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Monday, September 10, 2007
Psychology of a loss
Humans are loss averse. And the individual, corporate and society, which understand it thrive despite odds.
“How did this stuff ever get published?" was what traditional economists asked when behavioural economists observed that human beings were loss averse. This aversion is at the heart of human psychology and asset pricing. And if professors are fighting over academic leadership over the subject you can understand why the only “loss” Google search can handle today is that of “weight”.
More here
US Market sells off
Investors waiting with bated breath for Federal Reserve’s rate cut meeting on 18 September
A weak job report on the last day of the week pulled down the US market considerably lower for the holiday-shortened week ended on Friday, 7 September, 2007. The indices had alternate bouts of journey during the four trading days of the week, rising on Tuesday, 4 September and Thursday, 6 September and skidding on the other two days.
The Labor Department's report on Friday showed that payrolls fell by 4,000 in August, the first decline since August 2003. It was well below analysts' expectations of a gain of 110,000. Unemployment rate held steady at 4.6% as expected.
The downward revision to both the June and July numbers totaling 81K further led to the negative sentiment among investors. July job growth was revised down to 68,000 from a previously reported gain of 92,000. June job growth was also revised down, to 69,000 from 126,000.
With the weak report, the major averages plummeted on Friday, 7 September, 2007 with the Dow Jones industrials falling nearly 250 points. The broader S&P 500 index fell 25 points and the Nasdaq composite index declined 49 points.
Twenty-nine out of thirty Dow stocks ended in red on Friday. Johnson & Johnson was the only stock to close marginally higher on that day.
The Dow Jones Industrial Average lost 245 points for the week. Tech - heavy Nasdaq lost 31 points and S&P 500 shed 20.45 points.
The month of September had kicked off on a strong note after Energy and Technology sectors helped the US market pushed stocks higher on Tuesday, 4 September, 2007. Stocks rallied inspite of the Institute for Supply Management reporting that its manufacturing index registered 52.9% in August, just shy of the consensus and down from 53.8% in July.
On Wednesday, 5 September, stocks fell once Federal Reserve’s Beige Book was released. The Beige Book suggested that the weakness in the economy is limited to two areas: residential real estate and motor vehicle sales. Renewed worries about credit markets and weak data on housing sector also took a toll on the stocks.
But on Thursday, 6 September, stocks got a good boost after Wal-Mart reported better than expected August same-store sales growth of 3.1%. Target too said same-store sales rose 6.1% during the month. The figures were of major importance as Costco had reported disappointing same store sales results for August just a day earlier reflecting increasing pressure on U.S. consumers.
Among other major stories during the week, Apple shares fell by almost 5% during the week. The company came under major firing from customers after the company dropped the prices of its new iPhone by $200 within two months of its launch.
On Friday, Apple CEO Steve Jobs asked for apology to original iPhone customers. He also added that Apple will give each of the early iPhone customers a $100 credit at the Apple store.
Executive Summary
For the week, the indices closed down. DJIx was down by 1.9% and S&P 500 was down by 1.4%. Nasdaq was down by 1.2%. Market started off the week on a strong note but ended finally on a much weaker note.
The weak job report on Friday mainly pulled stocks down for the week. For the year, Dow is up by 5.2%, Nasdaq is up by 6.2% and S&P 500 is up by 2.5%.
It seems that investors are now in a dilemma about how to react to latest market news. On, one side, weak job report paints a weak picture for the economy. On the other, it might act as the main fuel to instigate Federal Reserve for a 25-50 bps rate cut in its forthcoming 18 September meeting. That will surely cheer investors.
Cairn India
Morgan Stanley research is bullish on Cairn India and has maintained overweight rating on stock with target price of Rs 191.
Morgan Stanley research report on Cairn India
Conclusion:
We are increasing long-term earnings by 20% and upgrading Cairn India to Overweight and raising our price target to Rs191. Our global team has raised normalized long-term crude oil (WTI) price forecasts to USD65/billion from USD55/billion. Cairn is India’s most levered company to crude oil prices. At a 2008E EV/boe of 14.1x, Cairn trades in line with its global peers, though its major production is two years away.
However, on C2010 earnings it trades at 6x P/E compared to an average of 12-13x for its global peers, yielding attractive valuations. Cairn has underperformed the market by 20% since its listing, making entry look attractive at current levels. Mid-Cycle oil prices revised to USD65/billion – Our global team has raised normalized long-term crude oil (WTI) price forecasts to USD65/billion from USD55/billion, prompting us to also raise our 2007/08 assumptions from USD60/billion to USD65/billion.
We also factor in a weaker dollar and higher costs. We are also incorporating a weaker dollar and higher costs into our new estimates to reflect further tightening in the service industry. Every USD per billion change in crude oil prices changes Cairn’s earnings estimates by 3%.
Key risks:
As the Rajasthan crude is viscous in nature, handling is more difficult than for other crudes. Also, as it operates in an inland basin, the company has to create logistics handling systems to get the oil to its consumers. Finally, the amount of cess Cairn has to pay is unclear.
Investment Thesis
Cairn has an excellent track record, with three of the country’s seven landmark discoveries since 2000. It has made 30 hydro-carbon discoveries in India.
Overall, the company has working interests of 498 million boe of proved and probable oil reserves, and has the potential for 740 mmboe via enhanced oil recovery and resource optimization.
Valuation
Our valuation methodology primarily assesses cash flow of individual fields owned by Cairn India based on its 2P reserves. For our base case, we used a 10.9% cost of capital in the initial seven years of the field.
Key Catalysts
Leverage on crude oil prices. If crude were to remain at USD70/billion in the long term, our price target would move to Rs210/share. Resolution of pipeline logistics.
Key Risks
Execution: Cairn faces the challenge of executing its projects in a timely manner. Crude volatility: Global crude prices are cyclical and volatile, so Cairn’s earnings, too, may correlate with sector cyclicality. • Crude oil sales agreement and pipeline logistics still not set.
Weekly Technical Analysis
Resistance Around 4534
Nifty — The index traded positive on the opening session of the week. It consolidated toward the opening sessions of the week and saw a rise toward 4548 toward the later part of the week. It ended the week up 45 points.
Momentum Oscillators — On the daily chart, MACD is in buy mode and has moved into positive territory. RSI (14) – Relative Strength Index is exhibiting a reading of 60.62 (reading above 70 signifies overbought). Stochastic (5,3) is in the overbought zone and in sell mode. Momentum oscillators suggest the index can consolidate at current levels.
Moving Averages — The 50 dma = 4397, 20 dma = 4321, 10 dma = 4432. Index has closed above the averages; intra-week declines should find support around the 50 dma levels around 4397. The key support for the week’s trading will be around the 50 dma; only a close below 4397 could see the index decline toward 4300 levels.
Resistance — The index faces resistance around 4534 (high of 31 July 2007). A close above the 4534 level with rise in volumes can see the index test the recent high around 4648. Until the index maintains below 4534 on a closing basis, consolidation can be expected.
Support — The index has support around the 10 dma and 50 dma in the 4432- 4397 band. Decline during the week's trading should find support around these levels.
Conclusion — Expect consolidation with support around 4397; close above 4534 will see the index exhibit strength during the week’s trading
Stocks you can pick up this week
Sterlite Industries
Research: Merrill Lynch
Rating: Buy
CMP: Rs 612
Merrill Lynch has reiterated its ‘buy’ rating on Sterlite Industries. The company’s sustainable low-cost advantage implies that at Merrill Lynch’s long-term price forecasts, it will offer a high EBITDA margin of 57% in zinc and 29% in aluminium. Since Merrill Lynch has raised its estimates of metal prices as part of its global commodity price review, it has upgraded the company’s FY08E earnings per share (EPS) by 3% and FY09E EPS by 11%. In the near term, it offers a healthy compounded annual growth rate (CAGR) in volumes — 14% in zinc, 10% in aluminium and 11% in copper smelting. In addition, the management has a credible track record of project delivery and proven skills in identifying new growth businesses. It plans to increase its stake in its zinc subsidiary from 65% to 94% by the end of the year. Despite the company’s continuing hurdles in hiking stake in its other aluminium subsidiary, the probability of success is much higher in the case of zinc. This is due to precedence of a stake hike in ’03 and also because valuation may be more in sync with current market prices.
Bank of India
Research: IDBI Capital
Rating: Buy
CMP: Rs 249
Bank of India’s (BoI) Q1 FY08 results were impressive, with a 51% YoY jump in net profit. The loan loss provisions were lower, but were 18% higher YoY. Strong growth in net interest income (NII) and other income, and lower operating expenses boosted the bank’s operating income by 45% YoY.
The bank is likely to maintain its performance with strong business growth, robust margins and good growth in fee income. Operating expenses in FY08 may show a modest growth as a major part of core banking solutions (CBS) expenses were booked by BoI in FY07. The bank maintains a large workforce; it has a substantial branch network and overseas operations and has more than 1,100 branches out of a total 2,845 (including extension counters) under CBS.
The bank has good asset quality with gross non-performing assets (GNPAs) at 2.3%, while net NPAs are at 0.69%. BoI has tried to maintain most of its retail portfolio collateralised. This gives comfort on the asset quality front, going forward. Given the bank’s profit growth, its average book value (ABV) is likely to increase to Rs 130-135 in FY08. Hence, BoI’s fair value lies in the Rs 270-280 range.
GMR Infrastructure
Research: HSBC Global
Rating: Underweight
CMP: Rs 780
HSBC Global has initiated coverage on GMR Infrastructure with ‘underweight’ rating. The company has a risk-mitigation strategy with a good mix of assets under operation and under-development across different sectors and a diverse list of clients.
The airport business has also benefited from real estate appreciation as GMR has 1,250 acres of land on a 60-year government lease, ready to be developed commercially as the Delhi and Hyderabad airport projects. HSBC Global estimates that this real estate contributes 41% to the company’s overall valuation. GMR has expanded outside India and has 40% equity stake in a consortium that has won a contract to operate Sabiha Gokcen International Airport (SGA) in Istanbul.
The company is trying to turn around its power portfolio, changing its strategy to focus on assured fuel supply. In the roads sector, GMR has unlocked value through financial engineering and securitising receivables. The company’s business fundamentals remain strong, but its valuation has run ahead of its one-year earnings prospects. HSBC Global has valued all of GMR’s projects as most of them are for fixed duration. Based on this, the company is valued at Rs 19,710 crore, or a per-share value of Rs 595 — 20.5% below its current share price.
Cipla
Research: Goldman Sachs
Rating: Sell
CMP: Rs 181
Goldman Sachs has revised Cipla’s rating with a ‘sell’ recommendation based on the company’s guidance of lower profit for FY08. Even after Cipla’s recent underperformance (down 23% in the past three months), it is one of the most expensive stocks. It trades at a 31% premium to its peers on FY08E EV/EBITDA and has a P/E growth of 1.9x versus a sector average of 1.3x.
The stock has an implied growth rate of 18% versus the forecast of 13% sales growth over FY07-FY10E. Cipla’s premium rating reflects a de-risked business model (the management has been adverse to high-risk patent challenges) and a track record of delivering consistent growth in sales and earnings. The ‘sell’ recommendation for Cipla is based on the view that its track record is under pressure from higher overheads and a deteriorating business mix. Goldman Sachs believes Cipla will underperform its peers as the market narrows its premium in the face of slower growth and lacklustre margins.
Punj Llyod
Research: Citibank
Rating: Buy
CMP: Rs 305
Citigroup has revised Punj Llyod’s rating with a ‘buy’ recommendation. It has revised earnings by 14-16% over FY08E-10E on the back of: (1) 73% YoY sales and 101% YoY PAT growth in Q1 FY08; (2) 22% higher sales growth on faster execution of orders and 50 bps higher margins in Punj; (3) Dilution because of the recent equity placement and promoter warrants. L&T’s order backlog is 2.7x that of Punj Lloyd + Sembawang Engineers & Constructors, but its market capitalisation (m-cap) is 7.5x and is 32% more expensive than Punj Lloyd.
Citigroup expects this valuation and m-cap gap to narrow as it forecasts that Punj Lloyd will start delivering earnings growth at a pace superior to that of L&T over the next three years. Punj Lloyd is perhaps the only mid-cap engineering & construction company that can leapfrog into the next level, which is occupied by L&T with its diversified skill sets. The first sign that Punj Lloyd can actually deliver on its potential came when the company reported Q4 FY07 PAT of Rs 88.9 crore. In FY07, Punj Lloyd acquired Sembawang Engineers & Constructors, which scaled up its expertise to upstream oil & gas, airports, jetties and tunnelling.
Transport Corp of India
Research: SSKI
Rating: Outperformer
CMP: Rs 115
SSKI has initiated coverage on Transport Corporation of India (TCI) with an ‘outperformer’ rating. TCI, one of the largest cargo transportation (trucking) companies in India, occupies a 15% market share in the organised sector. It has built strong infrastructure in terms of a wide network (over 1,000 destinations), warehousing space (6.5 million sq ft) and tracking technology. This has enabled the company to grow at a strong pace in the transportation division and enter the fast-growing express distribution business.
TCI has also diversified into coast-to-coast shipping, rail and over dimensional cargo (ODC) to capture growth in these segments. In order to emerge as one of the largest supply chain solutions (SCS) providers, TCI is investing heavily into warehouses and trucks, which will enable its SCS revenues to witness 55% CAGR over FY07-09E.
TCI is trading at 12.8x earnings and 7.4x EV/EBITDA for FY09E (adjusted for Rs 15/share real estate value). The valuations are attractive, considering robust 28% earnings CAGR over FY07-09, TCI’s strong position in the express distribution (XPS) business, its ability to ramp up its SCS business at a fast pace and the fact that it trades at a 10-15% discount to its peers.
Sunday, September 09, 2007
Market to witness volatility
Investors on Dalal Street may see volatility in the week ahead and will wait for cues from the US markets, which might get a booster doze in the form of interest rate cut from the Federal Reserve, analysts said.
The benchmark BSE Sensex lost 168 points in the past week at 15,590.42 points on Friday. Meanwhile, US benchmark index Dow Jones Industrial Average (DJIA) fell nearly 250 points to end at 13,113.38 points, while Nasdaq-100 also closed down 49 points at 2,565.70 points.
The US markets had declined after the jobs data came in far worse than expected, threating to throw the economy into a recession. American employers dismissed 4,000 workers last month, marking a sharp change of direction from the 68,000 jobs that had been created in July.
In a research note, global financial services major Citigroup expects US Federal Reserve to lower interest rates by 75 basis points before the end of the year, with the first cut coming on or even before the scheduled meeting of Federal Open Market Committee on September 18.
"Our global strategists have concluded that Fed cuts should be supportive for equities performance, with non-US markets outperforming... Instances of Fed rate cuts have been meaningfully positive for Indian equities as well, especially on 12-24 month time horizons," Citigroup analyst Ratnesh Kumar said in the India Equity Strategy report.
Even in an extremely pessimistic scenario of a recession in the US, massive rupee appreciation and sharp slowdown in domestic growth, Citigroup does not see an earning collapse in India, "due to strong and broad-based growth momentum in the Indian economy".
Besides, Foreign Institutional Investors again embarked on a buying spree in the equities market in September after a month of net sale in August. In the first week of September, FIIs purchased equities worth Rs 2,869 crore and Rs 752 crore in the debt markets.
"The trend taken by the FIIs in the coming week could be crucial for the direction market takes," an analyst said.
Domestic mutual funds were also net buyers worth Rs 353.80 crore in equity market during four trading sessions from September 3 to September 6.
The markets would also be watching the outcome of the negotiations between the UPA government and its Left allies on the Indo-US nuclear deal.
Index Outlook
Sensex (15590.4)
The Sensex edged higher last week. But the conviction witnessed in the previous week was missing from our markets. The consensus is veering towards the need for a pause before we move higher. Most pivotals meandered sideways in a clueless fashion making the attention shift to small-cap and mid-cap stocks.
The laboured moves made by the Sensex last week has resulted in the deterioration of the short-term momentum. Weekly momentum indicators are, however, still signalling a buy. Another positive factor is that the Sensex is holding above the 50-day moving average line positioned at 15058.
As per e-wave counts, the movement of the Sensex last week is a running correction with another brief spurt upward to 15868 or 15950 in the offing. But the target for the move from 13780 trough, fall at either 15721, 15950 or 16215. Since the first target has already been achieved, investors should brace themselves to face another dip soon. As explained last week, the confluence of intermediate and medium term targets around the 16000 level should make investors wary as the index nears this mark. A reversal from this level can make the Sensex move back to test its August lows.
The Sensex is expected to move lower to 15296 and then 15035 in the week ahead. Fresh purchases should be avoided if the Sensex closes below 15000 as that would usher in a fall to 14500. Resistances for the week ahead would be at 15868 and then 15950.
The short-term outlook for the Sensex stays positive as long as it remains above 15000. But the presence of strong resistance zone just 400 points away, calls for a cautious approach at this juncture. Chart patterns in other global indices indicate that the third leg of the correction from the July highs could have commenced last week.
Nifty (4509.5)
Nifty reversed from our near-term target at 4553 last week. But the selling pressure encountered near intra-day highs is a negative sign. The Nifty can begin the week on a choppy note with a dip to 4429 or 4350.
There is a strong support band between 4350 and 4397 where short-term traders can look out for buying opportunity. However, fresh longs should be avoided below 4350 as the index would then crumble to 4215.
The resistance levels for the week would be 4564 and then 4635. As explained last week, the zone between 4650 and 4750 is an important level from the long-term perspective. Those holding long positions can book some profits in this band.
Global Cues
Friday’s set-back confirms that the recovery in global indices is nothing but a pull back in a bear phase. DJIA reversed from 13515. The next support for this index is at 12960. A fall below will drag the index below the recent trough at 12560. Asian markets were straining to hold higher levels. European markets have entered in to a medium term down trend once more. The CBOE VIX indicator that measures investor’s sentiment rose above 26 on Friday, indicating that investors are getting nervous again.
Nymex crude prices hit an intra week high at $77.4. Since the current rally is the fifth wave from the January low of $49.9, the short-term targets are $79.6 and $84.4.
Power Grid Corporation IPO
The grey market is offering a premium of Rs11-12 on the Power Grid Corp. of India Ltd’s IPO opening on Monday, in the price band of Rs 44–52.
That’s a decent premium on the price and reflects the quality of the issue. Power Grid Corp. has a monopoly of the power transmission business and transmits almost half the power generated in the country. It has an excellent track record and also owns a telecom backbone. So why isn’t the grey market premium higher? That’s probably because it is in a business where the returns are regulated.
According to current rules, the company is assured a 14% return on equity. But, that’s a feature that also makes it a low-risk investment, ideally suited to be a defensive stock in one’s portfolio, since the major risks are all pass-through items for the company.
In addition, in a rapidly developing country like India, power transmission could actually be a very rapidly growing business. That’s because the government seems to be serious about doing something about the power deficit in the 11th Plan (2007-12), as seen from the bulging order books of the power equipment manufacturers.
Under the Plan, the capacity of the national grid is being increased from 14,100MW to 37,150MW.
Power Grid plans to spend Rs55,000 crore in the 11th Plan towards investment in transmission projects. The rapid acceleration in capacity creation is important because when returns are assured, one obvious way to increase profits is to increase capital expenditure (capex). The company has commissioned transmission assets worth Rs2,490 crore in the first quarter of fiscal 2008 and four more projects are likely to be completed this fiscal, which would drive earnings in the short term. As the assured return on equity kicks in only after completion of a project, it’s important to have projects being completed at regular intervals.
The icing on the cake will be provided by the company’s telecom backbone, which has started to make profits from the first quarter of fiscal 2008. The company has been providing bandwidth to all the telecommunications operators on its 19,000-km network, which connects more than 60 cities.
The issue is priced at 16.9 times diluted earnings per share for fiscal 2007 at the lower end of its price band and at 20 times earnings per share (EPS) at the higher end. The upper end of the band is the valuation that NTPC gets. But, while the issue isn’t cheap, institutional investors are likely to lap it up as yet another way to get exposure to India’s infrastructure story. For retail investors, the grey market premium says it all.
Weekly Technical Analysis
The markets notched up steady gains last week. The benchmark BSE Sensex ended with a gain of 272 points at 15,590.
The index moved in a near 400-pts range during the week, from a low of 15,323 to a high of 15,716.
Though the bias seems positive, the markets may see some profit-taking at current levels as the index nears a new high.
The support levels of 14,650-14,935 mentioned last week will continue to remain crucial for the current upmove.
The index may face a resistance around 15,740-15,785-15,835, while on the downside, it is likely to find support around 15,440-15,395-15,345.
The NSE Nifty moved in a rather narrow range of 100-odd points, touching a low of 4445 and a high of 4548 before settling with a gain of 46 points at 4510.
The Nifty may find support around 4470-4455-4445 and resistance around 4550-4560-4575.
As long as the Nifty holds the support zone of 4260-4315, the bias will remain positive and the index may test new highs in the near term.
The mid-term (50-days) moving average for Nifty is currently at 4395 and the short-term (20 days) moving average is at 4321. The long-term (200-days) moving average is at 4106.
More money in emerging markets
All of the major equity and bond fund groups tracked by EPFR Global and geared primarily to developed markets posted net outflows in the week through September 5, as investors put their faith in cash and emerging markets.
They were especially comfortable with emerging Asian markets, committing $731 million to China, Greater China and Hong Kong Country Funds as part of $1.25 billion worth of flows into Asia ex-Japan Equity Funds.
Asia ex-Japan Funds have been this year’s best performers. According to EPFR Global, they have posted a collective year-to-date gain of 30.7% versus 6.3% for Global Equity Funds and a 5.4% loss for Japan Equity Funds. The $1.25 billion absorbed by Asia ex-Japan Funds was the sixth time in the past 10 weeks that they have posted net inflows in excess of $1 billion, and it brought the year-to-date total up to $4.74 billion.
Flows this week were helped by the greater freedom granted to Chinese investors, with foreign money flowing to markets such as Hong Kong that are expected to benefit. However, it is still well off last year’s pace, when these funds ended the year with net inflows of $16.7 billion.
Meanwhile, Global and US Bond Funds and US, Japan, Europe, Global and Pacific Equity Funds posted collective outflows of $8.11 billion with two thirds of that total coming from US Equity Funds.
“I think this is proof, if it was needed, that investors and fund managers are now judging emerging markets on their own merits rather than seeing them as a tail wagged by the US and Eurozone economies,” said EPFR Global Managing Director Brad Durham. “In addition to the fact these markets are now getting some of the safe-haven flows, we’re seeing a shift to quality within the asset class. And that quality, as far as investors are concerned, is in Asia.”
Optimism about emerging Asia’s prospects again translated into strong commodity prices and fresh inflows into Latin America Equity Funds. Year-to-date flows into these funds are now double last year’s total, although their performance gain of 26.4% lags the 46.5% these funds posted for all of 2006.
Among the fund groups geared to developed markets Japan Equity Funds suffered the biggest outflows when measured as a percentage of assets under management. The $445 million redeemed by investors brought year-to-date outflows up to $9.67 billion, compared to outflows of just $250 million last year and inflows of $13 billion in 2005.
Weak business investment figures and fears that a stronger yen will hobble the key export sector are but some reasons that investors refuse to buy into Japan’s slow but steady GDP growth.
Elsewhere, the diversified Global Emerging Markets (GEM) and EMEA Equity Funds both posted modest inflows for the week. The EMEA funds remain the worst performers, in both performance and flow terms, year-to-date among the fund groups geared to emerging markets.
This is largely due to the concentration of countries with large current account deficits - Hungary, South Africa, Turkey and Egypt - within this region and the fact that a string of investor-unfriendly actions has undercut sentiment towards Russia despite its huge oil and foreign exchange reserves.
The other diversified fund groups focusing mainly on developed markets, Global Equity Funds and Europe Equity Funds, also posted modest outflows as investors waited to see what the European Central Bank would do at its September 6 policy meeting. The Eurozone’s central bank left its key rating on hold, which could prompt investors to view some of the regions’ equities as oversold.
Investors in the US, meanwhile, continue to anticipate a rate cut before the end of the year — hence the paradox that, while investors continue to pull money out of US Equity Funds, the Growth oriented funds outperformed their Value counterparts across all capitalisations (large cap, mid cap, and small cap) for the seventh time in the past eight weeks.
That counterintuitive growth theme is also evident at the sector level, where Global Technology Sector Funds took in $213.9 million, the 10th time in the past 11 weeks they have absorbed fresh money. But fears about a credit squeeze battered Real Estate and Utilities Sector Funds again, with investors removing $310 million and $453 million respectively.
Energy Sector Funds were the week’s big winners as US inventories shrunk and rising tensions in the Middle East pushed oil prices close to their record highs. These funds absorbed a net $880 million.
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