Niveshak Nov13

Niveshak THE INVESTOR

VOLUME 6 ISSUE 11

November 2013

Building Bonds of Success

decline of the dollar kingdOm?, pG. 08

Qe- a boon or bane? PG. 24

FROM EDITOR’S DESK Dear Niveshaks, Niveshak Volume VI ISSUE XI November 2013 Faculty Chairman

Prof. P. Saravanan

THE TEAM Akanksha Gupta Anchal Khaneja Anushri Bansal Apoorva Sharma Gaurav Bhardwaj Gourav Sachdeva Himanshu Arora Ishaan Mohan Jatin Sethi Kaushal Kumar Ghai Kocherlakota Tarun Kritika Nema Mohit Gupta Mohnish Khiani Neha Misra Nirmit Mohan Priyadarshi Agarwal S C Chakravarthi V All images, design and artwork are copyright of IIM Shillong Finance Club ©Finance Club Indian Institute of Management Shillong www.iims-niveshak.com

The month of November started with Diwali celebrations that were added on to by the successful launch of Mars Orbiter Mission (Mangalyaan), an approximately $69 million project, on its 300 days journey to the orbit of Mars giving India an edge in the burgeoning space race among the top Asian powers. The month also saw the launch of Nexus 5 and iPhone 5S in the Indian markets and for the first time saw Indian customers lined up outside the stores to buy these phones that were traditionally considered to be part of premium segments and did not generate such responses in markets like India. The selling out of the stocks in such less time reiterated the increasing buying power of the Indian consumers and further increasing the attractiveness of the Indian markets. The speed at which the Sensex touched its highest ever mark of 21294, riding on the $3.5 billion foreign inflow due to unexpected delay in tapering, was only a short-lived victory and we soon saw the Sensex reaching for lower levels, further contributing to the oscillating value of Rupee against the Dollar. Irrespective of all, the biggest news of the month was the retirement of the Master-Blaster Sachin on the 16th of November, indicating the end of an era in cricketing. He was given a sumptuous farewell at the Wankhede cricket stadium, amidst a loud and cheering crowd who had come to witness the God of cricket displaying his bat’s mettle for the last time. On the international front, Twitter’s $25 billion IPO generated mixed reviews among its critiques and supporters. In the current highly volatile times, the dominating position of the dollar as the world’s reserve currency is being questioned. Our Article of the Month ‘Decline of the Dollar Kingdom?’ analyzes the power of US dollar as the world currency and the factors that make us doubt its current position. The Cover Story ‘Building bonds of success’ analyzes, in depth, the current role of debt markets in the fluctuating economy of the country and what can be done to enhance their performance. Since the new governor of RBI, Mr. Raghuram Rajan joined his offices, he brought about a slew of changes, FCNR being among the first of them. The FinGyaan section conceptually explains FCNR and how it affects, not just the foreign investors but also the economy of the country. FinSight article ‘QE- Should countries embrace during crisis’ critically analyzes the impacts of Quantitative easing on a country’s and the world’s economy. NBFCs frequently feature in the news and our Classroom section elucidates the nitty-gritties of this industry. This issue sees the launch of a new section ‘FinPact’ that will analyze various M&A deals and IPOs in the corporate world that ha major impact on the industry. The section will replace the ‘Finistory’ that took you on the journey of last century and deeply analyzed major events that shaped the financial world as we see it today. The very first article of ’FinPact’ probes the impact of a major M&A deal, the ‘Acquisition of Ranbaxy by Daiichi Sanyko’ where Daiichi-Sanyko acquired a 63.92% stake for a value of $4.6 billion in Ranbaxy. To end this brief note, it’s important that we thank you, our readers, for your constant support and appreciation. It is your endless encouragement and enthusiasm that keeps us going. Kindly keep pouring in your suggestions and feedback to niveshak.iims@gmail.com and as always

Stay invested.

Team Niveshak

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

CONTENTS Cover Story Niveshak Times

04 The Month That Was

Article of the month

08 Decline of Dollar Kingdom?

FinGyaan

16 FCNR: Paving Way for

Building Bonds of Success

Finsight

24 Quantitative Easing-

Dollars

A boon or a bane?

FinPact

20 From Ranbaxy to Daiichi

Sankyo-”The start-to- scrap story”

27 NBFC

CLASSROOM

The Month That Was

NIVESHAK

www.iims-niveshak.com

The Niveshak Times Team NIVESHAK

IIM Shillong ICICI Bank Raises Fund From Sale Of Overseas Bond ICICI bank, the largest private sector lender, has raised an amount of $750 million from overseas bond market under its $5 billion global medium term note (GMTN) programme. This is the second debt raising after it had raised SG$ 225 million early in January this year. The amount was raised through the bank’s Dubai International Finance Centre branch. It is a 5.5 year fixed rate Reg S (Regulation S) note with a coupon rate of 4.80 per cent and offered at an issue price of 99.609. The bonds will be listed on the Singapore Stock Exchange. RegS bonds are offered to non-US residents and qualified institutional buyers and they do not enjoy the same legal protection as other issues do. The issue got one of the highest participations from the US and European investors, who together lapped up 66 per cent of the issue, which according to a merchant banker, is a record and highlights the faith of foreign investors in good quality debt from India. Sachin Tendulkar Delighted By The Tributes Following his Retirement An illustrious career of 24 years and one day came to an end with his final test being played against West Indies on November 14, 2013. Sachin Tendulkar played 664 international cricket matches in total, scoring 34,357 runs. He was overwhelmed by the tributes following his retirement from cricket. He said, “Cricket is oxygen to me. In my 40 years, 30 I have spent playing cricket. 75% of my life has been cricket. My association with the sport will continue. Maybe not immediately, but in the near future.” The Government of India declared ‘Bharat Ratna’, the highest civilian honor of the country, to him. He dedicated this award to all the mothers of this country and to those people who have directly and indirectly involved in his success. He also said winning the prize alongside Dr. CNR Rao is a great honor. NSEL Crisis: EOW To Attach Immovable Assets Of Jignesh Shah, Joseph Massey Mumbai police’s Economic Offences Wing (EOW) has attached 166 properties of defaulters it has identified in the Rs. 5,600-crore scam at National

NOVEMBER 2013

Spot Exchange Ltd (NSEL), group company of Jignesh Shah-led Financial Technologies India Ltd (FTIL) and is also set to attach immovable assets of NSEL directors, including Joseph Massey by invoking the Maharashtra Protection of Interest of Depositors Act. Rs.145.57crore have also been recovered from the frozen bank accounts in connection with the NSEL crisis. The beleaguered spot commodity trading company has been facing problems in settling Rs. 5,600-crore dues of 148 member brokers, representing 13,000 investor clients, after it suspended trading on July 31 on government direction. On 14 August, NSEL proposed a payout plan, but it has been unable to stick to the schedule and has not made a single complete payout yet. India Inc Strikes 360 PE Deals Worth $8.9 BN In Jan-Oct Indian companies signed as many as 360 private equity deals totaling $8.9 billion in the JanuaryOctober period of this year, registering an increase of 33 per cent over the corresponding period a year ago. Private equity deal value increased by 14% in October 2013 over the corresponding period a year ago driven by deals in real estate, IT/ITES and healthcare sectors, M&A, and oil & gas space. Government regulations were undertaken relaxing FDI norms in sectors like retail, media and insurance as well as proposed M&A policies for telecom sector. A sector wise analysis shows IT and ITeS space cornered 34% of the total deals as the sector saw 18 deals worth $281 million, followed by pharma and healthcare with 26% of $216 million in value, real estate with 22% of $177 million in value, retail with 7% of $56 million in value and media and entertainment with 4% of $30 million in value. Such deals indicates that private investors are optimistic about complete Indian economic story and they expect and anticipate higher returns for their investments in the Indian Companies. US Economy Not Performing To The Full Potential Janet Yellen, 67, who got nominated to be the new boss of US Federal Reserve, said that US economy and the labour markets were functioning far shorter than their potential and had to improve before stimulus programme is rolled back. This comment

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could be interpreted that there could be no cut in monetary stimulus any time soon. It is expected that quantitative easing will continue till jobless data comes below 7.3%. This liquidity rush was meant a lot to the global markets. After the announcement, the Dow Jones industrial average .DJI was up 62.74 points, or 0.40 percent, at 15,938.96. The Standard & Poor’s 500 Index .SPX was up 4.28 points, or 0.24 percent, at 1,794.90. The Nasdaq Composite Index .IXIC was up 8.64 points, or 0.22 percent, at 3,981.38. In India, the Sensex touched a high of 20559.80 and a low of 20,348.27 in trade today, while the Nifty touched a high of 6100.15 and a low of 6036.65. During the same time, Raghuram Rajan, Reserve Bank of India Governor, allayed the fears of CAD and figured that the deficit would be as low as $56 billion in FY14, which is well under 3% of GDP. These comments were also taken positively by the market and also one of the reasons for the strong market rally. India Launches First Bank Exclusively For Women India launched its first public sector bank catering for women on Tuesday, an initiative aimed at economically empowering millions of women across the country who do not have access to basic financial services such as bank accounts or loans. Inaugurating the first branch of the Bharatiya Mahila Bank in the financial city of Mumbai, Prime Minister Manmohan Singh told dignitaries that despite great successes made by some women in India, many continued to face financial exclusion. Chidambaram had pledged in his budget speech in February that the government would provide an initial investment of 10 billion rupees to help the bank take off. Head-quartered in New Delhi, the Bharatiya Mahila Bank will initially have branches in seven cities including Mumbai, Kolkata, Chennai, Ahmedabad and Guwahati. This will increase to 25 in urban and rural areas by March 2014 and will further expand to 500 over the next four years. The bank will offer usual commercial services, and will accept deposits and give loans to women or to businesses which are either managed by or make products for women. There will be emphasis on providing credit for skills development for women and slight concessions on loan rates. It will largely be run by women, but will employ some men. Savings accounts, but not loans, will be available to men.

Rs.5, 000-CR Liquidity Support To MSEs The Reserve Bank of India (RBI) has said it will provide Rs.5, 000-cr liquidity support to micro and small enterprises to help them sail over difficulties they might be facing arising out of the economic growth slowdown. RBI will provide the support through the Small Industrial Development Bank of India (SIDBI) in the form of refinancing of loans. The refinance will be offered for direct liquidity support to finance receivables (including export receivables) to MSEs by SIDBI or for liquidity support to MSEs through selected intermediaries, that is, NonBanking Financial Companies (NBFCs), banks and State Finance Corporations (SFCs). The facility will be available at the prevailing 14-day term repo rate for a period of 90 days during which the amount can be flexibly drawn and repaid. At the end of the 90-day period, the drawal can also be rolled over. Also, the refinance facility will be available for a period of one year up to Nov 13, 2014. The utilization of funds will be governed by the policy approved by the Board of SIDBI, the RBI said. Twitter Pops On Listing Twitter listed on NYSE on 7th November and surprised one and all with a 73% gain on its first trading day. The company sold 70 million shares in its IPO at $26 a share raising about $1.8 billion. On the opening day the price skyrocketed to $46 a share and hit an intraday high of $55. By the day ended Twitter’s share price settled at $44.9, up 72% for the session. Listed under the symbol of TWTR, the IPO gave it a valuation of $14 billion. Till about noon the number of shares traded in the day reached 70 million shares, the same number of shares as offered in the IPO by the company. The IPO made about 1600 of Twitter’s employees millionaires and they together will pay about $2.2 billion in taxes this year. Also, NYSE handled the entire listing process smoothly which involved a very high volume of trading and no technical glitches were noticed, which was in contrast to the glitches in Facebook’s IPO.

The Month That Was

The Niveshak Times

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NIVESHAK

Article ofSnapshot the Month Market Cover Story

Market Snapshot

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

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

6639,136 Source: www.bseindia.com

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

63.66 84.9199 62.37 102.0415 50.32413

CURRENCY MOVEMENTS

LENDING / DEPOSIT RATES Base rate Deposit rate

9.80%-10.25% 8.00% - 9.00%

RESERVE RATIOS CRR SLR

4.00% 23%

POLICY RATES Bank Rate Repo rate Reverse Repo rate

8.75% 7.75% 6.75%

Source: www.bseindia.com 28th October to 22th November 2013 Data as on 25th November 2013

NOVEMBER 2013

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NIVESHAK

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

Open % change

Close Open

% change Close

-2.20% 3.29% 2.84% 1.63% -1.79% -6.06% 0.80% -6.64% -1.27% -0.79% 1.73% -3.81% 0.10% -0.45% -0.35% -0.93%

20683.52 5965.48 5825.75 11794.35 12445.26 5945.84 8886.59 6860.19 9573.3 8443.43 8975.44 8692.63 1567.66 5615.44 1323.91 4769.11

20229.05 6162.01 5991.2 11986.6 12222.07 5585.62 8957.88 6404.51 9452.12 8376.97 9131 8361.57 1569.24 5589.91 1319.3 4724.71

% CHANGE

Article Market of Snapshot the Month Cover Story

Market Snapshot

Article of the Month Cover Story

NIVESHAK

DECLINE OF THE DOLLAR KINGDOM?

Ravindran Damodaran

IIM Udaipur The year 2008 was the year of world sensation. As it is known, the economic crisis has shaken the pillars of major financial establishments of the world. Four years down the recession as the market recovers and the economic activities in the corporate is improving, evident from the increase in corporate bond sales, there are some bigger economic issues which are slowly brewing up. The issue which is being discussed in this article has been the area of interest of investors and traders over the last couple of months. On the most conservative note, this is one phenomenon whose repercussions can be 10 times bigger than the 2008 economic crisis. The recent developments in the global financial markets have raised questions about the power of US dollar as a world currency. News has it, the US Dollar is losing its charm and could soon lose its status as the world currency. This is one of the most important topics to be studied

by corporates across the world because many do business transactions with US dollar as their main currency of transaction. The loss of dollar’s status as the world currency can affect corporate borrowing rates and increase the cost of doing business. The objective of this article is to evaluate the possibility of this prediction. ‘Hypothesis Testing’ methodology is used to test this phenomenon. Our hypothesis is, ‘US Dollar will stay as the global reserve currency’. But before any test or experiment on the hypothesis, let us dwell into some basics. What is a reserve currency? A reserve currency is the most commonly used currency in the global economy. Central banks will hold them in their reserves and corporate use them for transactions. There are two major requirements of a reserve currency. First, is its strength as an asset and second is its stability measured over time. Any currency which does not have these

“A reserve currency is the most commonly used currency in the global economy which central banks hold in their reserves and corporate use them for transactions” NOVEMBER 2013

NIVESHAK

There are both costs and benefits for United States to maintain Dollar as a reserve currency. If benefits outweigh the costs to USA then the supply of dollar will be more. Benefits of Holding The Global Currency status: One of the major benefits to holding the status of reserve currency is the ability to have lower borrowing costs. However, the Costs Associated with maintaining this global status of dollar include negative impact on

Demand framework to test the Hypothesis. The Framework We will use the supply-demand framework to analyze the global currency market dynamics. According to the concept of ‘Supply and Demand’, if the supply of US dollar is much higher than its demand in the international market then it can be inferred that Dollar is losing its ‘global currency’ status else it can be concluded that the greenback is going to stay around for some more time. Starting the analysis for the ‘supply’ side. Supply Side Analysis

competitiveness in export market. Since maintaining a status of global currency requires the US government to maintain its currency value against other currencies therefore when value of other currencies goes down, exports from US becomes expensive and hence they lose their competitiveness in US market. In the case of dollar, the benefits outweigh costs which gives an incentive for the Fed to increase the supply of dollar. Other Motivators Along with the benefits of dollar as global

The loss of dollar’s status as the world currency can affect corporate borrowing rates and increase the cost of doing business

Article of the Month Cover Story

characteristics is highly unlikely to be a world currency. The most common global currencies including US Dollar, Euro, British Pound and Japanese Yen all share these characteristics. So, the ability of the ‘greenback’ to retain its status as a world currency depends on its ability to withhold these characteristics. Let us analyze the current situation of dollar as a currency and find trends and data to validate our hypothesis stated above. This article will use the Supply-

Article of the Month Cover Story

NIVESHAK

Source: Congressional Budget Office Fig 1: US Budget Deficit/Surplus

currency, there have been other motivators for the Federal Bank to print more dollars in the recent times, post the 2008 recession. Post 2008 bailout plan, the United States government had to infuse more money into its economy to enable businesses to sustain. All these led to an increase in supply of Dollar in the international market. Demand Side Analysis The demand of US Dollar as a global currency is dictated by some of these major factors: Increase in the US Deficit: Countries/ Economies hold dollar as a primary reserve based on the account surplus of the US economy. Economic surplus ensures that the currency is a ‘safe heaven’ for foreign reserves. But, the recent economic deficit of the ‘United States’ (figure 1) has decreased the market’s confidence on Dollar. Stable Collateral To Be Held As

International Reserves Over the last seven decades, dollar has enjoyed the status as the world’s most dominant currency. But, the recent decade has seen a change in this trend as currencies such as Euro, Japanese Yen, Chinese Yuan and British Pound Sterling are being used as substitutes for dollar in foreign reserves. Many factors such as the decreasing value of dollar, portfolio diversification of the country’s reserves etc. are reason to this phenomenon. As evident from Figure 2, while the absolute value of US Dollar as foreign reserve currency has increased the proportion of the currency in the total foreign reserve market has decreased and this is definitely a major concern for Dollar’s existence as a global currency. Emergence of next alternative options: The existence of a possible alternative global currency will reduce the demand of the obligatory global currency. The recent step by

The recent step by China to promote Renminbi as an alternative currency for Dollar in international trade has caused agitations in the global markets

NOVEMBER 2013

NIVESHAK

Article of the Month Cover Story

Fig 2: Dollar proportion in global reserve

China to promote Renminbi as an alternative currency for Dollar in international trade has caused agitations in the global markets. Major economies in the world have also welcomed this move of China with Singapore already agreed to do direct currency trade with China. Russia has also supported the view to have a global economy less dominated by US Dollar. This analysis shows that while the supply of US Dollar is increasing on one hand, the demand for the greenback has been decreasing in the global market. Given the scenario, it is probably likely that US Dollar will lose its status as a global currency in the future to come and hence refuting our initial hypothesis. But one might think, will this really happen? How can dollar lose its global currency status? More than 3/4 of foreign transactions involve US Dollar. These are very logical refutes for our conclusion. However, the answer is- History repeats itself and so do economic cycles. In the early 20th century, British Pound Sterling was the most dominant currency in the world but as the mid

of 1920s emerged Dollar began to emerge as a contender for the reserve currency status and by 1945 dollar was clearly the dominant currency in the globe. So if it happened to Pound Sterling, why not to US Dollar? Michael Pento, President of Pento Portfolio Strategies says “The No. 1 security issue we have as a nation is the preservation of the U.S. dollar as the world’s reserve currency. It’s a thousand times more important than a nuclear bomb being tested by North Korea.” But can the US really do anything to stop the US dollar from losing its world currency status. How well can the Fed manage the macroeconomic cycle? As always, only time can tell.

Michael Pento, President of Pento Portfolio Strategies says “The No. 1 security issue we have as a nation is the preservation of the U.S. dollar as the world’s reserve currency”

Cover Story

NIVESHAK

Building Bonds of Success

Team Niveshak

IIM Shillong India has been considered as a key growth economy in Asia by the foreign investors and it has been a target of many corporates who are looking to outsource to better compete on an international scale. However, the country grapples with serious financial and economic infrastructure issues. A combination of strong equity inclination and continuously rising interest rate biases investors against fixed-rate securities. The initiation of Floating Rate Notes (FRNs) help shield financial institutions against higher rates, but this still does not resolve the issue of mark to market losses on legacy fixedrate instruments. Today, country’s economic growth and development is dependent on availability of sufficient capital. For a country like India with a huge population base, the capital requirements are huge. Most of the development and infrastructure projects rely on funding from government and banks. But isn’t this funding limited? Ah! It sure is; the FRBM (Fiscal Responsibility and Budget Management) Act of 2003, a legislation aimed to reduce fiscal deficit and improve overall management of public funds, limits the project spending. On the other hand, BASEL III norms require banks to meet capital requirements in a more stringent manner. The minimum capital requirement has raised from long withstanding 8% to 10.5% including 2.5% capital conservation buffer. This again limits the bank’s funding available for lending. We can therefore conclude that the debt

NOVEMBER 2013

market is an instrumental and effective source to meet the capital requirements. What has then curtailed its growth so far? Why does it still need a shoving to surface to emerge as a prominent funding option? Well, the reasons are many and we propose to discuss some of them with special attention on the corporate debt segment which has been specially underperforming in this story. Firstly, the lack of central clearing house and standardized trading platform is sensed. Different bonds come under different regulators, which causes conflict of interest. The Indian debt market is dominated by private placements. About 90% of the debt raised in primary markets is privately placed and public issue of bonds is like an urban legend – a story which is humorous but seldom true! This reduces the availability and circulation of bonds in the secondary markets. Then, as always, there are administrative issues which include a plethora of disclosures that act as a deterrent. This also increases the cost incurred and time spent on the part of issuers of the bonds. Banks, insurance companies and pension firms have limitation on their investments in corporate bonds due to several norms. Public issue of bonds is also marred by stringent regulatory requirements. Rationalization of stamp duty is one of the prominent necessary steps to be taken. At present, the stamp duty is 0.25% of the total issue size, however it varies across locations. Taxes are non-uniform

NIVESHAK

Cover Story

Fig 1: Current Status of Indian Bond Market

across states which invites arbitrage where deals are matched to capitalize upon the imbalance. Generally institutional investors like banks and insurers are active in this market. They are long term investors who prefer to buy and hold to maturity and do not enter the secondary market. This hampers the liquidity and circulation. Retail participation remains low because of information asymmetry. Lack of awareness, knowledge and understanding of bonds is a major impediment. The bonds, as we see in the Indian market, are mainly used by the commercial banks to meet their Statutory Liquidity requirements and as the interest rates offered range between 8-9%, commercial banks do not find it viable to proceed with the trading of these securities. Limited availability and circulation of bonds by trustworthy issuers results in an unsatisfactory price discovery process which affects the pricing. As a result there is no benchmark yield curve and no reference. The investment crowds out of corporate debt market because of inclination of people towards Government securities which have registered high growth rate evident from a CAGR of around 20% in the last 4-5 years. The corporate debt segment on the contrary manages a turnover of around 5 % of the Government securities, as reflected in Fig.1. Additionally, Indians are conservative in their investments. They prefer saving money with the

banks (which would give them approx. 6-7% interest) to investing in bonds which invites unnecessary hassles according to them. At present fixed deposits offer interest up to 10% p.a. as against the bonds issued by the Government and the Corporates at interest rates of 8-9% and 10-11% p.a. The bonds therefore do not seem as attractive in India. Moreover, there are various types of risks involved in the debt market like default risk, change in interest rates (prices of bonds fall with rise in interest rates), liquidity risk, reinvestment risk etc. Risk management products are not present. Debt market and especially corporate debt markets do not have market makers to diversify the markets. A combination of a strong equity culture and persistently high and rising interest rates discourages investors against fixed-rate securities. As shown in Fig.2, in 2012, the size of the Indian bond market was equivalent to approximately 27% of the Chinese bond market and around 69% of the Korean bond market. The total volume of outstanding bonds reflects an overall increase of 24% from the previous year contributed by both the government as well as the corporate bonds. In the Asia Pacific region, the corporate bond markets of Malaysia, Thailand, Singapore, and China exceed that of India as a percentage of GDP. India has grown over the last decade. The growth of bond market will not only assist in increasing middle

â&#x20AC;&#x153;The bonds, as we see in the Indian market, are

mainly used by the commercial banks to meet their Statutory Liquidity requirements and as the interest rates offered range between 8-9%, commercial banks do not find it viable to proceed with the trading of these securitiesâ&#x20AC;? ÂŠ FINANCE CLUB, INDIAN INSTITUTE OF MANAGEMENT SHILLONG

NIVESHAK

Cover Story

Fig 2: The Need for a Well-Established Debt Market

class savings, which is critical to the Indian economy but also strengthen the private corporate sector significantly reducing their current dependence on banks as a major source of financing, which continues to be a quasi-monopoly in the lending market. With Basel III norms in place, the banks are required to inject huge amounts of capital to support their balance sheets. This has led banks to scale back their lending activities throughout the Asian region, which is yet another argument in favour of the continued development of local bond markets. The recent exchange rate fluctuations and the significant devaluation of the Indian Rupee have cuddled corporate profits in the scenario of their fulfilling foreign exchange obligations. Lowering the level of borrowing stipulated in foreign currency would also enhance the development of debt market. The US stands as a benchmark in this aspect. The Securities and Exchange Commission has been initiating discussions to improve transparency and efficiency in the US fixed income market. For the traders, real time indicative price is quickly becoming essential. This acts as reference point for the execution of bond trading at a particular size. Also, in the situations where dealers are not in a position to price a bond, the buy side trader takes control over the execution process. Establishing A More Robust Debt Market Developing a sound bond market in combination with creating an adequate credit rating industry would contribute to increased transparency. This would help and benefit the private and public spheres largely. The advances in the domestic debt market can be made by increasing the issuance thereby promoting liquidity in the secondary market. Currently, the volume trading is low that is why liquidity cannot be achieved. Measures should be taken for increasing the investor base of the debt issuance. The high cost of issuance in the market is also another setback

NOVEMBER 2013

for the investors participating in this market. The lack of transparency in the trade processes acts as a hindrance. Therefore, it is required that reforms be introduced to promote the same. Allowing New Participants By allowing new participants in the local currency bond market, credit risk would be smoothed across different sectors of the economy. This would help in alleviating the pressure on the banking system and making the financial system, as a whole, more secure and less prone to downturns, which have negative implications on the economy. Interest Rate and Currency Swaps Swap derivatives entail forward rate expectations. Therefore, it has become an important benchmark for credit markets internationally. They are key tool for corporate houses as it help them keep the outstanding debt under control by adjusting the interest rate according to present market conditions. Swap derivatives will boost corporationsâ&#x20AC;&#x2122; confidence by allowing them access to the bond market and raise capital. Market Infrastructure The establishment of an integrated trading and settlement mechanism is a prerequisite to this. There should also be standard parameters for day count, face value, shut period and the like so that there occurs uniformity. Abolition of State Wise Stamp Duty Currently, there is no consistency in the stamp duty being charged for the trades across states. This invites arbitrage to the market and the whole essence of investment is lost. Tax Exemption Benefits One more proposal that can be put forth is the tax exemption benefit on the investment in the types of bonds which results in countryâ&#x20AC;&#x2122;s overall development; For instance, infrastructure bonds currently provides tax benefits which lures the investors towards this

NIVESHAK

FIN-Q Solutions OCTOBER 2013 1. Raghuram Rajan –Current Governor of RBI, Earlier two were Governor of RBI 2. NYSE Euronext 3. Pivot Point 4. Flipkart 5. Mannesmann- German Telecom Giant acquired by Vodafone, a British Multinational 6. Jet Airways 7. Syndicate Bank 8. John Bogle 9. Torpedo Stock

Cover Story

type of investment. Risk Hedging This is another aspect which comes into picture. There are a lot of strategies existing in the equity market. However, if we try and make popular the strategies like CDS (Credit Default Swaps) in India too, foreign investors can be better targeted. As a suggestion received from Foreign Exchange and Government Securities Markets, the Technical Advisory Committee on money, and feedback received from the market, CDS will be permitted on rated bonds, both listed as well as unlisted and for issuers other than infrastructure companies. CDS will be permitted on securities with original maturity up to one year like Certificates of Deposit, Commercial Papers, and Non-Convertible Debentures with maturity less than one year. CDS have benefits like enhancing borrowing opportunities and allowing risk-transfers. It would therefore increase investors’ interest in corporate bonds and contribute in the development of the corporate bond market in India. Initiatives by SEBI The chairman of SEBI has proposed to set up a database for the purposes of introducing transparency and also that trading will compulsorily pass through clearing house and there is no reason to believe that this could be another milestone in making bonds more tradable. Conclusion With huge inflow of funds required in the coming years for striving infrastructure projects and other capital intensive industries, the demand for debt is likely to increase. Also with India’s increasing integration with the outside world and the country’s attractiveness for the foreign investors, a vibrant bond market will only provide an additional avenue for them to park their money in. India needs to learn from the developed countries like the US, Japan, and the UK in terms of making its debt market more popular among the investors. Corporate debt market needs more attention in this aspect. Creating a solution which allows corporate houses to auction its securities to retail investors using exchange settlement would significantly reduce the cost of distribution and thereby bring in more retail participation. The recent initiatives taken by SEBI give us a ray of hope that the bond market in India will grow significantly in the coming years but the work so far has been too little too late and one can just hope that the ICICIs in the future will raise money not from the dragons but from the land of snake charmers.

NIVESHAK

FinGyaan

FCNR

Paving Way for Dollars Anirudh Mittal

IIM Indore

What Is FCNR (B)? An FCNR Account or a Foreign Currency NonResident (Bank) Account is a term deposit (read fixed deposit) maintained by a PIO (Person of International Origin) or NRI (Non-Resident Indian) in foreign currency. The funds in an FCNR account must necessarily come from your overseas funds. FCNR deposits can be maintained in â&#x20AC;&#x2DC;permitted currencyâ&#x20AC;&#x2122; which means any foreign currency which is freely

NOVEMBER 2013

convertible and it includes the US dollar, Pound Sterling (GBP), Euro, Japanese Yen, Australian dollar, Canadian dollar, Danish Krone, Swiss Frank and Swedish Krona. Eg. Person A who is an NRI living in the USA deposits $1,000 in an Indian bank account and gets a fixed return in dollars. What Are Its Features And Benefits? The current FCNR window opened in India allows depositors to deposit the money for a minimum period of 3 years and earn a fixed interest of 3.5% per annum. The interest is paid in the foreign currency which is the main benefit as it removes the currency risk aspect from the investment. That is the depositor will be repaid at an interest rate of 3.5% irrespective of the change in the currency. This is especially advantageous as the return on a term deposit investment in the US is around 1%. What Is The FCNR Bank Swap Deal? What Are The Advantages For Banks? Banks raise FCNR funds in various foreign

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Fig 1: Forex Reserves (in billion Dollars)

currencies. They then sell the foreign currency in exchange for Indian rupees at the prevailing change rate and use the Indian rupees for domestic lending. When the FCNR deposit becomes due for maturity, banks would need foreign currency to pay the depositor. Waiting until the date of maturity to purchase foreign currency would leave the bank open to exchange rate risk. In order to protect the bank from this risk, banks hedge their FCNR commitments by entering into forward contracts. Let me explain this with an example, if an FCNR deposit was opened today for a term of 1 year, the bank would enter into a forward contract to buy the foreign currency after a year at a fixed exchange rate. Currently the forward rate is at a premium of around 7% per annum. That means, if the exchange rate today is Rs 65 per dollar, banks would enter into a forward contract to buy the dollar at Rs 69.55 per dollar. This way, the bank hedges any uncertainty arising out of exchange rate risk. The swap deal introduced by RBI encourages

banks to attract more US dollars into India. The RBI has promised banks a forward rate at a premium of 3.5% per annum for all fresh 3-year FCNR deposits raised from now upto November 30, 2013. So instead of hedging at the rate of 7% per annum, banks are getting this swap deal at 3.5% per annum. This acts as an incentive for banks to raise fresh FCNR funds as it lowers the cost of hedging. So instead of buying the dollar at a rate of about INR 69.55 they can buy it from the government at INR 67.275, thus saving Rs. 2.275 on every dollar bought. The banks can now eliminate currency risk at 3.5% and borrow at a rate from foreign lenders which is much cheaper than the current rate of about 10% that they have to pay on domestic term deposits. Itâ&#x20AC;&#x2122;s a Win-Win for both the bank (reduced cost of borrowing by about 7-8%) and the depositor (higher rate of return of about 2.5%). Features Of A Swap Deal 1. Depositor deposits an amount of say $100 in an FCNR Account at a rate of 3.5% for a term of 3 years. The bank gets $100 right now and is

In order to protect the bank from this risk, banks hedge their FCNR commitments by entering into forward contracts

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Fig 2: Inward Remittances (in billion Dollars)

liable to pay a sum of $110.5 (Simple Interest for simplicity) at the end of three years. 2. The bank enters into a deal with the RBI for obtaining $110.5 after 3 years at a cost of say 3.5% hence it has to pay the RBI equivalent of $126.75 at the current rate of the dollar. The bank is saved from the currency risk. This swapping of risk from bank to RBI is known as a swap deal. 3. Salient Features of the FCNR Swap:a. Minimum tenor of deposit should be 3 years and denominated in US dollars b. Interest in compounded semi-annually c. Swap window closes on 30th November 2013 d. Banks need to mobilize at least $ 1 Million before entering into a swap deal and can enter into swap deal with RBI in multiples of the same How Can You Arbitrage Using FCNR? 1. An NRI would invest $100 of his own funds and make a term deposit with an Indian bank at a rate of 3.5%. 2. US Banks allow leveraging on this deposit as

it is guaranteed by the RBI so he can borrow another $100 from the US branch of his bank. The interest rate on the loan would be say 1%. 3. The NRI would then open an FCNR account in the Indian branch of the bank and earn interest of 3.5%. 4. He could repeat this process say 5 times and at the end of year 1, his cash flow would be: a. An inflow of interest of $3.5 on his original investment b. An inflow of $14 through his leveraged investment (Step 2) c. An outflow of $4 for his borrowing in step 2 5. So the NRI would end up earning an interest rate of 13.5% on his investment of $100. For banks too, this is a win-win as their loan gets covered by the FCNR deposits and they get access to funds at a lower cost. Effect On India And Risk Involved RBI expects the banks to bring about USD $10billion worth of foreign currency through the FCNR route. This amount will be locked in for a

Minimum tenor of deposit should be 3 years and denominated in US dollars

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MATURITY

USD

GBP

EURO JPY

CAN$ AUS$

1 Yr-2Yr

2.63

2.87

2.47

2.41

3.49 4.52

2Yr-3Yr

2.48

2.83

2.57

2.26

3.47 4.79

3Yr-4Yr

4.77

5.12

4.77

4.29

5.73 7.08

4Yr-5Yr

5.16

5.44

5.00

4.34

6.01 7.39

5 Yrs (Maximum) 5.53

5.71

5.24

4.41

6.24 7.61

Note: These are the rates of deposits offered at present by most of the commercial banks in India Table 1: FCNR Deposit rates (in %) w.e.f 01/10/2013 by Bank of India through their branches in India

period of 3 years and will help the government in fighting the CAD problems. It will also prevent a sovereign bond issue by the RBI to raise foreign funds. Amount collected as of now is around USD 5.6 billion. The foreign banks are promoting leveraged term deposits in India, inflating the inflow. The central bank is liable to return the amount at 3.5% and it bears the currency risk,

leveraged term deposits in India, inflating the inflow. The central bank is liable to return the amount at 3.5% and it bears the currency risk, hence a sudden appreciation of the USD can cost the RBI a big buck. Keeping all this in mind it has had a good effect on the rupee which is touching levels of 61-61 against the dollar, something unimaginable when it surged to levels of INR67-68/dollar.

The foreign banks are promoting leveraged term deposits in India, inflating the inflow

ÂŠ FINANCE CLUB, INDIAN INSTITUTE Of MANAGEMENT SHILLONG

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FCNR Deposit rates (in %) w.e.f 01/10/2013 by Bank of India through their branches in India

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From Ranbaxy to Daiichi Sankyo “The start-to-scrap story”

Vivekanand Tyagi

IIM Shillong Indian Pharmaceutical Industry Apart from the Information technology Industry, it is only the Pharmaceutical Industry which has found niche for itself in India. Indian Pharmaceutical Sector marked its genesis in colonial time when imported bulk drugs were processed and formulated in the country especially in Mumbai and Kolkata. Since then a lot has changed and today the Indian Pharmaceutical sector stands 3rd largest in terms of volume (8% of world’s share) and 14th largest in terms of value (13% of world’s share). If we look at the numbers, Indian Pharmaceutical

Industry comprises of about 21 billion dollars of a whopping 550 billion dollars industry. The fact that the share of Indian Pharmaceutical Industry is increasing at a steady annual rate of 10 % compared to 7 % of the whole Pharmaceutical industry itself talks about the pace of growth for the Indian companies. The growth in the Indian Pharmaceutical industry has been impressive. The market size has almost doubled from year 2005 and reached 21 billion dollars out of which 9 billion dollars is the revenue generated from exports. Figure 1 shows the expected growth in domestic and

Fig 1: Indian Pharma Turnover

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name which gave it global recognition. In the late 1990’s it entered Brazil, the largest market of South America and forayed into Germany in the early 2000’s by acquiring Bayer AG’s generic business in Germany. By this time Ranbaxy had established itself as a Global generic maker of quality drugs with more than 40 % of its sales coming from exports. It also started investing in new drug molecules and drug discovery processes in partnership with Glaxo smith Kline. Ranbaxy was the first Indian pharmaceutical company to get approval from USFDA for an anti-retroviral drug under the U.S. President’s emergency plan for AIDS relief initiative (PEPFAR). By 2005, Ranbaxy had opened its third state-ofthe-art R&D facility (Dewas) in India and had also entered the Canadian market. Ranbaxy leveraged its Indian competitiveness to launch quality products in the global markets. Ranbaxy turned anything it touched into Gold. It was the largest Indian Pharmaceutical company and was in the list of top 30 world’s largest drug makers. Prior to acquisition by Daiichi Sankyo, Ranbaxy had sound financial position. Its operating profit margin reached Rs.1074.04 crores registering an increase from 19.9% to 24.5% (fig. 3) and it was then when the promoters decided to make

Fig 2: Total Income and Net Profit margin of Ranbaxy prior to acquisition by Daiichi Sankyo

Ohm laboratory, a US based laboratory. It gave Ranbaxy not only an opportunity to enter the world’s largest pharmaceutical market but also a US FDA approved manufacturing unit outside India. Today it is one of the three FDA approved manufacturing units Ranbaxy has apart from Poanta Sahib in Punjab and Dewas in Madhya Pradesh. Ranbaxy used Ohm laboratory’s facilities and sold the products under its own

some profits out of this pharma giant. Profiles Of Both The Companies Ranbaxy It was the largest drug maker of the country with footprints in 49 countries and sales spread across three fourth of the world. It had garnered the name of generic drug maker of the world. US generic drug market was heavily dependent on Ranbaxy. It benefitted the most out of Drug Price

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export markets for the Indian drug companies. The export market for the Indian drug companies has majorly been into the generic and me - too drugs category. Their major export destinations have been North America and Europe with aggregate 68% of total export. India on the verge of signing Free Trade agreement with Europe, the trade with EU will surpass North America in the near Future. Indian Export to Russia is a meagre 6% because of imposition of barriers on the Indian Pharmaceutical product trade by Russia. After the Look East policy of Indian Government the export to Asia Pacific Nations has increased from 3% in 2005 to 5% in 2008. Ranbaxy: Initial Phase With the Advent of Generic Drug user fee act (GDUFA) in the US, most Indian Private Drug makers have been benefitted, but none like Ranbaxy Laboratories limited. The company was founded in the year 1961 and is headquartered in New Delhi, India. Initially the company made a number of Joint ventures to increase its global presence. For instance, it entered into a joint venture with Eli Lilly to market some of its branded drugs in India. It also forayed into the Chinese market through a JV. In 1995, Ranbaxy made a strategic decision of buying

Competition and the patent term restoration act also known as Hatch Waxman act with 6 months market exclusivity of 4 drugs with potential sales of 8 billion US dollars. It also had around 100 ANDA (abbreviated New Drug Application) pending with USFDA. Apart from this it had strategic alliances with almost all the top pharmaceutical companies. The year on year growth rate from 2002 to 2007 for Ranbaxy had been an impressive 16.2%. Total income had remained steady for Ranbaxy till Dec ’07 i.e. prior to its acquisition and net profit margin rose steeply from 5% in 2005 to 12 % in 2007. The Numbers on the balance sheet and Income statement painted a rosy picture and a very lucrative offer for Daiichi Sankyo which was willing to tap the maximum out of the success story of Ranbaxy.

dollars. 2. It would give Daiichi Sankyo the expertise of Low cost production of Ranbaxy. 3. Merger with Ranbaxy would give it an opportunity to enter emerging markets. 4. It would give Daiichi a sustainable growth model. Ranbaxy was heavily into Generics and Daiichi into drug discovery process, the deal would therefore complement its current drug portfolio. 5. Ranbaxy would be benefitted from the large portfolio of Daiichi Sankyo and it could sell the products in domestic market. 6.When most of the big Pharmaceutical companies are struggling with the imminent Patent Cliff (an estimated 150 billion dollars to

Fig 3: Analysis of how Ranbaxy performed after the deal

Daiichi Sankyo Daiichi has a very strong presence in Japanese market especially prescription drugs. It was the number 3 drug maker of Japan prior to acquisition. It had a strong pipeline of potential blockbusters. Olmesartan (anti-hypertensive), Loxonin (anti- inflammatory) and Levofloxacin (anti-bacterial) drugs were already blockbuster products from Daiichi Sankyo which were driving the growth of the company. It has got operation in 50 countries. It is known for its highly robust sales force and integrated supply chain Network in japan. Strategic Objectives Behind The Deal 1. The merger of Ranbaxy would make Daiichi Sankyo the 15th largest drug maker of the world with the total market capitalization of 30 billion

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go off patent annually from 2015), Daiichi would benefit by gaining entry into the high growth rate generic business. 7. Ranbaxy would also get a strong hold in the world’s second largest pharmaceutical market i.e. Japan where even the US and European companies were struggling to get access into, because of the stringent quality norms. It could introduce its generic product portfolio in japan 8. The deal would make Ranbaxy debt free and rich in cash and would help it grow very aggressively. 9. Ranbaxy would get access to Daiichi’s Research & development division and this would strengthen the current development and drug discovery process for Ranbaxy.

Finistory

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goodwill amortization) in the fiscal year ending 31 March 2010 (fiscal 2010). Aftermath In September 2008 UFFDA banned 30 generic drugs imported from its Paonta Sahib facility because of poor cGMP practices. Ranbaxy had to pay 500 million dollars against the criminal and civil liabilities charged by USFDA. USFDA has also suspended the export from its Indian USFDA approved plants in Dewas and Poanta Sahib temporarily. Now it has got only one USFDA approved plant manufacturing unit outside India (Ohm’s laboratory) which is currently working at over its capacity. It is now looking for contract manufacturing for its generic drugs for exports in the US. The current Promoters of Ranbaxy have accused the Singh Family (previous promoters) for concealing and misrepresenting the information at the time of acquisition. Singh’s family has denied any wrong doing but Daichii Sankyo is thinking about legal actions against the previous promoters. In my opinion it has been a clear case of negligence of due diligence by Daichii Sankyo. It is impossible to digest that Daiichi did not know about USFDA issues with Ranbaxy’s facilities in India but in order to tap the expertise of the best generic drug maker, it ignored the issues which troubled it in the end. One more point for its disappointment could be the depreciation of rupee since the acquisition, rupee depreciation increased by 50 % to around 60 Rupees per US dollar accounting for loss of billions of dollars in foreign exchange for the Japanese drug maker.

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10. Daiichi would infuse 1 billion dollars into the company after the acquisition which would help Ranbaxy pay off its debt and become a debt free company. Ranbaxy expected to have approximately $700 million (~ Rs.3000 crores) as cash surplus, which would increase its book value from $1.7 to $4.7 per share. The Merger On 11th of June, 2008 Daiichi Sankyo Co. ltd. signed a deal to obtain the entire stake of the Singh family of Ranbaxy laboratories ltd. It amounted to 34.8% and it expected to acquire another 9.4% through a preferential allotment. It got an offer to acquire 20% of Ranbaxy’s voting capital (common shares) from the public. With this, it wanted to acquire sufficient outstanding shares to acquire a controlling stake of more than 50 % in the company. The value of the transaction(refer to table no.1) was expected to be 4.9 billion dollars(Rs.21500 crore,64%) at the rate of 17.14 dollars per share ( Rs. 737 ) i.e. a huge premium of around 53% on the current market price of Rs.480 per share. Ranbaxy was valued at 8.5 US billion dollars and after the deal, together they were valued at 30 billion US dollars. Nomura Securities private co. (An Investment bank headquartered in Japan) and Religare Securities acted as the financial advisors to the merger for Daiichi and Ranbaxy respectively while Jones Day and P&A law office acted as legal advisors for Daiichi Sankyo and Ranbaxy laboratories respectively. Ernst & Young acted as the accounting and tax advisor for the deal. Nature of the transaction The deal was an all cash off the market transaction viz. the stock exchanges and the clearing houses were not involved in the deal. It was the largest FDI in brownfield investment in India (Vodafone and Essar deal did not happen till this time). Daiichi Sankyo financed the deal partially through debt and partially through existing cash reserves of Daiichi. The Japanese Drug maker took 2.6 billion dollars of short and long term debt to finance almost 50% of the deal. Ranbaxy would function as Daiichi Sankyo’s subsidiary but would retain its independent management and continue to be led by its current CEO & Managing Director Malvinder Singh. Daiichi Sankyo expected the merger to positively impact its EPS (after

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Quantitative Easing: A boon or a bane?

Aditya Gandhi

SIMSREE, Mumbai Quantitative Easing- Should Countries Embrace During Crisis? The global economy is witnessing successive simultaneous waves of liquidity generated over the past few years by the four most advanced economies â&#x20AC;&#x201D; the US, the European Union, Japan and the UK, known as the G4. With zero interest rate having failed to stimulate these economies, they have resorted to largescale asset purchases such as corporate bonds or mortgage-backed securities by their central banks, to pump more money into the banking system. The aim is to extend credit to businesses and industries and encourage consumption. Post 2008 crisis, when there was a danger of financial collapse, both advanced and emerging economies adopted stimulus packages in order to revive demand, maintain trade flows and avoid large-scale unemployment. While emerging economies have been successfully able to revive growth, the G4 continues to experience economic stagnation, depressed markets and large-scale unemployment. In order to ease this situation, their response has been to persist with even larger doses of QE as

NOVEMBER 2013

a means of propping up demand, encouraging banks to expand their asset class and also help boosting of stock valuations. Before the crisis, the US held $700-800 billion of Treasury notes. The current level is $2.054 trillion. In the latest round, QE-3, the US Federal Bank is committed to the purchase of $40 billion of mortgage-backed securities per month as long as unemployment remains above 6.5%. The European Central Bank (ECB) has pumped 489 billion of liquidity into the Euro-zone since the crisis, while in the UK QE has reached the level of ÂŁ375 billion. Most recently, the Bank of Japan has decided to pump $1.4 trillion in the next two years into its economy, aiming at a 2% inflation rate by doubling the money supply. The assets of the G4 central banks have expanded from 1112% of their GDP to the current unprecedented level of 23%. These assets were $3.5 trillion in 2007 before the crisis. They are now $9 trillion and rising. As can be seen in the above graph, in 1998, the key developed economies (i.e., the US, the UK, Euro-zone and Japan or G4) carried a total debt burden (public plus private) of around US$ 65

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Fig 1: Quantitative Easing: Basic Process

trillion, or approximately 300% of the GDP. However, by 2008 (amid the unfolding crisis), the overall level of debt expanded to US$ 131 trillion or 370% of GDP. It continued to climb to US$ 140 trillion or almost 400% of GDP by 2011. On the current trajectory, the overall level of debt should climb to almost US$ 143 trillion by 2013 but should be slightly down in proportion to GDP to around 380%. This is the scale of liquidity expansion we are dealing with. Since interest rates in the G4 remain at zero and their economies remain stagnant, it is inevitable that there are no significant investment opportunities which will yield high returns. This has led to significant capital outflows to emerging and other developing economies, in quest of higher risk-adjusted returns. According to one estimate, about 40% of the increase in the US monetary base in the QE 1 phase leaked out in the form of increased gross capital outflows, while in the QE 2, it may have been about onethird. This continuing surge of capital outflows to emerging economies is having a huge impact. Corporations having a sound credit rating are taking on more debt and increasing their foreign exchange exposure, attracted by low borrowing costs. This increases their vulnerability to future interest rate changes in the developed world and exchange rate volatility risk will increase. Such inflows will put upward pressure

on exchange rates, stimulate credit expansion and cause inflationary pressures, which may pose a major challenge to policymakers in the developing world as they try to insulate the domestic economy from global volatilities. Also, most of the capital inflows being in the nature of portfolio investments, they are prone to sudden and volatile movements which puts emerging economies at greater risk. The volatility in the Indian stock market since past few years is an apt example in this case. In general, we may conclude that the overall impact of these capital flows is expansionary and distortionary. There has been considerable criticism of the G4’s unconventional monetary policies from the emerging economies, including BRICS.

Time to Act Responsibly The magnitude of QE has had unintended consequences beyond the boundaries of G4, especially because their currencies are fully convertible and also constitute the main pillars of the global financial system. The US dollar, world’s leading reserve currency, along with the euro, the pound and the Japanese yen together constitute the basket of currencies used by the IMF to value its Special Drawing Rights. Thus the importance of the G4 currencies and the significant role played by them in the global financial market convey that the QEs undertaken by them have an impact on worldwide economies.

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Fig 2: Current SDR Composition of IMF (As on 04-10-2013)

Hence, it becomes necessary for the G4 to act with greater responsibility and to work together with the emerging economies in order to minimise

the adverse effects of their QE policies. It would be particularly important to discuss and forge a consensus on how to handle the potential financial turmoil and disruption that may afflict developing economies once the QE is withdrawn and interest rates again become positive in the G4 because this decision might lead to sudden large-scale reversal of capital outflows from the developing economies and hence lead to a big financial collapse of emerging capital markets. This is a likely scenario that would need to be anticipated and managed.

NOVEMBER 2013

A classic historical case of this future-like scenario would be the Asian financial crisis of 1997-98. It was, in part, triggered by an earlier version of QE pursued by Japan in the aftermath of its property and asset bubble burst. At that time too, the large inflow of low-cost yen loans led to asset price bubbles, inflationary pressures and currency instability in Asian economies. All the Asian economies paid a heavy price in bargain in order to sustain this economic downturn. A larger, more pervasive crisis may be waiting the emerging and developing economies unless there is a much more coordinated and careful handling of the risks that are already building up. The G20 should have this issue at the top of its agenda.

Conclusion Hence, we see that Quantitative Easing is not a fool-proof tool for pulling the economies out of

gloom and in the long-term may have disastrous effects. Governments should try and use all the monetary tools for reviving the economy before coming to the double-edged sword decision of QE as now the World is so inter-linked monetarily as well as economically that any imbalance in one economy can cause panic situations across the world.

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NBFC Mohit Gupta IIM Shillong Is there any upper limit on acceptance of public deposits? How is that ceiling determined?

Sir, recently there was a lot of news about NBFC scams like Saradha Scam. I did not quite understand what NBFC meant. Could you please throw some light on it? Non-Banking Financial Companies (NBFC) provides services similar to the bank but they do not hold a banking license. The NBFCs are registered under the Companies Act 1956. Sir, what are the different types of NBFCs? NBFCs can be classified into three main types- Asset Finance Company (AFC) whose principal business is the financing of physical assets supporting productive activity; Investment Company (IC) whose primary business is purchase and sale of securities like stocks and bonds; Loan Company (LC) whose principal business is that of providing finance by giving loans or advances. How are the NBFCs different from banks? NBFCs cannot accept deposits repayable on demand. NBFCs do not form part of the payment and settlement system and cannot issue cheques drawn on itself. In banks foreign investment is up to 49% without RBI approval and more than 49% with RBI approval. In banks a maximum of 74% can be owned by non-Indian entities. No such limits are there for an NBFC. I have heard that some NBFCs can accept deposits. Can you throw some light on this? Very good question! All NBFCs are not entitled to accept public deposits. Only those NBFCs to which the RBI had given a specific authorization are allowed to hold public deposits. NBFCs cannot access current and fixed account funds, they can only access fixed deposits.

Yes, there is an upper limit on acceptance of public deposits by NBFCs authorized to accept deposits. It depends on the minimum Net Owned Funds (NOF)/Capital to Risk Assets Ratio (CRAR) of the NBFC. It would be helpful if you could explain what CRAR is? It is a measure of a bank’s capital and it is expressed as a percentage of a bank’s risk weighted credit exposures. For determining CRAR two types of capital are measured: first is tier one capital which can absorb losses without a bank being required to cease trading, and second is tier two capital which can absorb losses in the event of a winding-up and so provides a lesser degree of protection to depositors. It is said that rating of NBFCs is necessary before it accepts deposit? Is this true? Who gives the rating to NBFCs? An unrated NBFC, except certain Asset Finance companies (AFC), cannot accept public deposits. Unrated AFC companies with CRAR of 15% can accept public deposit without having a credit rating up to a certain ceiling depending upon its Net Owned Funds. There are five rating agencies through which an NBFC may get itself rated- CRISIL, CARE, ICRA and FITCH, Brickwork Ratings India Pvt. Ltd and Ratings India Pvt. Ltd. Sir, I have heard the lending rate is typically higher than a bank’s, then why do people borrow from NBFCs? This is because their lending norms are not as strict as a bank’s. However their default rates are therefore also generally higher! This clears a lot of questions that I had. Thank you Sir for the explanation.

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FIN-Q 1. Founder of the Pershing Square, William Ackman, protested against the practices of a company founded in 1980, claiming that the actual value of the shares were zero dollar. Which company are we talking about? 2. This person advised the 9th CEO of a large Dutch multinational in restructuring the company, then on a brink of collapse, and established himself as a management guru. Name the person. 3. A type of a decentralized form of currency, which uses cryptography to control transactions. This type of currency is famous in countries with problem plagued national currency. 4. Which is the only country having paper currency and have no coins and it introduced cheque only in 1997 5. He worked in North America for an Indian origin company. He was the highest paid employee of that company during 2012-13. Recently one of the board members of the same company sold 1 lakh shares. Identify the person. 6. Name the first Indian woman CEO of a Foreign Bank? 7. An internet site devoted to investing education based in Edmonton in Alberta, Canada. It was started in June 1999. In 2007, the site was purchased by U.S. publishing company Forbes which sold it to X in 2010 for $42 million. Identify the internet site. 8. Identify the person. He was the hot shot financial analyst during the dot com boom He was banned from Wall Street. He now owns a stake in Business Insider. 9. Question (Connect the dots)

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