Potential bubbles

Dear Readers, 


One of the oldest sayings of Wall Street, that happens to be true, is that "there is always a bull market somewhere." In other words no matter how bad one segment of the market may be performing, there is almost always some unrelated asset that is doing well at the same time. Taking that to its logical extreme, if there is always a bull market somewhere, there are almost always a few potential bubbles emerging. This week's posting will unveil some could-be bubbles waiting to burst; which markets look like they have heated up to the melting point?

Rare Earth Elements : 


If there is a bubble in rare earth metals, China is likely to blame. Not only does China have the blessing of favourable and ample resources, but the country actively supported its rare earth mining operations at a time when Western miners were closing up shop. Now, though these elements are critical components of many electronics, China overwhelmingly controls the supply, and the government is cutting on exports and driving up prices. That, in turn, has created a boom time for would-be rare earth miners like Lynas Corp. Ltd. and Avalon Rare Metals Inc.(AVL-T4.620.368.45%).

Ironically, rare earth elements are actually not all that rare for the most part - they are just difficult to find in concentrated quantities on their own, and are typically the byproduct of other types of mining. At prevailing prices, miners are searching throughout Australia, the United States and Canada to bring old mines back into production and begin mining new resources. Simultaneously, those companies that depend upon rare earth elements are doing what companies always do when a key component gets expensive and/or scarce - they are engineering around the problem. 

Although rare earth prices could stay high for a while (mines do not open overnight), new digging and new alternatives are likely to put an expiration date on this bull market.

Cotton

Amidst all hype generated about the performance of grains, base metals, precious metals and even cocoa, the record prices in cotton have gone almost relatively unnoticed. Nevertheless, cotton recently broke an all-time price record and prices have jumped about two-thirds from mid-summer.

Unfortunately for investors, the odds are that this cotton bull market has short legs. There is little that can be done to boost supply in the short-term, but high prices for cotton will do what they always do - stimulate more planting in cotton-growing regions. Although it is always possible that growing conditions (poor weather, etc.) could damage the next crop, I think that journalists will be talking about a bumper crop and low prices this time next year.

U.S. Bonds

There are a lot of dynamics at work in the bond market. For starters, banks can make a solid "carry trade" on government bonds - banks take their ultra-low cost deposits and invest them in higher-yielding government securities.

Second, many pension funds were badly wounded in the mortgage-backed bond crunch of 2008 and 2009. Not only have many funds rewritten their mandates to take on less risk, but the supply of bonds has changed. In many cases, pension funds are buying government bonds because they need fixed income instruments and the near-collapse of the mortgage-backed securities market has eliminated that supply.

In other words, this is not so much a bubble (at least not a bubble fueled by unreasonable expectations of gain) as a supply squeeze. That is not to suggest that it could not still end badly.

Gold

The ultimate "is it or is it not" bubble argument has to be over gold. September and October have been full of reports talking about record high prices for this precious metal, and the overall trend has been up for roughly eight years now. Despite this momentum, plenty of gold-bugs will step up to remind the market that gold has yet to reach an inflation-adjusted record of about $2,200 (U.S.) per ounce. 

Although gold is often hailed as an inflation hedge, the data supporting that is less than fully compelling. What gold really seems to hedge is uncertainty; when people get nervous, they like to hold gold. 

There is, however, an inconvenient truth - hardly anybody outside of coin dealers has ever made lasting wealth out of trading in gold. As gold skeptics love to point out, gold produces no income, is inconvenient to use as is, and could very well be seized by governments during the very conditions that gold-bugs point to as an argument in the metal's favour. While fear in the market seems to justify a lot of the enthusiasm for gold, it is hard to see how prices are not overheated - to say nothing of the fact that if economies fail and governments collapse, people will have more to worry about than their retirement savings.

The bottom line ... 

In my opinion the term " bubble " 

has become overused in the last few years, as many investors and commentators now slap that label on any market segment that has enjoyed strong appreciation and high valuations. True bubbles are supposed to involve a certain element of self-delusion and mania. For an overheated market to really be a "bubble", there needs to be a collective notion that "it's different this time" and that the only prudent move for savvy investors is to put nearly all of their money in that asset.  

Call it whatever you want to call it, there is no question that there are some overheated segments of the market today. While momentum investors may be tempted to play their luck and see if they can squeeze more profits from, more conservative investors may want to give them a pass altogether.

What would YOU do?

Regards,

Yacine Dessouki

Potential bubbles

Dear Readers, 


One of the oldest sayings of Wall Street, that happens to be true, is that "there is always a bull market somewhere." In other words no matter how bad one segment of the market may be performing, there is almost always some unrelated asset that is doing well at the same time. Taking that to its logical extreme, if there is always a bull market somewhere, there are almost always a few potential bubbles emerging. This week's posting will unveil some could-be bubbles waiting to burst; which markets look like they have heated up to the melting point?

Rare Earth Elements : 


If there is a bubble in rare earth metals, China is likely to blame. Not only does China have the blessing of favourable and ample resources, but the country actively supported its rare earth mining operations at a time when Western miners were closing up shop. Now, though these elements are critical components of many electronics, China overwhelmingly controls the supply, and the government is cutting on exports and driving up prices. That, in turn, has created a boom time for would-be rare earth miners like Lynas Corp. Ltd. and Avalon Rare Metals Inc.(AVL-T4.620.368.45%).

Ironically, rare earth elements are actually not all that rare for the most part - they are just difficult to find in concentrated quantities on their own, and are typically the byproduct of other types of mining. At prevailing prices, miners are searching throughout Australia, the United States and Canada to bring old mines back into production and begin mining new resources. Simultaneously, those companies that depend upon rare earth elements are doing what companies always do when a key component gets expensive and/or scarce - they are engineering around the problem. 

Although rare earth prices could stay high for a while (mines do not open overnight), new digging and new alternatives are likely to put an expiration date on this bull market.

Cotton

Amidst all hype generated about the performance of grains, base metals, precious metals and even cocoa, the record prices in cotton have gone almost relatively unnoticed. Nevertheless, cotton recently broke an all-time price record and prices have jumped about two-thirds from mid-summer.

Unfortunately for investors, the odds are that this cotton bull market has short legs. There is little that can be done to boost supply in the short-term, but high prices for cotton will do what they always do - stimulate more planting in cotton-growing regions. Although it is always possible that growing conditions (poor weather, etc.) could damage the next crop, I think that journalists will be talking about a bumper crop and low prices this time next year.

U.S. Bonds

There are a lot of dynamics at work in the bond market. For starters, banks can make a solid "carry trade" on government bonds - banks take their ultra-low cost deposits and invest them in higher-yielding government securities.

Second, many pension funds were badly wounded in the mortgage-backed bond crunch of 2008 and 2009. Not only have many funds rewritten their mandates to take on less risk, but the supply of bonds has changed. In many cases, pension funds are buying government bonds because they need fixed income instruments and the near-collapse of the mortgage-backed securities market has eliminated that supply.

In other words, this is not so much a bubble (at least not a bubble fueled by unreasonable expectations of gain) as a supply squeeze. That is not to suggest that it could not still end badly.

Gold

The ultimate "is it or is it not" bubble argument has to be over gold. September and October have been full of reports talking about record high prices for this precious metal, and the overall trend has been up for roughly eight years now. Despite this momentum, plenty of gold-bugs will step up to remind the market that gold has yet to reach an inflation-adjusted record of about $2,200 (U.S.) per ounce. 

Although gold is often hailed as an inflation hedge, the data supporting that is less than fully compelling. What gold really seems to hedge is uncertainty; when people get nervous, they like to hold gold. 

There is, however, an inconvenient truth - hardly anybody outside of coin dealers has ever made lasting wealth out of trading in gold. As gold skeptics love to point out, gold produces no income, is inconvenient to use as is, and could very well be seized by governments during the very conditions that gold-bugs point to as an argument in the metal's favour. While fear in the market seems to justify a lot of the enthusiasm for gold, it is hard to see how prices are not overheated - to say nothing of the fact that if economies fail and governments collapse, people will have more to worry about than their retirement savings.

The bottom line ... 

In my opinion the term " bubble "

 has become overused in the last few years, as many investors and commentators now slap that label on any market segment that has enjoyed strong appreciation and high valuations. True bubbles are supposed to involve a certain element of self-delusion and mania. For an overheated market to really be a "bubble", there needs to be a collective notion that "it's different this time" and that the only prudent move for savvy investors is to put nearly all of their money in that asset.

Call whatever you want to call it, there is no question that there are some overheated segments of the market today. While momentum investors may be tempted to play their luck and see if they can squeeze more profits from, more conservative investors may want to give them a pass altogether.

What would YOU do?

Regards,

Yacine Dessouki

From best friends to bitter enemies

Dear Readers, 


Money and Friends are like water and oil : you cannot mix them. And the short story that I am unveiling in my post is no exception.


They drank and ate together at London's finest restaurants. They spent week ends togethers and travelled together with their wives and colleagues. David Wormsley, a senior banker at Citigroup who advised Guy Hands- the billionaire private equity baron- on deals worth $50 over 10 years, were very good friends. So close were the partners in crime that David Wormsley sometimes offered advice to Guy Hand's Terra firm for free. They were dubbed " the siamese twins " and they  " got on like a house on fire ". But things change ... 


Now, Guy Hands is suing Wormsley, affectively known as "the worm" by claiming that he tricked him into acquiring EMI (the music company) for $6.2bn by pretending another buyer was bidding for the company. In more simple terms, he is accusing for fraud. 


In one of the most sensational trials to hit the financial world for years, top American lawyers have been hired by both sides in what could potentially be an ugly and "bloody" face off. Even though last minutes talks were ongoing between the two parties in order to safe the both sides from destroying their public image - Guy Hands is demanding $7bn in compensation claiming that he would have paid a lower price for EMI (one of the worst timed deals of the credit bubble), an offer so low that it would have been rejected by EMI's owners, hence saving him billions and of course a lot of grief. On the other hand, Citigroup's legal team say that the alleged lawsuit was motivated by buyer's remorse. 


His decision to take one of the world's largest investment banks to court has stunned and enthralled the City and Wall Street. On the one hand, if Citigroup loses, could it affect the bank's standing with clients? Could business tail off? On the other hand, if Hands loses, will his reputation recover? Could it stop his enthusiasm for risk-taking?


For now, one thing is sure both parties have to face the music. Money is greed. One has to clearly differentiate between business and friends. 


Yacine Dessouki


Sources : 


http://www.ft.com/cms/s/0/1cbbe5f4-d884-11df-8e05-00144feabdc0.html


http://www.independent.co.uk/news/business/news/better-the-devil-you-know-terra-firma-keeps-emi-after-raising-cash-1974068.html

Chinese surprise appetite for biscuits

Dear Readers,

As we studied in class Mergers and Acquisitions, I think it is really interesting to talk about a story that caught my eye. While I was reading the news about recent and future M & As, I "discovered" a gripping headline.

Throughout the last decade chinese companies have bought European and American brands in industries such as cars, and personal computers but until now they have not shown much of an interest in food and drinks. As the chinese global reach grows, they are developing a taste for Western snacks. In fact, Bright Food is a hungry company : it is pursuing a deal for Britain's United Biscuits. 

United Biscuits is mostly known for their favourite British snacks (available in any super market) such as Jaffa cakes, Mc Vitie's digestive biscuits and Hula Hoops. The would be buyer, Bright Food, already runs 4 listed companies and has 3,300 retail shops across China. If the deal (valued at more than $3.2 billion) goes through, Bright food (which already makes dairy products, ice-cream, tinned food, sweets, rice wine) would eventually expand its product line.

Why this sudden appetite ? 


First of all, the chinese biscuit market is booming. According to some recent reports, it is facing a 9% growth rate this year. Bright food is keen to acquire from United Biscuits the secrets of baking bestselling snacks to face the Kraft which owns 17 % of the market.

Second of all, Bright Food desperately needs to brighten its public image. Two years ago it was implicated in a scandal when 6 babies died from drinking a baby formula that was contaminated by a chemical product called melamine. The chinese consumers do not trust their domestic food makers to the
extent that they are willing to a premium for foreign brands.

In my opinion if the deal goes through, United Biscuits will give Bright Food " a road " into foreign markets , otherwise it would have to build it " slowly " and " expensively".

But it is important to remind ourselves that mergers and acquisitions are not always fruitful. The latest example is Lenovo, the chinese maker of personal computers, acquired IBM's computer business later to discover that it mightily overpaid for the American firm.

Yacine Dessouki

Sources :

http://www.brightfood.com/en/index/

http://www.ft.com/cms/s/0/23864226-d4ab-11df-b230-00144feabdc0.html

India's economic miracle

Dear readers,

Today I chose to write my article slightly different than usual, using a different approach. 

Horrible toilets. Stagnant puddles buzzing with disease-spreading mosquitoes. Collapsing infrastructures. A terrorist attack. India's preparations for the Commonwealth (ironically named "Common-filth" by the british tabloid headlines) games which are scheduled to open in Delhi on the 3rd of October have not won favourable reviews*. The contrast with China's flawless hosting of the Olympic games in 2008 could hardly be starker. A big sporting event, tells you something important about the nation that hosts it. Efficient countries build flawless, organised stadiums and make the shuttle buses run on time. The fact that India cannot seem to do any of these things might suggest that it will always be a second-rate power. 

Or... does it ? Despite all the negative headlines, India is doing surprisingly well. Its economy is expected to expand by 8.5 % this year. Although it has a long way to go before it is as rich as China (the Chinese economy is 4 times bigger) but its growth rate could overtake China by 2013, if not before. Some economists predict that India will grow faster than any other large country over the next 25 years. In simple worlds : rapid growth in a country that accommodates 1.2 billion people is exciting.

In my opinion, there are 2 reasons why India will soon start to outpace China. 

Demography

China's workforce will shortly start ageing : in a few years time, it will start shrinking mainly due to its one-child policy. Back in the 70's, Indira Gandhi tried something similar by introducing a forced-steralisition programme only to face uproar of protests. Coercive population policies were abandoned. Democracy was restored. 

India is now blessed with a young and growing workforce : the proportion of children and old people to working-age adults is one the best in the world and will remain so for a generation. 

Democracy

The notion that democracy retards development in poor countries has gained currency in recent years. But, certainly it has its disadvantages. Elected governments bow to the demands of selfish and interest groups, and the most urgent decisions are usually endlessly debated and delayed. 

China does not have this problem : when its technocrats decide for example to dam a river, build a road or move a village, the dam will go up, the road will go down and the village will disappear. The villagers may be eventually compensated but they are not allowed to stand in the way of progress. Chinese leaders make rational decisions and balance the needs of all the citizens over the long term leading to rapid and sustained growth that has lifted hundreds of millions of people out poverty.

No doubt that a strong a central government could have given India a less chaotic Commonwealth games. But I clearly think that there is more to life than badminton and gymnastics. India's government may be weak, but its... 

Private companies are strong

The Indian capitalism is driven by millions of entrepreneurs all furiously doing their own thing. Since the early 1990's when India opened up to foreign trade, India's businesses boomed. India now boasts countless small businesses and a fair number of world-class ones often innovative : they have pioneered the $2,000 car, the ultra-cheap heart operation and some novel ways to make management more responsive to customers. Moreover, India lacks the chinese culture of secrecy and censorship, hence the idea flow easily.

For now, India's problems are painfully visible : the roads are atrocious, the public is a disgrace and many entrepreneurs waste hours each day stuck in traffic. Thanks to a surge of a cheap private schools for the poor, India's literacy rate is rising (but its still far behind China)

India vs China : Advantage India 

The Indian government recognises the need to tackle the infrastructure problems and is getting better at persuading private firms to come up with the capital. But the process is really slow, filled with corruption.

In my opinion, given the choice between doing a business in China or India, I would probably pick China as the market is bigger, the government easier to deal with. But as the global economy becomes more knowledge-itensive, I think India's advantage will grow.

Yacine Dessouki