Dubai World (30 Nov 2009)

Last Thursday, Dubai World announced that it was seeking to delay loan repayments for 6 months. This shook financial markets all over the world as investors realized that what they once thought was Quasi-sovereign debt would was implicitly guaranteed by the government might still potentially default. Though the total amount owed by Dubai World, which is a state-owned holding company, which was reportedly 59 billion USD, is relatively small, compared to the hundreds of billion that had to be poured by the US government into financial institutions to bail them out from the US financial crisis last year, it was still a sobering reminder just because the worst seems to be over, and things seem to be on a recovery, doesn’t mean something like that can’t happen.

Dubai will take a long time to dig themselves out of the financial mess they have inflicted on themselves. Whether Abu Dhabi, Dubai’s oil rich neighbor cough ups from its oil riches the amount that Dubai needs to bail Dubai World out is a moot point, the massive oversupply in its property sector will take a very long time to recover.

However, from Asia’s perspective, the panic has been rather overdone. The Hong Kong stock market crashed more than 1000 points on Friday. (Singapore was spared because markets were closed due to Hari Raya Haji). From an economic perspective, although large, 59 billion is not an amount that by itself, can bring a recovering global economy back to its knees again. Also, the main impact of this will be felt in the gulf region, as a large proportion of the funding to Dubai World was from banks in the gulf region.

One can be excused for feeling a strange sense of déjà vu to see such an announcement from Dubai happen, slightly one year after Lehman Brother’s collapse triggered the start of a financial crisis in the US that spread to the rest of the world. However, it is important to keep thing in perspective. Dubai does not have anywhere near the kind of size or importance that the US economy or the US financial sector had. Asia, and for that matter the rest of the world, does not rely on the Dubai consumer, nor is it a major export destination market for Asia.

For now, the main worry is that this might have a financial impact on the already fragile balance sheets of banks which might have participated in helping to fund Dubai World’s grand expansion plans. But as I mentioned, the major casualties are going to be banks in the gulf area. While there may be some possible projects or financing done by some of the banks and other institutions here, these are unlikely to be big nor have a material impact on the banks here.

If fear does cause markets to tumble because of this though, then it would be a good opportunity to look for bargains in the market. Investor sentiment has been shaken, but economic fundamentals remain unaffected. It is then a matter of being patient until investor sentiment recovers, and if the global economic recovery continues, then investor sentiment will definitely recover.

To end up, we are also coming to the end of the year soon. Besides looking back at how things are, and looking forward to the new year, it is a good time to rebalance your portfolio. Given the big swings in many markets this year, and the last, rebalancing will be very important.

How I am Hedging my Portfolio (11 Nov 2009)

What a difference a couple of days make. Last week, markets were looking rather flattish. Then it picked up noticeably over the last few days. Patience remains the key here. Every time markets retreat a bit, there is always the fear whether it will go further south. I tend to handle it by asking myself whether fundamentals have changed, and what might derail a recovery. If I don’t, then I may actually buy more when markets dip.

In any case, so far, I am not seeing it. Yes, investors worry about what happens when the stimulus packages end, and every so often, you hear what if we get a double dip recession. But you have the world’s leaders here in APEC essentially saying that they are still very much concerned about the health of the recovery, and so, they will be careful about any exit strategies.

Most Asia companies had much stronger balance sheets than US ones, and other than having to deal with the drop in demand, which is now gradually recovering, at least most Asian companies did not have to also deal with having to refinance debt in a debt market that was frozen the way the US debt market locked up. Now, the worst is essentially over, and Asia is rebounding in a big way. While demand from the US is likely to recover slowly, other parts of Asia including China will step in to make up for it. A report issued this week confirmed what most of us already guessed. Trade within Asia has been growing. Its not an overnight change, but as intra-Asian trade continues to grow at a faster rate than external Asian trade, then we will be in a better position to pick ourselves up and recover from the recession simply because within Asia, trade activity is still increasing rapidly. Hence my confidence that we don’t need US’s economy to roar back in a big way just for Asia to continue growing.

Of course, even on that point, things are not that bleak. US consumer confidence hit rock bottom this year. As we move into 2010, things will look better. Measured against the low base that is the year 2009, most economic indicators and company earnings are likely to look good.

Within such a recovery backdrop though, there will continue to be concerns, and in Asia, asset bubbles are a danger to watch for. The low interest rates and stimulus packages have created a lot of liquidity, and a lot of it has flowed into Asia and emerging markets. If allowed to get out of hand, when they do burst, it will be very painful.

Because of this, I continue to do some hedging by holding my precious metals fund and my Russia fund. Commodities and oil are the weak Achilles heel of Asia because we generally have to import a lot of it. If its anything that could stop Asia’s recovery, it would be if price speculation pushed up such prices beyond their fundamentals. Hence, having some exposure into these would ensure that if this unhappy situation does come to pass, at least some of my funds will be making a lot of money.

Another area I am hedging within my portfolio is my exposure to bond funds – namely emerging market bond funds and high yield bond funds. At this point, I find it difficult to justify placing much money in fixed deposits, or even investment grade type bond funds simply because these are either earning really low interest, or are likely to be sensitive to a rising interest rate environment. Emerging market bonds and high yield bond funds are much less sensitive to that.

Also, it is a way to hedge against the scenario where the global economy goes sideways. I don’t see this as likely, but what if speculators drive up commodity prices so high that rising costs cuts into the profit margins of most companies in a big way? You can only pass on so much rising costs to a consumer that is already price conscious in the current environment. Or some other unforeseen event that doesn’t quite cause another recession, but results in little to no growth over the next 2 years.

In that kind of situation, high yield bonds and emerging market bonds would be my hedge. In the high yield bond market, many companies had already managed to refinance themselves for the next few years, and as long as they can meet their current interest rate obligations, they are unlikely to go under. The surprising thing is that we haven’t quite seen the number of bankruptcies that we expected to. The biggest example, during the great depression, over 3000 banks went under in the US, but up till now, less than 150 banks have been taken over by US bank regulators this year.

Its one year already since Lehman Brothers collapsed. If we haven’t seen a big round of company failures up till now, then, in a gradually improving environment, we won’t be seeing it either. Yet, interest rate yields for high yield bonds remain significantly higher than for investment grade bonds, when the very high possibility of interest rates going up eventually over the next 2 years is going to have a much more negative impact on investment grade bonds than high yield bonds.

Many emerging market bonds also remain at higher yields compared to the developed country sovereign bonds. This despite the fact that in today’s world, it is clear who are the major creditors and who are the major debtors. There is a disconnect here that is not going to change simply because rating agencies are used to giving emerging market bonds a higher risk premium. Yet, I ask myself. Who is in greater danger of defaulting on interest payments? An emerging market country which has strong foreign reserves, is growing fast, and is exporting either lots of goods (like China) or exporting lots of commodities (like Brazil) and is a net creditor, or a country that doesn’t have much reserves, spends more than it earns (has a big deficit), and is a net debtor. I think I can fit lots of developed countries with strong investment grade type ratings into this latter category. Yet, a lot of emerging market bonds continue to give a higher yield compared to the developed countries.

So, I remain highly positive, and I am looking forward to a next phase of market uptrend over the next 6 months to one year. In the meantime though, I am taking pains to hedge by having exposure to oil (through my Russia fund), precious metals, emerging market bonds and high yield bond funds.

Why You should DIY (5 Nov 2009)

It seems weird for me to suddenly talk about DIY or “do-it-yourself” with regards to investing. After all, investors with Fundsupermart are all DIY investors. But I still believe there are many people out there who do not take charge of their own finances, and yet, it is a very important decision.

There are so many reasons I have come across for people who do not want to DIY. But one of the biggest reason is that there is a spouse, a relative (father or mother), etc who is better and that relative handles it all for them.

This is not a very good reason I feel personally. Especially if the trust is to such an extent that they have no idea what is being done to their money, just that this trusted relative manages it for them. First, about the spouse. Let me state that no matter how secure a person feels about a relationship, at the very least, one has to know what your spouse is doing with your money.

Not asking might seem like the ultimate in a trusting relationship. But its your money, surely you have a right to know what is being done to it? For all you know, it was put into some risky business venture, and its all gone, if you never asked. Just because one’s spouse in more knowledgable in investing does not make him or her the best person to handle your money. You are the one that knows best how much risk you can handle.

Also, at risk of being overly brutal, divorce cases are going up, and money is often one of the factors that break up a marriage. No matter how much in love you might feel, one should always maintain a certain amount of independence. Relying on your spouse to handle something as important as your investments is a dependence that is very dangerous. What happens if the unthinkable happens and there is a divorce, by then, trying to think back and track and get back whatever money you placed with your spouse would be a very difficult task. Yet, it could be money you have saved for years, meant for retirement, kids, etc. And to lose track of all of that because it was “handled” by your spouse would be terrible. Imagine if he or she turned around and said that it was all lost in a huge market crash, or some risky overseas venture. You would have little recourse since you were the one who willingly left everything to be managed by your spouse.

Also, even if it didn’t happen. People can die. So, if you chose not to know anything about how your investments were handled previously and if your spouse (touch wood) suddenly passed away. Now, on top of the grief of losing a loved one, you would have to grapple with investments, which at this point, you might have no inkling or idea about.

This happens to anyone you place a huge amount of trust in managing your personal money on. No it your spouse, relative, etc. Things may change. One thing that doesn’t change though, is your own knowledge and your own motivations. No matter what, you will always be looking out for yourself, when you are managing your own money, and any knowledge that you gain with regards to investing, stays with you. They don’t disappear if someone died, or if your stock broker quit or something.

So, I am talking to my wife, trying to teach her more gradually about investing, even though she is exactly such a classic example. She nods off five minutes into a conversation about investing. And I mean to teach my kids about investing when they are young. Its always better to be well informed, and such investment knowledge can only be an asset as you get older.

So, go the DIY way. Take control of your own financial destiny. Only you know yourself best.