Monday, March 15, 2010

China & India - No Economic Miracles, Just Purchasing Power DISParity

As I sit here newly arrived in India, I am amazed at how the public is convinced and fully bought into the hype.

Maybe over time I will stand corrected and begin to see the miracle that is India.
But I know what I see now.  I see a preconstruction cycle that I saw play out in the U.S. firsthand.  I see an unending supply of land. 

I see a populace that is hustling.  It's surprising the number of kids here that are desperate to retire in their 30s and 40s.  Maybe that is a sign of prosperity.  More likely, they are hating life and sick and tired of the misery that is called a U.S. multinational (MNC).  These corporations are chewing and spitting out these workers and garnering market share.  Over time Indians will learn the same painful lessons learnt in the U.S.  ... Walmart versus the Mom n Pops, Credit Card misery and teaser interest rate nightmares.

What I also see is that there is a purchasing power disparity.  Everything is cheaper in India, for the most part, except for imported items.  Those trade at global parity give or take a few bucks.  And that more than anything explains the economic miracle that  is India.  This will continue until the disparity disappears.

But already there are cheaper options emerging - the Phillipines, European Eastern Bloc countries like Romania etc.  India has to move up the value chain, is what the experts say.  What exactly does that mean?

More R&D, higher education, more creativity.  And here is where the miracle will run into roadblocks.  India lacks the infrastructure - physical and electronic - to make this a reality.  Yes there are certainly pockets of wizardry.  But the economic product is a sum total of the market.  Color me skeptical.  And possibly wrong.  I will gain more confidence in my views as I get more insight.

Real Estate in Gurgaon Is Peaking, Optimism Reigns, I Am Shorting S&P 1150

I am in the land of the optimists.  Indians are truly an optimist populace.

But tell me what I am missing.  A friend of mine rented a 4 bedroom luxury condo in Gurgaon, India.  For those of you that are unaware of Gurgaon, it is an IT and BPO hub, probably the largest in India outside of Bangalore.

Here's what the building looks like:

Now you can buy a unit in this building for Rs 1,54,00,000.  Or $342,000.
Or you can rent for Rs 45,000 per month.  Or $1,000 per month.
A back of the envelope calculation suggests the cost of ownership is roughly $2,300 per month at 10% down, not including taxes and maintenance, which I am guessing is another Rs 10,000 per month minimum, or $250.

Two things come to mind.  The market is overheated as is obvious to any real estate investor/owner living currently in the U.S.  Second, the actual cost of ownership is still pretty cheap to be able to rent a 4 bedroom luxury apartment with all amenities for under $1,000 a month.

Now the lack of  rental pricing pressure tells me that these greedy developers will keep developing until the marginal cost of development and sucking in preconstruction investors is exceeded by the risk.  There is no shortage of land around Gurgaon.  Nor for that matter in Bangalore, Pune, and other IT hubs.  And they will keep developin this until buyers are exhausted, unwilling and uninterested.  And the cycle will turn. 

While there is a purchasing power advantage in India, I think it is deflation in the U.S. that will eventually bring the U.S. to parity with India.  Either way, color me somewhat skeptical about India's emerging superpower status.  India has enjoyed tremendous advantages in terms of costs when offering BPO services to U.S. corporations. 

It has been a story driven by cost advantages.  Indian workers and Indian infrastructure is not more efficient than the U.S. 

India also has the benefit of a young work force with some 60% of the population under the age of 40.  But I am guessing there will be a lot of older guys willing and able to work in the U.S. for  a long time to come.  Sad but true.

As far as the market goes, the average retail investor is now growing ever more confident and complacency is rampant.  As we all know, it is precisely times like these that the market serves up a cruel reminder.

Friday, March 12, 2010

Greed or Fear for the Rest of the Year?

Now that I am somewhat settled in India, I hope to recommence my commentary on the Stock Markets.

With the preponderance of articles available on the Indian market and my distance from the U.S. markets - I am now living in Gurgaon, India - I intend to focus more on the global macro environment as well as Indian stock market.

Having somewhat successfully timed the previous top 1150 and exiting in the 1085 range on the S&P 500, the same setup presents itself.

My three weeks in India have been illuminating in terms of the optimism that is driving this market.  But I fear that most - actually almost all - investors are naive about the markets and may end up learning some harsh lessons.  Even the supposed pros posting their views in the Outlook India magazine this month seem inexperienced to deal with the challenges of the current market.  One that impressed me though - Sanjoy Chatterjee.  I learnt something while reading his missives.

Coming back to the markets, global markets have moved in synchronized fashion since the March lows and each has been flirting with technical retraces.  It is striking how optimistic Indians are about the economy and their future prospects and in striking contrast to my experience in the U.S. (Florida, NYC).

The Indian story reminds me of the U.S. circa 2007, soaring and ridiculous real estate valuations, a consumer addicted to purchasing and an expectation of continued hockey stick progression.  One difference though is that the Indian consumer is spending within his means and not overextended, yet.  All that could change though, were the real estate market to correct as a significant amount of  wealth is being attributed to the mind boggling rises in property values.

Investors - particularly institutional - continue to ignore the ramifications of a market that is driven by huge amounts of liquidity pumped in by central banks.

In anticipating what  lies ahead, it will certainly not look like the consensus.  The consensus is a global economic recovery and improving fundamentals.  Certainly that is what stock markets are forecasting.  The risks are significant - particularly of the sovereign variety - but the catalyst for a surprise is lurking in the shadows.

Markets are beginning to see positive economic news.  It is precisely in this type of economic environment that the policy execution risk becomes elevated and a misstep could lead to unexpected consequences.

Given the overvaluation in equities, the moribund U.S. consumer, severe amount of monetary stimulus in the global economy and the weakening sovereign balance sheets, the risks look to outweigh rewards at these levels and this stage of the rally.