India - The Next China?
‘India, India,’ financial journalists have begun to chant, ‘India is about to explode.’ Is the world’s largest democracy turning into the world’s next big thing?
The U.S. papers say China’s a blooming miracle. The Indian press says China’s making the whole thing up. And the story from those who search hard for the coming trend to write about it first is that India is the next China.
Hoo-boy. Things sure have changed from the days when China was going to be the new India. I’ve been looking at both countries, and here’s what I think. India’s not the next China. Not yet. Both countries have many risks, but China’s emergence has a momentum and key support that India’s does not.
It is interesting to read the Indian press reports. They are replete with accusations that China is miscounting ships in port, lying about its trade figures and fudging the foreign direct investment numbers. They claim most of this investment is Chinese money illegally sneaked offshore, washed clean and then shipped back home as phony ‘foreign’ money.
China, in contrast, is largely ignoring India’s claims of greatness. This may not provide numbers you can take to the bank, but it is telling. Leaders don’t spend time whining about how the laggards cheat. By contrast, India’s stance strikes me as too much along the lines of, ‘I would have won the marathon if they hadn’t had special shoes.’
China is the leader in this race for emergence right now. The Chinese growth story is for real. Even if the Chinese have overstated exports, as India claims, you can be sure that the amazing numbers from Wal-Mart are a good cross-check. Wal-Mart imports over $15 billion in merchandise from China every year.
Investing in Indian Corporations: 13 Available Companies
But what about India? Is it finally emerging from its struggle to gain a foothold? Should we be looking harder for ways to invest there?
Ah, if only we knew where to look!
India has been busy sending its companies global. Around the world there are dozens of GDRs (global depository receipts) and 144A companies. Americans can’t buy GDRs easily. It generally requires an offshore account. As for 144A’s, they are limited to qualified institutional buyers. That leaves us with the Level I, II and III ADRs. The Bank of New York lists 13 such stocks.
Man…look at this crew! Talk about the not-quite-ready-for-prime-time players. Seven of them have zero to negative return on equity. Those that are profitable have ROEs ranging from 4%-25%. But they also average a 39.8 P/E ratio. There’s exactly one company on the list that I would consider buying, if it were not so expensive at the moment: Infosys. The others are modest businesses, with growth no better than their U.S. counterparts, but much higher valuations.
So far, the major business model for the more highly touted Indian companies is: copy what’s done in the U.S., do it cheaper, and ship it back to us. Innovation and R&D spending are not robust. But journalists touting India seem to be unaware of a fatal flaw in that plan. Not only are the profits to be made selling cheap substitutes limited, but it’s a plan all India’s fellow emerging economies can copy. Taiwan and South Korea are already cutting into the world IT market.
Investing in Indian Corporations: Examples of Sound Businesses
I’d rather find a sound business engaged in a more sustainable market: capitalizing on the boom at home. A good example of this is Sina.com or Sohu.com, the Chinese Internet companies. Or CHINA UNICOM, the telecommunications company that is gaining subscribers at home by the millions, not to mention subscribers in nearby countries. They’re not value investments today, but they are sound businesses.
And Indian companies on these models? They’re in short supply, and overpriced, too. That’s because India’s internal progress still has far to go. India’s GDP may be rising on exports, but it is not advancing on consumer spending at home.
Quite simply…India has been on the brink of ’emerging’ and becoming a world force about 40 times in the last 20 years. OK, I exaggerate, about once every two or three years. But it never quite sticks. It’s not trustworthy yet. India has not yet gathered China’s momentum. Or, as they say these days, it hasn’t reached the tipping point.
India is still a story about billions of people hungering to advance. That’s a spurious argument. It applies to Africa as well. Wishes are not ability. What’s more, the problems facing India are just as large as, if not larger than, China’s.
China has heavily indebted banks and high unemployment in its western provinces. India has high unemployment across the country, but a much more advanced banking culture, which would seem to give it an edge in the business world. But it hasn’t worked that way.
China began courting Western business in the 1980s. It was a rough beginning, fraught with high suspicion and inconsistency. Over the years, China’s centrally controlled government has become committed to privatization and cooperation, as long as it doesn’t threaten central power.
India is still as suspicious of outside influences as China was 20 years ago. It had a long history of domination by the British that did its own people no good. But the big difference between India and China arises from the years when both countries threw Westerners out.
China, as a communist country, set upon a course to educate and employ all its population. It came at too high a cost to sustain, but it left a country where everyone had a taste of success for a while and an entire generation of well-educated students.
Investing in Indian Corporations: Vicious Circle
That never happened in India. Despite progress against poverty in the 1980s, the trend began reversing again during the early ’90s, when inflation hit India. In the 1991 census, 38% of India’s population was again below the poverty line. Not only are millions of adults illiterate, but so are millions of children.
This creates a spiraling vicious cycle for India. It needs progress so that it can afford to aid its own people. But with so many of its people poor and untrainable, it is hard to make that progress. India’s largest industry is agriculture. Textiles come second. The vaunted IT sector we hear so much about is a mere 3% of the economy.
The IMF recently warned that India’s GDP growth this year is likely to be less than last year…and that it will not meet its target 8% growth rate over the next several years without major repairs to the physical and social infrastructure. It needs roads, railroads, telecommunications, training and education to proceed. It must make daunting improvements within the country – in poverty, literacy, energy and free access to improvement for citizens below its small privileged class.
But the government is strapped. Its deficit comes to 10% of the GDP (the United States’ current record deficit is roughly 5% of GDP). Its cumulative national debt equals 80% of annual GDP. But when it comes to privatization, the engine for progress and Western investment, India still has strong, powerful resistance from farmers and labor trade unions.
India’s lack of buying power at the ground level where consumers live is astounding. Partly that’s the result of its attempt to leapfrog from an agricultural economy to a service economy – a model that excludes most of the population. The true path to successful development wends its way through industrialization first. It comes with higher rates of education, literacy and health. And it comes with heightened confidence on the part of large international investors – as represented by foreign direct investment.
Until the big boys put their money down, it’s not safe for small retail investors to get in on the game. Foreign direct investment to India just barely nudged up to $6.7 billion last year. That’s about what flows to Poland or Portugal…though admittedly, it’s a great increase from the $2 billion or less of prior years.
If you’re determined to catch a mainstream trend, catch the China wave rather than India’s. As an investment, I still much prefer China. An impressive portion of China’s growth is coming from industrialization and consumer products with both domestic and international appeal. It also has large companies like Sohu.com and CHINA UNICOM that are growing rapidly by selling goods and services at home and to its neighbors in Asia. That’s a better sign of economic vibrancy.
I think the current India mania is a dangerous bubble. So are the main Chinese stocks at their current valuations. I will continue to look for Indian companies that are good values; one day India will make the turn, and I’d like to be there.
For the moment, though, I don’t see much point in chasing the Indian dream.
for The Daily Reckoning
April 20, 2004
P.S. Yes, yes, I know what you’ve heard: They speak English a lot in India, have cheap programmers, and this time is different. India is about to explode.
But what kind of growth strategy is that? I’ll tell you…one that every other country in Asia can copy as it emerges.
Here’s something India touts forget to mention when they talk about India’s educated masses of tech-smart labor. You may have heard how cheaply India’s software programmers work. And probably you were told it was a sign of India’s growing competitive importance and success.
But consider: Ten years ago, Indian software consultants were able to charge $70-$90 an hour to their U.S. customers. Today, they are charging $10 an hour or less. India is not winning the IT World Olympics. It is losing economic ground every time it cuts its fees…
Editor’s note: Investing advisor and skeptical analyst extraordinaire, Lynn Carpenter has helped investors earn profits in everything from oil and steel to emerging technologies, defense stocks, Swiss annuities and commodities. You can follow Lynn’s latest research recommendations in:
The Fleet Street Letter
China’s economy is booming – growing at a 9.7% rate in the first quarter. China booms by making things and exporting them…notably to the U.S.
The U.S. is booming, too. But the U.S. economy booms by buying things and importing them…notably from China.
Americans pretend to get rich by buying things they can’t afford. The Chinese think they’re getting rich by selling to people who can’t pay. Both are courting trouble.
Meanwhile, the Chinese need to import vast quantities of energy and raw materials in order to build infrastructure…and produce things for export. For the first time ever, Asia competes with the west for oil. Chinese imports of oil hit a record last month. And…surprise, surprise…so did gasoline at the pumps in the U.S.
Higher gas and commodity prices are causing signs of inflation in the U.S. and China. Economists are wondering if Alan Greenspan will raise rates before or after the election. Raising rates is, after all, the classic response to an economy that is ‘heating up.’
But the hotting up going on in the U.S. has little in common with a classic business cycle expansion. What is expanding in the U.S. is not production…but consumption; not the output of goods and services…but the output of money and credit.
We keep saying that we think this is nothing more than a rally. The Feds have given consumers more than a trillion phony dollars to spend. Is it is any wonder it felt like the good times were here to stay? But the party atmosphere is a trap. Consumers spend money they don’t have at a particularly bad time: just as a major correction resumes. What needs to be corrected, of course, is too much consumer spending in America…and too much productive capacity in Asia. And too much debt everywhere. What kind of a correction reduces debt, spending and capacity? One like America’s Great Depression of the ’30s…or Japan’s long, slow, soft depression of the ’90s.
In both cases, the initial crash was followed by a period of disbelief. Financial authorities tried to head off the correction…and made it worse.
Mark Thornton notes the "Uncomfortable Parallels," quoting a passage from Irving Fisher’s book:
"As this book goes to press (September 1932) recovery seems to be in sight. In the course of about two months, stocks have nearly doubled in price and commodities have risen 5 1/2. European stock prices were the first to rise, and European buyers were among the first to make themselves felt in the American market."
"He attributed this ‘success’ to reflationary measures that were of deliberate ‘human effort more than a mere pendulum reaction.’ Unfortunately, not only was his prediction wrong – the world was only at the end of the beginning of the Great Depression – the ‘human effort’ that he thought was the tonic of recovery was actually the toxin of lingering depression."
Here in America, 2004, stocks have recovered about half their losses from the crash that began in 2000. Commodities are rising. And the success of the recovery is widely attributed to Alan "Bubbles" Greenspan’s reflationary efforts.
How successful they really were…we will see in the months ahead. If the rally is topping out, as we think it is, we will see sooner rather than later.
In the meantime…and in between time…here’s Eric with more fun facts from Wall Street:
Eric Fry in New York…
– The stock market’s at a "critical juncture," says the ever-insightful Ned Davis, proprietor of the eponymous Ned Davis Research. "We’ve been in a green-light situation for the market since October 2002 and now we have a yellow light." Even so, tech-stock investors stepped on the gas yesterday and sped the Nasdaq through 2,000 to a 1% gain. But the Dow slowed to a stop – down 14 points to 10,438.
– Caution is warranted, says Davis, both because investor sentiment has become overly bullish and because interest rates are rising. "Our own polls of sentiment indicate 68.1% of investors are bullish, which is well in the extreme-optimism zone." Typically, a widely adored stock market is a dangerous stocks market.
– Davis is also worried that interest rates will continue ratcheting higher, even if Alan Greenspan objects. "The bond market is in trouble," Davis warns. "I don’t own any bonds now and I’m leery of them."
– We are also leery of owning Uncle Sam’s IOUs, not because we worry about repayment, but because we worry about the QUALITY of repayment. The dollar bills we receive upon maturity might buy fewer ounces of gold or barrels of oil or cases of tequila than the dollar bills we would lend today.
– Admittedly, dollar debasement is a long-term concern. Over the short-term, a buyer of U.S. Treasury bonds also faces the risk of rising interest rates. If rates rise, the price of long-dated bonds and notes would fall. Net-net, the investor seeking return-free risk will find no shortage of opportunities in the U.S. government bond market.
– "What asset classes are you most attracted to?" a Barron’s interviewer asked Davis.
– "Frankly," he replied, "I don’t see anything that looks particularly attractive."
– Hmmm…Didn’t Warren Buffet’s recently remark, "Occasionally successful investing requires inactivity?" And isn’t the Oracle of Omaha piling up cash inside Berkshire Hathaway because he cannot find attractive investment opportunities in either the stock or bond market?
– "Most investors cannot resist the temptation to constantly buy and sell," Buffett once observed. "[But] lethargy, bordering on sloth, should remain the cornerstone of an investment style." Notwithstanding Mr. Buffett’s advice, most investors – like most parents and pediatricians – feel that every situation requires action of some kind. Ironically, benign neglect is often the most effective course of "action."
– But we should not confuse benign neglect with malign neglect, like when the chairman of the Federal Reserve allows short-term interest rates to stay at 45-year lows, even though the economy is growing rapidly and inflation is heating up.
– When the Fed fails to raise rates proactively, the bond market usually raises rates reactively, which is not a good thing for investors. Already, the bond market is reacting to signs of inflation. Yesterday, Treasury securities fell for the seventh time in eight sessions, pushing the yield on the 10-year Treasury to 4.39%.
– The signs of a budding inflation are as numerous as New York City taxis. Not only did consumer prices jump at more than a 5% annual rate during the first three months of this year, but energy prices remain stubbornly high. The average retail price for unleaded gasoline jumped again last week to a new record high of $1.813 a gallon.
– But fear not, Alan Greenspan marches up to Capitol Hill today to explain very clearly out of both sides of his mouth why interest rates will rise just enough to be a good thing, but not enough to be a bad thing.
– The stakes are high, as neither Wall Street nor Main Street is well prepared for rising interest rates. The shares of banks, mortgage lenders, brokerage firms and other interest-rate sensitive stocks make up more than 25% of the S&P 500. So if the financial stocks struggle, so would the entire S&P 500.
– Meanwhile, on Main Street – home of interest-only, cash-out mortgages – rising interest rates would cause widespread pain and suffering. The "adjustable-rate" mortgages that have become so popular among overly indebted consumers would certainly adjust…like a noose.
– Alan Greenspan would prefer that rates rise slowly and painlessly. But he cannot guarantee such an outcome. Bond investors will decide how steeply and quickly interest rates climb. Unfortunately, Greenspan wields about as much control over the collective will of bond investors as he does over a packet of yeast.
– Greenspan finds himself in a delicate situation: "He must find a way to engineer a gradual rise in interest rates throughout the bond market," says Business Week, "while avoiding the kind of violent selling that could roil trading firms, rattle bank lending, and paralyze borrowers…"
– Unfortunately, it’s difficult to engineer the train when you’re riding in the caboose…The bond market will decide for itself where interest rates are heading.
Bill Bonner, back in Venice…
*** Psst…wanna get rich without working? Simple…mortgage your house and buy a 2nd house in a resort town. We don’t if there’s a nationwide bubble in housing. But there’s definitely a bubble in second housing in many parts of the nation. Yesterday brought news that prices of 2nd homes in the southern part of South Palm Springs have risen more than 50% in the last 12 months. Same for a mountain community called Crestine.
Second homes benefit from several trends. Aging baby-boomers look forward to retirement in nice places. More and more people are able to live and work – remotely. And, the real estate boom has focused on these cutting-edge areas, much in the same manner as the stock market concentrated speculative money on tech companies.
Unlike houses where people actually have to live, there is little supporting prices in resort areas – other than a moronic faith that ‘you can’t lose money in real estate.’ In the coming pinch, prices in many of these areas should be cut in half – at least.
*** But for the moment, in certain areas, builders can hardly keep up with the demand. Nor can the makers of building materials. Plywood has been flying out of the supply yards as if a hurricane were coming. Lumber prices have doubled in the last year.
*** Oops. We missed it. But gold dipped below the level we thought it would never see again for a second time on April 15th – closing at $398.30. But it seems reluctant to drop much below $400…and is now at $401.20. We’ll stick with our guess – stocks and the dollar have found their ceilings…gold has found its floor. We’re getting ready for Stage II of the great correction.
*** Our friend, Trey Reik, sends this note about the gold market:
"We are at an extremely important crossroad in perceptions of the gold trade…
"Of the $2.3 trillion increase in consumer debt over the past three years, 44% is tied to short rates (home equity loans $385 billion, adjustable rate mortgages $300 billion, and installment debt $320 billion). Common sense suggests those taking on this variable exposure are likely those who can least likely ‘handle’ any increase in debt service. For these reasons, we continue to argue a Greenspan Fed will not raise short rates anytime soon.
"Nevertheless, should free-market rates drift upwards, we anticipate immediate default pressure. Gold’s relative standing as money will benefit, we believe.
"A credit-addicted U.S. economy needs to issue roughly 10% new paper each year to avoid breakdown (recent average). Our guess is foreigners are beginning to blanch…"
*** And Dan Denning adds this comment, on why the Fed can’t raise rates:
"Investors are convinced that the recent spate of good economic news will cause the Federal Reserve to raise interest rates before the end of the year. They’re dead wrong. Here’s the fact investor are missing: consumers can’t afford rising interest rates.
The Fed can’t raise rates, says Denning, "until the final piece of the inflation puzzle is in place: rising consumer incomes. Until that happens, rising prices will simply make consumers cut back on spending. Throw in rising interest rates and energy prices and you have two more factors which lead to slower consumer spending and economic growth.
"Bottom line: the economy can’t grow until the consumer can spend more. And the consumer can’t spend more when prices and interest rates are rising. If consumer incomes don’t inflate, inflation in producer prices or consumer prices won’t matter. Until consumer incomes rise, the Fed stands pat.
"And here’s a prediction for you – the Fed will become so concerned with the market pricing in rising rates (and pushing mortgage rates up) that it will cut rates by 25 basis points at its May 4th or June 30th meeting."
*** While Florence produced artists, poets, and scholars whose names the world still remembers, Venice was almost always a city of nobodies. Why was that? Florence was a city where art and learning – "those avenues by which the mind soars to its highest limits," says Mrs. Oliphant – flourished. Here in Venice, what flourished was the art of making money and spending it. What the tourist sees in Venice today is the way the money was spent – on sumptuous buildings…palaces, churches…with painted ceilings, statues, carved wood, frescoes, ornaments, embellishments, and doodads all over the place.
In politics, it is the politician who is remembered. His works, if they were ever examined carefully, would almost always be found to be either irrelevant or actually deleterious. Wars, laws, intrigues, backstabbing, boondoggles, puffery, lies – what is a career in politics but a life ill spent?
But when it comes to money, it not the makers but the spenders who leave their mark. The men who earned the money are forgotten almost as soon as the dirt is heaped over them.
In Venice, we ignore the creators of wealth…but we admire the things money can buy…while being paddled around in a gondola at $100 an hour.