INSUBCONTINENT EXCLUSIVE:
Loans for wedding or for your next iPhone or household consumption continue to be strong in India, but this consumption has come through
The fastest growing category on the asset side of the banking system has been personal loan
Other non-bank intermediaries are actually growing this lending faster than banks
What could go wrong It’s about time we dusted our lessons from Lehman crisis
After all, it is the 10th anniversary and as per Seth Clarman, the lessons we learnt are now forgotten
The last article is the correlation I have drawn between Kondratiev winter and ILFS default, which came out of the blue for most
investors.
Hope, this would be enough to tickle your grey cells over the weekend
I reiterate that this is only a sampling of some of the best content I read through the week, with a dash of my own thoughts.
Indian
consumption rising consumer leverageAccording to the Reserve Bank of India (RBI) data, total outstanding personal loan amount with banks
stood at Rs 5.89 lakh crore in May, 2010
This amount rose to Rs 19.33 lakh crore in June, 2018
Consumer durables loans' as of May, 2010 stood at Rs 8,138 crore, and rose to Rs 20,300 crore as of June, 2018
The outstanding amount on credit cards was Rs 19,579 crore as of May 2010, and grew to Rs 74,400 crore on June 2018
These are all unsecured loans, i.e., you do not have to give collateral to borrow
As of June 2018, the total number of credit cards outstanding was 3.93 crore against 1.76 crore in June 2011
Since 2010, a number of banks have changed their strategies and started focusing more on retail lending
"The size of their retail loan books has gone up due to this change in strategy
Categories like mortgage and auto loans are not much of a worry, because they are collateralised with fixed assets
The miscellaneous category is of interest, as it is large in size and needs some degree of monitoring
These are generally unsecured loans, which are usually taken for purposes like marriage and festivals
According to Crisil, a large number of customers taking personal loans, consumer durable loans are working class in the age group of 25 -
In terms of geographic split, metropolitan cities (population greater than 10 lakhs) accounted for 80 per cent of the credit card customer
However, the share of metro cities has been declining continuously from close to 99 per cent in FY12 to 80 per cent in FY17
This has been the biggest driver of India’s growth and the above data is only from the banking system.
NBFC, HFC, P2P and other fintech
company-related consumer lending is not captured in the data
The two components in the equation of C+I+G+ ( X-M)= GDP, which have worked wonders for India are government spending and consumption
Indian household’s leverage is low compared with emerging economies, but needless to say, it is rising very fast
My concern is that rising consumer leverage will be met with stagnant salaries/wage (except for govt employees) and we may start to see
stress on consumption and consumer balance sheets in the next couple of years
Read more The Forgotten Lessons of 2008Seth Klarman describes 20 lessons from the financial crisis, which he says, “were either never
learned or else were immediately forgotten by most market participants.” One might have expected that the near-death experience of most
investors in 2008 would generate valuable lessons for the future
We all know about the “depression mentality” of our parents and grandparents who lived through the Great Depression
Memories of tough times coloured their behaviour for more than a generation, leading to limited risk taking and a sustainable base for
Yet, one year after the 2008 collapse, investors have returned to shockingly speculative behaviour
One state investment board recently adopted a plan to leverage its portfolio – specifically its government and high-grade bond holdings
– in an amount that could grow to 20 per cent of its assets over the next three years
Those who were paying attention in 2008 would possibly think this is a good idea.
Below, we highlight the lessons that we believe could and
should have been learnt from the turmoil of 2008
Some of them are unique to the 2008 meltdown; others, which could have been drawn from general market observation over the past several
decades, were certainly reinforced last year
Shockingly, virtually all of these lessons were either never learned or else were immediately forgotten by most market participants.
20
investment lessons of 20081
Things that have never happened before are bound to occur with some regularity
You must always be prepared for the unexpected, including sudden, sharp downward swings in markets and the economy
Whatever adverse scenario you can contemplate, reality can be far worse.
2
When excesses such as lax lending standards become widespread and persist for some time, people are lulled into a false sense of security,
creating an even more dangerous situation
In some cases, excesses migrate beyond regional or national borders, raising the ante for investors and governments
These excesses will eventually end, triggering a crisis at least in proportion to the degree of the excesses
Correlations between asset classes may be surprisingly high when leverage rapidly unwinds.
3
Nowhere does it say that investors should strive to make every last dollar of potential profit; consideration of risk must never take a
Conservative positioning entering a crisis is crucial: it enables one to maintain long-term oriented, clear thinking, and to focus on new
opportunities while others are distracted or even forced to sell
Portfolio hedges must be in place before a crisis hits
One cannot reliably or affordably increase or replace hedges that are rolling off during a financial crisis.
4
Risk is not inherent in an investment; it is always relative to the price paid
Uncertainty is not the same as risk
Indeed, when great uncertainty – such as in the fall of 2008 – drives securities prices to especially low levels, they often become less
Do not trust financial market risk models
Reality is always too complex to be accurately modeled
Attention to risk must be a 24/7/365 obsession, with people – not computers – assessing and reassessing the risk environment in real
Despite the predilection of some analysts to model the financial markets using sophisticated mathematics, the markets are governed by
behavioral science, not physical science.
6
Do not accept principal risk while investing short-term cash: the greedy effort to earn a few extra basis points of yield inevitably leads
to the incurrence of greater risk, which increases the likelihood of losses and severe illiquidity at precisely the moment when cash is
needed to cover expenses, to meet commitments, or to make compelling long-term investments.
7
The latest trade of a security creates a dangerous illusion that its market price approximates its true value
This mirage is especially dangerous during periods of market exuberance
The concept of “private market value” as an anchor to the proper valuation of a business can also be greatly skewed during ebullient
times and should always be considered with a healthy degree of skepticism.
8
A broad and flexible investment approach is essential during a crisis
Opportunities can be vast, ephemeral, and dispersed through various sectors and markets
Rigid silos can be an enormous disadvantage at such times.
9
You must buy on the way down
There is far more volume on the way down than on the way back up, and far less competition among buyers
It is almost always better to be too early than too late, but you must be prepared for price markdowns on what you buy.
10
Financial innovation can be highly dangerous, though almost no one will tell you this
New financial products are typically created for sunny days and are almost never stress-tested for stormy weather
Securitization is an area that almost perfectly fits this description; markets for securitized assets such as subprime mortgages completely
collapsed in 2008 and have not fully recovered
Ironically, the government is eager to restore the securitization markets back to their pre-collapse stature.
11
Ratings agencies are highly conflicted, unimaginative dupes
They are blissfully unaware of adverse selection and moral hazard
Investors should never trust them.
12
Be sure that you are well compensated for illiquidity – especially illiquidity without control – because it can create particularly high
At equal returns, public investments are generally superior to private investments not only because they are more liquid but also because
amidst distress, public markets are more likely than private ones to offer attractive opportunities to average down.
14
Beware leverage in all its forms
Borrowers – individual, corporate, or government – should always match fund their liabilities against the duration of their assets
Borrowers must always remember that capital markets can be extremely fickle, and that it is never safe to assume a maturing loan can be
Even if you are unleveraged, the leverage employed by others can drive dramatic price and valuation swings; sudden unavailability of
leverage in the economy may trigger an economic downturn.
15
Many LBOs are man-made disasters
When the price paid is excessive, the equity portion of an LBO is really an out-of-the-money call option
Many fiduciaries placed large amounts of the capital under their stewardship into such options in 2006 and 2007.
16
Financial stocks are particularly risky
Banking, in particular, is a highly lever- aged, extremely competitive, and challenging business
A major European bank recently announced the goal of achieving a 20% return on equity (ROE) within several years
Unfortunately, ROE is highly dependent on absolute yields, yield spreads, maintaining adequate loan loss reserves, and the amount of
What is the bank’s management to do if it cannot readily get to 20% Leverage up Hold riskier assets Ignore the risk of loss In some ways,
for a major financial institution even to have a ROE goal is to court disaster.
17
Having clients with a long-term orientation is crucial
Nothing else is as important to the success of an investment firm.
18
When a government official says a problem has been “contained,” pay no attention.
19
The government – the ultimate short- term-oriented player – cannot with- stand much pain in the economy or the financial markets
Bailouts and rescues are likely to occur, though not with sufficient predictability for investors to comfortably take advantage
The government will take enormous risks in such interventions, especially if the expenses can be conveniently deferred to the future
Some of the price-tag is in the form of back- stops and guarantees, whose cost is almost impossible to determine.
20
Almost no one will accept responsibility for his or her role in precipitating a crisis: not leveraged speculators, not willfully blind
leaders of financial institutions, and certainly not regulators, government officials, ratings agencies or politicians
(Read more at https://fs.blog/2010/03/the-forgotten-lessons-of-2008/)Kondratiev winter and ILFS defaultNicolai Kondratiev was 46 when he
Nikolai (sometimes written Kondratieff) died in 1938 in the Russian gulag
So who was he and why would he even be thought about today
Kondratiev was a Russian agriculture economist who, while working on a five-year
plan for the development of Soviet agriculture, published his first book, The Major Economic Cycles, in 1925
Over the following years he carried out more research during visits to Britain, Germany, Canada and the United States
In his book and in a series of other publications he outlined what later became known as “Kondratiev Waves”
These were observations of a series of supercycles, long surges, K-Waves or long economic cycles of alternating booms and depressions or of
periods of strong growth offset by periods of slow growth in capitalist societies
These waves or cycles were at the time calculated to last from 50 to 60 years, or roughly a human lifetime in those days
Kondratiev applied his theories to capitalist societies, most notably to the US from the time of the American Revolution
His undoing came in 1928 when he published his Study of Business Activity in the Soviet Union that came to much the same cycle conclusions
for the Soviet economy that he had noted for capitalist societies
He fell out of favour with Josef Stalin, who saw his treatise as criticism
Kondratiev was arrested and following a series of trials he was banished to the gulag, where he died
The four stages are of Kondratiev winter represented in the chart below.
The fourth part "WINTER" reminds me of ILFS default
Read moreLike four seasons and four stages of Life which happens on clockwork, "WINTER" is the part of Kondatriev cycle which every economy
Years of easy global liquidity by central bankers did not allow the debts to be purged, on the contrary more debt is taken for unviable
investment creating systemic risks and when one part of this credit chain is broken it spills over to entire financial system.
