On Deflation

"The basic prescription for preventing deflation is straightforward, at least in principle: Use monetary and fiscal policy as needed to support aggregate spending, in a manner as nearly consistent as possible with full utilization of economic resources and low and stable inflation. In other words, the best way to get out of trouble is not to get into it in the first place."

"The sources of deflation are not a mystery. Deflation is in almost all cases a side effect of a collapse of aggregate demand.. a drop in spending so severe that producers must cut prices on an ongoing basis in order to find buyers."

By Ben Bernanke

Pull yourself out of the confusion

With inflation slipping down to 0.44% which is a scenario of negative inflation or deflation, the investors are sweating and pulling their pants up inorder to foresee the effects of the same on the economic activities.Inflation drops because of increase in productivity but this is not the situation now.It is because of the fall in demand that prices are falling.But yes if deflation grounds in the economy, the repercussions will be low demand, lower production and weak economic growth.These prevailing conditions will discourage investments.The real interest rate difference between nominal interest rate and inflation becomes very high, making funds costlier. As demand goes down, capacity utilization of manufacturing units declines. This discourages investment in capacity expansion.

With a strong hit, the performances of the companies are surely going to be worsen so the investors need to pre plan while making investment decisions in the deflationary environment.The rule of the thumb suggest that invest in those companies whose products or services are not much affected by fall in demand. So, companies operating in health care, telecommunication and utilities like electricity distribution could be good bet to invest. Services of these companies will remain in demand even if the economy slows down.

Companies operating in sectors like snacks and beverages, health care, utilities and telecommunications can be included in the portfolio as the decline in prices lead to increase in demand in such sectors.Companies with strong balance sheets, which do not have much debt on their books, can also be considered for investment.One has to be cautious and avoid investing in companies that operate in capital goods as the performance of such firms is definitely going to dip further.The real estate companies should also be avoided. In deflation, the general perception is that the prices will further fall resulting in postponement in the purchasing decisions.This will lead to a cash starved situation for the real estate.

Read the report by ET here..

Are toxic assets really toxic?

Accountants record. They don’t analyze. There isn’t a right number and a wrong number. There are just useful numbers and useless numbers. In her book Dear Mr. Buffett, Janet Tavakoli quotes an email from Warren Buffett:

“I’ve looked at the prospectuses, and they are not easy to read. If you want to understand the deal you’d have to read around 750,000 pages of documents.”

A lot of people make the argument that these assets are not toxic at some prices. Theoretically, that’s true. If there’s value in an asset – at some deep discount to par – a high-risk asset can become a low-risk investment.These toxic assets are “meta-bets”. A low price is little help if there is inadequate cash flow or collateral built into the asset. A low price can’t fix an inherent flaw in an asset. If the cash flow generating potential of the asset is almost non-existent, the asset is essentially worthless.

A lot of these toxic assets were similarly structured. They were built to fail.A bad house is a good value at some price. A risky mortgage is a good value at some price. But “meta-bets” are trickier. They can suffer from the same sort of problem Buffett described with the very worst junk bonds – you can actually take a good asset, with good cash flows and then put so much debt on top of it that the only way you can fix the problem is by restructuring the debt. In such cases, a low price is no longer enough. The terms are the problem.

Can debt be a solution to the crdeit crisis?

A nagging question which is haunting the government efforts to revive a dormant financial system especially in US: Can a credit crisis which was the cause of economy slowdown be solved with more debt? The economists have firmly answered a qualified NO to the situation. According to them, it will further worsen the situation and add to the deepening depression, nothing more than this. Then what should be the next move by the Govt. to recover the situation. The government should do its best to restore bank lending to prevent an even worse economic outcome.

U.S. Treasury Secretary Timothy Geithner was only the latest to proclaim what has now become an official mantra. Without credit, which he and others call the "lifeblood" of the economy, you can kiss recovery hopes goodbye. Basically the US economic system is critically dependent on the free flow of credit.

A huge part of the Treasury's economic rescue plan is based on reviving securitization. Experts widely agree that the public sector must enlarge its role during a time of crisis to ensure that the underlying momentum of the economy does not screech to an abrupt halt."In truth, not all economies run on credit. In a legitimate economy, it is not credit that fuels spending and investment, but simply income and savings," said Peter Schiff, president of Euro Pacific Capital in Darien, Connecticut. Prudent lending is a good thing. If creditors have cut back, it is because the risks associated with an environment of turbulence dictate that they should.

Sovereign Wealth Funds - Friend Or Foe?

The relative size of each circle represents the size of the fund; bigger circles for larger assets. As you can see, most of the large circles are in the upper-left corner, where transparency is lower than average and strategic focus is higher than average. It should be the goal of current and future monetary authorities to encourage sovereign wealth funds to open their books up more and promote some level of transparency.

Sovereign wealth funds create headlines as cash-rich foreign nations look to make larger and more focused investments in the modern economies of the United States and Europe. It is becoming increasingly important to understand these funds because of the increasing amount of money they hold and the power and influence this can wield.

The top five largest SWF by assets (data as of February 2008)

• Abu Dhabi Investment Authority (UAE) - $875 billion
• Norway Government Pension Fund (Global) - $380 billion
• Government of Singapore Investment Corporation - $330 billion
• Saudi Arabia 1 (no official fund name) - $300 billion
• State Administration of Foreign Exchange (China) - $300 billion

Read on to familiarize yourself with one of the largest and fastest-growing pools of capital in the world.

Rs 100 cr wiping out in every 5mins from Dalal street

ET reports:After a whopping loss of over Rs 40,00,000 crore in 2008, the stock market is continuing its free-fall and investors have lost an average Rs 100 crore in every five minutes of trade in first two months of 2009. Cumulatively, the total investors' wealth has got eroded by about Rs 2,82,000 crore so far this year. However, the meltdown has been less severe so far this year, as compared to 2008 when an average of Rs 100 crore was wiped off in just two minutes of trade, as per an analysis of stock market losses during 2008 and first two months of 2009.

Taking into account a trading session of five hours and 35 minutes every day (markets open at 0955 hours and close at 1530 hours), an average of Rs 20 crore has been lost in every minute of trade so far this year. This average was, however, more than double at Rs 50 crore in every minuter of trade in 2008.

However, if we take into account the price-earnings ratio, the Indian market seems to have become a bit more expensive in the first two months of 2009. It had become cheaper by more than half during 2008 by this measure. The price-earnings ratio of the Sensex currently stands at 12.82, which is higher than 12.16 at the beginning of the year. However, it had fallen sharply during 2008 from 26.94 at the end of the previous year.

RIL-RPL merger- India's 10th largest M&A deal ever

The all-share merger deal valued at about Rs 8,500 crore between the two Mukesh Ambani group firms, RIL and RPL, has become probably the 10th-biggest ever for the country and the first billion-dollar deal this year.The shareholders will get one RIL share for every 16 RPL shares - which will result into issuance of 6.92 crore new shares by RIL. This is the only billion-dollar M&A deal announced by an Indian entity so far this year. Prior to this, the biggest M&A deal for the year was Quippo Telecom's 49 per cent purchase in Tata Tele's telecom tower arm for 533 milllion dollar.

The biggest-ever deal involving an Indian company so far has been Tata Steel's mega takeover of European steel major Corus for $12.2 billion, followed by British telecom giant Vodafone's purchase of controlling stake in Indian mobile service provider Hutch Essar for about $10 billion. So far, M&A deals worth about four billion dollars are estimated to have been announced in 2009 so far, while in 2008 there were deals worth over 30 billion dollars.