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France could be harbinger of ills

No good news on Doha WTO front. France has blocked all talks on reforming Euro Common Agro Policy, writes Dr Dasgupta.
PTI | By Dr Bhaskar Dasgupta, London
PUBLISHED ON JUL 08, 2003 03:56 PM IST
The India Babble
Last Monday was a rather quiet day for the markets, but after that the Sensex got the wind in its sails and just kept on going up, ending at 3,499.50, a rise of just under 150 points over the week.

There is significant interest from the foreign institutional investors who have, reportedly, pumped in just over $392 million this week itself and are net buyers as of now. A feeling of quiet bullishness is prevalent in the markets, and the presence of small investors, as we noted couple of weeks back, is steadily increasing.

The trading was spread across almost all the sectors, with the exception of the IT sector, which caught a bit of a chill from the US markets. Another interesting factoid, the market capitalisation of the PSU banking sector is at par with the IT sector, and the main reason
behind this being the new teeth given to the banks to pursue delinquent borrowers! About time too, get those dilatory gits to cough up the money locked inside those non-performing loans.

The monsoon is well underway across the country and this will make the consumables sector pretty buoyant indeed. One of the major scrips, Hindustan Lever, showed the benefits of this monsoon. A good monsoon means a lift in the agricultural sector revenues, which in turn will drive rural demand up.

Since Hindustan Level gets ½ of its revenue from rural areas, it is expected to report good numbers in the coming quarters. The Maruti IPO was oversubscribed more than 9 times, and this gave a fillip to the PSU stocks with the market betting that the disinvestment / privatisation bandwagon has finally picked up speed. Pharmaceuticals were in the news as well, with
scrips such as Dr Reddy powering up by more than 1 per cent on news that the US government may be relaxing rules on generic medicines to be released into the market with lesser clinical procedures and trials.

While the markets are booming, a peek at the derivatives market seems to show that the investors have not got a bullish view only. The derivatives market has recently become bigger than the cash market and people are placing bets on both sides, mainly in the individual stock futures segment.

A correction seems to be in the offing, but I am not that sure. The domestic news is all very good, and given the interest shown by the foreign investors, this is here to stay. Until and unless the US market collapses or some other drastic economic/political news comes out, I will not be surprised if the bulls have their way. 

The INR kept on going lower and lower over the week and ended up at a 26 month low of 46.52. The market thinks it is mainly due to additional exporter selling and the foreign financial institutional investor inflows. The free trade agreement signed between India and the Mercosur countries in South America is a good one, it would be interesting to see if the apparels and IT sectors take good advantage of this step to go some significant market share. Mind you, the
transportation costs will be a bit high, but still, we should be able to cover it suitably.

South Africa is waiting in the wings for another FTA which would be also very useful for the minerals and manufacturing industry.

The Babble in the Ivory Towers
Last week, we examined how institutional investors looked at their investments around forced CEO turnover. This week, we look at a different area, that of retail credit risk. Retail credit risk is a difficult subject, and something which affects almost everybody given their exposure to the
banking sector.

In particular, a better credit scoring methodology will be worth its weight in gold, and Tor Jacobson and Kasper Roszbach of the Swedish Central Bank have derived a new method of using VaR for retail credit risk in their recent paper, "Bank lending policy, credit scoring and value-at-risk". The authors use a large retail Swedish data set and use individual default risk estimates to compose a new VaR measure for credit risk. They find that the size of the loan does not affect the associated default risk of the portfolio and also that an efficient selection of the loan applicants can reduce the credit risk down by 80% and provide default risk minimisation.

This is an interesting result. Even considering that this is a theoretical exercise, an improvement of 80 per cent is way out there. This is really strange as the obvious thought which springs to mind is, "Jesus, just what are these retail bankers doing?" Considering that most retail banks have automated credit scoring systems, it is surprising that their default risk avoidance mechanisms are so out of kilter.

One can only think of the main reason behind this result being the difficulty in implementing a bank wide credit scoring system, or the lack of good data, but data is something which the banks have loads of. In addition, the size of the loan having no effect on the default risk is gobsmacking. Almost every retail bank has got separate mechanisms for evaluating retail loans, with banks preferring bigger loans to smaller loans, and since bigger loans are "considered" riskier, they have more stringent procedures. This paper seems to suggest that there is no impact whatsoever. These results definitely mean that every bank should take a close look at its retail portfolio and its default risk minimisation paradigm, and see how close it actually gets to it!

Details of this paper and past columns are available on

The World Babble
The markets took a breather this week after hitting more than 2 per cent up from the start of the week before the DOW closing just over 9,200, NASDAQ at 1644 and the S&P500 at 995. Looking back and ruminating over the performance of the markets, it looks like there is a slight over-optimism and this pause is very pregnant.

The question is, what will the next week bring? There is the meeting of the Fed next week and market participants are expecting a half point cut in the rates. The thinking behind this rather large cut seems to be that the Fed is being very aggressive in trying to push the economy along and get demand stoked up. The problem is, consumer confidence and job’s growth is not cooperating with the Fed. Everybody’s hoping against hope that the economic numbers will improve and this ½ percent rate cut will indeed do the trick. The Nikkei closed up above 9000 finally at 9120 given foreign institutional support, also driven by the expectations of a US interest rate cut.

Looking across the world, it is only the US economy which is doing good. The European economies are painfully rusty, the Japanese economy is being pushed and prodded by the BoJ’s Yen intervention, most of the emerging economies are either too small or too tied to their export markets (read the US market). One sometimes really wonders about the European Central Bank. While being cautious is a by-word for central bankers, the ECB’s caution makes one feel that the Frankfurt Eurotower inhabitants are just this slightly out of phase with the world (say about 2-3 months of phase time!)

One hopes that the proposed new ECB chairman would be better than the current one who is on record saying that deflation is not really that bad. Not THAT BAD??!!!!!

The dollar showed evidence of this, by gaining ground against the Euro on the basis that the expected cut in US interest rates will support and spur US economic growth. The rate started at just under 1.19 and ended the week at $1.6909 to the Euro. But the volatility suggests that people are rather unsure about the impact of the next week’s interest rate decision and I would expect this volatility to continue till there is a regular trend emerging on the underlying economic numbers rather than interest rate decisions.

All this expectations surrounding the interest rate cut, as well as the previous deflation warning, is creating havoc on the bond markets with the prices heading up  at a rapid clip and yields digging a deep hole. The JGB market was hit by a sudden attack of panic selling on Thursday but clawed back some gains on Friday. For no apparent reason but a sudden just a lack of confidence in the regulators and economic guru’s in charge of the market. The problem is, the Bank of Japan does not really have much room to manoeuvre around and this is another indication of how the market gets spooked by silly things.

The demand for gold is winding down, across all sectors including jewelry and industrial production. Over the past 5 years, demand has fallen around 20 per cent across the board, which should be of concern to the gold producers and retailers. On the trade front, the outlook isn’t good for the Doha round. France, as usual, blocked any discussion about reforming the European Common Agricultural Policy and other countries (mainly Germany) are too scared of doing anything about it.

The WTO director general is busy wringing his hands, the US is urging the EU to do something, the Cairns group is jumping up and down, quite a lot of the European countries themselves want a trade deal, but here we go, the intransigence of one country is holding the entire world’s trade agenda to ransom.

If I was to be uncharitable, I would say that if the trade round collapses, France will be responsible for more poverty and unhappiness than anything that the US can do in terms of military intervention.

(Dr Bhaskar Dasgupta will be writing a weekly Monday round-up on markets and indicators. He holds a Doctorate in Finance and Artificial Intelligence from Manchester Business School and works in London in diverse capacities in the banking sector.)

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