Monday, May 17, 2004

Stock markets crash; trading frozen

Markets crashed today by a record percentage; then trading was frozen at around 10.15 AM. After an hour, when the trading resumed the crash continued! This is the record crash in the entire history of stock markets in India. Sensex crashed by 550 points when the first halting happened, and a further crash of 230 points has resulted in a further halting for two hours. Sensex has crashed so far by 787 points (15.5%). Nifty has crashed by 276 points (17.5%).

Foreign based hedge funds are thought to be the reason behind the massive crash. A hedge fund, unlike a standard investment mutual fund will employ a variety of methods to enhance the fund value. Besides buying and selling stocks, the hedge fund will also buy put options, call options and short selling as methods of making money. The hedge fund is basically highly risky and short term oriented. Unlike a foreign institutional investor who has a longer time horizon on his investments, the hedge funds have probably adopted (a) cash in on forward options (b) cut the losses and run, and not wait for the volatile next few days.

The result is thinly traded volumes and massive stock depreciation.

However there is a lot more to the "India story" than this short term crash. This crash is not like the stock scam induced crash of the past engineered by Ketan Parikh or Harshad Mehta. So investors needn't worry.

With no government yet at the centre, there is bound to be uncertainty and any number of statements from non-portfolio holding Manmohan Singh, Pranab Mukherjee and Jairam Ramesh. Let Sonia Gandhi take over the administration and appoint her council of ministers quickly and that may help in arresting this decline.

Also this opens up some interesting investment options - particularly the much maligned PSU stocks. Some of the PSU stocks are now so attractive just on their dividend yield. Dividend income is tax free, and because the government relies so much on them for its income, thiese companies keep declaring significant dividend. Since the key ones are in the oil sector (IOC, HPCL, BPCL, GAIL etc.), they are also profit generating. The dividend yield at current prices and past dividend pay out is as much as 8-9% and may now be even 10%+.

So a prudent investor can reap a lot of rewards even in the depressed market climate!

5 comments:

  1. ".... So a prudent investor can reap a lot of rewards even in the depressed market climate!...."

    ..till a scam strikes ? :-)

    welcome Badri to English Blogdom :-)

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  2. Don't think scams affect dividend yield. However other considerations affect the dividend yield. Poor management, resulting in lower profits; sudden oil price shock affecting the oil distribution companies etc. will impact adversely on the dividend yield.

    I am not at all talking about appreciation in stock price. Only about income generated through dividends. I might have overstated the dividend yield. Looking closely, HPCL at current market prices and last year dividend, would be at 7.86% yield. GAIL is 6.68% yield. These numbers easily outstrip the fixed deposit interest rate in a nationalised bank for a 3 year+ (5.5%). Any market price increase can be seen as a bonus.

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  3. Yes Badri. In terms of dividend yields, PSU shares seem to be a better option, than the bank deposits. That is for long term investors, who buy a few shares and sit back to relax.

    But, for those who go in for easy liquidity, don’t you think the vagaries of the market affect? For instance, if an investor buys a PSU share at market price today and if it goes down and down and touches the bottom – god forbid - he can never think of liquidating it. His only hopes are on the dividend yields – again, he can relax only if the yield also is not affected by the factors you have pointed out.

    In the worst scenario, the only difference between the other companies and PSU shares is that in the event of continued depreciation, there is the risk of other shares becoming just papers if the companies close shop, while the PSUs will continue to be on the show – come what may – because they are protected by the state.

    So either way, you have a point there. PSU shares are best buy today.

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  4. Not all PSU shares:-) Some are better, more importantly in the oil sector. For example, HPCL is in the oil distribution business, has excellent dividend yield and the Govt. will continue to keep it that way, since that is how the Govt. gets its revenues. But the oil shock will affect it, if the Govt. forces it to take the shock and not pass the higher oil prices on to the customer. So you balance it with GAIL, which also has some subsidy related problems, but oil price shock doesn't affect this company. Then you also throw in a bit of ONGC as this is one company that is not adversely affected by the rising oil prices, but its dividend yield is lower - closer to 4%! However, I take your point on the liquidity issues.

    A long time investor should seriously consider these stocks. Anyway, nothing I have said in this post or any other post should be taken at its face value, and hopefully the readers would understand that they are on their own in making their decisions! Don't sue me if things go wrong :-)

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