Long-Term Bets
By Yiannis G. Mostrous
MCLEAN, Va.–Tactically, portfolios should be positioned for volatility as markets seem reluctant or unable to stage a sustainable recovery, at least until the end of the summer. And although the recent selloff has made valuations look more reasonable globally, the point to remember is that risks are external and are still present.
As financial market participants, including central banks, continue to blame each other for their difficulties (lack of responsibility, coordination and other assorted problems no one acknowledged until recently), serious investors should start surveying the global universe of opportunity in an effort to identify good long-term growth stories.
Regular SRI readers know that the best place to look is first to emerging markets (GEMs), then to Europe. I write this knowing that the trendy advice is to stay away from GEMs and buy US-based companies.
The reasons for buying US are well-known and have to do with the idea that it’s a safe-haven market. The corollary to this is that GEMs have had their run and, now that global liquidity is being taken away by central banks, their performance will be dismal. (SRI will have more on this issue next week.) There’s a lot of truth in this argument, as there are many other reasons why investors should stay away from GEMs.
The view here, though, remains that these economies now have an opportunity to mature and transition to global importance. GEMs will be the source of real future growth. Those in Asia, including Russia, remain SRI favorites and the locations interested investors should scout for future winners. (As an aside, the market-timers among you should be aware that the summer months traditionally represent a weak period for Asian markets.)
That said, India remains by far the most important growth story in global GEMs; it’s home to the most diverse group of quality companies across a range of sectors.
Although India’s never exhibited the strong growth characteristics as the rest of Asia and can’t match China’s reported growth rates, it’s also avoided the boom-and-bust cycles so prevalent in the region’s developing economies. For an investor interested in achieving serious long-term returns, this fact is of paramount importance. And because India still represents only 2 percent of global GDP and 1 percent of world trade, it’s been less important to investors, even after accounting for the strong interest shown by investors since 2004.
Nevertheless, foreign direct investment (FDI) continues to steadily increase. And as India tackles the problems that slow its growth, FDI will only grow (see the chart below of India’s monthly FDI in US dollars).
Source: Bloomberg LP
Two of the main problems India faces are rigid labor laws (specifically the inability of an employer to dismiss a worker without the permission from the state government) and poor infrastructure. The latter is probably the most important problem; as things stand, it would be impossible for India to achieve double-digit growth because infrastructure at almost every level of the economy remains weak. Indian industrial production has been growing (as the chart below depicts), but much more needs to be done.
Source: Bloomberg LP
The Indian government is aware of such problems, and efforts are being made to offer solutions. One of them is the creation of Special Economic Zones (SEZs).
Since the new SEZ law was approved in February, there’s been a huge rush from private sector companies to capitalize on it. The new legislation provides a uniform SEZ policy and covers all aspects of establishment, operation and fiscal oversight.
SEZs have long been seen as a means for India to establish inroads into small- and medium-scale manufacturing. The SEZ legislation helps the government in two ways: It quickly helps create high-quality infrastructure in small areas, thus helping manufacturing exports, and it allows experimentation with the liberalization of labor laws. SEZs also attract foreign capital and technology. Projects that have recently received approval expect to command USD22 billion in investment capital.
But above all the Indian story remains a domestic one, in the sense that domestic investment and consumption drive monetary expansion, leaving the country less vulnerable to violent moves in the global economy.
Source: Bloomberg LP
Since SRI’s mid-February launch, many questions have been raised regarding my reluctance to have significant Indian exposure in the Portfolio. In answering these questions, I’ve always noted that India was due for a pullback and specifically noted the increased likelihood of one in the context of a synchronized global equity correction. This has happened. And although markets can go lower, the time has come to look into some opportunities.
The story in India remains intact, I recently wrote, “and I’ll be adding some exposure to it in due course. The market is a good buy between 8,000 to 8,800. Although this indicates more downside, a recommendation can be made before that in the context of a balanced portfolio.” (See SRI, 7 June 2006, No Growth Wanted). In light of this assessment, don’t commit more than 50 percent of your investment capital now.
Financial services is one of the fastest growing sectors in India. Aside from banking, mortgage and other related functions, life insurance is particularly promising as Indians have welcomed this new private service with true excitement.
The Indian market was first opened to foreign insurance investment in 2000, and since then, about 25 players have entered. Entry to the domestic market is accomplished via joint ventures (JVs) with domestic providers. The two largest foreign/JV players are Prudential ICICI Life Insurance and Allianz Bajaj Life Insurance.
ICICI Bank (NYSE: IBN) has been capitalizing on the increase in domestic consumption and credit growth. Once not very well run but now a franchise in turnaround, ICICI is a good way to get exposure to India’s banking sector as well as the life insurance boom.
Prudential ICICI is the second-largest player and the largest private player in India’s life insurance industry, which is still dominated by the state-run Life Insurance Corporation of India (LIC). Prudential ICICI has grown its new business annualized premium equivalent (APE) at 104 percent in the last three years and has improved its market share from 2 percent to 10 percent in the same period. Low penetration of life insurance in India (3 percent of GDP) and market share acquisition from LIC have been the key growth drivers. ICICI Bank is now a member of the SRI Portfolio.
Investors can also buy Allianz (NYSE: AZ) as a play in Germany (a long-term favorite) and India. I do like the company, but I’m not adding it to the Portfolio and won’t follow it as closely as I will ICICI.
When I first recommended PCCW (NYSE: PCW) in March, I wrote (see SRI, 1 March 2006, The Butterfly Effect):
Yesterday, PCCW shares stopped trading in Hong Kong as reports in the Financial Times and the South China Morning Post indicated that a private equity group led by Australia-based Macquarie Bank had submitted a bid to acquire PCCW’s telecommunications business (fixed and mobile) for HK40 billion (USD5.1 billion).
Things have become a little more complicated, as the Newbridge Group (a unit of Texas Pacific that helped Lenovo buy IBM’s personal computer unit a year ago by investing USD350 million) has also been rumored to be in the game.
Newbridge was initially negotiating to buy approximately 25 percent of PCRD, the Singapore-listed vehicle through which Richard Li, PCCW’s chairman, owns approximately 23 percent of PCCW stock. He’s the biggest stockholder, and it’s rumored that he actually owns closer to 30 percent through other vehicles.
Finally, China-based Netcom Group might also decide to jump in.
If the transaction were to go ahead, PCCW would be left as essentially a property company, though it would be able to pay down debt and increase dividends.
Stay tuned.
Source: Bloomberg LP
MCLEAN, Va.–Tactically, portfolios should be positioned for volatility as markets seem reluctant or unable to stage a sustainable recovery, at least until the end of the summer. And although the recent selloff has made valuations look more reasonable globally, the point to remember is that risks are external and are still present.
As financial market participants, including central banks, continue to blame each other for their difficulties (lack of responsibility, coordination and other assorted problems no one acknowledged until recently), serious investors should start surveying the global universe of opportunity in an effort to identify good long-term growth stories.
Regular SRI readers know that the best place to look is first to emerging markets (GEMs), then to Europe. I write this knowing that the trendy advice is to stay away from GEMs and buy US-based companies.
The reasons for buying US are well-known and have to do with the idea that it’s a safe-haven market. The corollary to this is that GEMs have had their run and, now that global liquidity is being taken away by central banks, their performance will be dismal. (SRI will have more on this issue next week.) There’s a lot of truth in this argument, as there are many other reasons why investors should stay away from GEMs.
The view here, though, remains that these economies now have an opportunity to mature and transition to global importance. GEMs will be the source of real future growth. Those in Asia, including Russia, remain SRI favorites and the locations interested investors should scout for future winners. (As an aside, the market-timers among you should be aware that the summer months traditionally represent a weak period for Asian markets.)
That said, India remains by far the most important growth story in global GEMs; it’s home to the most diverse group of quality companies across a range of sectors.
Although India’s never exhibited the strong growth characteristics as the rest of Asia and can’t match China’s reported growth rates, it’s also avoided the boom-and-bust cycles so prevalent in the region’s developing economies. For an investor interested in achieving serious long-term returns, this fact is of paramount importance. And because India still represents only 2 percent of global GDP and 1 percent of world trade, it’s been less important to investors, even after accounting for the strong interest shown by investors since 2004.
Nevertheless, foreign direct investment (FDI) continues to steadily increase. And as India tackles the problems that slow its growth, FDI will only grow (see the chart below of India’s monthly FDI in US dollars).
Source: Bloomberg LP
Two of the main problems India faces are rigid labor laws (specifically the inability of an employer to dismiss a worker without the permission from the state government) and poor infrastructure. The latter is probably the most important problem; as things stand, it would be impossible for India to achieve double-digit growth because infrastructure at almost every level of the economy remains weak. Indian industrial production has been growing (as the chart below depicts), but much more needs to be done.
Source: Bloomberg LP
The Indian government is aware of such problems, and efforts are being made to offer solutions. One of them is the creation of Special Economic Zones (SEZs).
Since the new SEZ law was approved in February, there’s been a huge rush from private sector companies to capitalize on it. The new legislation provides a uniform SEZ policy and covers all aspects of establishment, operation and fiscal oversight.
SEZs have long been seen as a means for India to establish inroads into small- and medium-scale manufacturing. The SEZ legislation helps the government in two ways: It quickly helps create high-quality infrastructure in small areas, thus helping manufacturing exports, and it allows experimentation with the liberalization of labor laws. SEZs also attract foreign capital and technology. Projects that have recently received approval expect to command USD22 billion in investment capital.
But above all the Indian story remains a domestic one, in the sense that domestic investment and consumption drive monetary expansion, leaving the country less vulnerable to violent moves in the global economy.
Source: Bloomberg LP
Since SRI’s mid-February launch, many questions have been raised regarding my reluctance to have significant Indian exposure in the Portfolio. In answering these questions, I’ve always noted that India was due for a pullback and specifically noted the increased likelihood of one in the context of a synchronized global equity correction. This has happened. And although markets can go lower, the time has come to look into some opportunities.
The story in India remains intact, I recently wrote, “and I’ll be adding some exposure to it in due course. The market is a good buy between 8,000 to 8,800. Although this indicates more downside, a recommendation can be made before that in the context of a balanced portfolio.” (See SRI, 7 June 2006, No Growth Wanted). In light of this assessment, don’t commit more than 50 percent of your investment capital now.
Financial services is one of the fastest growing sectors in India. Aside from banking, mortgage and other related functions, life insurance is particularly promising as Indians have welcomed this new private service with true excitement.
The Indian market was first opened to foreign insurance investment in 2000, and since then, about 25 players have entered. Entry to the domestic market is accomplished via joint ventures (JVs) with domestic providers. The two largest foreign/JV players are Prudential ICICI Life Insurance and Allianz Bajaj Life Insurance.
ICICI Bank (NYSE: IBN) has been capitalizing on the increase in domestic consumption and credit growth. Once not very well run but now a franchise in turnaround, ICICI is a good way to get exposure to India’s banking sector as well as the life insurance boom.
Prudential ICICI is the second-largest player and the largest private player in India’s life insurance industry, which is still dominated by the state-run Life Insurance Corporation of India (LIC). Prudential ICICI has grown its new business annualized premium equivalent (APE) at 104 percent in the last three years and has improved its market share from 2 percent to 10 percent in the same period. Low penetration of life insurance in India (3 percent of GDP) and market share acquisition from LIC have been the key growth drivers. ICICI Bank is now a member of the SRI Portfolio.
Investors can also buy Allianz (NYSE: AZ) as a play in Germany (a long-term favorite) and India. I do like the company, but I’m not adding it to the Portfolio and won’t follow it as closely as I will ICICI.
When I first recommended PCCW (NYSE: PCW) in March, I wrote (see SRI, 1 March 2006, The Butterfly Effect):
It’s an interesting restructuring story and is making plans to enter the China market. The company could also become an acquisition target, as China Netcom, which owns a 20 percent stake in PCCW and is triple PCCW’s market cap, might decide PCCW’s technological expertise is needed. Such a deal would provide PCCW faster entrance to China’s Mainland market.
Yesterday, PCCW shares stopped trading in Hong Kong as reports in the Financial Times and the South China Morning Post indicated that a private equity group led by Australia-based Macquarie Bank had submitted a bid to acquire PCCW’s telecommunications business (fixed and mobile) for HK40 billion (USD5.1 billion).
Things have become a little more complicated, as the Newbridge Group (a unit of Texas Pacific that helped Lenovo buy IBM’s personal computer unit a year ago by investing USD350 million) has also been rumored to be in the game.
Newbridge was initially negotiating to buy approximately 25 percent of PCRD, the Singapore-listed vehicle through which Richard Li, PCCW’s chairman, owns approximately 23 percent of PCCW stock. He’s the biggest stockholder, and it’s rumored that he actually owns closer to 30 percent through other vehicles.
Finally, China-based Netcom Group might also decide to jump in.
If the transaction were to go ahead, PCCW would be left as essentially a property company, though it would be able to pay down debt and increase dividends.
Stay tuned.
Source: Bloomberg LP