedback. But my question is Why Now?

US also facing problems with its debt. Recently S&P and Moody’s put US on negative watch to downgrade if US debt ceiling is not raised. It’s a simple guess that US will raise its debt ceiling  otherwise financial markets across the globe will crash. At the time when US leaders are discussing about reducing deficit & budget cuts etc, we can’t be so certain about the outsourcing industry. But things are not that bad as it seems. US banks started reporting their quarter nos. JP Morgan & Citi Bank posted strong nos. It is still the beginning, let’s see how things roll out for our IT companies…..