Leisure Investing

The era of cheap capital draws to a close

2011-02-18T16:43:00.000+08:00

The global economy faces a dilemma. Attempts to boost growth have lowered interest rates in advanced economies. The resulting hot money has moved exchange rates out of line with fundamentals, creating inflation and asset appreciation in the developing world. Accumulation of foreign reserves and the imposition of barriers to inward capital flows have begun to replace tariffs and quotas in the trade protectionism arsenals of governments.

Yet even as brewing currency wars threaten full-blown trade conflicts, we must remember one fact: this moment will not last. The 30-year era of progressively cheaper capital is nearing an end. The global economy will soon have to cope with too little capital, not too much. And worries about hot capital moving too quickly into emerging markets could soon be replaced by an era of financial protectionism—in which governments restrict outflows of capital as a defense against rising interest rates for corporations and consumers.

Since 1980, differences in the cost of capital in most countries have converged as financial markets globalized and risk premiums in developing countries fell. Capital became plentiful, and long-term interest rates declined too—primarily as a result of falling investment in assets such as infrastructure and machinery. Global investment fell dramatically, creating a decline in the demand for capital substantially larger than the growth in supply created by Asian current-account surpluses. In other words, the “saving glut” so often cited as a cause for low interest rates really resulted from a decline in global investment.

Today, however, this trend is reversing. Across Africa, Asia, and Latin America, rapid urbanization is increasing the demand for roads, water, power, housing, and factories. Global investment demand will now rise considerably up to 2030, reaching levels not seen since the postwar reconstruction of Europe and Japan.

The global appetite to save, however, is unlikely to rise in step, for several reasons. China plans to encourage more domestic consumption. Spending will rise as populations age. Even increased expenditure to address or adapt to climate change will play a part. As a result, the world will soon enter a new era of scarce capital and rising real long-term interest rates. Such rates will in turn constrain investment and could ultimately slow global economic growth by as much as 1 percent a year.

An era of sustained tighter capital will have significant implications. Governments should anticipate higher costs of debt and act now to improve their public finances. The fiscal deficits possible with recent low interest rates will not be as easily financed in the future and could result in greater crowding out of private investment.

Yet even with restrained public finances, there is still a very real danger that governments will quickly resort to financial protectionism to insulate their economies from rising capital costs. New rules could be introduced to stop state-insured banks or domestic pension funds from lending and investing abroad or to direct sovereign-wealth funds to make only domestic investments. Such moves would be self-defeating for the global economy. Real interest rates would diverge between countries, meaning that nations with big current-account deficits would suffer lower growth. Savers in surplus countries, meanwhile, would receive lower returns too.

Governments must therefore be vigilant for early signs of capital hoarding, while international institutions must start to develop the financial architecture needed for a capital-constrained world. New mechanisms—supplemented by properly regulated cross-border bank intermediation—are needed to facilitate the flow of capital from the world’s savers to the places where it can be invested.

New ways of financing infrastructure in emerging markets will also be important, given their low domestic savings. Emerging economies must work to develop deeper and more stable financial markets to increase local savings, while mature economies should introduce policies to spur household saving (or at least reduce borrowing).

Businesses will also need to adapt to a world in which capital costs more. Just as Japanese companies with access to cheap capital in the 1980s held an advantage over Western peers, companies with access to inexpensive capital—for example, those based in high-saving countries such as China or with links to sovereign-wealth funds—will have a new source of competitive advantage. Financing is likely to become bundled with exports as a source of distinctiveness, while financial institutions need to refocus their businesses on accessing new global sources of savings.

For three decades, the world has grown used to cheaper capital. But the next stage of globalization will be different. Governments will soon want to stockpile capital, and efforts to boost today’s global recovery must also anticipate an era in which capital scarcity places new brakes on growth. A future of creeping financial protectionism would be just as destructive as today’s currency wars. We must begin to take precautions.

Source: Mckinsey Quarterly

What might happen in China this year?

2011-02-02T10:57:00.001+08:00

Gordon Orr, a director in McKinsey’s Shanghai office, peers into 2011 and finds ways China may once again surprise the world. Read his six predictions, then let us know what you would add.

Inflation in food prices will take longer than expected to control. The drivers of inflation are much more structural than cyclical. Indeed, the entire system is now so highly stressed that one snowstorm brings large spikes in food and energy prices as coal runs short. When ice shuts down the roads, as it does today in much of southwestern China, agricultural products simply cannot get to market.

Chinese consumption patterns are shifting as people become wealthier—more meat eating requires more cereals to feed the animals. The food supply chain, running at the limit, is close to breaking, and the pressures this problem creates will lead to further food quality crises. What’s more, price caps won’t be effective in creating a better balance between supply and demand. Rising food prices are a pan-Asian issue: inflation has recently surged in Indonesia (chilies), India (onions), and South Korea (cabbage and now beef as a result of foot-and-mouth disease). China, given its large absolute demand for so many agricultural products, will shape food prices across Asia.

A major second- or third-tier Chinese city will see demonstrations over food price rises, unemployment, or both, on a much larger scale than anything that has occurred in recent years. The demonstrators will probably be satisfied quickly by local action to increase financial support for them and to replace local-government leaders. Yet concerns over copycat actions elsewhere will lead to a nationwide preemptive program to support the urban unemployed.

Middle-class bankruptcies will expand dramatically. Buyers have aggressively bought multiple properties with every penny of free cash flow. All that is needed for a wave of bankruptcies is further interest rate rises (targeting inflation) that result in a blip down in house prices just as mortgage payments rise. We have seen this before across major cities in Asia. The government will probably decide that it cannot bail such people out, as that would be seen as rewarding recklessness among the haves at the expense of the have-nots.

There is already significant noise on the Internet to the effect that government leaders are completely out of touch with the true cost of urban housing. These leaders must take material action to show that they are aligned with the hopes of people just getting on the real-estate ladder.

Minimum wages will rise, but productivity gains will outstrip labor costs. The profitability of industrial enterprises remained high at the end of 2010—indeed, higher, in many cases, than it had been a year earlier, despite the minimum-wage increases rolled out in 2010—and will probably remain high. Yet a government seeking to enhance its stature with lower-income workers will find that increasing minimum wages, perhaps by 15 to 20 percent, is an easy lever to pull. Once again, multinationals, especially Asian multinationals, will find themselves being monitored first for compliance.

More broadly, 2011 is likely to see further increases in the number of complaints that blue-collar workers bring in the legal system against employers for failure to pay overtime and to give employees the required time off from work.

China’s economic growth will be lower than expected. The rollback of subsidies to consumers will, in 2011, lead to a slow start for consumption, which will never quite catch up during the year. In recent months, for example, automotive purchases accounted for 20 percent of consumption. With the rollback of subsidies, the imposition of quotas in Beijing (and probably other cities), and increased prices for license plates and parking, car sales are likely to plateau if not fall in 2011. This problem will be exacerbated by food price inflation, which will cause lower-income workers to cut back on nonfood and other discretionary expenditures.

China will step up its “invest out” program in the new five-year plan. The government may well seek to double the country’s cumulative outbound investment within the next five years. There will be resistance by governments in some countries (probably in Africa, Eastern Europe, and Latin America) where public opinion is not yet convinced that so much Chinese ownership of key assets is really attractive. This opposition will visibly upset China’s leaders, who may decide to sell the bonds of the reluctant governments and to increase the challenges that enterprises from these nations face in selling to Chinese state entities.

The state will again try to reduce its ownership role in business. If the government relaunches its program to sell off more of its stake in companies, domestic share prices will probably decline or at least remain flat. The program will also soak up much of the liquidity currently supporting Chinese IPOs, thus reducing the ability of entrepreneurs to cash out quickly through them. Also, private-equity firms that have been investing in pre-IPO growth stocks in China may hold on to these investments longer than planned.

Source: Mckinsey Quarterly

Five myths about US interest rates

2011-02-01T10:39:00.000+08:00

They are on the rise, but that might not be such a bad thing.

Interest rates, which have been so low for so long that US consumers and businesses have come to consider it an entitlement, are starting to creep upward, prompting new concerns and debates. Will higher rates undercut the economic recovery? Should the Federal Reserve do more to hold rates down, or did the central bank already err by leaving them low for too long, feeding the housing and credit bubbles of recent years? It’s worth dispelling some of the most common misconceptions about interest rates.

1. The Fed controls interest rates.

Yes, the Federal Reserve can change its federal funds rate—the overnight rate charged on loans between banks—and those shifts affect short-term rates on business loans and consumer loans. But long-term interest rates, such as those on a ten-year Treasury bond or a 30-year mortgage, are determined by the markets and influenced by inflation trends, government budget deficits, and the overall demand for and supply of capital over time.

The limits of the Fed’s powers were apparent recently when it began its second round of “quantitative easing,” an effort to lower long-term rates by pumping more money into the economy. Those rates did fall in the weeks leading up to the program’s launch in November, but they rose sharply soon afterward. Why?

First, signs of a strengthening economy prompted many analysts to raise their growth forecasts for this year, implying that the demand for capital will rise as well—and greater demand for capital translates into higher rates. Second, the tax-cut deal that the White House and congressional leaders struck in December will boost government borrowing this year, adding to the demand for capital. Finally, some investors worry that, as the economy gains momentum, the Fed’s program could lead to rising inflation, and such fears could lead to higher interest rates.

2. Low interest rates are here to stay.

Not so. Interest rates are headed higher, and not just because the Fed will eventually raise short-term rates once the economy speeds up. Our recent research shows that the global demand for capital is rising fast as emerging markets embark on one of the biggest building booms in history. Rapid economic growth and urbanization in developing nations, particularly China, is fueling demand for housing, roads, ports, water and power systems, machinery, and equipment. Global investment demand could rise to $24 trillion per year by 2030, from $11 trillion today.

Meanwhile, global saving is unlikely to rise as quickly, as countries around the world spend more on pensions, health care, and other needs of their aging populations. In some forecasts, global saving will fall short of investment demand by as much as $2.4 trillion in 2030. And because, by definition, savings and investment must equal each other, the gap will push interest rates up.

3. US policy makers should keep rates low so consumers will spend more and boost the economy.

American households are now saving more than they were during the recent credit bubble; the personal savings rate increased to nearly 6 percent in 2010, from 2 percent in 2007. Not only does this help people save for retirement, it’s also good for the nation’s long-term economic health: higher national savings will help fund more national investment. If anything, policy makers should encourage consumers to save even more.

But wouldn’t more personal saving dampen economic growth? Not if corporations and the government increase investments that expand the nation’s capacity to produce more and better goods and services. We’ve invested too little in the past, particularly in infrastructure. The American Society of Civil Engineers estimates that the United States needs to spend an additional $2.2 trillion over five years—on top of our current $400 billion annual investment—on transportation, water, energy, schools, waste disposal, and public parks, to renew the nation’s crumbling infrastructure and help meet growing demand.

These kinds of investments would provide additional fuel for economic growth, offsetting slower gains in consumer spending. And now is the time to start, while interest rates are still near historically low levels.

4. The mortgage interest deduction is necessary to support the housing market and the economy.

Hardly. The deduction is a favorite among homeowners, real-estate agents, and lenders, but its broader economic benefits are debatable.

Under current law, US taxpayers can deduct their interest payments on up to $1 million in mortgage debt on both their primary residences and their second homes, and can also deduct their interest payments on up to $100,000 in home-equity loans. The law thus lowers the cost of homeownership and creates incentives to take on extra mortgage debt—spurring the real-estate and finance industries as well as consumer spending.

But these gains come at a cost: The deduction lowers federal revenues (by a projected $104 billion in 2011), thereby adding to the budget deficit. It also encourages households to take on more debt than they would otherwise and thus helped feed the housing bubble that led to the financial crisis. Canada, by contrast, has no such mortgage tax deduction, and its housing market is healthier and less leveraged, avoiding US-style booms and busts. The proposal by President Obama’s fiscal commission to sharply limit the mortgage interest deduction was a step in the right direction.

5. Higher interest rates are bad for the economy.

Actually, in several ways, somewhat higher interest rates would be better for the economy than the extremely low rates of recent years. They would benefit savers (particularly retirees and pension funds) and therefore encourage greater household saving.

They would also limit financial bubbles, restraining speculative and heavily leveraged investment while encouraging more investment that would actually raise the economy’s potential growth rate, such as expanding the country’s broadband network, developing new green technologies, and rebuilding aging infrastructure.

Higher rates would also focus executives’ attention on the return that companies earn on their capital, prodding them to make sure they get more bang for each buck. This could boost the nation’s productivity, which is the key to raising standards of living over time.

Source: McKinsey Global Institute

When to Sell Your Stocks

2011-01-25T13:03:00.000+08:00

How do you know when it’s time to sell?

I’ve been thinking about this question based on the recent news about Apple’s record-breaking quarterly results, the recent fervor over private equity takeovers and the speculation about the coming initial public offerings of LinkedIn, Groupon plus the quasi-private Goldman offering of Facebook.

This fevered speculation reminds me of many conversations I heard in the late 1990s. You remember the time. Everyone did well with their investments just by picking technology stocks or companies whose name ended with .com.

During that time, if I had a conversation with people about selling, they balked because they didn’t want to deal with the tax burden.

This approach is a little bit like letting the tax tail wag the investment dog. Sure, considering potential taxes should be a part of the investment decision, but it shouldn’t be the deciding factor.

Psychology plays a huge role in making the decision to sell. History is littered with examples of greed or other bad behaviors that get in the way of what, in hindsight, turned out to be a great opportunity to take some profit off the table.

Companies make this mistake often. Think about Microsoft’s offer for Yahoo at $31 a share. Yahoo is now at $16 and change. Remember the News Corporation’s purchase of MySpace? Now News Corporation is considering a sale of MySpace, and Facebook is the dominant social network. Only time will tell whether Google’s rejected $6 billion offer for Groupon will turn out to have been a mistake (and for whom).

So if you find yourself in the enviable position of having chosen a few winning individual stocks, how do you make the decision?

First, it’s often better to be lucky than smart, so it makes sense to be honest with yourself if you invested, for example, in Apple. As you’ve watched the price go up, did you make the decision to invest because you’re smart, brave or just lucky? If you’re being honest, most people would acknowledge that when you pick an individual stock or two and they subsequently triple in price, that outcome is more often than not a result of luck and not some inherent skill.

Second, review how these investments fit within the context of your financial life. Choosing to keep an individual stock just because it went up does not qualify as a valid reason. So when you’re asking the question of whether it’s time to sell, take a step back and consider the following:

1) Clearly identify your financial goals. A simple (but not easy) process, identifying your financial goals should include defining what you think you want the future to look like. Don’t spend hours or days on this task, and give yourself some slack. It’s life, after all. Things will change, and it makes sense to revisit and redefine your goals periodically. These goals really are nothing more than educated guesses, but they’re at least a set of markers in the sand, something that you can use as a reference point for your decision making.

2) Make a plan to get there. Again don’t spend too much time here because the variables that go into building a plan are nothing more than guesses. Still, the process is important. Using the information you have, estimate how how much you can save for the next 36 months, make a guess at the rate of return you hope to earn and carefully consider what risks you’re comfortable taking.

3) After you define some goals and build a simple plan, decide if your current investments fit the plan.

4) If the investments don’t fit, sell! Now, you need to be prepared psychologically to sell. I can promise you that if you make the decision to sell an investment, because it aligns with your plan, the stock will triple over the next couple months after you sell.

If you make the decision to continue to hold an investment because it does fit in the context of your plan, it will lose 20 percent of its value over the next three months. There’s no guarantee that comes with the decision to buy or hold, but be prepared that your decision may be tested. That’s just Murphy’s Law.

Making the decision to sell or hold an investment is relatively simple when we’re aware of the cognitive traps of fear and greed. It should be clear to anyone that if you own an investment that has tripled in price, and you made that investment based on luck, it would be wise to take some of the profit and go home.

Investment decisions like buying or holding are best made when you do so in the context of your financial goals. Picking the next Apple is not a financial goal. Saving for retirement or having enough money to send your kids to college are financial goals. Once we’re clear about the why, about the goals, and we have a simple framework to represent a plan to get there, making investment decisions becomes much more simple.

The article above was taken from NY Times.

How the growth of emerging markets will strain global finance

2010-12-10T12:04:00.000+08:00

Surging demand for capital, led by developing economies, could put upward pressure on interest rates and crowd out some investment.

Short-term doldrums aside, the world’s corporations would seem to be in a strong position to grow as the global economy recovers. They enjoy healthy cash balances, with $3.8 trillion in cash holdings at the end of 2009, and they have access to cheap capital, with real long-term interest rates languishing near 1.5 percent. Indeed, as developing economies continue to pick up the pace of urbanization, the prognosis for companies that can tap into that growth over the next decade looks promising.

Yet all those new roads, ports, water and power systems, and other kinds of public infrastructure—and the many companies building new plants and buying machinery—may put unexpected strains on the global financial system. The McKinsey Global Institute’s (MGI) recent analysis finds that by 2030, the world’s supply of capital—that is, its willingness to save—will fall short of its demand for capital, or the desired level of investment needed to finance all those projects.1 Indeed, household saving rates have generally declined in mature economies for nearly three decades, and an aging population seems unlikely to reverse that trend. China’s efforts to rebalance its economy toward increased consumption will reduce global saving as well.

The gap between the world’s supply of, and demand for, capital to invest could put upward pressure on real interest rates, crowd out some investment, and potentially act as a drag on growth. Moreover, as patterns of global saving and investment shift, capital flows between countries will likely change course, requiring new channels of financial intermediation and policy intervention. These findings have important implications for business executives, investors, government policy makers, and financial institutions alike.

Surging demand for capital

Several economic periods in history have required massive investment in physical assets such as infrastructure, factories, and housing.2 These eras include the industrial revolution and the post–World War II reconstruction of Europe and Japan. We are now at the beginning of another investment boom, this time fueled by rapid growth in emerging markets.

Across Africa, Asia, and Latin America, the demand for new homes, transport systems, water systems, factories, offices, hospitals, schools, and shopping centers has already caused investment to jump. The global investment rate increased from a recent low of 20.8 percent of GDP in 2002 to 23.7 percent in 2008 but then dipped again during the global recession of 2009. The increase from 2002 through 2008 resulted primarily from the very high investment rates in China and India but reflected higher rates in other emerging markets as well. Considering the very low levels of physical-capital stock these economies have accumulated, our analysis suggests that high investment rates could continue for decades.

The mix of global investment will shift as emerging-market economies grow. When mature economies invest, they are largely upgrading their capital stock: factories replace old machinery with more efficient equipment, and people make home improvements. But the coming investment boom will involve relatively more investment in infrastructure and residential real estate. Consider the fact that emerging economies already invest in infrastructure at a rate more than two times higher than that of mature economies (5.7 percent of GDP versus 2.8 percent, respectively, in 2008). The gap exists in all categories of infrastructure but is particularly large in transportation (for instance, roads, airports, and railways), followed by power and water systems. We project global investment demand of about $4 trillion in infrastructure and $5 trillion in residential real estate in 2030, if the global economy grows in line with the consensus of forecasters.

A decline in savings

The capital needed to finance this investment comes from the world’s savings. Over the three decades or so ending in 2002, the global saving rate (saving as a share of GDP) fell, driven mainly by a sharp decline in household saving in mature countries. The global rate has increased since then, from 20.5 percent of GDP in 2002 to 24 percent in 2008, as household saving rebounded in mature economies and many of the developing countries with the highest rates—particularly China—have come to account for a growing share of world GDP. Our analysis suggests, however, that the global saving rate is not likely to rise in the decades ahead, as a result of several structural shifts in the world economy.

First, China’s saving rate will probably decline as it rebalances its economy so that domestic consumption plays a greater role. In 2008, China surpassed the United States as the world’s largest saver, with the national saving rate reaching over 50 percent of GDP. But if China follows the historical experience of other countries, its saving rate will decline over time as the country grows richer, as happened in Japan, South Korea, Taiwan, and other economies (Exhibit 2). It is unclear when this process will begin, but already the country’s leaders have started to adopt policies that will increase consumption and reduce saving.4 If China succeeds at increasing consumption, it would reduce the 2030 global saving rate by around two percentage points compared with 2007 levels—or about $2 trillion less than China would have accumulated by 2030 at current rates.

Moreover, expenditures related to aging populations will increasingly reduce global saving. By 2030, the proportion of the population over the age of 60 will reach record levels around the world. The cost of providing health care, pensions, and other services will rise along with the ranks of the elderly. Recent research suggests that spending for the retired could increase by about 3.5 percentage points of global GDP by 2030.5 All of this additional consumption will lower global saving, either through larger government deficits or lower household and corporate saving.

Skeptics may point out that households in the United States and the United Kingdom have been saving at higher rates since the 2008 financial crisis, especially through paying down debt. In the United States, household saving rose to 6.6 percent of GDP in the second quarter of 2010, from 2.8 percent in the third quarter of 2005. In the United Kingdom, saving rose from 1.4 percent of GDP in 2007 to 4.5 percent in the first half of 2010. But even if these rates persist for two decades, they would increase the global saving rate by just one percentage point in 2030—not enough to offset the impact of increased consumption in China and of aging.

Together, these trends mean that if the consensus forecasts of GDP growth are borne out, the global supply of savings will be around 23 percent of GDP by 2030, falling short of global investment demand by $2.4 trillion. This gap could slow global GDP growth by around one percentage point a year. What’s more, sensitivity analysis of several scenarios suggests that a similar gap occurs even if China’s and India’s GDP growth slows, the world economy recovers more slowly than expected from the global financial crisis, or other plausible possibilities transpire, such as exchange-rate appreciation in emerging markets or significant global investment to combat and adapt to climate change.

Implications

Our analysis has important implications for both business leaders and policy makers. Businesses and investors will have to adapt to a new era in which capital costs are higher and emerging markets account for most of the world’s saving and investment. Governments will play a vital role in setting the rules and creating the conditions that could facilitate this transition.

Higher capital costs

Nominal and real interest rates are currently at 30-year lows, but both are likely to rise in coming years. If real long-term interest rates returned to their 40-year average, they would rise by about 150 basis points from the level seen in the autumn of 2010. The growing imbalance between the supply of savings and the demand for investment capital will be significant by 2020. However, real long-term rates—such as the real yield on a ten-year bond—could start rising even within the next five years as investors anticipate this structural shift. Furthermore, the move upward isn’t likely to be a one-time adjustment, since the projected gap between the demand for and the supply of capital widens continuously from 2020 through 2030.

Capital costs could easily go even higher. Real interest rates can also include a risk premium to compensate investors for the possibility that inflation might increase more than expected. History shows that real interest rates rise when investors worry about the possibility of unexpected spikes in inflation. Today, investors are beginning to anticipate higher inflation resulting from expansive monetary policies that major governments have pursued.

Finally, as the recent crisis demonstrated, short-term capital isn’t always available in a capital-constrained world. Companies should seek more stable (though also more expensive) sources of funding, reversing the trend toward the increasing use of short-term debt over the past two decades. The portion of all debt issued for maturities of less than one year rose from 23 percent in the first half of the 1990s to 47 percent in the second half of the 2000s. Financing long-term corporate investments through short-term funding will be riskier in the new world, compared with financing through equity and longer-term funding. To better align incentives, boards should revisit some of their inadvertent debt-oriented biases, such as using earnings per share (EPS) as a performance metric.

Changing business models

If capital costs increase, companies with higher capital productivity—greater output per dollar invested—will enjoy more strategic flexibility because they require less capital to finance their growth. Companies with direct and privileged sources of financing will also have a clear competitive advantage. Traditionally, this approach meant nurturing relationships with major financial institutions in financial hubs such as London, New York, and Tokyo. In the future, it might also mean building ties with additional sources of capital, such as sovereign-wealth funds, pension funds, and other financial institutions from countries with high saving rates.

Moreover, for companies whose business models rely on cheap capital, an increase in real long-term interest rates would significantly reduce their profitability, if not undermine their operations. The financing and leasing arms of consumer-durables companies, for example, would find it increasingly difficult to achieve the high returns of the recent past as the cost of funding increases. Companies whose sales depend on easily available consumer credit would find growth harder to achieve.

Shifting investor strategies

Investors will want to rethink some of their strategies as real long-term interest rates rise. In the short term, any increase in interest rates will mean losses for current bondholders. But over the longer term, higher real rates will enable investors to earn better returns from fixed-income investments than they have in the years of cheap capital. This change could shift some investment portfolios back to traditional fixed-income instruments and deposits and away from equities and alternative investments.

For pension funds, insurers, endowments, and other institutional investors with multidecade liabilities, the world’s growing infrastructure investment could be an attractive opportunity. Many of these institutions, however, will need to improve their governance and incentive structures, reducing pressure to meet quarterly or annual performance benchmarks based on mark-to-market accounting and allowing managers to focus on longer-term returns. This change would be required as institutions come to manage portfolios with a growing proportion of less liquid, long-term investments, since volatility in market prices may reflect market liquidity conditions rather than an investment’s intrinsic, long-term value.6

Emerging markets, though they may present attractive opportunities, also pose many risks and complexities, and returns could vary significantly across countries. As incomes in emerging markets rise and capital markets develop, nonfinancial businesses can expect healthy growth from investing in both physical and financial assets. Returns to financial investors are less certain, however, particularly in countries with low returns on capital or savings trapped in domestic markets by capital controls or a “home bias” among domestic savers and investors.7 These countries will remain susceptible to bubbles in equity, real-estate, and other asset markets, with valuations exceeding intrinsic levels. Foreign investors will need to assess valuations carefully before committing their capital. They will also have to take a long-term perspective, since volatility in these bubble-prone markets may remain higher than it is in the developed world.

A call for government action

Governments will need to encourage the flow of capital from the world’s savers to places where it can be invested in productive ways while minimizing the risks inherent in closely intertwined global capital markets. Governments in countries with mature markets should encourage more saving and domestic investment, rebalancing their economies so they depend less on consumption to fuel growth. Policy makers in these countries, particularly the United Kingdom and the United States, should start by putting in place mechanisms to sustain recent increases in household saving. They could, for instance, implement policies that encourage workers to increase their contributions to saving plans, enroll in pension plans, and work longer than the current retirement age. Further, governments can themselves contribute to gross national savings by cutting expenditures.

To replace consumption as an engine of economic growth, governments in these countries also should adopt measures aimed at boosting domestic investment. They could, for example, provide accelerated tax depreciation for corporations, as well as greater clarity on carbon pricing—the current uncertainty is holding back clean-tech investment. They should also address their own infrastructure-investment backlog, although this could require them to revise government accounting methods that treat investment and consumption in the same way.

In emerging economies, governments should promote the continued development of deep and stable financial markets that can effectively gather national savings and channel funds to the most productive investments. Today, the financial systems in emerging markets generally have a limited capacity to allocate savings to users of capital. We see this in these countries’ low level of financial depth—or the value of domestic equities, bonds, and bank deposits as a percentage of GDP.8 Policy makers should also create incentives to extend banking and other financial services to the entire population.

At the same time, policy makers around the world should create the conditions to promote long-term funding and avoid financial-protectionist measures that obstruct the flow of capital. This will require removing constraints on cross-border investing, whether through restrictions on pension funds and other investors or on capital accounts. Policy makers must also create the governance and incentives that enable managers of investment funds with long-term liabilities, such as pension funds, insurance companies, and sovereign-wealth funds, to focus on long-term returns and not on quarterly results that reflect market movements and can deviate from long-term valuations.

*Article from Mckinsey Quarterly Finance

The Return of the Risk Arbs

2010-11-09T11:21:00.001+08:00

The business of betting on mergers and acquisitions is coming back from the dead.

As Wall Street insists that the merger business will rise again, hedge funds are pouring money into betting on the outcomes of those mergers in a strategy known as merger, or risk, arbitrage.

"We're seeing people dip their toe back in the water and participate," said Keith M. Moore, a managing director at MKM Partners in Stamford, Conn., who wrote the book on the subject ("Risk Arbitrage: An Investor's Guide." He is working on a second edition). "The shops that did exit the business are re-entering or considering re-entering."

Being an arbitrageur sounds simple: Buy the securities of companies that are the target of a merger or a spinoff. Arbitrageurs then make their money on the "spread" — the difference between the announced price of the deal and the amount the stock gains until the deal actually closes.

One reason for this resurgence is there is more to bet on this year. The volume of announced global mergers and acquisitions through the third quarter was up 21 percent from the year-earlier period.

The strategy can be immensely profitable. A bidding war between Hewlett-Packard and Dell for 3Par sent 3Par's stock up from $9.65 before the bids to a final $33 a share, or $2.35 billion, that H-P agreed to pay. Arbitrageurs who bet on the deal profited richly.

In most cases, however, the returns on risk arbitrage are modest and steady unless a deal falls apart. A Credit Suisse index puts the year-to-date return at around 4 percent, and an industry analyst estimates that it will end the year at as much as 7 percent — a decent return for an investment that usually takes less than a year to come to fruition.

"Arbitrage is the business of picking up pennies in front of steamrollers," said Laurie Pinto, chief executive of North Square Blue Oak Capital in London, which works with hedge funds on arbitrage bets. Despite the word "risk" in the name, most arbitrageurs tend to be highly conservative.

Still, it is a risk that fewer Wall Street banks are taking with their own money. Many Wall Street banks stopped after deals were broken at a record pace in 2008 and 2009. The regulatory overhaul of the Dodd-Frank Act will also make it harder for banks to put their own money on the line in risk investments.

As a result, there has been an arbitrageur diaspora. The teams from those banks, either laid off or fearing layoffs, dispersed to join hedge funds or dedicated arbitrage funds to keep directly investing in deals.

The banks have satisfied themselves with earning fees as middlemen. Market participants say Goldman Sachs, Morgan Stanley, JPMorgan Chase, Barclays, Credit Suisse, Bank of America-Merrill Lynch and Deutsche Bank have been increasing staff to help hedge funds buy and sell the merger stocks.

So far this year, there has been a noticeable boom: nearly 40 banks and financial companies have started or expanded teams to advise hedge funds, according to an analyst at a major firm who tracks the industry but would not be identified because of confidentiality agreements with clients.

Even so, hedge funds and arbitrage funds are cautious. "They're picking and choosing the deals they're in," Mr. Moore of MKM Partners said.

It is easy to see why. Many arbitrageurs took a giant hit last week, betting incorrectly that BHP Billiton would succeed in its $39 billion bid for the Potash Corporation of Saskatchewan. Many arbitrageurs — and banks — are still shell-shocked from 2008 and 2009, when the financial crisis caused private equity firms to walk away from giant buyouts because of the difficulty of obtaining financing in closed credit markets.

As deals fell apart, arbitrageurs took large losses. Hedge funds like Citadel Investments, Perry Capital and Angelo, Gordon & Company got rid of nearly all their arbitrageurs.

It was a panicky time for a group of people already known for being high-strung. Arbitrageur is an odd profession that requires its practitioners to be part fortuneteller, part investor, part reporter and part gumshoe, gathering information from executives, board members, official filings, investment bankers, lawyers, regulators and news reports. They are the Hercule Poirots of the finance world, piecing together various and often conflicting stories to figure out who might murder a deal.

"It's very hard to do it as an amateur, because you're competing against people who have all these resources," said Nancy Havens, a veteran arbitrageur and the founder of Havens Advisors. "You'll probably buy at the wrong time and sell at the wrong time."

The article above was taken from NY Times.

Looking for Investments, China Turns to Europe

2010-11-03T10:21:00.001+08:00

PARIS — When Prime Minister Wen Jiabao of China visited Athens last month, he came bearing gifts: billions of dollars worth of business deals and a wave of favorable attention from a crucial foreign investor.

“The support of our Chinese friends is fortunate for us,” Greece’s minister of state, Haris Pamboukis, said by telephone.

But China had much greater ambitions. Greece is one foothold for China’s broad, strategic push into Europe. It is snapping up assets depressed by the global financial crisis and becoming a significant partner of other hard-hit European nations.

Ultimately, analysts say, Beijing hopes to achieve not just more business for its own companies, but also greater influence over the economic policies set in the power corridors of Brussels and Germany.

“They are indicating a willingness to stick their nose into Europe’s business,” said Carl B. Weinberg, chief economist of High Frequency Economics.

“It’s very clever and sends a clear message,” he added, “that China is a force to be contended with.”

That message will be reinforced by a visit this week by China’s president, Hu Jintao, who is scheduled to meet with top officials and business executives of Portugal and France.

Europe’s financial crisis this year has created buying opportunities for cash-rich investors, including secretive hedge funds and Qatar, the natural gas giant of the Persian Gulf that recently agreed to invest $5 billion in Greece. But China is leading the charge. It is singling out Greek, Spanish and other downgraded government debt, as well as ports, highways and industries in troubled countries on Europe’s eastern and southern edges.

Ireland and Hungary, among others, are also competing to lure Chinese investments, in the hopes that they will create thousands of new jobs.

“What is happening is that the Chinese are expanding in Europe as they did in Africa,” said François Godement, a senior policy fellow of the European Council on Foreign Relations. “But in Europe, they’re coming in through countries on the periphery, which is extraordinary.”

China is concentrating its efforts on ports in Greece and Italy and highways that link Eastern Europe to Germany and Turkey, and aims to secure larger infrastructure investments over time. It has provided billions of dollars in state financing for key public works projects that support Chinese state-owned companies and Chinese workers.

Such moves could give China a bigger presence in the European chain of distribution and production, while allowing it to build a track record of investments that it hopes will also encourage Europe to support its position on divisive currency issues and in trade disputes at the World Trade Organization.

During his recent European tour, Mr. Wen reminded politicians in Brussels that China had acted as “a friend” to Greece, Spain, Italy and other troubled European countries in their darkest hour by buying bonds as other investors fled. In return, he admonished regional leaders not to “pressure China on the yuan’s appreciation,” referring to the Chinese currency, formally called the renminbi.

In the past several months, China has pledged to buy Greek bonds when the government starts selling again, and purchased $625 million in Spanish debt. On his visit, Mr. Wen hailed scores of business deals in Italy and Greece, including one that allows a Chinese state firm to run Greece’s top shipping port — one of the largest European gateways for Chinese goods.

For China, plowing a small but growing share of its more than $2.3 trillion in foreign currency reserves into European investments instead of low-yielding United States Treasury bills helps diversify its portfolio. Beijing also hopes that this kind of push helps reduce the international political pressure to raise the value of its currency.

“It’s not a coincidence that China is doing this,” said Jens Bastian, an economist at the Hellenic Foundation for European and Foreign Policy. “They have huge currency reserves, and these countries where they are going right now have a dying need for foreign investment.”

While Chinese foreign direct investment in Europe is still small compared with its investments in other regions, it has grown quickly over the past two years. And this spring Europe overtook the United States as China’s largest trading partner.

Struggling Ireland is also looking for a piece of the action, and moves are afoot to create an “investment gateway to Europe” for China in the town of Athlone, which hopes for the creation of thousands of jobs. Prime Minister Brian Cowen of Ireland said in June that China had vowed to be “as helpful as they can to a friend like Ireland in the difficult times that we have.”

The investments also allow Beijing to advance the interests of Chinese companies as they go global. Mr. Wen last month talked up a $4.5 billion credit line that troubled Greek shipbuilders could tap — but almost exclusively to purchase Chinese-made ships. An additional $5 billion is flowing to Greek coffers from China’s state-run Cosco shipping company, which is leasing Piraeus, the port of Athens, to transform it from Europe’s largest passenger port to a much bigger hub for cargo, with aims to more than double traffic to 3.7 million containers in 2015.

In Italy, Cosco is expanding the port of Naples, while HNA, a logistics, transportation and tourism group based in Hainan Province, China, is in talks to build a giant air terminal north of Rome for cargo arriving from China. Mr. Wen pledged an additional $100 billion in trade with Italy through 2015 and heralded 10 business deals between Chinese and Italian businesses.

Some of China’s investments have already raised eyebrows. Last year, China outbid European companies to build a highway in Poland using a Chinese business and workers — with European subsidies — prompting Chancellor Angela Merkel of Germany to call for reciprocity.

In the coming decade, Europe will be considering numerous new projects, such as clearing the Danube River of wartime ordnance to use it as a transportation passageway; building railways between countries like Germany and Macedonia; and carving new highways from Germany to Turkey, Mr. Bastian said.

“What Europe lacks is a transportation infrastructure network where Western and Eastern Europe meet,” he said. “This is where China is trying to take advantage of their current buildup.”

Still, for all the fears of ulterior motives on China’s part, many Europeans welcome the investment with open arms. China is mainly interested in promoting trade and making money, said Mr. Pamboukis, the Greek minister of state.

China’s investment strategy in Europe is “discreet and well thought-out,” he said. “I don’t think China is coming in here as a Trojan Horse.”

This article was taken from NY Times.

One Saving Strategy: Bank One Salary

2010-10-29T11:11:00.001+08:00

Now that our financial lives are a bit more stable than they have been in recent years, my husband and I need to create a new budget and figure out what our saving and spending strategy should be.

Recently, some family friends suggested we try what they did when they were our age: save the smaller salary entirely and use the bigger one to pay for everything else. They said this strategy allowed them to save up enough to buy a home and start learning early how to accrue wealth.

I have suggested the idea to my husband but so far we haven’t gone down this path. Instead, we’ve just divided up the bills between us and still have to come up with a new plan for how much we should put away each month. I’m tempted, however, to change our saving strategy and follow our friends’ advice.

Others have thought of this strategy as well. Apparently, the strategy was mentioned on a recent episode of “The Oprah Winfrey Show,” and some bloggers suggested it was a smart way to get used to, and prepare for, living on one salary, in case one spouse was laid off or decided to stay home with children. And here’s another tip: save the least secure salary.

If you are part of a two-income household, have you tried to bank one salary? Why or why not? What do you think of the idea of banking one salary entirely?

Taken from a NY Times article.

Investors, Fleeing Low Yields, Rush Into Emerging Markets

2010-10-09T15:27:00.000+08:00

Investors caught in the middle of simmering global currency tensions are finding little option but to grab anything that is emerging markets as low rates and a falling dollar feed into a rush into high-yielding assets.

Key finance chiefs meeting in Washington and Seoul over the coming weeks will try to sooth tensions, intensified by Japan's currency intervention, expectations of more money printing in the United States and Brazil's measures to slow capital inflows.

But such flows into emerging markets are part of investors fundamentally rebalancing their portfolio, away from low-growth advanced economies into the emerging world which some estimate will generate 85 percent of global growth in the next decade.

Emerging markets are still under-represented in global market indices. For example, emerging markets account for $3 trillion, or only 15 percent of market capitalization of the benchmark MSCI world index.

"It's an ultimate paradox at the moment. Investors sitting on a neutral asset allocation are only exposed 15 percent to emerging markets. You're pushing at an open door when you are talking to clients about diversifying out of the West," said Michael Power, global strategist at Investec Asset Management.

"It has become almost indiscriminate. It used to be Growth At the Right Price. Now it's almost Growth At Any Price. We're moving from emerging markets as an option to a permanent feature in asset allocation portfolio."

Friday's worse-than-expected U.S. employment report reinforced expectations the Federal Reserve would introduce more monetary easing in November, pushing the dollar toward 8-1/2 month lows [.DXY 77.18 -0.205 (-0.26%) ] against a basket of major currencies.

"There's a massive credit upgrade cycle in emerging markets. That means capital gains. Advanced economies are riskier than emerging markets. That hasn't happened in my lifetime," said Ashok Shah, chief investment officer of London and Capital.

Seismic Shift

As flows into the emerging world snowballs, some investors are starting to flag risks surrounding the EM boom with currency politics over the next few weeks providing some caution.

After the weekend's meeting of Group of Seven and IMF officials in Washington, the Group of 20 finance ministers meet in Seoul later this month while U.S. mid-term elections are due on November 2.

Even with key currency talks and some measures to counter inflows, an investor stampede into emerging markets is showing no signs of abating.

Fund tracker EPFR Global said flows into emerging equities hit a 33-month high of $6 billion in the past week.

The Institute of International Finance raised its estimate of net private capital flows to emerging markets to $825 billion this year, compared with $581 billion last year.

The IIF said the biggest share of private capital flows is likely to come from portfolio equity investments by foreigners.

The MSCI EM index has gained 10 percent this year, hitting a 27-month peak in the past week. This compares with a meager 4 percent in the wider MSCI world equity index.

"Market capitalization remains small and the majority of global investors have only a fraction of EM exposure within their portfolios, despite the fact most major indices generated very little in the way of returns over the past decade," said Craig Farley, investment manager at Ashburton.

"We believe we are witnessing the start of a seismic shift in the other direction."

Buy and Hold Strategy Not Dead Yet for 94-Year-old Equity Investor Zajac

2010-09-29T18:53:00.000+08:00

Stick with stocks, says investor Edward Zajac. He should know. The 94-year-old has been trading for 72 years and said he’s made about $2.5 million.

“I am a live, open-hearted investor,” said Zajac. “I’m willing to hold that stock 5, 10 years, if I have to.”

Zajac, who lives with his daughter in Henderson, Nevada, bought his first stock, Petroleum & Resources Corp., in 1937 while attending the University of Illinois. He’s invested full- time since 1968, after retiring from installing computer systems to travel the U.S. in a recreational vehicle with his wife.

He has stood firm even as many investors fled equities and hoarded cash since the financial crisis. More than $600 billion have gone into bond funds since the end of 2008, according to the Investment Company Institute, a Washington-based trade group. That’s even as 68 stocks in the Standard & Poor’s 500 Index paid dividends exceeding the average corporate bond yield of 3.8 percent as of Aug. 31, more than at any time in at least 15 years, data compiled by Bloomberg and Charlotte, North Carolina-based Bank of America Corp. show.

Individuals can make a profit in the market, according to Zajac, who said he’s in good health except for “numb feet.” He researches companies using Standard & Poor’s guidebooks at public libraries or more recently on a computer at home and places orders by calling his broker through a 1-800 number. As of September, his $412,000 portfolio held about 8 bond funds and 50 stocks, including Dow Chemical Co., International Paper Co. and Microsoft Corp.

EZ Method

He said he’s earned $2.5 million over the years using what he calls the “EZ investment method” -- after his initials. The six-step investing strategy fits on an 8-and-a-half-by-11 size sheet of paper and includes:

Seek firms with promising products, “like a hula hoop.”

Buy companies with an A or a B credit rating.

Pick stocks that are at least 25 percent owned by funds and institutions because that means smart analysts are recommending them.

Look at the stock’s high and low closing prices for the past two years. Don’t buy if the current cost is near the peak.

“I don’t play anything where the odds are against me. That’s why I don’t put a nickel in the slot machine,” he said. “I don’t buy anything on margin. None of this fancy puts, calls, futures.”

The price-earnings ratio, or share price divided by earnings per share, should be less than 16 while the dividend yield has to be 2 percent or higher, said Zajac, who only buys equities that distribute income. He prefers companies that have paid dividends consecutively for at least 10 years.

“There’s a lot of crime out there -- Enron, Madoff,” he said. “If a company isn’t paying out money I don’t know if they’re making it.”

Handwritten Records

Zajac has recorded his earnings in handwritten notebooks for decades and checks on his investments daily by calling his broker of almost 20 years, Chris R. Freymuller, a senior vice president of investments with Wells Fargo Advisors, a unit of San Francisco-based Wells Fargo & Co.

“He knows every penny of dividends and interest that hit his account,” said Freymuller, who is based in Salt Lake City. “He buys quality blue chips when they’re beaten down and they pay good dividends and he sells them when they come back.”

Zajac said he bought 100 shares of Caterpillar Inc. at $27 in March 2009, for example, and sold them this month at $70.

“I take advantage of opportunities,” he said. “If we have a second dip like they keep talking about, I’ll be in there with $100,000.”

Buy, sell or hold?

2010-09-27T12:32:00.001+08:00

THE Philippine stock market is not overvalued but it’s not cheap either. Our view is that the market is trading at a price-earnings multiple of almost 14x against 2010 forecast earnings. Over the past five years, the market has traded as high as 17x and as low as 9x. The average during that period was 13.3x. So basically, we are at the mid-point. Where do we go from here? How soon do we get there? Is it time to buy, sell or hold?

I think the market is a bit ahead of itself. New money from local and foreign investors is what has brought our market into these uncharted waters. I don’t think that it’s over either. Demand for Philippine equities will continue to be strong for as long as interest rates remain low, the economy continues to outperform, corporate earnings continue to grow, and we remain on the radar screens of foreign institutional investors.

As for interest rates, look for a change of stance from the Bangko Sentral ng Pilipinas soon. One number points to this: our 7.9-percent Gross Domestic Product (GDP) growth. Another factor to watch out for is unemployment. In July it was reported that unemployment was at 6.8 percent, the lowest level since mid-2008. If we can maintain GDP growth at close to 8 percent and new jobs are created, this will have an inflationary effect and will force the regulator to act. Having said that, we don’t think we will see any drastic tightening in the near future and certainly not a move large enough to drive investors away from the equities market.

The real question is whether we can sustain a GDP growth rate above the 7-percent level, not just for the rest of the year, but for 2011, 2012 and beyond. This will be a challenge. The government has already started to cut back on spending which is sure to have an impact on short-term performance. Spending fell by 9 percent in August against a year ago. They clearly don’t want to blow up the deficit but they also don’t want to put the brakes on growth. President Aquino’s recent business trip to America and the coming PPP (Public-Private Partnership) Infrastructure conference in November are extremely important events. He needs to find the funding from the private sector that will save the government from a huge deficit and keep growth on track.

If this trip to America and the conference are unsuccessful, spending will slow even more. After taking out interest payments, government spending has contracted, year on year, for two consecutive months now (July and August). If this scenario continues for a quarter or more, GDP is sure to slow and corporate earnings will soon follow. This will be the start of the nightmare scenario.

Expectations today are very different. The general view is that corporate earnings will still grow in 2011 although at a slower pace compared to this year. The race for initial public offerings is just beginning with Cebu Pacific leading the charge and a positive re-rating is in the cards. If Aquino finds the commitment from Philippine and international private investors to buy into his infrastructure program, the party will continue long into the night.

This market is not a SELL. If I had to generalize, I would call it a HOLD. Some excellent stocks to hold during a consolidation period are those that offer a high dividend yield.

Consider stocks in the communications sector as your best bets for cash yields. Earnings are growing at a slow pace as a full on text war is underway, but we still expect earnings to grow by a marginal 5 percent in 2011 for this sector. This basically means that the dividend payments should continue. This year Philippine Long Distance Telephone Co. paid out P219 per share in cash dividends or a yield of 8.4 percent against the price of P2,600. Globe Telecom paid a total of P80 per share or a yield of 9.2 percent against the price of P870. You may even get a nice surprise as these stocks have underperformed this year and have some catching up to do.

Phillip Hagedorn is the investment director for equity portfolio management at ATR KimEng Asset Management and chairman of its investment committee.

Tap Your Inner Buffett

2010-09-25T17:37:00.000+08:00

Years of digital innovation means you don't need an M.B.A. or hedge fund job to become a superstar investor.

In February 2000, at the peak of the bubble in dot-com stocks, I wrote an article in FORBES that posed the question: "Will the Web produce the next Warren Buffett?" The story profiled amateur investors who had made small fortunes in tech stocks during that crazy ride to the top of the market. Some had already quit their day jobs. A little more than a month later the bubble popped, and tech stocks crashed. The party was over for these bull market heroes. Or was it?

When I wrote that story there were 5 million online investors. Currently there are an estimated 50 million. Those fleeting dot-com-stock millionaires were merely an early wave in the gathering army of self-directed investors.

Today the playing field has been leveled for ordinary investors. Instantaneous access to information, as well as quality tools and analytics, once available only to professionals, are a few clicks away. Our digital immersion--from laptops and BlackBerrys to iPads and Droids--has spawned rapid-fire innovation in retail financial services. Trades cost $7 at Scottrade, $8 at Fidelity.com. Want hedge-fund-style analytics? The free site RiskGrades.com will run a diagnostic on all the assets in your portfolio using sophisticated econometric modeling to tell you if each holding is worth the risk. Looking to learn from the topflight managers and analysts? Try ValueInvestorsClub.com, Alphaclone.com or SumZero.com.

Don't doubt the power of Web tools. In 2001 Michael Koza, a civil engineer working in the waste management department in Sacramento County, Calif., decided to fire his Morgan Stanley ( MS - news - people ) stockbroker because his $100,000 nest egg was languishing in high-fee mutual funds. "I had a full-service broker because I thought that was the way you were supposed to do it," says Koza, now 51.

But Koza's wife, Maria, had told him he was crazy and urged him to become a do-it-yourselfer. Koza immersed himself in Web research, spending hours each morning before work, during lunch breaks and evenings looking into stocks and devouring company documents online. On the weekends he listened to downloaded recordings of management conference calls in his car. Nine years later the Kozas' stock portfolio has grown to more than $3 million, and Michael and Maria have purchased a new home and several investment properties.

SEC OK's rules implementing Real Estate Investment Trust law

2010-05-15T07:12:00.002+08:00

Corporate regulators finally approved yesterday rules that will implement the Real Estate Investment Trust or REIT Law. There were minimal revisions to the draft issued by the Securities and Exchange Commission (SEC) last April 20 and opened for comments until April 26.

The REIT rules will take effect after 45 days, an official said. "The most substantial [change to the draft] is the capitalization of fund managers from the original P10 million to P100 million," Gerard M. Lukban, commission secretary of the SEC, told reporters after the agency's en banc meeting yesterday. Other than that, "Only editorial changes were made to refine [the rules]."

A REIT, as defined by the rules, is a stock corporation "owning income-generating real estate assets." It must be listed on the stock exchange and have at least 1,000 shareholders, each with at least 50 share of any class. The shareholders must own a third of the REIT's outstanding shares.

In December, Republic Act No. 9856 or the REIT Law, which will allow companies to use pooled capital of investors to buy and manage income-generating property and mortgage loans, lapsed into law. "[The Bureau of Internal Revenue's inputs were included in] this IRR," Mr. Lukban said.

A REIT should have a minimum capitalization of P300 million. It must dispense 90% of its distributable income -- defined as net income adjusted for unrealized gains or losses -- as dividends each year.

Property giants have already expressed interest to acquire funds through the investment vehicle. SM Prime Holdings, Inc., the country's largest mall operator, last week said it was looking to raise as much as $600 million through a REIT. Last month, Ayala Land, Inc. also said it wanted to raise $300 million from REITs.

The rules also list the kind of investments a REIT can make: "A REIT may invest in real estate located in the Philippines, whether freehold or leasehold. At least seventy-five (75%) of the deposited property of the REIT shall be invested in, or consist of, income-generating real estate." Deposited property refers to the total value of a REIT's assets and investible funds. Other allowed investments include:

real estate-related assets;
debt papers issued by the government, whether denominated in peso or foreign currencies;
debt papers issued by other governments or by multilateral organizations such as the Asian Development Bank;
corporate bonds;
stocks of non-property firms listed on the local stock exchange or foreign exchanges;
cash and cash equivalents.

Furthermore, a REIT must appoint a fund manager, who must be independent of the REIT. The manager's duties principally involve execution of the REIT's investment strategy. The rules state that "a REIT shall be subject to income tax ... on its taxable net income ... provided that in no case shall a REIT be subject to a minimum corporate income tax." Earnings from the sale of any real property, or rental earnings from the property, will be subject to value-added tax (VAT). Transfer of securities will not be subject to VAT since a REIT is not considered a dealer.

Alaska Milk (AMC) 1st Qtr profit surges 165% to P523M

2010-05-10T16:42:00.001+08:00

Stock price as of 5/7/2010: P8.80/share
Value Investor Recommendation: BUY at P3.69/share

Sustained sales volume growth, combined with subdued costs pushed net income for the first quarter of the year higher at P523 million from P197 million in the same period last year.

Sales volume across the Company’s core milk products continued to exhibit robust growth rates, lifting revenues for the first three months of the year to P2.98 billion, 12% higher than the P2.66 billion in revenues earned in the same period last year.

Sales volume of the Company’s portfolio of liquid canned milk products expanded due to restocking of trade inventories following strong consumer demand in the previous quarter. Retail consumption of liquid canned milk, evaporated milk in particular, is expected to expand further going into the seasonally strong summer months.

Sales volume of the Company’s UHT line of dairy products, ready-to-drink milk and ready-to-use product, remained brisk as trade supply normalized following disruptions in production and supply chain in the aftermath of the September 2009 flooding wrought by Typhoon Ondoy. Sales volumes likewise grew on the back of the Company’s continuing efforts to expand market shelf space and in-store presence.

Petron posts P1.9B net income for 1st Quarter of 2010

2010-05-10T09:54:00.000+08:00

Stock price as of 5/7/2010: P6.70/share
Value Investor Recommendation: BUY until P6.80/share

The Philippines’ largest oil refining and marketing company Petron Corporation posted a net income of P1.9 billion for the 1st quarter of the year compared to the P874 million registered over the same period in 2009. The company attributed its robust performance to a significant increase in petrochemical sales, higher domestic volumes, and lower interest expenses.

Petron sold 689,000 barrels of petrochemical feedstocks (mixed xylene, propylene, benzene and toluene) in the first quarter of 2010 compared to only 35,000 barrels last year, given that the company had an extended maintenance turnaround in the first quarter of 2009. Petrochemical production also increased with the commercial operation of the BTX unit in April 2009.

Domestic sales volumes also increased by 12% to 10.65 million barrels this year versus 9.49 million barrels in 2009. Higher sales volumes can be attributed to a significant increase in the industrial sector due to a pick-up in economic activity and the aggressive acquisition of new accounts. It is also a direct result of the aggressive retail network expansion that Petron implemented beginning 2009. The company completed the 1st phase of its expansion program in January with the addition of 200 new service stations over a one year period. Petron’s retail expansion program will continue over the next few years to ensure its market dominance.

At the end of March 2010, Petron’s service station count stood at 1,504—the largest in the country.

“We are already seeing strong and positive returns from our recent initiatives aimed at improving our market share and enhancing revenue streams,” Petron Chairman and CEO Ramon S. Ang said. “Moving forward, we hope to build on these as we roll out more projects that will sustain the company’s growth.”

These projects include the upgrade of the power generation system of the 180,000 barrel-per-day Petron Bataan refinery. The planned upgrade will ensure a more reliable and efficient power supply at the refinery and support facilities.

Sales revenues increased by 61% to P55.9 billion in the first quarter compared to P34.6 billion over the same period in 2009.

Portfolio Update - April 2010

2010-05-03T21:11:00.000+08:00

Summary:

2.2% Month-on-Month gain on Total Fund (Equity+Fixed Income+CD).
Cumulative return on equity (stocks) investments of 74% since tracking began last January 2009.
Total Fund return of 21.6% since January 2009.
URC, SPH, and NRCP comprise top 3 holdings on equities.

Plans:

Accumulate undervalued second liner stocks like SPH, COAT, etc.

Portfolio Update - March 2010

2010-04-04T19:37:00.001+08:00

Summary:

4.1% Month-on-Month gain on Total Fund (Equity+Fixed Income+CD).
Cumulative return on equity (stocks) investments of 68% since tracking began last January 2009.
Total Fund return of 19.7% since January 2009.
URC, RLC, and PIP comprise top holdings on equities.

Plans:

Continue to accumulate on undervalued stocks like SPH, COAT, etc.

The Power of Compounding

2010-03-28T20:40:00.001+08:00

At the heart of sound investment theory is a simple calculus known as the Power of Compounding. We know, it sounds like the punch line to a joke you might overhear at a CPA convention. But believe us, there's nothing nerdy about it.

What the bean counters know is this: If you put your money in an investment that delivers a return -- and then reinvest those earnings as you receive them -- the snowball effect can be astounding over the long term. This is particularly true in retirement accounts, where principal is allowed to grow for years tax-deferred or even tax-free.

Suppose you have $10,000 in your bank account and decide to put it into an investment with an 8% annual return. Over the space of the first year, you earn $800 on your investment, giving you a total of $10,800. If you leave those earnings alone, rather than pull them out to spend, the second year would deliver another $864, or 8% on both the original $10,000 and the $800 gain. Your two-year total: $11,664 and climbing.

The compounding produces modest -- if steady -- gains over the first few years. But the longer you leave your money in, the faster it begins to grow. By year 20 in our example, your money would've quadrupled to more than $46,000. If you'd invested $20,000, it would've soared to more than $93,000.

Of course, the power of compounding also works for cash accounts such as money-market funds. But if you adjust the interest rate downward to 4%, you'll see what you're giving up: Your 20-year return on that $10,000 drops to around $22,000. Now dial the interest rate up to 13%, the average historical return of large-cap stocks. At that rate, your $10,000 investment balloons to a rich $115,231.

The lesson is this: The longer you leave your money invested and the higher the interest rate, the faster it will grow. That's why stocks are the best long-term investment value. Of course, the stock market is also much more volatile than a savings account. But given enough time, the risk of losses is mitigated by the general upward momentum of the economy.

Betting on the Blind Side

2010-03-04T08:19:00.000+08:00

This is a very lifting story of a value hedge fund manager named Dr. Michael Burry, who despite the pessimism of his peers and even investors, bet against the subprime mortages beginning in 2004 and won.

"Michael Burry always saw the world differently—due, he believed, to the childhood loss of one eye. So when the 32-year-old investor spotted the huge bubble in the subprime-mortgage bond market, in 2004, then created a way to bet against it, he wasn’t surprised that no one understood what he was doing. In an excerpt from his new book, The Big Short, the author charts Burry’s oddball maneuvers, his almost comical dealings with Goldman Sachs and other banks as the market collapsed, and the true reason for his visionary obsession."

To read the complete story, click on the Post Title.

Berkshire Profit Jumps to $3.1 Billion on Derivatives

2010-02-28T13:49:00.000+08:00

Warren Buffett’s Berkshire Hathaway Inc. said fourth-quarter profit jumped on the recovery of derivative bets tied to the world’s stock markets.

Net income rose to $3.06 billion, or $1,969 a share, from $117 million, or $76, in the same period a year earlier, the Omaha, Nebraska-based company said today in its annual report.

The profit increase, Berkshire’s third straight, helps rebuild a cash pile that diminished since 2007 as Buffett invested in financial firms bruised by the recession. Companies including Goldman Sachs Group Inc. that turned to Buffett for funding are paying Berkshire interest of 10 percent or more. The shopping spree culminated with the November agreement to buy railroad Burlington Northern Santa Fe for $27 billion.

“We’ve put a lot of money to work during the chaos of the last two years,” Buffett said in his letter to shareholders today. “It’s been an ideal period for investors: A climate of fear is their best friend.”

Berkshire had net income of $8.06 billion for all of 2009, a 61 percent gain from the year before. Rising stock prices helped boost book value to $131.1 billion, a 4 percent increase since Sept. 30. The figure climbed about 20 percent from the end of 2008. Buffett typically highlights book value, the measure of assets minus liabilities, in the first sentence of his annual letter to shareholders.

Dec 2009 External Trade Performance

2010-02-25T21:52:00.002+08:00

Total external trade in goods for January to December 2009 reached $81.338 billion, a 23.1 percent decline from $105.824 billion registered during the same month in 2008. Total imports posted a 24.2 percent annual decrease from $56.746 billion to $43.004 billion. Similarly, total exports fell by 21.9 percent from $49.078 billion in January to December of 2008 to $38.335 billion.

Thus, the balance of trade in goods (BOT-G) for the Philippines posted a deficit of $4.669 billion during the 12-month period in 2009, a value less than the $7.669 billion deficit in the same 12-month period last year.

Neda sees 3% Philippine GDP growth with mild El Niño

2010-02-14T15:04:00.000+08:00

THE National Economic and Development Authority (Neda) said on Tuesday that the economy may grow by 3 percent this year if the country is struck with a mild El Niño as predicted by the Philippine Atmospheric, Geophysical and Astronomical Services Administration.

Neda policy director Dennis Arroyo said in a news briefing after the Cabinet meeting in Novaliches, Quezon City, that the 2.6-percent to 3.6-percent growth target for this year remains, with a 2.6-percent growth expected from a “severe” El Niño.

Be A Bad News Bull

2009-10-04T20:11:00.000+08:00

It's better to be a little early than a little late getting back into stocks.

Bad news is good. You can expect more of it. And you can expect the stock market to resume its recovery, which began Nov. 20. Do you find this line of argument perplexing? You have company. A lot of my clients are baffled at the notion that the stock market should be climbing at a time when employment is declining.

Buy if you look back at the pattern in past stock market recoveries, or think about what the stock market represents, the combination of a bull market and a recession will not seem so strange.

To read the full article, please click on the title link.

REITs measure to be finalized by bicam panel

2009-09-22T05:45:00.001+08:00

A BICAMERAL conference committee is scheduled to start deliberations today on a measure regulating the establishment of real estate investment trusts (REITs).

Legislators expressed confidence the bill would soon be approved, while the Finance department urged Congress to limit the provision of tax incentives given the need to raise revenues.

"[I] think eventually the bill will be approved. It is an attractive way for property companies to raise funds from the public and to develop our infrastructure."

House Bill 6379 and Senate Bill 2639 seek to define the legal and regulatory framework for the establishment of REITs — publicly listed corporations whose investors will earn from the ownership of a pool of real estate assets.

A REIT must distribute least 90% of its income to investors annually and as an incentive, both bills state that this 90% will not be subject to income tax. Individual shareholders, meanwhile, will only pay a 10% dividends tax.

The Senate version provides more perks as it grants a lower corporate income tax rate of 25%, instead of 30%, to REITs formed within three years from the law’s effectivity. The Senate bill also exempts overseas Filipino workers who invest in REITs from payment of the dividend tax.

Other incentives offered under both measures include:

documentary stamp tax (DST) exemption for the REIT’s acquisition of real property;
value added-tax (VAT) exemption for the sale, exchange, or transfer of securities that are part of a REIT’s real estate-related assets; and
exemption from creditable withholding tax (CWT) for gains from the transfer of assets to the REIT.

PreNeed kicked into Insurance Commission

2009-09-11T23:56:00.001+08:00

Lawmakers have finally approved a bill tightening regulation of pre-need companies, transferring supervision of the sector to the Insurance Commission (IC) from the Securities and Exchange Commission (SEC).

Approval came four years after the collapse of two big pre-need firms, College Assurance Plan of the Sobrepeñas and Pacific Plans, Inc. — since sold by the Yuchengcos to an investment banker. More recently, the industry saw the fall of the Legacy group of Celso G. de los Angeles, Jr., which regulators have described as a financial scam.

What this means to the Leisure investor: Having the preneed companies inside IC's court should be good news to everyone. The IC imposes very stringent controls, particularly on how the funds are invested by companies. The good side is that your money is relatively safe, the bad news is that you will probably get a lower return - since the companies are "forced" to invest in relatively safe instruments. Moreover, it is likely that you will see that same rate offered across companies - just like life insurance firms in the Philippines.