Niveshak Jan16

FROM EDITOR’S DESK Niveshak Volume IX ISSUE I JANUARY 2016 Faculty Chairman

Prof. P. Saravanan

THE TEAM Aaron Keith Rego Abhishek Bansal Abhishek Jaiswal Aditya Kumar Jain Anisha Khurana Ankur Kumar Ankit Singhal Anoop Prakash Bhawana Saraf Devansh Sheth Maha Singh Gulati Palash Jain Prakhar Nagori Rahul Bajaj Ramesh Jaiswal Sandeep Sharma Shreyans Jain Vishal Khare All images, design and artwork are copyright of IIM Shillong Finance Club ©Finance Club Indian Institute of Management Shillong

Dear Niveshaks, A very Happy New Year. We welcome you to our first issue for this year. The month saw many ups and downs in the market. The Sensex started on a good note but that did not continue for the month. Crashing below the 24,000 marks, the Sensex finally recovered and ended by falling 1,320 points from the start. The volatility was mainly due to the external factors. The month also saw reports by two major institutions pegging India’s growth on a rising path. Both World Bank and IMF said that India will be the fastest growing major economy in the world. They praised India for the reforms initiated by the government but cautioned that the World growth will also be affected by the slowing growth in the major developing economies of the world. The IIP number released in the month showed contraction in the industrial production mainly led by the manufacturing sector. While CPI number shot up. Both these led to the dampening of sentiment among the investor community as they saw little prospect for the Rate-cut by the RBI. On a global front, falling Chinese economy continued to make headlines as the experts see more fall in the coming months. Oil is not showing any sign of revival. And to encourage more lending by banks, Bank of Japan has introduced negative interest rate. The rate will be charged on the incremental deposit that the banks will make to the central banks. The move will benefit emerging economies like India, where the cheap money will find its way for better returns. Also the stock market in India zoomed up on the day of announcement. On the magazine front, our cover story is regarding the fall in the oil prices. Crashing from the highs of around $125 a barrel to $30 a barrel, the story shows how it is boon for some and bane for others. Article of the Month talks about the Masala Bond. Though little heard of about this type of bond, this is nothing but the issuing of foreign bonds in Indian rupees. The term got its due publicity after the Indian Railways decided to raise funds through this mechanism. FinGyaan section of the magazine talks about the Indian Banks and how they are in deep debt. The rising NPAs, especially of Public Sector Banks is a major cause of concern and the article talks about the issue. The newly introduced Fin Rewind section talks about the Energy Crisis of 1970s. The article takes a holistic view and see the situation from geo-political angle as well. FinSight talks about the effect of the fall of commodity prices on India. The Classrom section gives the reader knowledge about the Exchange Traded Fund. FinView has the interview from Dr. S. Jayprakash, Co-Founder & Vice President of Nanobi Data and Analytics Pvt. Ltd. He talks about the insurance industry and how data-analytics can be used to catapult the insurance industry given the insurance market is still an untapped market in India. To end this brief note, it’s important that we thank you, our readers, for your constant support and appreciation. Please continue to motivate us so that we can come out with more insightful reads in the issues to come. Keep pouring in.

CONTENTS Cover Story Niveshak Times

04 The Month That Was

Article of the month

10 Masala Bond, flavor of the mo-

14 Oil Prices: What’s really going on?

ment

FinGyaan 18 Deconstructing Indian Bankings Achilles Heel

FinRewind

22The Energy Crisis of 1970’s

Finsight

26 Slump in commodity prices Indian perspective

FINVIEW

29 DR. S. JAYAPRAKASH Co-Founder & Vice President of Nanobi Data and Analytics Pvt. Ltd

CLASSROOM

Stay invested! Team Niveshak

www.iims-niveshak.com Disclaimer: The views presented are the opinion/work of the individual author and The Finance Club of IIM Shillong bears no responsibility whatsoever.

30 Exchange Traded Fund (ETF)

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The Niveshak Times

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The Niveshak Times

Team NIVESHAK

A Group of 8 Secretaries to Suggest Ideas In yet another of his signature style of doing work in his way, Prime Minister Narendra Modi set up a group of 8 secretaries to come up with ideas for the upcoming budget. The budget which is being seen as a make-or-break for the government, the pressure is mounting heavily to take the economy to a greater trajectory. PM Narendra Modi has identified 8 key areas which was to be taken up. Each group had to make a presentation to the PM on plans to revive that specific sector. If the ideas are found to be feasible and rational, we might see them in the upcoming budgets. The eight key areas identified are: good governance, employment generation, farmer-centric initiatives, education and health, innovative budgeting and effective implementation, Swachh Bharat, rejuvenation of the Ganga and energy efficiency and conservation. As always is the case in India, we do have lots of plans but how much of them actually materialize is for anyone to guess. But the move is certainly in the right direction having identified key areas to focus on with specialist guidance and planning. India to Grow at 7.8% in FY17 : World Bank In its report ‘Global Economic Prospects’, World Bank hailed India to be the fastest growing economy in the upcoming financial year. The Bank said the country will be the fastest growing economy for the next three years on the back of strong economic reforms initiated by the government. The world economy grew by 2.4% in the just concluded calendar year and is expected to grow by 2.9% in this year. The growth will come from improving conditions in advanced economies but a cause of concern lies in developing economies.

JANUARY 2015

IIM Shillong While India is riding on reforms, the process is slow as the government does not have majority in the Upper House of the Parliament. China is expected to further slide down as the asset bubble settles in its economy. On the other side of the world, Russia and Brazil are feeling the heat of dampening oil and commodity prices in their economy. The report stated ‘The global economy will need to adapt to a new period of more modest growth in large emerging markets, characterized by lower commodity prices and diminished flows of trade and capital.’ Considering that more than 40% of the world’s poor live in the emerging economies, the report aimed poverty reduction and shared prosperity for all. Double Whammy – IIP Down, CPI Up Industrial production contracted by nearly 3.2% in November while the retail inflation was up to 5.61% in December as compared to the same period a year ago. The fall in industrial production, which is measured by the Index of Industrial Production (IIP), was in sharp contrast to the five-year high growth of 9.9% in October. Experts say that this may be due to the shift in the festive season from October (last year) to November (this year) which led to fewer working days in November and hence, lesser production. However, cumulative April-November IIP growth stands at 3.9% this year which is an improvement compared to 2.5% in the same period last year. The rise in CPI was mainly led by the increase in the prices of food items. So, should we expect no adjustments by way of a rate cut by the RBI? Well, we cannot be sure as of now, because of the overall improvement in the IIP and having retail inflation under the comfort zone of the RBI. The central bank will wait till the budget is announced and would then decide on a rate

cut after analysing the fiscal consolidation measures taken by the government. Amazon Went Green by Cutting Cost Generally, it is believed that going green involves a lot of additional expenditure and reduced efficiency. However, the US e-commerce giant, Amazon proved otherwise. Amazon has started a pilot project of using bicycles to deliver merchandises in Mumbai, Hyderabad, Bangalore, Delhi and Chennai. If found successful, the project will be rolled out all over the country. The aim is to reduce the carbon footprint and to find a solution to the growing traffic in cities. The method is also cost-effective and a bicycle messenger could earn around Rs. 8,000 a month compared to Rs. 14,000 for motorcyclists. It is also cheaper for the people to own bicycle as a start-up investment and is a potential employment opportunity for them. It could be one of the best examples of how corporations can reduce cost and at the same time go-green. A dream win-win situation. New Crop Insurance Scheme The government has unveiled a new Prime Minister Crop Insurance Scheme. The premium has been fixed as low as 1.5% to be paid by farmers for all rabi crops and 2% for all kharif crops and 5% for horticulture products. Though the previous governments have had crop insurance schemes, they have not been able to generate much response from the farmers primarily because of high premiums. This resulted in the only 23% coverage among farmers which the government is aiming to increase to 50%. The premium paid by the farmers will be very low and the remaining balance will be paid for by the government in full. The motive is

to provide complete insurance to the farmers against crop loss in the case of a natural calamity. More Funds Needed for PSBs Falling asset quality, growing NPAs and sluggish global demand have resulted in low corporate profitability which is putting pressure on the balance sheet of public sector banks in India. The RBI has informed the government that it will need to inject an additional Rs. 26,000 crore of capital by 2018. Until now, the government has infused Rs. 20,000 crore for bank capitalisation and will further add Rs. 5,000 crore by the end of this fiscal year. In the next financial year, Rs. 25,000 crore will be further pumped towards this end. The government will in total, infuse Rs. 70,000 crore by FY19. The central bank is pushing for cleaning up the balance sheet of public sector banks. As per the data released by the finance ministry, nonperforming assets (NPAs) of public sector banks have increased by 25.19% to Rs. 3.14 lakh crore at the end of September 2015 from Rs. 2.5 lakh crore at the same time in the previous year. IMF Retains India Growth In its latest update on the World Economic Outlook, IMF stated that the Indian economy will grow by 7.5% in FY17 and FY18. The current year growth has been pegged at 7.3%, same as the last year. The report also said the global growth will be 3.4% in 2016 and 3.6% in 2017. Though the emerging market growth still accounts for about 70% of global growth, their share is projected to decline for the fifth consecutive year.

The Month That Was

www.iims-niveshak.com

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Article ofSnapshot the Month Market Cover Story

Market Snapshot BSE Index

BSE

26000

DII

2,000

FII

1,500

29-01-2016

28-01-2016

27-01-2016

25-01-2016

22-01-2016

21-01-2016

20-01-2016

-2,000

19-01-2016

22500

18-01-2016

-1,500 15-01-2016

23000 14-01-2016

-1,000

13-01-2016

23500

12-01-2016

-500

11-01-2016

24000

08-01-2016

07-01-2016

24500

06-01-2016

500

05-01-2016

25000

04-01-2016

1,000

01-01-2016

25500

FII, DII Net turnover (in Rs. Crores)

26500

Source: www.bseindia.com www.nseindia.com

MARKET CAP (IN RS. CR) BSE Mkt. Cap

93,92,133 Source: www.bseindia.com

CURRENCY RATES INR / 1 USD INR / 1 Euro INR / 100 Jap. YEN INR / 1 Pound Steling INR/ 1 SGD

LENDING / DEPOSIT RATES Base rate Deposit rate

Sensex AUTO BANKEX CG CD FMCG Healthcare IT METAL OIL&GAS POWER REALTY TECK Smallcap MIDCAP PSU

9.30%-9.70% 7.00% - 7.90%

3.00%

2.00%

Euro/1 USD

JPY/1 USD

RESERVE RATIOS CRR

4.00%

SLR

21.50%

SGD/1 USD

POLICY RATES Bank Rate Repo rate Reverse Repo rate

7.75% 6.75% 5.75%

0.00%

-2.00%

-4.19% -7.64% -9.01% -12.53% 1.34% -4.95% -3.70% 2.05% -6.05% -2.40% -5.45% -8.69% -0.90% -7.72% -6.19% -7.90%

25960 18456 19346 14139 12022 7825 16931 10941 7338 9486 1944 1324 5982 11779 11104 6770

24871 17046 17604 12368 12183 7438 16305 11165 6894 9258 1838 1209 5928 10870 10417 6235

TECK, -0.90% Smallcap, -7.72% REALTY, -8.69% PSU, -7.90% POWER, -5.45% OIL&GAS, -2.40% MIDCAP, -6.19% METAL, -6.05%

1.00%

-1.00%

% Change

67.89 73.53 56.05 96.70 47.67

GBP/1 USD

Open

% CHANGE

CURRENCY MOVEMENTS INR/1 USD

% change

IT, 2.05%

Healthcare, -3.70% FMCG, -4.95% CD, 1.34% CG, -12.53% BANKEX, -9.01% AUTO, -7.64% Sensex, -4.19%

Source: www.bseindia.com 1st Jan 2016 to 31st Jan 2016 Data as on 31st January 2016

-3.00%

JANUARY 2016

Article Market of Snapshot the Month Cover Story

Market Snapshot

NIVESHAK

Performance Evaluation

Niveshak Investment Fund

Done on 30/6/14

Bank (6.73%)

HCL Tech.

HDFC Bank Wg: 6.73% Gain: 13.79%

Infosys

TCS

Wg: 4.70% Gain : 15.73%

Wg: 4.27% Gain: 43.52%

Wg: 4.19% Gain : -2.96%

FMCG(21.66%) Colgate HUL

Britannia

Wg: 5.80% Gain : 11.95%

Wg: 6.69% Gain: 167.19%

Wg: 4.43% Gain: 16%

Amara Raja Wg: 4.45% Gain: 17.18%

Godrej Consm. Wg: 6.63% Gain: 40.08%

Lupin Wg: 7.93% Gain : 48.14%

Midcap Stocks (12.63%) Bharat Forge Wg: 4.17% Gain: -9.71%

Kalpataru Power Wg: 3.55% Gain: -24.21%

Titan Company Wg: 4.41% Gain: --2.99%

Chemicals (8.07%)

Pharmaceuticals (12.21%) Dr Reddy’s Labs Wg: 4.28% Gain: 7.47%

Wg: 4.74% Gain: -7.03%

Misc. (11.04%)

Auto (8.34%) Tata Motors Wg: 3.89% Gain: -24.92%

ITC

Natco Pharma Wg: 4.91% Gain: 3.01%

Asian Paints Wg: 8.07% Gain: 38.17%

Textile (6.16%) Page Indus.

Wg: 6.16% Gain : 14.60%

January Performance of Nivehshak Investment Fund 175

102

165

100

155

145

135

125

115

105

Performance of Niveshak Investment Fund since Inception

1/1

4/1

7/1

10/1 13/1 16/1 19/1 22/1 25/1 28/1 Scaled Sensex

Scaled NIF

Opening Portfolio Value : 10,00,000 Current Portfolio Value : 1443665 Change in Portfolio Value : 44.37% Change in Sensex : 21.33%

30-Jan-14 28-Feb-14 28-Mar-14 05-May-14 03-Jun-14 03-Jul-14 01-08-2014 02-09-2014 30-09-2014 31-10-2014 12-02-2014 31-12-2014 29-01-2015 27-02-2015 27-03-2015 29-04-2015 28-05-2015 25-06-2015 23-07-2015 20-08-2015 18-09-2015 20-10-2015 19-11-2015 18-Dec-15 18-Jan-16

Information Technology(13.16%)

As on 31st January 2016

Scaled SENSEX

Scaled NIF Value Scaled to 100

Risk Measures: Standard Deviation : 19.63 (Sensex 10.50) Sharpe Ratio : 2.06 (Sensex : 1.65) Cash Remaining: 58,000

Comments on NIF’s Performance & Way Ahead : The month of January was a tumultuous one for the markets due to a spree of corporate results that got announced as well as China and Crude oil adding pressure to the markets. Sensex was seen making wild moves during the month having started at 26101.5 and ended at 24374.31. On the international front the coming month will see a similar focus on China’s economic performance and the possibility of Brexit becoming a reality will loom large on the markets. As the markets prepare for the budget there could be a bit of calm returning to the Indian stock markets. The portfolio returns saw most of the stocks the stocks falling in value, with the exception of Infosys which increased by 3% during the month. With a few results still pending, we can expect a little volatility in individual stocks in the coming month.

Masala Bond, flavor of the moment

NIVESHAK

At present when the bond is issued using dollar or other foreign currency where the currency fluctuation risk lies on the Indian company or the issuer of the overseas bond. The weakening of the rupee during the tenure of the bond can, for instance, add significantly to the cost at the time of redemption or payment – normally at the end of five years. But the issuer gets rid of the risk by pricing or

issuing bond in rupees and hence passes on the risk to the investor. With the Masala Bond, a corporate could issue Rs. 100 crore worth of bonds with the promise of paying Rs.110 crore at the end of one year. But as the Indian rupee has limited convertibility, the investors will lend the dollar equivalent of the Rs. 100 crore. After one year, the Indian corporate needs to pay back the dollar equivalent of Rs. 110 crore.

SiddharthAmitanshu

Introduction With the Narendra Modi’s announcement about the Indian Railways issuing bonds and listing them on the London Stock Exchange (LSE), the Indian Masala Bond got much needed publicity among the masses. Though it is not the first time that the Indian companies have raised debt funds overseas through bonds offering, but they have been borrowing in dollar and other foreign currencies. What’s new about the new bonds? Indian Railway Finance Corporation (IRFC), the financing arm of the Indian Railways has proposed to raise funds for the capital expenditure by issuing bonds denominated in the Indian rupees. Several other Indian issuers like Housing Development Finance Corporation (HDFC), which plans to raise $750 million, IIFCL, a state backed funder of infrastructure projects, Power Finance Corporation Ltd, which arranges finance for

JANUARY 2016

Article of the Month Cover Story

NIVESHAK

NITIE, Mumbai

the electrical power sector, National Thermal Power Corporation (NTPC), Yes Bank, etc are next in line. But the first overseas rupee bonds, also known as masala bonds, were issued when the International Finance Corporation, investment arm of the World Bank, in November 2013, issued a Rs. 1000 crore bond to fund infrastructure project in India. Since then, it has raised Rs. 100 billion through these bonds. These bonds were listed in the London Stock Exchange (LSE). Rating agency Standard & Poor, expects the issuance of masala bonds to touch $5 billion annually over the next two to three years whereas Barclays Plc forecasts that the market will reach $50 billion within next three years. The figure below provides the year on year rupee denominated bond issuance by the Indian companies. How does issuing bonds in rupees help an Indian issuer? © FINANCE CLUB, INDIAN INSTITUTE Of MANAGEMENT SHILLONG

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The currency risk is with the investor. Besides, the overseas borrowing is relatively cheaper, with an average of 200 basis points, than compared to India. Thus it will reduce India Inc’s cost of capital, which is one of the highest in Asia, over the period of time. According to the rating agency Fitch, the nonbanking institutions which rely heavily on the domestic banks for funding could particularly benefit from masala bond. Also, it helps in adding new and diversified set of investors for the Indian companies and infuse more liquidity in exchanges like London, apart from bank funding and corporate bond market in India.

country) on interest income of such bonds to 5 per cent from 20 per cent, making it attractive for investors. Also, capital gains from rupee appreciation are exempted from tax. Globally, there is ample liquidity thanks to lower interest rates in developed markets, but there are very few investment options due to weak economic conditions globally. India is that rare fast-growing large economy, and masala bonds is one way for investors to take advantage of this.

And what’s in it for the foreign investor?

It will be welcomed by both Reserve Bank of India (RBI) and the government as the foreign currency exchange rate risk will be reduced. RBI has also set a cap on the funds raised through masala bond by an Indian entity of $750 million per year with a minimum maturity of five years. Many Indian firms with a heavy overseas borrowing do not hedge their debt exposure or cover their risks which is a matter of grave concern for RBI. Though the borrowing will be counted as a part of India’s overall foreign borrowings, issuance of such bonds in Indian rupees will be welcomed as it will reduce the foreign currency risk. It will also increase the international acceptance of the Indian rupees. Also it can help in testing the medium and long term internationalization of the Indian rupees and the confidence of the international investors. But there is a potential worry for RBI, as the issuance of

If an investor buys a bond issued by an Indian company at the rate which is, say 250 basis points above the global accepted pricing benchmark, which is London Interbank Offering Rate (LIBOR), is betting on the growth of India and is hoping that Rupee and the inflation would be stable enough to ensure good returns after hedging the foreign exchange risks. It is projected that India’s GDP will grow at reasonably fast clip over the next few years. This should encourage many foreign investors to buy masala bonds and join the party and to earn higher returns compared to Europe and the US where interest rate are still low. It should also be noted that the ministry of finance has cut the withholding tax (a tax deducted at source on residents outside the

JANUARY 2016

From the perspective of the government and RBI, what does the issuance of rupee denominated bonds abroad indicate?

masala bond grows, the currency rate setting can cause an issue. Also foreign investors may prefer to hedge their rupee investments in the Non Deliverable Forward Market abroad, over which the Indian central bank has no control. Foreign investors prefer to hedge their risks overseas because there are limited products in the Indian market, especially for longer periods. With full rupees convertibility, masala bond can help rupee go global but if companies decide to rely too much on them, it can have repercussions too. As of December 2014, the corporate overseas borrowing stood at $171 billion. The recent turmoil in the Indian rupee is already prompting caution on the existing foreign exposure. With the Indian economy still on shaky ground, too much of reliance on the external debt can affect the economic rating of India. Have other emerging market countries done something like this? China has already issued bonds in their currency (Yuan) in Hong Kong named as Dimsum Bonds. It plans to issue more as a part of its plan to push its currency into global trade. Japan also issues similar bonds in their currency (Yen) called Samurai Bonds. A key difference between India and China is that, unlike China, the Indian government has never borrowed abroad on its own — preferring to push its state owned firms, instead. And RBI, unlike the Chinese central bank, cannot issue debt with no legal sanction for it. There has been constant rise in the demand of Dimsum bonds which has promoted the usage of yuan in the global trade and investment. It also provide investment avenues for yuan holders outside China. Until recently, Dimsum bonds were attractive to the foreign investors as this market instrument gave them an exposure to yuan-denominated assets which otherwise they could not do as China’s capital controls did not allow them to invest in domestic Chinese debt. But lately, China has opened its domestic market which allows offshore leaders to issue panda bonds which are nothing but yuan denominated

debt sold locally. It should be duly noted that Dimsum bonds succeeded as it did not have to compete with the panda bonds and the country rating of China is higher than that of India’s. The masala bonds will be competing with the rupee bonds which are issued for the foreign investors in India and are listed on local stock exchanges. Bottom-line The masala bond will provide an opportunity to the investors who are not registered in India to take exposure to Indian debt. It will diversify the investor base for the Indian corporations and most importantly, its success will internationalize Indian rupee. However it should be taken into consideration that it would end up competing with products like the Maharaja Bonds. Between overseas and the domestic markets, investors may find domestic market more liquid. Masala bonds are a good to shield the corporate balance sheets from exchange rate risks. But they are best used in moderation as the after effect of too much masala are not pleasant References: ht t p : / / w w w. b l o o m b e rg. co m / n e ws / articles/2015-11-12/rupees-taste-better-thandollars-for-debut-masala-bond-sellers h t t p : / / w w w. b u s i n e s s - s t a n d a r d . c o m / article/markets/sustainability-ofmasala-bond-market-a-challengemoody-s-115112400820_1.html ht t p : / / w w w. t h e h i n d u b u s i n e s s l i n e. com/opinion/columns/masala-bonds/ article7194362.ece http://www.thehindu.com/business/Industry/ masala-bonds-the-flavour-of-the-moment/ article7930287.ece http://profit.ndtv.com/news/economy/articlemy-name-is-bond-masala-bond-1245852 http://indianexpress.com/article/explained/ masala-bonds-in-indias-new-cash-and-currypush/

Article of the Month Cover Story

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Oil Prices: What’s really going on?

AdityaKumarJain

IIM Shillong The world is drowning in oil, they say. Let’s see global supply of oil by a huge margin. Hence, how that happened and the ways in which it is

it has contributed to the disequilibrium in the global demand and supply of oil.

A brief introduction

Saudi Arabia, being the second largest oil producer in the world and a founding member of OPEC, exercises a great deal of influence in the decisions taken by OPEC. Additionally, its relations with Iran, another OPEC founding member, have been strained due to various geo-political issues such as interpretation of Islam, oil export policy, and relations with the USA and the West, among others.

affecting different sides of the story.

The Organization of the Petroleum Exporting Countries, aka OPEC was formed in the September of 1960 by five founding members: Iran, Iraq, Kuwait, Saudi Arabia, and Venezuela. Later, it was joined by nine other nations, out of which Gabon terminated its membership in 1995. Currently it is a 13 member strong cartel playing a major role in controlling the global In 2008, the oil prices peaked at around $145 oil prices. Russia is another important player in the global per barrel, but by the end of the same year, oil crude oil market with its petroleum industry was trading at around $40 per barrel owing being one of the largest in the world. It has the to the recession and consequently the fall eighth largest oil reserves and is the largest in demand. The price started rising again in producer of oil globally, its average production 2009 with the increasing demand from Asian being close to 11 million barrels per day. It countries and went close to around $120 per produces and exports about 12% of the global barrel in 2010-11 and remained stable till mid 2014 before it began plummeting again, and production. has been going down ever since, now trading United States is not lagging behind in this at close to $30 per barrel. “oily” game. After all, it was the first country to commercially extract oil and put it to use. As So what’s the deal? of 2008, it was the third largest oil producer at It is a very complicated question to answer why 8.5 million barrels per day. Their new method the prices of oil have dropped down to such of drilling shale oil reserves, known as fracking, a low, but in essence, it boils down to simple has boomed in the recent past, driving up the economics of demand and supply.

JANUARY 2015

Cover Story

The global production of oil has been increasing with the production processes becoming more efficient and each country trying to capture a bigger share of the pie by producing more and more of the black gold. The U.S. discovering fracking has also significantly boosted the global production levels. The mid-eastern countries, once selling their oil in the United States, are now competing to capture the Asian markets. On the other hand, the demand of oil has been falling with the European and other developing economies becoming weak, cars becoming more efficient by the day with developments in technology and people shifting to more environment friendly fuels in the wake of sustainable development. Some OPEC members like Iran and Venezuela have been pressuring the cartel to cut production in order to firm up the prices, but the Saudis, UAE, and their gulf allies have been refusing to do so. Saudi Arabia says that if they cut down production, then they will lose a major share of their niche market;

even if it helps the prices to go up, they will be benefitting only their competitors. One school of thought suggests that all this is a result of a conspiracy being formulated by the United States and Saudi Arabia, both of which want to hurt Russia and Iraq by replicating what happened in 1980s and resulted in the collapse of the Soviet Union. The USSR’s growth rate had dipped to 3 to 4% in 1970s because there wasn’t any innovation and all their resources were already being used to their full potential, and were unable to provide dramatic increases in productivity. Oil was the primary Soviet export and the falling prices of oil in the 1980s resulted in falling revenues of the Soviet, while their net debt kept on rising till 1991, after which the economy of the Soviet Union collapsed because creditors stopped giving them further loans and started demanding repayments of their money. Saudi Arabia is the most influential member of OPEC, and it can help the present situation by holding back its production for a while, but there’s not much of a sign of it wanting to do

NIVESHAK

Cover Story

that, one reason other than hurting Russia and Iran can be to put United States’ shale industry under pressure. It wants the price in the long run to be $85 per barrel but currently it has a reserve fund close to $700bn and therefore has pockets deep enough to withstand lower prices in the short run. Other gulf producers like UAE and Kuwait also have good foreign reserves and they can also run deficits for several years if required. Who’s losing? Russia’s 70% of export incomes come from oil and gas and therefore it depends heavily on energy revenues. It incurs a loss of close to $2bn every year with a $1 reduction in price per barrel. The government already predicts that the economy will sink into recession if the prices of oil don’t see an upward turn. It has also had to cut down its public spending by a lot owing to the situation. Venezuela, one of the largest oil exporters, is also finding it difficult to pay its way out of the situation due to economic mismanagement topped by the dipping oil prices. With inflation at around 60%, Venezuela’s economy is at the brink of recession. Saudi Arabia, although has reserves enough to bear the brunt, has already had to cut its

JANUARY 2015

public spending by 10% and its budget deficit reached 15% of the GDP last year. Who’s Gaining? Most of the Europe’s economies are characterized by low inflation and weak growth, so the plummeting oil prices come as a blessing to them and will be welcomed by these economies. China, which is about to become the single largest net importer or oil in the world, will definitely benefit from the lower oil prices. Japan imports almost all of the oil it uses, so it is also a country which will gain with the fall in the prices, but high prices earlier had pushed inflation higher, which had been a key part in Japan’s strategy to combat deflation. With the current situation, it will become difficult for Japan to continue with the same strategy. What about India? India imports close to 80% of the oil it uses, and is one of the largest oil importers in the world, so it will mostly gain with the falling oil prices. The current situation will reduce the value of imports in India which will reduce the current account deficits of the country. A $10 per barrel fall in oil price will reduce the current account deficit by $9.2bn which is about 0.43%

of our GDP. The fall in current account deficits will also benefit the value of rupee, as the country won’t have to sell rupees to buy dollars in order to pay the bills. However, a reduction in the value of oil also strengthens the dollar so the benefit is more or less negated. The lower oil prices will also help reduce inflation in the country which is a good sign as it will reduce cost and increase consumer demand. The government subsidy on oil will also be reduced which will help reduce the fiscal deficit of the country, again it is a good sign. But on the contrary, a reduction in subsidy would mean lesser benefit being passed on to the consumer, so it is a double edged sword. On the flipside, India is the 6th largest exporter of petroleum products in the world and it earns us $60bn annually. Consequently, a fall in oil prices would negatively impact our petroleum exports and would hurt our trade deficits as the value of our exports will decrease. Not only that, the petroleum producers in our country will also have to take the brunt with a reduction in their revenues.

prices would benefit the producers and leave them with extra income while low prices will result in savings to the consumers and decrease in revenues for the producers. Study shows that consumers are more likely to pump their extra income in the economy by spending more on goods in the form of expenditure and producers are not more likely to accumulate money for investment. So, in theory, a long period of low oil prices should benefit the global economy, however, we are yet to see the effects in reality. In any case, the oil prices are not likely to recover anytime soon because oil production does not seem to decline at a fast enough rate, though we might see a shift in the trend this year. The demand for oil is recovering in some countries and though that could help the prices to recover in the next year or two, it is unlikely because the supply is way too higher than the demand.

The Bottom Line The world is a consumer as well as a producer, and loss of one is gain of the other. So, high © FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG

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Deconstructing Indian Banking’s Achilles Heel – The Curse of Default FinGyaan

RachitJain

XIM, Jabalpur

Introduction “Govt seeks extra $4 billion capital boost for PSBs to beat NPA blues” – TOI article on 31.08.2015

The headline published in the Times of India pretty much sums up the situation in the Indian Banking sector at the moment. The banking sector has been grappling with the problem of non-performing assets for over half a decade now. When borrowers are not able to pay back the amount they borrowed from

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banks and other lenders as per agreed terms they are classified as non-performing assets by the lender. Under ordinary circumstances when financial institutions (FIs) perform at a moderate efficiency level the ratio of nonperforming assets to total lending of the bank should be not more than 2%. To put things into perspective, the Indian financial system is currently witnessing NPA levels close to 6% totaling to more than 4,00,000 crores, with an additional 10% of stressed and restructured assets. Public Sector vs Private Sector Banks As you may already have anticipated, the private sector banks have clearly outperformed their public sector peers in this space as well, i.e. they have been much more efficient and have had lower number of stressed assets thanks to better due-diligence and credit appraisal mechanisms. Also, a very important factor in getting things back on track for banks with NPAs is their recovery. Private banks with

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their better management expertise, skill set and non-bureaucratic behavior have managed to recover their bad loans at a much faster rate than public sector banks like the State Bank. NPA Figures for Indian Banks As on March 2015 As of June 2016 Public Sector Banks Figures in Rs. Crores - State Bank & Associates ₹ 73,508 ₹ 73,557 - Other Public Sector Banks ₹ 269,483 ₹ 285,748 Total (PSBs) ₹ 342,991 ₹ 359,305 Private Sector Banks ₹ 31,857 ₹ 34,710 Grand Total ₹ 374,848 ₹ 394,015 The Regulators Role The Reserve Bank of India came up with the Securitization and Reconstruction of Financial Assets and Enforcement of Securities Act (SARFAESI Act) in 2002 to enable banks deal with the problem of non-performing assets by vesting more power with the banks on the legal front to facilitate recovery of such loans. Along with the SARFAESI Act, other bodies and mechanisms were set up to ensure smoother resolution of non-performing cases and enable both the lender and the borrower reach an optimal solution. These institutions were the Board for Industrial and Financial Restructuring (BIFR), Debt Recovery Tribunals (DRTs) in each state, Corporate Debt Restructuring Mechanism (CDR) and now the Strategic Debt Restructuring (SDR). However,

none of these have really helped barring a few cases in recovery or resolution but have only contributed to deferring the problem by a few years if not more. Along with the SARFAESI Act, in line with establishments in European and South Asian economies like Korea and Singapore the RBI started giving licenses for setting up companies which would deal in the secondary market for these bad loans and help in recovery, resolution and in many cases reviving these fledgling business by infusing fresh capital into them. These companies are called Asset Reconstruction Companies (ARCs). In India, as on date there are 15 such ARCs dealing in the business of non-performing assets. The primary business model of an ARC is to acquire bad loans from banks at a discounted value and try to maximize recovery to generate a return on investment which is generally higher than the usual ROI because of the higher risk involved in the transaction. One could compare it to the business of junk bonds in mature financial markets. Why the CDR, BIFR, and now SDR are not the right solution. As exclaimed earlier, these methods have failed miserable and continue to do so, here’s why. Most of these mechanisms are developed for the restructuring and resolution of big ticket transactions involving a consortium of lenders. More often than not, it would take almost 20-24 months only for the lenders

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to reach a consensus with a restructuring or stimulus package to support the business entity and create a win-win situation for all parties involved. In situations where banks having to compromise on their recovery value, smaller banks may sometimes jeopardize the entire package by not playing ball. RBI rules mandate for at least 60% of lenders (in terms of loan exposure) and 75% of no. of lenders to agree for any proposal to get through the respective mechanism, i.e. CDR/BIFR or SDR. Increasing number of failed cases under the Corporate Debt Restructuring Scheme. Here are some numbers to validate why the CDR is not the most effective of tools to encourage restructuring of bad loans The Reserve Bank of India on 8th June, 2015 came up with something called the Strategic Debt Conversion option for banks. Under SDR (Strategic Debt Restructuring), banks could take a guarantee from promoters to allow banks convert their debt into equity if promoters fail to honor the terms laid out in the restructuring proposal. Banks will then hold a minimum of 51% in equity capital of the company and can then sell the unit or assets; or effect a change in management. The issue

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with SDR is that banks have only 18 months post conversion of debt to equity to sell the unit. A recent report published by Religare Institutional Research on 4th January, 2016 mentions that SDR would only delay the problem associated with NPAs. Banks might end up financing 30-40 big ticket accounts under SDR, and then convert debt into equity to end up with no real buyers. This in effect will only postpone the classification as NPA. According to the report, banks have already invoked their option of SDR in 15 companies, worth a whopping Rs 81,300 crore and found no resolution in these cases to date. Challenges face by Public Sector Banks Having spoken about the inefficiency of Indian banks and PSBs in particular to control and keep the amount of slippages towards stressed assets in their books, there are certain issues in built in the system which do not allow much room for managers at the head office and branch level in avoiding the current problem. If you thought that corrupt practices of business honchos getting loans sanctioned for big proposals (in excess of 100 crores) via the finance ministry in Delhi were a thing of the past then you are sadly mistaken. Things like due diligence and checking for viability of a project go over the window once there is a call from the ministry babu to get a proposal sanctioned at any public sector bank. The manager at the branch, the general manager at the head office and the directors, all are left with no choice when such a directive arrives. Another plaguing issue lies in the legal system. The challenges faced by banks to enforce their

rights as lender for recovery of bad loans are as bad as those faced by the aam aadmi in getting his pension from the government coffers. Debt recovery Tribunals (DRTs) are not only marred with bureaucracy but also have inefficient management in terms of number of Presiding Officers (judges in the DRTs are called POs) available to hear the pleas of banks and not to forget the level of corruption involved in delaying tactics by promoters and their lawyers. Capital Boost & How the Tax Payer eventually suffers Coming to how this entire problem is directly related to the common man on the street who pays his taxes to the government. If you had a good look at the first quote of the article you might have guessed it. Here’s how I have deconstructed the cycle of flow of funds. Capital boost is the need of the hour for most public sector banks at the moment. Thanks to high provisioning for bad loans as well as Basel III norms making it mandatory for banks to have adequate level of capital for which they would have to raise money from the markets. Raising fresh capital from the market is going to be an immense challenge for bankers. Basel III norms are to be implemented by banks which would require banks to have a higher capital base. The total regulatory requirement under Basel III guidelines will be in the form of a 2 Tier structure - Tier I Capital (going concern capital) will mandate banks to have 5.5% of total risk-weighted assets (RWAs) in the form of common equity, in addition to this there will be a requirement of capital conservation buffer (CCB) to the tune of 2.5% of RWAs. Tier II Capital (gone concern capital) would comprise of general provision and loss reserves which will be another 2% of RWAs. Therefore, we can understand the situation which is pressurizing Indian banks to maintain cleaner books of accounts to be able to raise fresh capital from the public and institutional investors come 2017. A proposal floated by Mr. Jaitley in mid 2015 to get approval for an injection of $4 Billion in the current fiscal of which 50% was earmarked to inject liquidity into state-run banks. Design for Systemic Change Having seen the various issues and reasons for the same, let us take a look at what could

possibly be done by various stakeholders to curb the issue of existing NPAs and reduce further slippages in the long term. The first step which needs to be taken is in line with making the Central Vigilance Commission (CVC) more proactive. The CVC has all the tools in place to punish those who have resorted to unlawful means to avail sanctions from banks either by bribes or by their rich contacts in the ministry. Second and equally important is careful due diligence. Banks do not have the necessary wherewithal to undertake effective due diligence for credit appraisal. Three aspects need to be taken care of while sanctioning any limit – Financial, Legal and Real Estate due diligence. On the resolution front, Fast track DRTs could be setup for cases with outstanding debt of more than 100 crores to make sure unnecessary delays are avoided and disputes if any between the borrower and lender are also settled at a much faster pace. As far as ARCs are concerned, they have been accused of being overly conservative while bidding for acquisition of bad loans. The RBI needs to put some thought into how to bridge this gap between expectations of bank and ability of ARCs to offer a decent bid such that it creates a win-win situation for both institutions. Another proposition would be to set up a bad bank to digest all the bad loans and allow public sector banks focus more on their core competencies. An attempt like this was made though on a very small scale by the RBI by setting up IDBI SASF (Stressed Asset Stabilization Fund), however with no concrete resolution strategy in place for various types of accounts it has now become a burden more than an efficient tool to take care of the pool of stressed assets. The problem of businesses not doing well due to micro or macroeconomic factors will always be there. What would differentiate the scenario now from maybe 10 years from now in similar situations is the ability of financial institutions to tap problems at their roots and identify early warning signs. To be able to extend credit only to the most suitable applicant and be patient with examining proposals. There is still a lot to be done in this space and finding the right synergy between borrowers, banks, and the regulator is key to address this huge issue engulfing the banking sector at the moment.

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The Energy Crisis of 1970’s

AngadSinghAhluwalia

IIM Shillong After the atrocities of World War One, there was a need for a piece of land where Jews around the world could live. The allied powers carved out land from Palestine, which we now call The State of Israel. This caused a lot of geopolitical tension in the region, as a lot of Israel’s Arab neighbours refused to acknowledge the existence of Israel. This led to sporadic wars between the Arab world and Israel over the next decade and a half. The tensions between Israel and the Arab world came to a flash point when on the Jewish holy day of Yom Kippur in early October 1973 Egypt and Syria attacked Israel hoping to win back the territory lost to Israel during the previous wars. The geopolitical ramifications of this war were tremendous, and the effects of the same were felt all over the world. The Arab world was supported by Russia in their attack against Israel, and Israel was supported by its most loyal ally The United States of America. To put it mildly, America’s support of Israel annoyed the Arab world and for the first time “Oil Diplomacy” came into the Picture. The OPEC (Organization of Petroleum Exporting Countries) decide to impose an Oil Embargo on all of Israel’s allies. OPEC announce production cuts of five percent per month

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until Israel withdrew from Arab territories. But there was an even heavier penalty for the “true enemies” of the Arab cause namely The United States and Netherlands- a “Total Embargo”. America’s assumption that an oil boycott for political reasons would hurt the Arab world financially turned out to be wrong as the reduced production of oil was made up for by the increased prices. This Embargo strained a US economy that had grown increasingly dependent on foreign oil. The effects of this embargo restriction were immense. The ensuing energy crisis marked the end of cheap Gasoline, and the market value of the New York Stock Exchange fell by $97 Billion. In the three months following the oil embargo the price of oil shot up from $3 per barrel to $12. Till that time oil prices were being set up by the companies but in December OPEC decided to set the price. This led to the price of oil per barrel going up to $11.65 130 percent higher than it had been in October and 387 Percent higher than the previous year. This situation was exacerbated by the end of the Bretton Wwoods system. In 1970’s oil contracts were stipulated in US dollars with the dollar fixed at around $34 per ounce of gold. In August 1971, the fixed exchange rate system was dismantled giving rise to the

Flexible exchange rate. By the middle of 1973 due to the introduction of flexible exchange rates the US dollar declined by 25% relative toabout other major western currencies. As the oil contracts were stipulated in US Dollars, this decline meant that OPEC revenues fell sharply. This meant that from OPEC’s perspective its members went from a situation where for decades the price of oil had been stable in terms of concerning currency to one where the price of oil started declining rapidly. By making large nominal price changes in 1974 oil producers bought the real price of oil back to its historical levels. Another factor in this worsening situation was the production peak in 1970 in America. Most countries achieved their production peaks by the end of the previous decade which meant all of them were now heavily dependent on foreign oil. All this led to one of the worst energy crisis in America and some European countries. America was forced into recession. Gas controls were introduced in America. There were mile long queues for filling gas. This era also saw the first wave of environmentalism take over the western world. In Ttexas, thermostat settings were imposed in all office buildings in order to conserve oil. Gas free Sundays where petrol pumps were closed down were also introduced. In November that

year Nixon announced pProject Independence to promote domestic energy independence and become self-sufficient in the area of oil production The energy crises also impacted America’s booming car industry. As American companies were producing cars which that consumed a lot of oil and their Japanese counterparts had invested in small cars and fuel- efficient technology. This geopolitical situation changed the economic landscape forever as countries began building huge stockpiles of oil reserves. Countries have learnt lessons from history and realize that the Middle East is a tension fraught tension area. Over the years as new technologies were developed for oil exploration the impact of OPEC has declined to some extent but still holds an huge enormous amount of influence on global economics. If we look at the situation right now, OPEC is keeping their production constant in order to push out certain new technologies of oil exploration from the industry. Saudi Arabia, which accounts for one -third of OPEC’s oil production, has very low cost of oil per barrel which that is around $5-$6 per barrel. Thereir main aim is to ensure consolidation of an industry so that they can hold a monopoly of oil. The western world also takes steps to ensure the geopolitical stability of the region.

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Some issues such as ISIS taking over oil fields led to some imbalance for a while, but now Western powers fearing the situation in 1970 does not tolerate any threat to oil production. In 1979, the Iranian revolution took place which that shattered the oil sector of Iran. As a result, the Oil production from Iran came down. The OPEC increased production in order to offset

the shortfall, but there was still a four percent decrease in total oil production. The oil crisis also led to a greater interest in renewable energy and spurred research in the wind and solar energy. It also led to greater pressure to exploit North American oil resources and many countries developed alternative sources of energy generation. By 1981, OPEC had lost its dominant position as

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that of other countries surpassed its production was surpassed by that of other countries. Saudi Arabia in search of lost market share started to increase production to decrease prices which that led to shrinking profits for high- cost producers similar to the present situation. The price which that peaked in 1979 started to decrease drastically. The embargo led to a discovery of new avenues for energy exploration including Alaska, the North Sea, the Caspian sSea and Caucasus. Exploration in certain Russian basins became more profitable. By 1980, USSR had become the world’s largest producer of oil. A large reason for this decline in prices and fall in the economic and geopolitical power of OPEC came from the move to alternate energy sources. OPEC has relied on stable price demand to maintain high consumption and were successful to some extent. But, they underestimated the extent to which alternative energy would reduce demand. Nuclear power and natural gas started being used for energy generation.

This sudden decline in price caused a serious problem for the poorer oil producing countries such as Mexico, Nigeria, Algeria and Libya as they were not prepared for such a sudden fall in prices. When reduced demand and increased production caused an increase in the supply side, the oil prices plummeted and caused the cartel to lose its unity. This energy crisis was also a reason for regression in America from 1973-75 along with the war in Vietnam and the dismantling of the Bretton Woods system. There was high unemployment along with high inflation. The energy crisis also led to most countries building strategic petroleum reserves for the purpose of national and economic security during any crisis. According to recent data around 4.1 billion barrels of oil are held as strategic reserves of which the government owns 1.4 billion are held by the government. Though in the event of a sudden fall in oil production these strategic reserves are not expected to last for a long time. This embargo has had not only had financial and economic impacts but also environmental and geopolitical ones. The oil embargo led to increased investments in renewable energy as the western world realised how vulnerable they are to any change in oil productions. This was also the time when mass transit gained popularity in the developed nations as an alternate mode of communication.

Countries, where oil reserves were present but were not being explored due to high costs,, were now explored. Every country started building strategic oil reserves and realised the importance of stabilisation of the Middle East. The American war on in Iraq is just one example of how far the wWest is willing to go in order to protect its oil reserves. The excessive western interest in the Syrian war and to neutralise the threat of ISIS is another example. The energy crisis also meant that America realigned its approach in the region from Pro-Israel to ProPeace. The Energy crisis occurred because the western world thought oil would never be used as a political weapon as the middle east was dependent on oil revenues but what they didn’t realise is that oil as a commodity had become much more important to the west. The former Saudi oil minister, Sheik Ahmed Zaki Yamani, once warned his OPEC colleagues: ‘The Stone Age didn’t end because we ran out of stones.’ It ended because we invented bronze tools, which were more productive.” Presently it looks unlikely that the OPEC is in a position to exercise the same influence it did in 1970’s but still the crisis will forever remind everyone of the importance of “Black Gold.”

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Slump in commodity prices - Indian perspective AmoghSathye

However, the root cause seems to be a lower demand rather than higher supply. This is true as a weakening China indicates low demand due to slowing economic activity. China is undergoing a change as their economy is transforming into a capital intensive one from a labor intensive one. As this change is large, it will take China a few years to start

mining activity, India’s coal bill will certainly reduce in the long term but the falling coal prices is an advantage in the current scenario. Modi has launched three projects — Atal Mission for Rejuvenation and Urban Transformation, (AMRUT), Smart Cities Mission and Housing for All Mission in Urban Areas. The National Infrastructure Investment Fund, with an initial corpus of Rs 40,000 crore shall be a very active investor in infrastructure in 2016. Such projects will require a high amount of metals and steel as they are invariably required in construction activities. High prices meant that it was difficult for consumers to buy houses. However “housing

growing at the rate that they were used to in the last decade. A falling Brazil also paints a similar picture. Europe stands on the brink of a deflationary quagmire with consumers playing the waiting game as they anticipate a better deal next week or next month. This means that the prices of other commodities such as metals shall continue to tumble. Also, India seems to be the lone man standing as far as the world economy is concerned. The cost of building infrastructure has reduced with steel and metals such as aluminum and copper are available at cheaper costs. With CIL increasing

for all by 2022” with an allocation of Rs 4,000 crore to the National Housing Bank means that houses will become affordable. With inflation well under control and with the interest rates being reduced by RBI, the sector is certainly set to thrive. Mumbai alone used to consume 3000-3500 tonnes of steel every day when the demand for housing was at its peak. A reduction in prices of commodities a saves huge amount of money, to say the least. The railway budget mentioned that 917 road bridges (both under-bridges and over bridges) are to be constructed to replace 3438 railway

oil money) own 9 % of FII equity in India. Not only did they not fall, but, they have increased by Rs 20,000 crore from December 2014 to November 2015. Clearly, the FIIs have not been fans of “bearishness”.

NMIMS MUMBAI METALS AND STEEL

While the western world celebrates Christmas, India has been celebrating for almost all of 2015 and shall be looking forward to enter the new year on a positive note with a sanguine tone set by Modi as he clearly believes “India’s progress is our destiny.” Happiness is “in the air” as the airline industry is ecstatic about the lower fuel costs. The optimists know that with India’s consumption basket now costing much lesser than before, there are reasons to cherish. CRUDE OIL According to Economic Times, for every 1$ reduction in crude oil price (per barrel), India saves Rs 6500 crore on its import bill and a further Rs 900 crore on subsidy burden. Undoubtedly, the fall in crude oil, which constitutes around 39% of India’s imports, is a welcome change for India as far as expenditure is concerned. While the opposition continues to make his life difficult over the GST bill, this gives the Finance Minister Mr. Arun Jaitley a reason to smile and be confident about meeting the fiscal deficit target of 3.9% of GDP in 2015-16, 3.5% in 2016-17 and 3% by 201718. As the dynamic government has been getting the foreign policy affairs right with oil

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partners such as Iran and UAE, the lowering fiscal deficit looks sustainable. According to brokerage firm CLSA, India can add at least 3%, that is, $60 billion, to the GDP if the prices stay at current levels. Goldman Sachs is betting that the prices will fall to $20 per barrel, so this assumption is certainly “realistic”. US crude oil prices have hit their lowest point since July 2004. Some recovery was observed earlier this week, but it has been too little as Brent remains well below $40 per barrel. In the first eight months of FY16, oil imports fell 43% year-on-year to $61 billion from $107 billion in the same period of FY15, according to the CLSA report. However, it must also be noted that the oil-related exports have fallen to $21 billion from $44 billion in the same period. The net exports ‘Xn’ is clearly positive. It also needs to be noted that the increase in the GDP will be much higher because of the multiplier effect. Investors in the secondary market may not invest in industries that have oil-related exports. But one must realize that the GDP is unaffected by the buying and selling of stocks in the secondary markets. According to the available data, sovereign funds (largely

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GOLD Gold is falling, but this means golden days for India. India is primarily an exporter of ornaments and the total jewelry exports crossed the $36 billion mark in 2013. India imports gold primarily from Australia and South Africa. So, a fall in the price of gold and silver means cheaper raw material for the industry. With the big players (Titan- Rs 9500

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crore, PC Jewelers- Rs 4500 crore) showing good financials, the estimated CAGR of 15.95% for the jewelry industry looks achievable and the jewelry industry is set to reach a size of Rs 530,000 crore by 2018. The sentiment is of prime importance when we speak about gold as people buy gold as hedging against other volatile investments. Further, due to inflation, there had been a tendency to hoard gold. But with a consistent drop in gold prices over the past 3 years, the pattern is set to change. Further, the government is doing their bit to discourage hoarding by introducing attractive Gold bonds which will compete against the existing Gold funds. These gold bonds shall track the price of gold, provide extra interest along with income tax benefits. Also, there will be no bond management charges. The current sentiment among experts is that gold will fall further. Gold and dollar share a contrarian relation as asset classes. As the Fed rate has been increased, an appreciation in dollar is expected which in turn will make gold less attractive causing prices to fall. Another factor making gold less attractive is the reduction in demand by China. All this will further decrease the popularity of gold. This means that the disposable income of consumers shall be diverted towards other forms of investment leading to an increase in GDP.

CONCLUSION All in all, it seems that the fall in commodity prices is a boon for India. With Modi pushing India towards progress, they are poised to grow at more than 7% in the next year having already surpassed China’s growth rate. We are destined to become an economic superpower and the fall in commodity prices is a tonic increasing our strength further. Now is the time to be optimistic about the dreams such as “India 2020 (by Dr. APJ Abdul Kalam)”. Well, at least Modi and Jaitley would agree! .

DR. S. JAYAPRAKASH Co-Founder & Vice President of Nanobi Data and Analytics Pvt. Ltd

The Indian insurance industry seems to be in a state of flux. After a decade of strong growth, the Indian insurance industry is currently facing severe headwinds owing to deteriorating distribution structure and stalled reforms. What according to you is the way forward?

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crossings. The cost is Rs 6581 crore. A bullet train has been proposed in the MumbaiAhmedabad sector. Further, high - speed rail networks are to be setup in the diamond quadrilateral connecting the metros. CIL needs special purpose vehicles for mining purposes. Also, airlines shall be increased between small cities. The development of 4G would certainly require more towers. In fact, a Credit Suisse report mentioned that RJio has built 2800030000 towers comprising a mix of poles and ground - based towers. Transport minister Gadkari‘s Sagarmala project aims to develop the ports with an investment of Rs 70,000 crore. Infrastructure development along the country’s 7500 km long coastline would require metals and steel for sure. Green companies like Enel Green Power are looking to invest in India. This is in line with Modi’s plan to develop 175 GW of renewable energy by 2022. These would require steel and metals for the buildings and the equipment. Cheaper steel is a blessing for them. Frugal engineering will always remain in fashion in India. The Renault Kwid has topped the charts because of affordability. In fact, the auto industry as a whole grew rapidly as October was the third month that saw a double - digit growth (22%) in passenger vehicle sales. Cheaper metals and steel certainly boost these industries. Introducing a minimum import price for steel after proposing a 20% import duty for 200 days mean that the government is playing a smart game and protecting the local industry while the sectors for which steel is a raw material enjoy the benefits of its low cost.

How can big data analytics be used in the insur ance industry for maximising new business, customer retention, reduce leakages and predict customer behaviour?

Customer behavior can be identified more using big data analytics and predicting the Believe in delivering small babies and grow it propensity of loyal customers and similarly big. If we look at the Pradhan mantri Insurance customer attrition prediction can be made scheme, there is a growth in sale of such social easy. insurance scheme as the premium is low and Calls can be minimized based on the call distribution is easier and exactly meeting the center patterns thereby leading to proactive needs of the select segment people. Similarly servicing. different insurance products for different Product designs can be improved by frequent segment should be created and promoted public surveys. specifically. Insurance companies are just reinventing the wheel again and again in the What are career perspectives that can be same manner. Innovative concepts are required. explored by the management students in the For example, like lead banking concept, there field of insurance given the growth potential should be lead insurance concept across the of the industry? a) Management students can bring lot of new country focusing on specific regions Despite strong improvement in penetration innovative ideas in penetrating the awareness. and density in the last 10 years, India largely They can join marketing or sales team remains an under-penetrated market. The available. Though the attrition is very high in market today is primarily dependent on push, this profession, it should be remembered that tax incentives and mandatory buying. What there are many sales professionals who earn more than CEO of those companies. So, all lies can be done to ensure customer pull sales? in the innovation in selling. The yield on the 10-year government bond There is dearth of managerial talent in Tweak the insurance sale process, make it more b) middle office and back office, management easily saleable through mobile apps.. make it students with little bit knowledge and less complex process. No body can read all the certifications on insurance domain, can excel terms and conditions, Please print top 5 points in those areas. that every policyholder should know (for e.g. Statistics inclined students can help the if any customer tell lie to get insurance policy c) management by modeling the policyholder while submitting the proposal, claim money wont be paid as the policy itself is based on behavior in various aspects thereby helping wrong premises ).. please announce atleast 3-5 the growth. points from the landmark judgement cases d) Students can also study actuarial science related to insurance in 2 lines.. it will help courses to join the pricing, valuation, enterprise risk practice areas. people to understand the right and wrong.· © FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG

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Exchange Traded Fund (ETF)

FinFunda of the Month

Ankit Singhal IIM Shillong

create tax events in ETFs Sir, recently I came across a term called ETF. What are they? An ETF is a type of fund which owns the underlying assets (shares of stock, bonds, oil futures, gold bars, foreign currency, etc.) and divides ownership of those assets into shares. The actual investment vehicle structure (such as a corporation or investment trust) will vary by country, and within one country there can be multiple structures that co-exist. Shareholders do not directly own or have any direct claim to the underlying investments in the fund; rather they indirectly own these assets Sir, isn’t somewhat similar to mutual fund? Exchange-traded funds, or ETFs, are similar to mutual funds because both instruments bundle together securities to offer investors diversified portfolios. Yet, the two investment types are marked by significant differences. ETFs trade throughout the trading day, like stocks, while mutual funds trade only at the end of the day at the net asset value (NAV) price. Most ETFs track to a particular index and therefore have lower operating expenses than actively invested mutual funds. Thus, ETFs may improve your rate of return on investments. In addition, ETFs have no investment minimums or sales loads, unlike traditional mutual funds, which often have both. ETFs create and redeem shares with in-kind transactions that are not considered sales. Thus, taxable events are not triggered. Redemptions create tax events in mutual funds, but they do not

JANUARY 2016

Sir, how it is different from index funds? ETFs are considered more flexible and more convenient than index funds. ETFs can be traded more easily than index funds and traditional mutual funds, similar to how common stocks are traded on a stock exchange. In addition, investors can also buy ETFs in smaller sizes and with fewer hassles than index funds. By purchasing ETFs, investors can avoid the special accounts and documentation required for index funds, for example. Other differences between index funds and ETFs relate to the costs associated with each one. Typically, there are no shareholder transaction costs for index funds. Costs such as taxation and management fees, however, are lower for ETFs. Most passive retail investors choose index funds over ETFs based on cost comparisons between the two. Passive institutional investors, on the other hand, tend to prefer ETFs. What are the advantages of ETF? By owning an ETF, investors get the diversification of an index fund as well as the ability to sell short, buy on margin and purchase as little as one share (there are no minimum deposit requirements). Another advantage is that the expense ratios for most ETFs are lower than those of the average mutual fund. When buying and selling ETFs, you have to pay the same commission to your broker that you’d pay on any regular order