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The way to interpret equity valuation has changed in the context of current crisis. The day CNBC talking heads realize this will mark a new beginnings in the history of mankind.
At some stages, we find same cash-flows being looked upon more kindly (higher valuations). This does not mean that analyst should rework forecasts tampering with cash-flows to retrofit the price and valuation equations. Yet, that is precisely what I am noticing currently. That is bad analysis!
It is the liquidity stupid!
There is ample liquidity in global system at the moment. This money moves across borders, based on whatever reason it deems fit, and lands into a sector or stocks. So the traditional logic of valuation is stretched a bit. Though we don't throw it out of the door. Therefore, watch the global macro in a more meaningful way.
A simple investment strategy
Given the current environment, the best way to manage investments is going back to basics.
We have to find financially robust companies that generate positive cash flows and have lesser leverage.
We then look for managements that have a vision for growth. We are looking for cash-flow accretive growth. So companies with plans to buy market share are out. Growth should be profitable growth.
Thereafter we watch these companies for opportunities to buy. Any correction is opportunity to accumulate.
Exit when the market peaks! Exit is very critical otherwise all profits are paper profits.
Notes and disclaimers
Equity investment is filled with risks so beware. The ideas above are for investors and not for speculators.
Do not construe this as advice to buy at any time. (Timing is critical). These views, though fundamentally sound, are echoed by very few people. So mostly, you will hear very different ideas.
A lot of telecom analyst base their growth forecast on tele-density figures. Tele-density refers to ratio of number of connections to population. It is usually expressed as a percentage. Tele-density determines the upper limit to subscriber growth.
MOU refers to minutes of usage or talk-time of subscribers. “Minutes of Usage” multiplied by Average Revenue per Minute (ARPM) to arrive at Average Revenue per User (ARPU). ARPM has shown a declining trend with respect to time. MOU, therefore, represents growth potential of current subscribers.
The growth potential of any telecom company is a function these two variables. Yet, the concept of teledensity and MOU have not been understood well. A few innovations in the past few years have added new life to both these variables in ways analysts have failed to grasp.
Era of bandwidth Node
The interpretation of teledensity as a cap is remnant of telephone as a voice call device era. This old era represented voice-based communication. We also discovered ways to send data over telephone lines. But this was inefficient. We were sending data over voice networks.
The era has changed and a new era is here. Today, telecom is essentially a provider of bandwidth node at a given location. The question of what to do with this bandwidth is entirely left to market forces. Market forces have deciphered one use of the node through “smart phone technology. Today our networks are essentially dual-mode networks. On the smart-phone or any 3G phone, we have access to a data network AND a voice network. We are no longer sending data over voice network.
So the correct way to look at MOU is in fact, to look at overall consumption of bandwidth. There is no doubt this is only going to go up!
Smart phones boosting data usage
The smart in smart phone is actually in usage of bandwidth tap. The smart phones have, through use of apps, created new uses of data. Further, the presence of 3G implies we are going to listen to move songs and watch more videos on the smart phone. Both these applications are bandwidth-hogging applications.
Overall data requirement of phone user has definitely gone up. And most of the time, data is served by a telecom company. Sometimes, it is your telephone cable connected to a wi-fi modem, other times it is your phones 3G network. As new apps spread, we will have increasing data requirements. So MOU, in terms of overall usage of telecom service will go up. Also, the more connected people are more are voice calls likely!
The upper limit on teledensity
Tele-density has another story. First, there is natural requirement for multiple phone connections per person. In developed countries the number is 2. So we can expect a natural phone penetration limit to twice the population. Further, simply put, there is a potential to connect all the laptops that are in use in the market currently. So the factor of 2 seems pretty understated. Thereafter, anything that is mobile and generates data is a target for embedding a phone connection.
Telecom can definitely cannibalize 50% of the GPS applications. Cars can share location data, engine performance and others. Trucks and delivery vehicles are already using telecom based location services.
Further, it does not take much imagination to foresee new applications. A door viewer that can send photo of visitors is pretty common. Telecom-equipped nanny cams are definitely well accepted. TV set-top boxes can have embedded connections transmitting viewing habits. Buses in Switzerland are already transmitting data about arrival times.
In sum, we can say that older paradigms of Tele-density need to be massively revamped.
It will happen within 5 years
The classical rebuke to these arguments is visibility. Analysts do not foresee such changes happening in near term. I think otherwise. All it needs is right pricing and little bit of imagination. The iPhone, is revolutionary in that sense. It has socialized the imagination part while retaining the basic bandwidth pipe control to itself! I am betting, we will see tremendous explosion in bandwidth consumption in next 5 years and most of this will enrich the telecom companies. That is why I have invested in Bharti Airtel (Bloomberg: Bharti IN).
There is a difference between the recovery rally and the main rally that preceded it. People have started talking about sustainable recovery in equity markets. Still, things are not as they seem. Investors should brace for a rough ride ahead. The rally seems to comprise four phases.
Four Phases of market movement
First phase of secular insanity. In this phase all stocks go up. People ignore the fundamental warning signs. Even companies with questionable managements got sky high valuations. His phase ended with the great crash of 2008. Possibly, what Rob Shiller calls "irrational exuberance" appears to be this stage.
Phase two is essentially over-excitement of the rationalists. Looking at cheap valuations and signs of strength in company performance the rationalists over-extended themselves. Midway, the irrational investors rejoin the party. The phase ends when the cynics join in. We are currently at this stage. I am watching the converstion of cynics. Even this phase ends with a crash. The dimension of the fall now will determine the long term damage to the economy.
Phase three is a placid languishing of the markets at near bottom levels. There is lack of trust and overall cynicism about any future prospects. This is the true bottom. Sweat, sacrifice and prudence regain their respect in this phase.
The hard work in phase three results in growth and proserity that is our final phase. The economy gains traction and with it, a new hope emerges.
Is the crash coming?
President Obama attempted to jump phase three into phase four. For a while it seemed possible. But I do not see the tough choices being made, or vision to take down broken structures. Sadly, we will see our third phase. The time is just about right.
Constant volume asset-backed currency is deflationary Broadly, any asset backed currency - asset availability will determine the amount of money in the system. So money supply will be limited to the extent we can find the asset - here - gold. Now,this is by no means a stable solution.
Store of value v/s transmitter of value The real problem, I believe, is due to design of money. Money was designed as carrier of value not as a store of value. It was designed as a river not as a dam reservoir. The arguments for gold-backed currency stem from "store of value" side and arguments against it originate from "transmission of value" side. Inflation helps transmission but can potentially hinder "store of value" concept. Deflation helps "store of value" but can potentially hinder" transmission" concept.
In sum... I believe these two functions are separate and must not be confused. We need a new design for money - one that can fit in both roles. Will someone open the financial innovation tool-box please? Anyone? Pandora?
Link http://www.webofdebt.com/excerpts/chapter-37.php
I have added an ideapaper detailing how telecom companies find growth. The telecom service provider does not simply grow. These companies transform from voice telephony operators to bandwidth service operators and finally into a holding company for other telecom companies. The following IdeaPaper details those five phases of transformation. I have also given some key characteristics of each phase.
Bharti-MTN deal was example of how both companies were trying to move to phase V of the transformation. As of now France Telecom, Portugal Telecom, Vodafone, Singtel are this phase. I still believe it is too early for Bharti to move to phase V, particularly since there are ample avenues for growth still open to it. Bharti's eagerness to join the club was forced by the fact that telecom is developing globally and soon there won't be many opportunities to get access to subscribers and telecom assets. Anyways the interesting part is how telecom companies find growth.
Further, there are still ways and means to exploit current opportunity for telecom companies. But that is topic for further paper.
I have put together some thoughts on How Cities develop? in the form of an idea-book. Please feel free to download it here.
Introduction
Real estate development in every city is unique. Still hidden within, are certain principles that are common. To understand it, we need to understand two central concepts. First, how town evolve and second how evolution happens within a town.
I propose a seven phase model explaining how a population surrounding a business or factory transforms into a town. Through the transformation we point to some important developments in terms of people and their work.
The idea book postulates a growth model called “Affinity Factor Model” to explain how localities develop within a town. “Affinity factors” are those that drive the citizens towards them – e.g. business district and schools are key affinity factor.
The models help us understand why airports, usually built outside city limits, attract residential populations. Or, on a lighter note, we can guess where a company will locate its office!
We also derive a method to understand relative pricing between different areas. Further, we look at fundamental ideas for knowing if house prices are higher.
I also propose a structure of a township centred around a workplace based on first principles.
Mark Cuban raises an interesting point in his TV everywhere post.
While anti-piracy proponents have a valid point of view, there is other side that needs to be fixed as well. We pay for the same content multiple times. I have bought same song (as part of same or various albums) multiple times.
Anti-piracy movement has one idea to sort out. What are customers paying for? Is it media (CD or DVD or tape or flash drive etc) or the song/serial/movie etc. Then we can ask why same movie can be priced differently on blue-ray disc, CD, or from the web or cable TV. This part is almost never part of the debate.
One of the most intriguing phenomenons during this recent slow-down has been the strengthen shown by non-dollar developed world currencies like GBP, AUD, Yen, EUR etc. I mean there has been correction, in Yen particularly. But it has not been of worrisome magnitude as anticipated.
Most of the developed world currencies are facing very similar problems like US. Consumption driven economy is fed by low-cost debt. Significant percentage of population is old. As the credit crisis struck the demand for good plummeted. The over-all economic model seems weakened just like the US. The only thing stopping a dollar collapse is USD's world currency status. But then why have these other currencies not fallen. Is the USD holding these up?
Real estate developers have been a significant part of value creation for investors. And they will continue to be. However, as times get difficult, it is important to pick the right developers to invest in. While these are logical, they are often ignored in my experience. I present an idea-Book looking into some key ideas while selecting successful real estate developers. Key points include:
I believe first thing a developer must be sensitive to is business cycle. Irrational optimism leads to a fatal failure in preparing for eventual slowdown.
Similarly, land bank quantity, quality and cost determine the future earning potential and growth of the developer.
Developers’ also need an ability to manage through-cycle earnings for the company. In search of quick profits, developers often condemn the company to future revenue de-growth and lower or negative profitability.
Cash flow management and debt structuring is other critical part of real estate business that can make or break the company.
Lastly, I mention some ways in which real estate developers prevent value realisations for the listed entity.
I hope these learning’s will be helpful. These do not comprise the complete list and must be used in conjunction with standard investment and valuation procedures and practices.
Rising asset prices over last few years triggered demand for more hotels. Calculated Risk links to article Hotels: A "Perfect Storm" in San Francisco indicating how the house of cards falls.
Actually this is a perfect storm everywhere for hotels. Too much supply - and more coming online every day. Too much debt. And too few guests.
Where is the demand?
Like most other assets, the fundamental demand for hotel turns out to be far lesser than the supply. The demand is coming from investors. There is huge appetite for investing in hotels, housing or any asset that can be converted into paper and gambled away. This is hurting the industry employee base.
Product prices do not indicate fundamental demand
Just because prices are rising does not mean there if fundamental long term demand in place. Reading the macro factors is just as important for the firm. But, what if you can quickly build out a hotel and sell it to REIT (or other RE fund) at ridiculous cap rates? Partly, this asset price increases actually triggered the boom as I discussed in Feb 08. I cannot see the last buyer still emerging. So till then its going to be painful and hotels will be a case study.
Declaration:
I own Indian Hotels since two years now due to fundamental short supply scenario in India. I am just about marginally positive on the position. I do not intend to close it for few years. Hotel investors looking at India might want to look at Indian Hotels.
Markets around the world are in a see-saw. It is not exactly clear what is driving what or who and to be fair no one really knows. The trading strategies have, therefore, moved to seeking beta.
Volatility Risks high
We are looking at huge cycles in coming months. These will be higher in magnitude and shorter in time frames making longer term commitments difficult.
Picking Survivors
Now long term is more about picking survivors than picking value. Unfortunately old world stalwarts are not always well suited for this. I am not even sure if company like GE will survive this in current form. But then GE is much better off, we are just debating the form!
Premium for alpha investing will increase
Longer term investors will seek increased premium as volatility increases and questions about company health become more aggressive. I would like markets to remain range bound at lower end of the range for at least 2 quarters. That might signal some hope of recovery. Current movements are too swift (time) and too strong ( changes are high between weeks). Possibly its just residual froth.
Lynn Terry says get financially secure before starting new business you are passionate about. There are two mistakes people make
People start a new business without being financially secure. They may be passionate but bills and debt always mount. The first part of being entrepreneur is understanding finances and cash flows. If you cannot secure yourself financially, how will you secure your company?
Even when they have financial security people often start a business they are not passionate about to make a "quick buck". Lack of passion of owner shows up pretty fast. That is why venture capitalists want to meet companies face-to-face. Such businesses often languish at the first dip.
You know how people always say, do what you love and the money will follow? I’ve probably even said that a time or two myself, but I’ve decided that it’s flawed…
Instead, do what makes the money and your passion will follow. I know that may sound like a contradiction, but follow along with me here.
My first business was an electronic repair shop. Not something I was particularly passionate about, but it paid the bills. I was passionate about having a family business and pursuing financial freedom, of course. And I enjoyed the work - it just wasn’t my “passion in life”. My next business included computer training and web development - helping others learn skills to start & grown their own business. Something I was definitely passionate about, but I didn’t really have the means to do it on any kind of large scale. Meaning I was basically helping one person or one business at a time. But those were the right choices at those times in my life, because the bills had to be paid and the children had to be raised. It wasn’t until my business saw a sustainable passive income that I had the financial freedom to really discover and pursue my passions.
It’s hard to even know what you’re passionate about when all you can think about is how you’re going to make the next mortgage payment, or put dinner on the table next week. Even worse is that nobody else will get it. If you’re working all the time, with no profit to show for it, your friends & family will tell you you’re nuts and tell you to go get a real job. But if you have money coming in, nobody will mess with you - and you’ll be free to really start exploring your options. My point here is that I don’t want you to feel discouraged if you’re just starting out, and you haven’t discovered your true passion yet. That’s okay. Try a few things, make some money first, and let it just come to you naturally.
The cool thing is that the internet provides you the opportunity to do both - to make money AND pursue your passions in life. My own online business allows me to work from home, and allows me both the time and money to work on a series of books I’ve always wanted to write. So I do that, plus give back to the Internet Marketing community, because I have a passive base income that pays the bills. The main source of my income being my affiliate sites and various affiliate promotions.
It took me years to find my place in it all, and create a vision of the lifestyle and future that I wanted - and a plan to fund it. But every single one of those years that I wasn’t 100% sure I was going in the right direction… I still earned a full-time income. Money is necessary - so pursue that first, and let the passion find you when you’re ready for it.
Trust me, it will happen when you’re less stressed about making money.
So get out there and make some money!
Best,
p.s. If you need help making money online, join my group at our Internet Marketing Forum. I check in there daily myself, and would be happy to answer your questions, or share resources with you.
Recently I was party to a discussion about understanding office processes improving them. The arguments were standard, processes are ad hoc and it is difficult to capture tacit knowledge. That reminded me of a document I had created a long time ago on How to do exactly that. I have put that up online. Have a look.
The future of hedge funds is under microscope. Some believe, hedge funds are evil and hence would die. Others believe higher regulatory burden will spell doom. I believe reality might be contrary.
Flexibility in capital allocation is critical
The need for flexibility is the central lesson from recent toxic asset debacle. Funds that are flexible are better suited to surviving the near future. Hedge Funds derive a little advantage flexible than private equity and lot of advantage over pension funds.
Flexibility applies to strategies as well
A flexible strategy may be better than a sector specific or other constraining strategies. So between strategies it might be better to allocate more capital to flexible ones.
Stock selection will undergo a change
Within the investment process changes will happen.
1) Currently, lot of funds use "owning stocks" mentality. Fund managers try to foresee how demand for those stocks will move. They are not buying companies like Warren Buffet. Due to higher volatility with lower volumes owning stocks is likely to work with very large caps (blue chips). Further, any long term (>6 months) investments will have to be "owning companies" type of investments. Some funds already work with this mindset and are consequently better off.
2) Focus on macro drivers will increase. Macro drivers impact capital flows into markets and therefore can make or break portfolios.
3) Holding periods will decline. Given the volatility in stocks, flexible managers can take advantage of capital flows.
Employment generation
Given the changes above, we are likely to see more diversely talented and diversely located teams supporting investment managers. Further, we might see a drop in capital/manager to ensure higher flexibility.
The survival game
Survival is the name of the game for next 3-5 years. Both for funds and companies. We are likely to see a drop in total money supply in the next few years. Capital will be destroyed through two ways. First through companies going bankrupt. Second volatility impacting AUM of asset managers. So picking survivors is the key.
So if any hedge funds have an opportunity for me, check out my profile and drop me a line. ;)
Paul Kedrosky has a wonderful link to interview of Michael Steinhardt and others. There are a lot of quotation gems in there. I paraphrase a few ideas with my take on it:
No one is bullish over long-term: The problems we are in, in US and globally, are too big to be wiped out by a ill-directed few trillion dollar stimulus. Government does not have information to go for precision-bombing stimulus. So for carpet bombing, that we are aiming for, we need a hell lot more bombs.
What has changed? - Nothing: Other than extra few trillion sloshing around nothing has changed. We still seem to be playing out the same moves from great depression times. Our two most likely outcomes are a bloody great depression or a prolonged stagnation - both are grim. Markets are enforcing themselves - I mean real economy markets. Consumers are de-leveraging and increasing savings.
We cannot estimate valuation because future is uncertain: The future is uncertain. We are not confidently able to foresee how future corporate world will look like. What will be the revenue levels? What will be the growth levels? Who will survive the crisis? In such a scenario, putting numbers to revenue projection and looking at valuation is dangerous game.
A forecast tells more about the forecaster than the future: This is a gem. I think that is true. At the moment all analysts will be better off understanding potentially likely scenarios and potential outcomes.
World without poverty is one of my dreams! And I fuss over it in lot of ways. My readings of current writers on Poverty suggest that we need a view on life of the poor. This ebook is an attempt to express the same. It is my contribution to understanding and eradication of poverty in the world. Download the ebook here.
Briefly it covers three main aspects:
How poor get poor?
I look at three phases over which a household gets into a poverty trap. This, I believe, is critical to understand as it harbours solutions to the poverty problems. Further, it also leads us to a basic framework for solving the poverty crisis everywhere.
Snakes and Ladders Approach
Getting a community out of poverty needs a customized solution. Each community faces its challenges (snakes) but has opportunities (ladders) hidden within its structure. This framework may be used to build a customized approach for the community.
Structural v/s transient poverty
One of the central idea I want to highlight is the difference between temporary poverty - one that household can get out of versus structural poverty - one that seduces the household into believing that they can get out of poverty.
I would love to hear your feedback on the ebook. Please email me at rahuldeodhar [at] gmail [dot] com.
Senator Ron Paul is keen to get the Fed audited and closed. I don't know how that will pan out but I would seek clarity in one aspect of Fed's functioning. The bailout criteria needs to be defined and communicated.
We need a decision tree to understand how Fed will hereafter decide who gets bailed out. The current "case-to-case basis" and "threat to financial system" arguments are too esoteric. We need clear principles and guides to understand how such decision will be made in the future. There are four critical element of "Guidelines of future bailouts" plan:
We need clear understand of who can seek a bailout. Is it banks? Are insurance companies allowed? Who is allowed? Who is not? Why?
The next part is within this set, who are eligible for bailout, how will you choose? What self-help measures the company has to go through first before coming to Fed for the bailout? What if someone exceeds Fed's / other regulators benchmarks for leverage? Or pays excessive bonus? Will those companies get bailed out too?
How will the bailout amount be decided? Will it come entirely out of Fed gurantees? How about untouched bonus pools? How about unwinding risky position in hard-to-sell paper?
What happens after companies are bailed out? How will they be restructured? How will Fed ensure that those funding the bailout (US citizens) get control over the company?
It is right time to initiate the plan. We have Ben Bernanke at the end of his term. We have some green shoots so markets are reasonably calm to absorb and accomodate the rules of the game. I believe this will reduce uncertainty in the markets. I think it is a moral duty to explain to tax-payers how future bailouts, if any, will be decided. Moreover, I believe tough times lie ahead. It is better to be prepared with a plan - at least for things that we know we might need.
The Reserve Bank of India (RBI) announced the monetary policy on tuesday 28th. In one of the innocuous statements RBI mentioned it will allow appreciation of Rupee if there is higher capital inflow than can be managed through intervention. Not many commentators weighed in on this at the time. But that represents the most important signal.
Felix Salmon explains the dilemma of the asian central bankers in more details. RBI has sensibly tackled the financial crisis as of now and this indicates RBI is one of the intelligent central banks around. China faces this dilemma more critically as it wants an undervalued Yuan. To top its list of worries the GDP is rising really fast. If there is one way to attract big money then this is it.
There is a good chance central bankers will soon resort to good old capital restriction. This will be the first blow in the test of globalisation. This threatens to raise the friction between countries. We are witnessing increase in friction over anti-dumpting duty imposed by EU on Chinese.
Such regulatory threats have the potential to create more cycles in markets. So this is definitely going to be painful - we will have to hold our nerves. Fortunately or otherwise, we cannot, will not be able to reverse the globalisation.
The question reminds me of King Charles II who invited members of the Royal Society to explain why a dead fish weighs more than same fish alive. After the Royal society provided various explanations it was brought to everyone’s notice that they actually weigh the same! It is the same with current economic crisis.
The group of eminent economists could not foresee the current crisis due to “failure of collective imagination of many bright people”. In my humble view, your highness, this is incorrect. Nobody actually bothered to make the real‑world observations. How could one not notice unemployed people buying multiple homes? Or, how could they not notice people with mortgage repayments more than their incomes?
Such ignorance on the part of trusted few will cost the world dearly. The developed world, including Great Britain, is on throes of worst economic decline spurred by international debt. We are facing a decline in standard of living that will undo decades of development. In such times of calamity, the elites are busy retrofitting explanations to history. The “group of eminent economists” has been deeply inbred and so have all other eminent groups who run the financial system. These are groups formed between likeminded fellows, those conforming to specified views. These groups have shown clan-like behaviour ridiculing alternate points of view. One only needs to look at ridicule heaped on likes of Peter Schiff, Nicholas Nassim Taleb, Nouriel Roubini and others. These groups lack diversity of opinion to understand multiple facets of financial, economic innovation.
I further disagree with the economists’ gracious claim that everyone was doing their job to the best of their abilities. If guarding the door “to the best of our abilities” when thieves attack through the window, you are not much of a guard, are you? Sadly, even the press has abandoned its duties of fourth estate. Our journalists no longer reflect on social implications and problems but often report from their own ivory towers. We haven't seen any pointed intelligent debate between press and policy makers even as policy response aggravates the crisis further.
To ensure such crises never occur again, we need more respectful cross-disciplinary debates involving social understanding and moral values. We need philosophers and cross disciplinary thinkers more than ever. Usually, such is the responsibility of the House of Lords. Are there, if I may humbly ask, real knights amongst your ranks, your majesty?
There has been a lot of talk about financial innovation being bad for general populace. Economist blogs about it Financial innovation in the rearview mirror quoting Tyler Cowen and Felix Salmon. This pulls up a paralled to pharma industry in my mind.
Just like we have drug testing labs for pharma companies, we need labs and regulation for finance innovations too. In a sense, sub-prime was a drug being directly tested on population. The result is predictably disastrous. The Consumer Financial Protection Agency (CFPA) could take up such a role. Then, if pharma is any indication, we will have lot more innovation in the near future.
Pharma industry also created higher cost structure to foster innovation. The regulatory burden along with pseudo-barriers in the name of intellectual property created unaffordable costs. The opportunity before the CFPA is to set the benchmark for simplied, easy to athere but difficult to cheat, low cost regulatory structure. CFPA, all eyes are on you!
