Tax-smart housing loans!
When buying a house, you have two financing options; either take a loan, or use your own funds. Most of us obviously would not be able to afford the outright purchase of a house without availing of a loan.
However, even those fortunate few who have the money to buy a house off the shelf should consider going in for a loan. Let us see why.
Well, for starters, under Section 24 of the Income Tax Act:
Interest outgo up to Rs 150,000 on a housing loan is tax deductible for self-occupied houses.
In the case of commercial properties and let-out premises, there is no upper limit on the deductibility of the interest.
Anyone who has two self-occupied houses has the privilege of choosing any one of them as deemed to have been let-out.
Over and above this deduction on interest, repayment installments of the principal loan amount are also eligible for deduction under Section 80C, within the overall aggregate ceiling of Rs 1 lakh (Rs 100,000).
If one were to use one's own funds, all these benefits have to be forgone. There are absolutely no tax benefits available for someone who buys a property outright without taking a loan. This does seem a bit harsh and unfair, but that's the way the law is.
Also, interest rates payable on housing loans are typically about the same as the rate earned on a bank deposit. Therefore, it makes abundant sense to take a loan.
So, how much loan should one take?
The answer is obvious:
1. In the case of commercial, let-out, or deemed let-out properties, take as much loan as can be obtained.
2. First Cut: In the case of a self-occupied house, a housing loan of about Rs 15 lakh (Rs 1.5 million) would attract annual interest of Rs 1.5 lakh (Rs 150,000), which is the highest limit of tax deduction available. So, loan up to this limit is certainly beneficial; anything more would not offer any additional tax benefits.
For instance, if you take an additional loan of Rs 1 lakh (Rs 100,000) over and above Rs 1.5 lakh, the corresponding additional interest of Rs 10,000 payable would not be tax-deductible. Now, the same corresponding amount invested in bank FDs earns interest of Rs 10,000. This is subjected to tax at the rate applicable to the individual and will be as much as Rs 3,399 in the highest tax zone. This is certainly a loss that can be avoided by using one's own funds beyond the limit of Rs 15 lakh or so, the exact limit being governed by the prevailing interest rates.
It would, therefore appear that any loan where the annual interest exceeds Rs 1.5 lakh is not tax advantageous.
Second Cut: The above analysis is true for Year 1. Let us examine what the situation would in the subsequent years.
Suppose the loan is Rs 15 lakh and the capital repayment for the first year is Rs 1 lakh. The interest on Rs 15 lakh is Rs 1.5 lakh only for the first year. During the second year, the loan outstanding would have reduced by Rs 1 lakh, and the interest will also correspondingly reduce, so there is unutilised tax deduction in the second and subsequent years.
Therefore, it makes sense to take as much loan as is possible for as long a tenure as possible because while the entire interest in the first year, or a few initial years, might not be fully tax-deductible, total tax advantage over the life of the loan would be higher.
3. One important observation related with those who have two self-occupied houses. The second house will be deemed to have been let out even if it is not actually let out. The entire interest paid on the second loan is deductible, and this is over and above the limit of Rs 1.5 lakh for the self-occupied house.
Yes, at first glance this appears very attractive but there is a notional rent that will be added to the income, which dilutes the advantage.
Fine print, tax smart
Section 24 of the Income Tax Act allows for deduction -- "Where the property has been acquired, constructed, repaired, renewed or reconstructed with borrowed capital, the amount of any interest payable on such capital."
Note that the word used is 'payable' and not 'paid.' Therefore, if the housing finance company adjusts the entire amount of EMI towards the principal first, and debits the interest to 'interest collectable' account, the borrower will derive the maximum tax benefit.
A certificate furnished to the borrower indicating the amount of interest payable gives him a handle to claim the deduction under Section 80C on a larger amount without losing deductibility under Section 24, by even a paisa. The actual interest payment can wait until the principal amount is collected. Some employers, especially PSUs and banks, follow this practice.
In such cases since the deduction of interest is already claimed on accrual basis, one cannot claim it once again when the interest is actually being recovered. Under such a scenario, the individual may be given an option to prepay the entire balance of interest without any penalty at one go when the capital is totally paid off.
We hope some of the financial institutions, especially the more dynamic ones like HDFC [Get Quote], take a lead in changing their structure of EMI. As a matter of fact, housing companies will do well by giving an option to the borrower of choosing whether to (i) treat the entire EMI as interest in the beginning or (ii) treat it as repayment of the capital or (iii) apply the normal reducing balance method!
Excerpt from:
Taxpayer to Taxsaver (F.Y. 2007-08)
By A N Shanbhag
Publisher: Vision Books
Price: Rs 235.
A N Shanbhag is a best-selling author and a very widely syndicated columnist on personal finance and taxation.
(C) All rights reserved.
To buy A N Shanbhag's Taxpayer to Taxsaver online, click here
Monday, June 11, 2007
Tuesday, February 13, 2007
What is PE Ratio
Decoding PE ratio
Thanks to the Internet era, we columnists receive instant feedback from you. It is both a joy, and a challenge, when you ask me to explain myself. In December, I said that buying and selling decisions were made easier if one had a target price, set by one's understanding of the company's business.
This led to a large number of email queries like "How do you set a target?", and "Is the P/E (price to earnings) ratio the only benchmark for setting a target?"
The answer to this question has filled many books. Yet as a stock-picker in the public domain, I must try and answer it. Please bear with me if you know all that I am saying, and also with the fact that my answer will spread over two issues. Let me start by saying that there is no escaping from P/E ratios.
Let's begin with 'E', or earnings. A share in a company is a share in its earnings as long as the company exists (of course, if you sell the share, this entitlement passes to the new owner).
The dividend, or what the company pays you, is only a fraction of this earning since most companies retain much of their profit to finance further growth; but then that growth leads to greater earnings, in which you still hold a share. 'P', or price, is what the market is asking you to pay for this stream of earnings.
Clearly then, when buying a share, we should calculate whether its price is justified by what the company will earn in the future.
This raises two issues -- one is estimating this future stream. The second question is -- what will you pay today for returns in the future? For example, what is the present value of Re 1 every year from now until the end of the century?
We know that the actual value of this sum is Rs 93, but clearly no one will pay this amount. For two reasons -- firstly, most of us would rather have Re 1 today than Re 1 tomorrow (and Re 1 to be received in 2100 seems practically worthless today); secondly, if the interest rate is 8 per cent per annum, I can 'buy' Re 1 per year by putting Rs 12.50 in the bank.
Now, if interest rates go up overnight to 10 per cent, that same annual income of Re 1 per year will cost only Rs 10. Since fixed income streams suddenly became cheaper, shares should also become cheaper. The inverse relationship between interest rates and share prices generally holds true, but in our markets, stock prices have not reacted to the recent hike in interest rates. This is because growth in earnings has been so strong.
This means that the amount we are willing to pay for a share depends firstly on its current earnings (the P/E ratio); but more importantly, it depends on our expectation that earnings will grow over time. As the Indian economy has gathered steam, companies across sectors have shown earnings growth year-on-year (and quarter-on-quarter). This has increased the willingness of investors to bank on growth, and value shares at higher and higher multiples of current earnings.
Thus, in May 2003, shares in the Nifty were valued at 10.84 times earnings. Today, the same index is valued at almost 23 times earnings. This is despite the fact that the price of a fixed income stream has come down (which is what happens when interest rates go up), as interest rates have climbed by about three percentage points in these three years.
This seems to be illogical, but is not because the investor in shares has seen the earnings in shares go up by over 25 per cent each year during the time period. Now this is only an analysis of the past. What about the future? And, moving from the theoretical to the specific, how do we decide what we are willing to pay for a specific company's shares?
These are questions I will attempt to answer in my next column.
The author is an investment advisor to a select group of clients. He can be reached at msatyanand@yahoo.com
In layman terms. Today if you put Rs 10 in bank, you would get Re 1 every year, compared to putting Rs 12 a few years ago. Compare that to the markets where people are putting upto Rs 23, which if the earnings are constant they would get Re 1 only every year. But surely people are expecting earnings to rise drastically (as has been demonstrated over the last few years), that they are willing to put upto 23 times earnings in the stock market.
Now, even if the interest rates were to go higher, so that say, you would Re 1 every year with only Rs 8 investment, still paradoxically, the shares are not becoming cheaper (which they should because of demand). That is people are willing to invest at and above Rs 23 although they may get only Re 1 every year, if the earnings are a constant. But because people are expecting more and more higher earnings, and if they invest Rs 23 in the stock market, they would get more than Re 1 in the years to come (and actually increase exponentially), they are willing to value the stock market at higher and higher prices, even though the interest rates are going up.
To know about P/E, it would be better to know about EPS first.
EPS (Earnings Per Share) - It is the Net Profit divided by total number of shares. If a company has 10,000 shares in total, and the company makes Rs.500,000 in profit (in a year), the EPS for that financial year is Rs.50.
P/E Ratio: You must take the stock price and divide it by the EPS, to get the P/E ratio. For instance the current market price of ABC company share is Rs.100 and its EPS is 50. Then the P/E ratio would be 2.
The P/E ratio (also called the "Earnings Multiple") needs to be compared in the same sector that a company is in. P/E of a sector is usually at similar levels - for instance, tech companies have P/E of around 35 - 45, PSU banks 5-10, Private banks 22-25 and so on.
Thanks to the Internet era, we columnists receive instant feedback from you. It is both a joy, and a challenge, when you ask me to explain myself. In December, I said that buying and selling decisions were made easier if one had a target price, set by one's understanding of the company's business.
This led to a large number of email queries like "How do you set a target?", and "Is the P/E (price to earnings) ratio the only benchmark for setting a target?"
The answer to this question has filled many books. Yet as a stock-picker in the public domain, I must try and answer it. Please bear with me if you know all that I am saying, and also with the fact that my answer will spread over two issues. Let me start by saying that there is no escaping from P/E ratios.
Let's begin with 'E', or earnings. A share in a company is a share in its earnings as long as the company exists (of course, if you sell the share, this entitlement passes to the new owner).
The dividend, or what the company pays you, is only a fraction of this earning since most companies retain much of their profit to finance further growth; but then that growth leads to greater earnings, in which you still hold a share. 'P', or price, is what the market is asking you to pay for this stream of earnings.
Clearly then, when buying a share, we should calculate whether its price is justified by what the company will earn in the future.
This raises two issues -- one is estimating this future stream. The second question is -- what will you pay today for returns in the future? For example, what is the present value of Re 1 every year from now until the end of the century?
We know that the actual value of this sum is Rs 93, but clearly no one will pay this amount. For two reasons -- firstly, most of us would rather have Re 1 today than Re 1 tomorrow (and Re 1 to be received in 2100 seems practically worthless today); secondly, if the interest rate is 8 per cent per annum, I can 'buy' Re 1 per year by putting Rs 12.50 in the bank.
Now, if interest rates go up overnight to 10 per cent, that same annual income of Re 1 per year will cost only Rs 10. Since fixed income streams suddenly became cheaper, shares should also become cheaper. The inverse relationship between interest rates and share prices generally holds true, but in our markets, stock prices have not reacted to the recent hike in interest rates. This is because growth in earnings has been so strong.
This means that the amount we are willing to pay for a share depends firstly on its current earnings (the P/E ratio); but more importantly, it depends on our expectation that earnings will grow over time. As the Indian economy has gathered steam, companies across sectors have shown earnings growth year-on-year (and quarter-on-quarter). This has increased the willingness of investors to bank on growth, and value shares at higher and higher multiples of current earnings.
Thus, in May 2003, shares in the Nifty were valued at 10.84 times earnings. Today, the same index is valued at almost 23 times earnings. This is despite the fact that the price of a fixed income stream has come down (which is what happens when interest rates go up), as interest rates have climbed by about three percentage points in these three years.
This seems to be illogical, but is not because the investor in shares has seen the earnings in shares go up by over 25 per cent each year during the time period. Now this is only an analysis of the past. What about the future? And, moving from the theoretical to the specific, how do we decide what we are willing to pay for a specific company's shares?
These are questions I will attempt to answer in my next column.
The author is an investment advisor to a select group of clients. He can be reached at msatyanand@yahoo.com
In layman terms. Today if you put Rs 10 in bank, you would get Re 1 every year, compared to putting Rs 12 a few years ago. Compare that to the markets where people are putting upto Rs 23, which if the earnings are constant they would get Re 1 only every year. But surely people are expecting earnings to rise drastically (as has been demonstrated over the last few years), that they are willing to put upto 23 times earnings in the stock market.
Now, even if the interest rates were to go higher, so that say, you would Re 1 every year with only Rs 8 investment, still paradoxically, the shares are not becoming cheaper (which they should because of demand). That is people are willing to invest at and above Rs 23 although they may get only Re 1 every year, if the earnings are a constant. But because people are expecting more and more higher earnings, and if they invest Rs 23 in the stock market, they would get more than Re 1 in the years to come (and actually increase exponentially), they are willing to value the stock market at higher and higher prices, even though the interest rates are going up.
To know about P/E, it would be better to know about EPS first.
EPS (Earnings Per Share) - It is the Net Profit divided by total number of shares. If a company has 10,000 shares in total, and the company makes Rs.500,000 in profit (in a year), the EPS for that financial year is Rs.50.
P/E Ratio: You must take the stock price and divide it by the EPS, to get the P/E ratio. For instance the current market price of ABC company share is Rs.100 and its EPS is 50. Then the P/E ratio would be 2.
The P/E ratio (also called the "Earnings Multiple") needs to be compared in the same sector that a company is in. P/E of a sector is usually at similar levels - for instance, tech companies have P/E of around 35 - 45, PSU banks 5-10, Private banks 22-25 and so on.
Sunday, January 21, 2007
Five mutual funds that one can invest in
5 mutual funds that you must own
January 22, 2007 10:50 IST
It's the start of a new year and maybe its time for investors to take a re-look at their mutual fund portfolios to ensure that they are invested in the right schemes. We outline the most "invest-worthy" equity fund schemes that investors should consider owning.
Given Personalfn's mutual fund research processes, the best funds for 2007 are unlikely to be very different from those we recommended in 2006. Its because our view on a fund is crystallised after considerable deliberation that involves scrutinising the fund's performance over the long-term (minimum 3 years, although with some exceptions, many of our recommendations have established themselves over close to 10 years) and even then over several market cycles, particularly the downturns.
Performance of course is the concluding point for us. We begin with the sponsor, the credibility it commands, fund management philosophy of the fund house, its investment approach and processes, whether it promotes a steady, team-based approach as opposed to a volatile, fund manager-based approach. This forms the first line of evaluation for us; if a fund house redeems itself on these parameters then we migrate to performance.
At Personalfn, in a lot of instances we come across clients with a high risk appetite who believe that the best way to invest is to stack your portfolio with as many mutual funds (or stocks) as possible. The idea is that there is safety in numbers so by being 'well-diversified' you can cover all your bases.
To counter the diversification rational we have a quote from Warren Buffet, arguably the leading authority on investments � 'Diversification is a protection against ignorance. It makes very little sense for those who know what they are doing'. So rather than populate your portfolio with every second NFO (new fund offer), it makes imminent sense to invest some time researching mutual funds so as to pick the best funds. The Personalfn Research Team has selected the 5 diversified equity funds that investors with an appetite for risk must own.
Go for the tried and tested
Diversified Equity Funds NAV (Rs) 1-Yr (%) 3-Yr (%) 5-Yr (%) Since
Incep. (%) SD (%) SR (%) Launch Date
DSP ML Equity 45.29 51.6 47.2 46.7 28.9 8.35 0.41 Apr-97
DSP ML Opp. (G) 56.00 51.6 46.5 50.5 32.4 7.92 0.41 May-00
Franklin Flexi Cap (G) 20.95 48.0 - - 52.6 7.98 0.43 Mar-05
HDFC Top 200 (G) 109.47 43.8 45.3 49.9 35.8 7.28 0.43 Oct-96
Sundaram Select Midcap (G) 90.42 67.2 56.1 - 66.1 7.56 0.52 Jul-02
BSE Sensex 54.9 38.2 32.0
. DSP ML Opportunities Fund
DSP ML Opportunities Fund is an equity fund managed with a free flowing investment style, popularly known as an 'opportunities style' of investing. Launched in May 2000, it began poorly by making aggressive, ill-advised investments in technology stocks, but a change in the fund management team was just what the fund needed to effect a change in fortunes.
Although, an opportunities fund, DMLOF is probably one of the more conservatively managed, predominantly large cap diversified equity funds. It pursues a well-diversified investment strategy across stocks and sectors and is far from opportunistic given the consistency in its stock picks.
More than the fund, this is the mainstay of the well-defined investment processes and approach of the asset management company - DSP Merrill Lynch Fund Managers, a respectable name in the fund management business. The conservative fund management philosophy of the AMC is the reason we did not see any gimmicks being launched in the guise of NFOs when most other AMCs were gripped by the NFO frenzy.
In our view, investors with looking to invest in a well-managed, opportunities style, diversified equity fund with a large cap bias should invest in DMLOF.
2. DSP ML Equity Fund
Coming from the same pedigree as DSP ML Opportunities Fund explains DSP ML Equity Fund's (DMEF) steady track record as a well-managed value-style diversified equity fund.
The value style of investing, a popular investment approach in developed markets like the US, is lesser-known in the Indian context. This style involves investing in fundamentally strong companies that are trading at a discount to their fair values till such a time that their stock prices are fully valued. This is a departure from the growth style of investing, which involves investing in fairly valued companies in the hope that stock prices will rise even further.
DMEF scouts for value picks mainly among large cap companies. True to the investment approach of the fund house, it is well-diversified across stocks and sectors. Among its limited peer group, it has usually maintained an edge over competition by providing higher absolute and risk-adjusted returns.
In our view, DMEF is the first stop for investors looking for a well-managed value fund in the large cap segment.
3. Franklin India Flexicap Fund
An equity fund with as limited a tenure as Franklin India Flexicap Fund (launched in January 2005) would not usually have figured so high on our Research Team's list of recommendations. But FIFF is no ordinary fund; it is backed by a fund management team headed by K.N. Sivasubramanian and R. Sukumar, two very experienced fund managers who have given us Franklin India Bluechip and Franklin India Prima.
Both these funds, would normally have occupied the slot that FIFF now occupies, but as we mentioned right at the start, when we can do with one fund, we would not like to have two.
Franklin Flexicap was launched with a mandate to help it overcome the limitations of its illustrious predecessors (Franklin India Bluechip and Franklin India Prima). So unlike them, it can invest in companies regardless of the market capitalisation. So far, the fund has maintained a predominantly large cap portfolio recognising the risks of being over invested in mid caps.
In our view, investors looking for a fund that can invest freely across market capitalisation should invest in FIFF given the impressive track record of the fund management team that is managing it.
4. HDFC Top 200 Fund
Talk of well-managed diversified equity funds and HDFC Top 200 Fund emerges as an obvious option. The reasons are obvious - over the years HTF has established an impressive track record across time frames and parameters related to risk and return.
HTF has undergone a long journey from ITC Threadneedle to Zurich India Mutual Fund finally resting with HDFC Mutual Fund, one of the more respectable names in the AMC business. But a constant with the fund, for most of its existence, has been Mr. Prashant Jain, one of the more competent fund managers, who has directly or indirectly managed the fund. It was under him that HTF made the timely decision to exit technology stocks before the crash in March 2000.
HTF is one the earliest proponents of the index-plus investing style. It is mandated to invest at least 60% of its net assets in stocks drawn from the BSE 200. The fund is invested predominantly in large cap companies. It pursues a relatively well-diversified strategy as far as stocks are concerned but takes sectoral bets to score above-average returns.
In our view, investors looking for a fund that has consistently generated above-average returns at lower risk, must invest in HTF.
5. Sundaram BNP Paribas Select Midcap Fund
Having selected the regular large cap/flexi cap equity funds, it is time to move to a 'niche' fund that can give a boost to your portfolio. Look at Sundaram BNP Paribas Select Midcap for that edge.
Only 4 years in business and SSM has already assumed leadership position in this segment. Managed by Sundaram BNP Paribas Mutual Fund (a fund house known largely for its conservative investment style), SSM has adopted two measures to lower the risk in a relatively high risk segment.
For one, it diversifies its portfolio to include as many as 100 stocks. And two - it moves into cash (upto a maximum of 35 per cent of net assets) when it finds the market at uncomfortable levels. This particular feature held the fund in good stead during the crash in May 2006 when its fully invested peers witnessed significant erosion.
On the flipside, this has worked against SSM over the last few months when its peers have made the most of the rally from 9,000 points to 14,000 points, while it has been sitting on cash (31 per cent on October 31, 2006). However, over a market cycle, we believe SSM will still come out tops vis-a-vis its peers.
In our view, investors looking for a well-managed mid cap fund that has shown consistency in performance across parameters (related to risk and return) must invest in SSM.
Having selected the 5 funds is only one part of the investment process. The other and equally important step is to invest in the funds in the right allocation so as to make the most of what they have to offer investors. For instance, an investor with an appetite for risk who wants to avoid short-term volatility must consider investing a larger amount in HDFC Top 200 than Sundaram Select Midcap.
For the high risk investor, it could be the reverse. To add that element of customisation in your investment plan, you must get in touch with an experienced and competent financial planner
January 22, 2007 10:50 IST
It's the start of a new year and maybe its time for investors to take a re-look at their mutual fund portfolios to ensure that they are invested in the right schemes. We outline the most "invest-worthy" equity fund schemes that investors should consider owning.
Given Personalfn's mutual fund research processes, the best funds for 2007 are unlikely to be very different from those we recommended in 2006. Its because our view on a fund is crystallised after considerable deliberation that involves scrutinising the fund's performance over the long-term (minimum 3 years, although with some exceptions, many of our recommendations have established themselves over close to 10 years) and even then over several market cycles, particularly the downturns.
Performance of course is the concluding point for us. We begin with the sponsor, the credibility it commands, fund management philosophy of the fund house, its investment approach and processes, whether it promotes a steady, team-based approach as opposed to a volatile, fund manager-based approach. This forms the first line of evaluation for us; if a fund house redeems itself on these parameters then we migrate to performance.
At Personalfn, in a lot of instances we come across clients with a high risk appetite who believe that the best way to invest is to stack your portfolio with as many mutual funds (or stocks) as possible. The idea is that there is safety in numbers so by being 'well-diversified' you can cover all your bases.
To counter the diversification rational we have a quote from Warren Buffet, arguably the leading authority on investments � 'Diversification is a protection against ignorance. It makes very little sense for those who know what they are doing'. So rather than populate your portfolio with every second NFO (new fund offer), it makes imminent sense to invest some time researching mutual funds so as to pick the best funds. The Personalfn Research Team has selected the 5 diversified equity funds that investors with an appetite for risk must own.
Go for the tried and tested
Diversified Equity Funds NAV (Rs) 1-Yr (%) 3-Yr (%) 5-Yr (%) Since
Incep. (%) SD (%) SR (%) Launch Date
DSP ML Equity 45.29 51.6 47.2 46.7 28.9 8.35 0.41 Apr-97
DSP ML Opp. (G) 56.00 51.6 46.5 50.5 32.4 7.92 0.41 May-00
Franklin Flexi Cap (G) 20.95 48.0 - - 52.6 7.98 0.43 Mar-05
HDFC Top 200 (G) 109.47 43.8 45.3 49.9 35.8 7.28 0.43 Oct-96
Sundaram Select Midcap (G) 90.42 67.2 56.1 - 66.1 7.56 0.52 Jul-02
BSE Sensex 54.9 38.2 32.0
. DSP ML Opportunities Fund
DSP ML Opportunities Fund is an equity fund managed with a free flowing investment style, popularly known as an 'opportunities style' of investing. Launched in May 2000, it began poorly by making aggressive, ill-advised investments in technology stocks, but a change in the fund management team was just what the fund needed to effect a change in fortunes.
Although, an opportunities fund, DMLOF is probably one of the more conservatively managed, predominantly large cap diversified equity funds. It pursues a well-diversified investment strategy across stocks and sectors and is far from opportunistic given the consistency in its stock picks.
More than the fund, this is the mainstay of the well-defined investment processes and approach of the asset management company - DSP Merrill Lynch Fund Managers, a respectable name in the fund management business. The conservative fund management philosophy of the AMC is the reason we did not see any gimmicks being launched in the guise of NFOs when most other AMCs were gripped by the NFO frenzy.
In our view, investors with looking to invest in a well-managed, opportunities style, diversified equity fund with a large cap bias should invest in DMLOF.
2. DSP ML Equity Fund
Coming from the same pedigree as DSP ML Opportunities Fund explains DSP ML Equity Fund's (DMEF) steady track record as a well-managed value-style diversified equity fund.
The value style of investing, a popular investment approach in developed markets like the US, is lesser-known in the Indian context. This style involves investing in fundamentally strong companies that are trading at a discount to their fair values till such a time that their stock prices are fully valued. This is a departure from the growth style of investing, which involves investing in fairly valued companies in the hope that stock prices will rise even further.
DMEF scouts for value picks mainly among large cap companies. True to the investment approach of the fund house, it is well-diversified across stocks and sectors. Among its limited peer group, it has usually maintained an edge over competition by providing higher absolute and risk-adjusted returns.
In our view, DMEF is the first stop for investors looking for a well-managed value fund in the large cap segment.
3. Franklin India Flexicap Fund
An equity fund with as limited a tenure as Franklin India Flexicap Fund (launched in January 2005) would not usually have figured so high on our Research Team's list of recommendations. But FIFF is no ordinary fund; it is backed by a fund management team headed by K.N. Sivasubramanian and R. Sukumar, two very experienced fund managers who have given us Franklin India Bluechip and Franklin India Prima.
Both these funds, would normally have occupied the slot that FIFF now occupies, but as we mentioned right at the start, when we can do with one fund, we would not like to have two.
Franklin Flexicap was launched with a mandate to help it overcome the limitations of its illustrious predecessors (Franklin India Bluechip and Franklin India Prima). So unlike them, it can invest in companies regardless of the market capitalisation. So far, the fund has maintained a predominantly large cap portfolio recognising the risks of being over invested in mid caps.
In our view, investors looking for a fund that can invest freely across market capitalisation should invest in FIFF given the impressive track record of the fund management team that is managing it.
4. HDFC Top 200 Fund
Talk of well-managed diversified equity funds and HDFC Top 200 Fund emerges as an obvious option. The reasons are obvious - over the years HTF has established an impressive track record across time frames and parameters related to risk and return.
HTF has undergone a long journey from ITC Threadneedle to Zurich India Mutual Fund finally resting with HDFC Mutual Fund, one of the more respectable names in the AMC business. But a constant with the fund, for most of its existence, has been Mr. Prashant Jain, one of the more competent fund managers, who has directly or indirectly managed the fund. It was under him that HTF made the timely decision to exit technology stocks before the crash in March 2000.
HTF is one the earliest proponents of the index-plus investing style. It is mandated to invest at least 60% of its net assets in stocks drawn from the BSE 200. The fund is invested predominantly in large cap companies. It pursues a relatively well-diversified strategy as far as stocks are concerned but takes sectoral bets to score above-average returns.
In our view, investors looking for a fund that has consistently generated above-average returns at lower risk, must invest in HTF.
5. Sundaram BNP Paribas Select Midcap Fund
Having selected the regular large cap/flexi cap equity funds, it is time to move to a 'niche' fund that can give a boost to your portfolio. Look at Sundaram BNP Paribas Select Midcap for that edge.
Only 4 years in business and SSM has already assumed leadership position in this segment. Managed by Sundaram BNP Paribas Mutual Fund (a fund house known largely for its conservative investment style), SSM has adopted two measures to lower the risk in a relatively high risk segment.
For one, it diversifies its portfolio to include as many as 100 stocks. And two - it moves into cash (upto a maximum of 35 per cent of net assets) when it finds the market at uncomfortable levels. This particular feature held the fund in good stead during the crash in May 2006 when its fully invested peers witnessed significant erosion.
On the flipside, this has worked against SSM over the last few months when its peers have made the most of the rally from 9,000 points to 14,000 points, while it has been sitting on cash (31 per cent on October 31, 2006). However, over a market cycle, we believe SSM will still come out tops vis-a-vis its peers.
In our view, investors looking for a well-managed mid cap fund that has shown consistency in performance across parameters (related to risk and return) must invest in SSM.
Having selected the 5 funds is only one part of the investment process. The other and equally important step is to invest in the funds in the right allocation so as to make the most of what they have to offer investors. For instance, an investor with an appetite for risk who wants to avoid short-term volatility must consider investing a larger amount in HDFC Top 200 than Sundaram Select Midcap.
For the high risk investor, it could be the reverse. To add that element of customisation in your investment plan, you must get in touch with an experienced and competent financial planner
Friday, January 12, 2007
How to benefit from HRA
Kairav Shah in New Delhi January 09, 2007 08:22 IST
Buying a house is probably one of the single biggest investments one makes in a lifetime. In today's complex financial market, buying a property requires a thorough knowledge of real estate. Also it is difficult to choose an appropriate loan given the intense competition in the home loan market.
Today, a 30-year-old professional can put down a deposit of 10 per cent of the cost of a house and easily raise a 15-year mortgage loan.
The home loan market in India is also growing at a rate of over 40 per cent over the last four years. The most important factor that has contributed to the growth is declining interest rates.
Here we can highlight two-way benefits on HRA (house rent allowance) along with home loans.
What is HRA?
It is an allowance given by an employer to an employee. The sole purpose of which is to meet the cost of renting a home.
Here, we hope to clear the concepts of HRA:
Please note, when we refer to salary in this article, it encompasses basic component and the dearness allowance.
You can claim HRA if you fulfil these three conditions:
HRA allowance as part of your salary package.
Staying in a rented accommodation and paying rent for it.
The rent exceeds 10 per cent of one's salary.
You can claim rent given to parents:
Let's say you live with parents and pay them rent. This makes your parents the landlords. One of them will have to declare it in his/ her personal income tax return to prevent litigation in the future.
One cannot claim rent paid to spouse:
The relationship between a husband and wife is not commercial in nature; a husband and wife are supposed to stay together. So the income tax authorities will not accept payment of rent to a spouse.
One will need to keep all rent receipts:
Since it is the only proof that you are paying rent. HRA exemptions are only available on submission of rent receipts or the rent agreement.
However, if the HRA is up to Rs 3,000 per month, then receipts/ agreement is not mandatory. It is only when your HRA exceeds this amount that you will have to keep the receipts.
But it is wise to still keep them because, "at the time of assessment, the income-tax officer may demand the receipts/ agreement."
The actual HRA you will be entitled to get exemption for will be the least of the following:
The actual amount of HRA received.
40 per cent of salary. This increases to 50 per cent if you are renting out the house in Delhi, Mumbai, Chennai or Kolkata.
Rent paid minus 10 per cent of salary (basic component + dearness allowance).
The HRA that does not get exempted is taxed:
Let's see how it works with an example (TABLE I).
Table I
ASSUMPTIONS
HRA per month
Rs 15,000
Basic monthly salary
Rs 30,000
Dearness Allowance
Nil
Monthly rent
Rs 12,000
TABLE II: Rs 9,000 being the least of the three amounts will be the exemption from HRA. The balance HRA of Rs 6,000 (15,000-Rs 9,000) is taxable.
RENTAL ACCOMMODATION IN MUMBAI
Actual amount of HRA
Rs 15,000
50% of salary
50% x (30,000 + 0) = Rs 15,000
Actual rent paid - 10% of salary
Rs 12,000 - [10% of (30,000 + 0)] = 12,000 - 3,000 = Rs 9,000
If you took a home loan for a home in one city but reside in another you will be entitled to:
Tax benefit on Principal repayment under Section 80C
Tax benefit on Interest payment under Section 24
HRA benefit 10(13 A)
Or, even if the home is in the same city but is not ready forcing you to rent a place, you will still be entitled to all the above benefits.
Of course, you can claim tax benefits on the home loan only if your home is ready to live in during that financial year. Once the construction on your home is complete, the HRA benefit stops.
If you took a home loan, got possession of the house, have rented it out and stay in a rented accommodation, you will be entitled to all the three benefits mentioned above.
However, in this case, the rent you receive would be considered as your taxable income.
Let's say you took a home loan and have bought a home but are not residing in it:
It could be that the home is at a considerable distance from your work place. Or, it could be that the home is rather small and your parents are living in it so you have to stay elsewhere.
Though your rental accommodation and home are in the same city, you can still get all the benefits.
Tax benefit on principal repayment under Section 80C as deduction of income
Tax benefit on interest payment under Section 24. Under the head of house property
HRA benefit under the head of salaries
However, it is necessary you have some of your belongings at your home (the one you own) and you stay there on and off on during weekends and holidays.
Despite this, if your employer does not agree and denies your tax benefits, you will have to claim it at the time of filing your tax returns.
Renting a house, on the other hand, is acceptable for the sake of convenience and financial constraints.
There are a few tax shelters available for rental payouts both for salaried employees by way of HRA deductions and for self-employed professionals under section 80GG.
However, the applicability is limited and there are some preconditions attached to it.
Thankfully, banks and housing finance companies are more than happy to finance our dreams -- no matter whether we are of any status or just another common man.
The writer is head, financial planning, Sykes & Ray Equities.
Buying a house is probably one of the single biggest investments one makes in a lifetime. In today's complex financial market, buying a property requires a thorough knowledge of real estate. Also it is difficult to choose an appropriate loan given the intense competition in the home loan market.
Today, a 30-year-old professional can put down a deposit of 10 per cent of the cost of a house and easily raise a 15-year mortgage loan.
The home loan market in India is also growing at a rate of over 40 per cent over the last four years. The most important factor that has contributed to the growth is declining interest rates.
Here we can highlight two-way benefits on HRA (house rent allowance) along with home loans.
What is HRA?
It is an allowance given by an employer to an employee. The sole purpose of which is to meet the cost of renting a home.
Here, we hope to clear the concepts of HRA:
Please note, when we refer to salary in this article, it encompasses basic component and the dearness allowance.
You can claim HRA if you fulfil these three conditions:
HRA allowance as part of your salary package.
Staying in a rented accommodation and paying rent for it.
The rent exceeds 10 per cent of one's salary.
You can claim rent given to parents:
Let's say you live with parents and pay them rent. This makes your parents the landlords. One of them will have to declare it in his/ her personal income tax return to prevent litigation in the future.
One cannot claim rent paid to spouse:
The relationship between a husband and wife is not commercial in nature; a husband and wife are supposed to stay together. So the income tax authorities will not accept payment of rent to a spouse.
One will need to keep all rent receipts:
Since it is the only proof that you are paying rent. HRA exemptions are only available on submission of rent receipts or the rent agreement.
However, if the HRA is up to Rs 3,000 per month, then receipts/ agreement is not mandatory. It is only when your HRA exceeds this amount that you will have to keep the receipts.
But it is wise to still keep them because, "at the time of assessment, the income-tax officer may demand the receipts/ agreement."
The actual HRA you will be entitled to get exemption for will be the least of the following:
The actual amount of HRA received.
40 per cent of salary. This increases to 50 per cent if you are renting out the house in Delhi, Mumbai, Chennai or Kolkata.
Rent paid minus 10 per cent of salary (basic component + dearness allowance).
The HRA that does not get exempted is taxed:
Let's see how it works with an example (TABLE I).
Table I
ASSUMPTIONS
HRA per month
Rs 15,000
Basic monthly salary
Rs 30,000
Dearness Allowance
Nil
Monthly rent
Rs 12,000
TABLE II: Rs 9,000 being the least of the three amounts will be the exemption from HRA. The balance HRA of Rs 6,000 (15,000-Rs 9,000) is taxable.
RENTAL ACCOMMODATION IN MUMBAI
Actual amount of HRA
Rs 15,000
50% of salary
50% x (30,000 + 0) = Rs 15,000
Actual rent paid - 10% of salary
Rs 12,000 - [10% of (30,000 + 0)] = 12,000 - 3,000 = Rs 9,000
If you took a home loan for a home in one city but reside in another you will be entitled to:
Tax benefit on Principal repayment under Section 80C
Tax benefit on Interest payment under Section 24
HRA benefit 10(13 A)
Or, even if the home is in the same city but is not ready forcing you to rent a place, you will still be entitled to all the above benefits.
Of course, you can claim tax benefits on the home loan only if your home is ready to live in during that financial year. Once the construction on your home is complete, the HRA benefit stops.
If you took a home loan, got possession of the house, have rented it out and stay in a rented accommodation, you will be entitled to all the three benefits mentioned above.
However, in this case, the rent you receive would be considered as your taxable income.
Let's say you took a home loan and have bought a home but are not residing in it:
It could be that the home is at a considerable distance from your work place. Or, it could be that the home is rather small and your parents are living in it so you have to stay elsewhere.
Though your rental accommodation and home are in the same city, you can still get all the benefits.
Tax benefit on principal repayment under Section 80C as deduction of income
Tax benefit on interest payment under Section 24. Under the head of house property
HRA benefit under the head of salaries
However, it is necessary you have some of your belongings at your home (the one you own) and you stay there on and off on during weekends and holidays.
Despite this, if your employer does not agree and denies your tax benefits, you will have to claim it at the time of filing your tax returns.
Renting a house, on the other hand, is acceptable for the sake of convenience and financial constraints.
There are a few tax shelters available for rental payouts both for salaried employees by way of HRA deductions and for self-employed professionals under section 80GG.
However, the applicability is limited and there are some preconditions attached to it.
Thankfully, banks and housing finance companies are more than happy to finance our dreams -- no matter whether we are of any status or just another common man.
The writer is head, financial planning, Sykes & Ray Equities.
Saturday, January 6, 2007
12 small cap stocks with hidden value that you can invest in
Mohit Satyanand and Rajesh Kumar, Outlook Money January 05, 2007
In the last month of the year, the Kerala government inaugurated a state guesthouse in Mumbai. That a resolutely communist state should find it necessary to have a foot in the country's commercial capital is a sign of our times.
Over in West Bengal, Mamatadi is protesting that the communist-led state is bending too far backwards to broker a land deal for the House of Tatas. Clearly, even the followers of Karl Marx have begun to get it -- it's all about the Economy!
In the past few years as the political mood has changed, and restrictive economic policy has eased up, money has begun to flow into India, both as FDI (foreign direct investment), and from FII (foreign institutional investment).
The first kind comes from companies with expertise in specific areas, which want to bring both their capital and management talent to bear on India. The second kind is just like your money and mine, looking for returns from investing in shares of Indian companies.
Inflows from both FDI and FIIs have grown significantly during the year -- the former is up 128 per cent to Rs 28,378 crore ($6.3 billion) as of September 2006, and the latter 30 per cent to Rs 40,111 crore (Rs 401.11 billion) as of November.
The FDI numbers are still tiny compared to China, where foreign direct investment is about nine times as great, at $54.3 billion for the first eleven months of 2006. Portfolio investment into China, though, has not been as significant -- our stock markets are relatively more attractive to foreign institutional investors because our financial markets are considered more robust and sophisticated, and a greater proportion of our companies are listed on the stock markets.
Stock markets are 'hot'
In fact, FIIs have been active in the so-called 'emerging' economies across the globe, and if the Sensex has racked up 45 per cent gain this year, this is part of a world-wide trend, led by stocks in Peru, up 157 per cent for the year, Venezuela, at 123 per cent, and Russia up about 50 per cent.
FII money is considered 'hot', liable to turn tail at the slightest hint of trouble, as it did from our markets in May-June of 2006. While this could happen again, such developments will be temporary -- money seeks higher returns, which are most likely to come from economies with growing populations and an increased taste for the fruits of economic liberalisation.
In any case, Indian stock markets are not entirely dependent on foreign funds -- as markets have consistently appreciated since 2003, domestic investors have gradually increased their exposure to stock markets, encouraged by a wide range of mutual fund products.
Today, the total value of assets managed by Indian mutual funds (also called assets under management) stands at Rs 3,30,000 crore (Rs 3,300 billion), of which over Rs 9,000 crore (90 billion) is in equity funds. This represents less than four per cent of the capitalisation of shares listed on the National Stock Exchange, leaving lots of room for increased domestic participation in stock markets.
Success breeds success and, over time, even risk-averse Indian households will begin to compare consistent equity returns of 20 per cent plus with the seven to nine per cent in fixed-income investments.
Possible spoilers
The pressures of growth are beginning to create inflationary tendencies in the economy. On the one hand, the central bank is trying to fight these with higher interest rates, which could become a spoiler. On the other hand, the finance minister says inflation is to be expected in a high-growth scenario, thus aiming to create political space for him to manage the economy with somewhat looser fiscal control.
In this, he has been aided by an unexpected surge in tax collections, and by a reversal in global commodity prices. In May 2006, crude oil was at $78 a barrel and metals were at all-time highs. International sugar shortages drove shares of Indian sugar producers to new heights, and later in the year, wheat prices looked threatening. The other, less-discussed oils -- groundnut, coconut and palm -- too, saw price surges, putting pressure on margins of companies that use these for various purposes like food or soap.
Partly because of this, shares of these companies have been sticky, and are yet to fully regain their May highs. The good news, for the time being, seems to be that commodity prices are edging down. If the trend continues, it should augur well for FMCG companies, and for the economy as a whole.
Sector plays
If the economy continues to grow, and commodity prices remain under check, we will see a resurgence of interest in FMCG counters. One we particularly like is Britannia, which has recently seen lows for the year, around the Rs 1,050 to Rs 1,100 levels. But, with both sugar and wheat prices in retreat, it is clearly going to see better margins in the quarters to come.
Hindustan Lever, too, seems to be resurgent, with both growing margins and volumes, but the share price is subdued. This is part of a larger change in attitude -- in the past, FMCG counters were considered safe investments, with profits growing consistently year after year, though investors paid for this consistency with higher price-to-earning (PE) ratios. But, over the last three to four years, as other sectors have grown equally consistently, and with higher growth rates, their PE ratios have overtaken FMCG numbers.
IT companies, for example, deliver results ahead of expectations, quarter after quarter. In telecom too Bharti Airtel, has leapt into the top four of the market cap stakes.
Infrastructure and capital goods, too, have reaped the India growth dividend and seen unprecedented appreciation during the year -- Lakshmi Machine Works (LMW) is up 111 per cent, Thermax 100 per cent, and Crompton Greaves 90 per cent. Not to forget the real estate stocks, where an investment of Rs 10,000 in Unitech on 1 January 2006 would be worth Rs 2,83,845 at the time of writing.
This huge appetite for Indian equity is the greatest threat to stock market returns during the year -- when you end one year with the Nifty trading at over 22 times earnings, there is not much scope for higher PE multiples, and higher stock prices are going to depend largely on quarterly numbers. We see no reason to be pessimistic about these. Yet, in our quest for stock market returns, we believe there is another road to explore.
Lesser known stocks
As Indian stock markets surged consistently for the three years from May 2003 to May 2006, the retail investor felt left out. Scared by the astronomical prices of front-line stocks, he put his bets on the so-called penny stocks. As a result, small-cap indices grew almost 30 per cent in the first 20 weeks of 2006. When markets reversed, small caps went into stall mode, and fell 23 per cent in 20 days. They are yet to recover fully, and are still 14.65 per cent below their May highs.
If the economy continues to grow, as we believe it will, and unless there are huge reversals in stock markets, we believe there will be a gradual development of interest in small-cap stocks again, both by individual investors, as well as by fund managers looking for niche plays. Of course, there is a need for discrimination here, since the universe of small-cap stocks is enormous.
Looking for small cap value
In our search for hidden value in lesser-known stocks, we followed a rigorous, purely quantitative analysis:
Step 1. Since the relatively undiscovered stocks are most likely to be those of smaller companies, we looked at all the listed stocks with a market cap below Rs 500 crore (Rs 5 billion), but above Rs 50 crore (Rs 500 million) so as to filter out the least liquid stocks. This process yielded a total of 836 companies.
Step 2. Out of these, we selected those which looked to be the cheapest, namely those with a PE ratio of less than 15. We were now left with 405 companies.
Step 3. We now looked for consistent growth -- those that have seen profit after tax (PAT) grow by at least 15 per cent year-on-year for the last three years. This left us with the 12 companies profiled below.
This exercise is meant only as a starting point for deciding whether to invest in these companies. Small-cap stocks are typically more volatile than large caps, and present both higher risks and higher rewards.
If any of these stocks takes your fancy, we suggest you put only a small amount into it, and stay invested until wider buying interest develops.
1. Aegis Logistics: Incorporated in 1956, the company is in the specialised business of storage and handling of bulk items, especially oils, chemicals and petroleum. It has
consistently given its shareholders dividends, and is currently quoting at about Rs 140, well below its 2005 peak of over Rs 300.
2. Crew B.O.S. Products: A leading leather exporter, the company is also listed on Luxembourg stock exchange and has consistently paid dividends. It recently announced plans to issue preference shares to promoters, which will have the effect of diluting earnings per share (EPS).
3. Dewan Housing Finance Corp: In business since 1984, the share currently quotes at about 30 per cent below its highs in June 2006. It has recently expanded operations into the Gulf area to facilitate NRI investment in Indian housing.
4. Eastern Silk Industries: This Kolkata-based company was started in 1946. Its broad production range includes silk yarn, fabrics, embroidery and accessories.
5. GIC Housing Finance: Promoted in 1993 by General Insurance Corporation, the company is largely held by public sector insurance companies. Business has benefited from the current real estate boom, and as a bonus, the regular dividend of 15 per cent offers a high yield.
6. Jetking Infotrain: Incorporated in 1984, Jetking offers computer education through 60 centres -- company-owned and franchised. It specialises in hardware and networking education and readies students for direct entry into the job market.
7. RTS Power Corp: In operation since 1947, this manufacturer of electrical transformers and related products seems to have benefited from the recent infrastructure boom. It has also made a tentative foray into wind energy, with a 1.25-MW wind power plant at Dhule, Maharashtra.
8. Raj Rayon: In business since 1993, Raj Rayon recently set up a polyester yarn plant at Silvassa. It has paid 10 per cent dividend for the last two years, and currently trades at Rs 43, more than double its June-low of less than Rs 20, but a long way from the earlier high of Rs 81.
9. Shri Dinesh Mills: In operation for 70 years, the composite textile set up has recently entered into a joint venture with US-based company McGean Rohco Inc to produce speciality chemicals.
10. Surya Pharmaceutical: With four units in the tax-exempt areas of Himachal Pradesh, Surya focuses on penicillin and its derivatives. Other products include cephalosporins and anti-histamines. It exports over 50 per cent of its production.
11. Tricom India: Started in 1992, Tricom is an early entrant into the BPO business, specialising in electronic management of business documents for overseas clients. It recently announced a 1:1 bonus.
12. Vivimed Labs: Set up in 1988, Vivimed has a large product offering of healthcare products, including over the counter products. It also partners customers in synthesizing and developing new products.
In the last month of the year, the Kerala government inaugurated a state guesthouse in Mumbai. That a resolutely communist state should find it necessary to have a foot in the country's commercial capital is a sign of our times.
Over in West Bengal, Mamatadi is protesting that the communist-led state is bending too far backwards to broker a land deal for the House of Tatas. Clearly, even the followers of Karl Marx have begun to get it -- it's all about the Economy!
In the past few years as the political mood has changed, and restrictive economic policy has eased up, money has begun to flow into India, both as FDI (foreign direct investment), and from FII (foreign institutional investment).
The first kind comes from companies with expertise in specific areas, which want to bring both their capital and management talent to bear on India. The second kind is just like your money and mine, looking for returns from investing in shares of Indian companies.
Inflows from both FDI and FIIs have grown significantly during the year -- the former is up 128 per cent to Rs 28,378 crore ($6.3 billion) as of September 2006, and the latter 30 per cent to Rs 40,111 crore (Rs 401.11 billion) as of November.
The FDI numbers are still tiny compared to China, where foreign direct investment is about nine times as great, at $54.3 billion for the first eleven months of 2006. Portfolio investment into China, though, has not been as significant -- our stock markets are relatively more attractive to foreign institutional investors because our financial markets are considered more robust and sophisticated, and a greater proportion of our companies are listed on the stock markets.
Stock markets are 'hot'
In fact, FIIs have been active in the so-called 'emerging' economies across the globe, and if the Sensex has racked up 45 per cent gain this year, this is part of a world-wide trend, led by stocks in Peru, up 157 per cent for the year, Venezuela, at 123 per cent, and Russia up about 50 per cent.
FII money is considered 'hot', liable to turn tail at the slightest hint of trouble, as it did from our markets in May-June of 2006. While this could happen again, such developments will be temporary -- money seeks higher returns, which are most likely to come from economies with growing populations and an increased taste for the fruits of economic liberalisation.
In any case, Indian stock markets are not entirely dependent on foreign funds -- as markets have consistently appreciated since 2003, domestic investors have gradually increased their exposure to stock markets, encouraged by a wide range of mutual fund products.
Today, the total value of assets managed by Indian mutual funds (also called assets under management) stands at Rs 3,30,000 crore (Rs 3,300 billion), of which over Rs 9,000 crore (90 billion) is in equity funds. This represents less than four per cent of the capitalisation of shares listed on the National Stock Exchange, leaving lots of room for increased domestic participation in stock markets.
Success breeds success and, over time, even risk-averse Indian households will begin to compare consistent equity returns of 20 per cent plus with the seven to nine per cent in fixed-income investments.
Possible spoilers
The pressures of growth are beginning to create inflationary tendencies in the economy. On the one hand, the central bank is trying to fight these with higher interest rates, which could become a spoiler. On the other hand, the finance minister says inflation is to be expected in a high-growth scenario, thus aiming to create political space for him to manage the economy with somewhat looser fiscal control.
In this, he has been aided by an unexpected surge in tax collections, and by a reversal in global commodity prices. In May 2006, crude oil was at $78 a barrel and metals were at all-time highs. International sugar shortages drove shares of Indian sugar producers to new heights, and later in the year, wheat prices looked threatening. The other, less-discussed oils -- groundnut, coconut and palm -- too, saw price surges, putting pressure on margins of companies that use these for various purposes like food or soap.
Partly because of this, shares of these companies have been sticky, and are yet to fully regain their May highs. The good news, for the time being, seems to be that commodity prices are edging down. If the trend continues, it should augur well for FMCG companies, and for the economy as a whole.
Sector plays
If the economy continues to grow, and commodity prices remain under check, we will see a resurgence of interest in FMCG counters. One we particularly like is Britannia, which has recently seen lows for the year, around the Rs 1,050 to Rs 1,100 levels. But, with both sugar and wheat prices in retreat, it is clearly going to see better margins in the quarters to come.
Hindustan Lever, too, seems to be resurgent, with both growing margins and volumes, but the share price is subdued. This is part of a larger change in attitude -- in the past, FMCG counters were considered safe investments, with profits growing consistently year after year, though investors paid for this consistency with higher price-to-earning (PE) ratios. But, over the last three to four years, as other sectors have grown equally consistently, and with higher growth rates, their PE ratios have overtaken FMCG numbers.
IT companies, for example, deliver results ahead of expectations, quarter after quarter. In telecom too Bharti Airtel, has leapt into the top four of the market cap stakes.
Infrastructure and capital goods, too, have reaped the India growth dividend and seen unprecedented appreciation during the year -- Lakshmi Machine Works (LMW) is up 111 per cent, Thermax 100 per cent, and Crompton Greaves 90 per cent. Not to forget the real estate stocks, where an investment of Rs 10,000 in Unitech on 1 January 2006 would be worth Rs 2,83,845 at the time of writing.
This huge appetite for Indian equity is the greatest threat to stock market returns during the year -- when you end one year with the Nifty trading at over 22 times earnings, there is not much scope for higher PE multiples, and higher stock prices are going to depend largely on quarterly numbers. We see no reason to be pessimistic about these. Yet, in our quest for stock market returns, we believe there is another road to explore.
Lesser known stocks
As Indian stock markets surged consistently for the three years from May 2003 to May 2006, the retail investor felt left out. Scared by the astronomical prices of front-line stocks, he put his bets on the so-called penny stocks. As a result, small-cap indices grew almost 30 per cent in the first 20 weeks of 2006. When markets reversed, small caps went into stall mode, and fell 23 per cent in 20 days. They are yet to recover fully, and are still 14.65 per cent below their May highs.
If the economy continues to grow, as we believe it will, and unless there are huge reversals in stock markets, we believe there will be a gradual development of interest in small-cap stocks again, both by individual investors, as well as by fund managers looking for niche plays. Of course, there is a need for discrimination here, since the universe of small-cap stocks is enormous.
Looking for small cap value
In our search for hidden value in lesser-known stocks, we followed a rigorous, purely quantitative analysis:
Step 1. Since the relatively undiscovered stocks are most likely to be those of smaller companies, we looked at all the listed stocks with a market cap below Rs 500 crore (Rs 5 billion), but above Rs 50 crore (Rs 500 million) so as to filter out the least liquid stocks. This process yielded a total of 836 companies.
Step 2. Out of these, we selected those which looked to be the cheapest, namely those with a PE ratio of less than 15. We were now left with 405 companies.
Step 3. We now looked for consistent growth -- those that have seen profit after tax (PAT) grow by at least 15 per cent year-on-year for the last three years. This left us with the 12 companies profiled below.
This exercise is meant only as a starting point for deciding whether to invest in these companies. Small-cap stocks are typically more volatile than large caps, and present both higher risks and higher rewards.
If any of these stocks takes your fancy, we suggest you put only a small amount into it, and stay invested until wider buying interest develops.
1. Aegis Logistics: Incorporated in 1956, the company is in the specialised business of storage and handling of bulk items, especially oils, chemicals and petroleum. It has
consistently given its shareholders dividends, and is currently quoting at about Rs 140, well below its 2005 peak of over Rs 300.
2. Crew B.O.S. Products: A leading leather exporter, the company is also listed on Luxembourg stock exchange and has consistently paid dividends. It recently announced plans to issue preference shares to promoters, which will have the effect of diluting earnings per share (EPS).
3. Dewan Housing Finance Corp: In business since 1984, the share currently quotes at about 30 per cent below its highs in June 2006. It has recently expanded operations into the Gulf area to facilitate NRI investment in Indian housing.
4. Eastern Silk Industries: This Kolkata-based company was started in 1946. Its broad production range includes silk yarn, fabrics, embroidery and accessories.
5. GIC Housing Finance: Promoted in 1993 by General Insurance Corporation, the company is largely held by public sector insurance companies. Business has benefited from the current real estate boom, and as a bonus, the regular dividend of 15 per cent offers a high yield.
6. Jetking Infotrain: Incorporated in 1984, Jetking offers computer education through 60 centres -- company-owned and franchised. It specialises in hardware and networking education and readies students for direct entry into the job market.
7. RTS Power Corp: In operation since 1947, this manufacturer of electrical transformers and related products seems to have benefited from the recent infrastructure boom. It has also made a tentative foray into wind energy, with a 1.25-MW wind power plant at Dhule, Maharashtra.
8. Raj Rayon: In business since 1993, Raj Rayon recently set up a polyester yarn plant at Silvassa. It has paid 10 per cent dividend for the last two years, and currently trades at Rs 43, more than double its June-low of less than Rs 20, but a long way from the earlier high of Rs 81.
9. Shri Dinesh Mills: In operation for 70 years, the composite textile set up has recently entered into a joint venture with US-based company McGean Rohco Inc to produce speciality chemicals.
10. Surya Pharmaceutical: With four units in the tax-exempt areas of Himachal Pradesh, Surya focuses on penicillin and its derivatives. Other products include cephalosporins and anti-histamines. It exports over 50 per cent of its production.
11. Tricom India: Started in 1992, Tricom is an early entrant into the BPO business, specialising in electronic management of business documents for overseas clients. It recently announced a 1:1 bonus.
12. Vivimed Labs: Set up in 1988, Vivimed has a large product offering of healthcare products, including over the counter products. It also partners customers in synthesizing and developing new products.
Mutual funds: What 2007 has in store
Kayezad E. Adajania, Outlook Money January 05, 2007
In 2006, equity markets gave good returns, despite a cautionary warning. While the Sensex returned 45.9 per cent, diversified equity funds returned 32.2 per cent on an average.
This might sound like a poor show for mutual funds, but most of them have had a sizeable portion invested in mid-cap scrips that were volatile this year. The Sensex, on the other hand, is composed of only large, blue-chip companies.
If 2004 and 2005 were years of mid-cap-oriented funds, 2006 saw large-cap funds staging a comeback. Diversified equity funds that tilted their portfolios towards mid caps the past two years, sold off their mid-cap holdings and bought many large-cap scrips. So, while these schemes returned 32.2 per cent, mid-cap funds on an average returned 29.6 per cent.
Systematic investment plans doubled in 2006 from 75,000 accounts in December 2005 to around 150,000 accounts in November 2006. Debt funds continued their slump on account of volatile interest rates and returned 4.7 per cent on an average.
Up and Down
The Indian mutual fund industry grew 58 per cent, from Rs 2, 07,979 crore (Rs 2079.79 billion) in January to Rs 3,29,162 crore (Rs 3291.62 billion) in November 2006.
Benchmark Mutual Fund was the largest growing fund house. Its assets under management of Rs 1,267 crore (Rs 12.67 billion) in January, grew 606 per cent to Rs 8,951 crore (Rs 89.51 billion) in November.
Its growth was largely led by Bank BeES - a CNX Bank Index-linked ETF that grew 773 per cent from Rs 852.9 crore (Rs 8.53 billion) in January to Rs 7,446.5 crore (Rs 74.47 billion) in November.
Though much of its inflows came from foreign institutional investors, ETFs, in general, are gaining popularity among the retail investors too. An ETF scores over an index fund on account of lower costs and, hence, a low tracking error.
Sahara and Canbank Mutual Funds were the biggest losers in terms of AUM. While Sahara lost 56 per cent {from Rs 464 crore (Rs 4.64 billion) in January to Rs 203 crore (Rs 2.03 billion) in November}, Canbank dropped 19 per cent {from Rs 2,843 crore (Rs 28.43 billion) in January to Rs 2,305 crore (Rs 23.05 billion) in November}. Poor performance and inability to attract fund management talent were the common evils. 2007 may be tough on such fund houses as competition hots up with new fund houses expected to hit the market.
New schemes and fund houses. Thirty-eight new equity schemes were launched in 2006 and garnered around Rs 27,400 crore (Rs 274 billion). New categories of funds, like capital protection-oriented funds and equity derivative funds, were launched.
And just when we thought we had seen the last of sectoral funds, JM MF launched two sectoral equity schemes targeting the financial services and telecom sectors. The response, though, was weak. The rush for equity initial public offers saw Standard Chartered Mutual Fund launching an equity scheme that aimed to invest in such IPOs to make listing gains.
Three fund houses, OptiMix, Quantum and Lotus Mutual Funds, made a debut in the Indian market. While OptiMix is India's first specialised fund of funds house, Quantum is the country's first fund house to avoid the distributor route to sell its own schemes.
With fund distributors demanding fees as high as five per cent of the initial collection -that eventually goes out of your scheme's net asset value, it was a nice change to see a fund house daring to go it alone.
Quantum Equity Fund, its first offering, garnered mere Rs 11 crore (Rs 110 million), the third lowest collection by any equity fund this year. Only time will tell how far Quantum will succeed in its approach.
Some fanfare and many hiccups later, Lotus Mutual Fund finally launched two schemes - a tax-saving equity fund and a liquid fund. 2007 will be an acid-test year for this fund.
New laws. The Securities and Exchange Board of India's mutual fund guidelines completed 10 years in 2006. After much delay, Sebi also gave a nod to gold ETFs in October. The regulator is also close to issuing guidelines on real estate mutual funds, according to sources.
In April, Sebi banned open-ended mutual funds from charging the six per cent new fund offer expenses and its amortisation. Only closed-end funds were allowed to charge the NFO expenses.
This was a good step as many 'new' schemes that were actually just clones of the existing ones, were launched in order to charge the high NFO expenses, pass more commission to distributors and show higher inflows.
Sebi also empowered mutual fund trustees to certify that an NFO launched by the mutual fund is different from any of its existing ones. The intention was good, but there was a loophole - a closed-end fund is said to have a different characteristic from its open-ended peer even if their scheme objectives are the same.
Mutual funds exploited this and launched 12 closed-end equity funds that garnered Rs 8,400 crore (Rs 84 billion), up from nil in 2004.
Looking ahead
Realistic returns. Exercise caution going forward. Expect returns to be more realistic. Says Amitabh Chakraborty, business head, Brics Securities, "The Sensex will return around 10 to 12 per cent in 2007." Ignore short-term blips if you are in for the long haul. Expect diversified equity funds to outperform index funds in the long run. But if you want to avoid the fund manager's risk, go towards ETFs.
New funds and schemes. A total of 13 new fund houses are either waiting for Sebi's approval or have plans to enter the Indian mutual fund market. Expect more NFOs to hit the market. More capital protection schemes will be launched, as will India's first gold ETF. And, if Sebi issues REMF guidelines, we might just be able to see India's first REMF as well.
Opt for NFOs with care as fund houses and distributors have been known to play the 'Rs 10 NFO' myth. It is safer to invest in schemes that come with a proven track record.
Go SIP. Predicting which route the equity market will take is anybody's guess. Will 2007 see a correction or will the market remain bullish? In face of such volatile conditions, opt for SIPs if you want to invest in equity funds, especially for the long term. In this way your fixed monthly or quarterly investment in an equity fund will buy fewer units if the NAV is high, and more units if the NAV is low.
Try a systematic transfer plan if you have a lump sum to invest; you invest the entire amount in a liquid fund and instruct your fund house to transfer a fixed sum of money at periodic intervals to an equity fund of your choice. This way, your money earns on average of four to five per cent while it lies in the liquid fund (a good one to one and a half per cent more than what your savings bank account would give) and then earns equity-level returns on the sum transferred.
In 2006, equity markets gave good returns, despite a cautionary warning. While the Sensex returned 45.9 per cent, diversified equity funds returned 32.2 per cent on an average.
This might sound like a poor show for mutual funds, but most of them have had a sizeable portion invested in mid-cap scrips that were volatile this year. The Sensex, on the other hand, is composed of only large, blue-chip companies.
If 2004 and 2005 were years of mid-cap-oriented funds, 2006 saw large-cap funds staging a comeback. Diversified equity funds that tilted their portfolios towards mid caps the past two years, sold off their mid-cap holdings and bought many large-cap scrips. So, while these schemes returned 32.2 per cent, mid-cap funds on an average returned 29.6 per cent.
Systematic investment plans doubled in 2006 from 75,000 accounts in December 2005 to around 150,000 accounts in November 2006. Debt funds continued their slump on account of volatile interest rates and returned 4.7 per cent on an average.
Up and Down
The Indian mutual fund industry grew 58 per cent, from Rs 2, 07,979 crore (Rs 2079.79 billion) in January to Rs 3,29,162 crore (Rs 3291.62 billion) in November 2006.
Benchmark Mutual Fund was the largest growing fund house. Its assets under management of Rs 1,267 crore (Rs 12.67 billion) in January, grew 606 per cent to Rs 8,951 crore (Rs 89.51 billion) in November.
Its growth was largely led by Bank BeES - a CNX Bank Index-linked ETF that grew 773 per cent from Rs 852.9 crore (Rs 8.53 billion) in January to Rs 7,446.5 crore (Rs 74.47 billion) in November.
Though much of its inflows came from foreign institutional investors, ETFs, in general, are gaining popularity among the retail investors too. An ETF scores over an index fund on account of lower costs and, hence, a low tracking error.
Sahara and Canbank Mutual Funds were the biggest losers in terms of AUM. While Sahara lost 56 per cent {from Rs 464 crore (Rs 4.64 billion) in January to Rs 203 crore (Rs 2.03 billion) in November}, Canbank dropped 19 per cent {from Rs 2,843 crore (Rs 28.43 billion) in January to Rs 2,305 crore (Rs 23.05 billion) in November}. Poor performance and inability to attract fund management talent were the common evils. 2007 may be tough on such fund houses as competition hots up with new fund houses expected to hit the market.
New schemes and fund houses. Thirty-eight new equity schemes were launched in 2006 and garnered around Rs 27,400 crore (Rs 274 billion). New categories of funds, like capital protection-oriented funds and equity derivative funds, were launched.
And just when we thought we had seen the last of sectoral funds, JM MF launched two sectoral equity schemes targeting the financial services and telecom sectors. The response, though, was weak. The rush for equity initial public offers saw Standard Chartered Mutual Fund launching an equity scheme that aimed to invest in such IPOs to make listing gains.
Three fund houses, OptiMix, Quantum and Lotus Mutual Funds, made a debut in the Indian market. While OptiMix is India's first specialised fund of funds house, Quantum is the country's first fund house to avoid the distributor route to sell its own schemes.
With fund distributors demanding fees as high as five per cent of the initial collection -that eventually goes out of your scheme's net asset value, it was a nice change to see a fund house daring to go it alone.
Quantum Equity Fund, its first offering, garnered mere Rs 11 crore (Rs 110 million), the third lowest collection by any equity fund this year. Only time will tell how far Quantum will succeed in its approach.
Some fanfare and many hiccups later, Lotus Mutual Fund finally launched two schemes - a tax-saving equity fund and a liquid fund. 2007 will be an acid-test year for this fund.
New laws. The Securities and Exchange Board of India's mutual fund guidelines completed 10 years in 2006. After much delay, Sebi also gave a nod to gold ETFs in October. The regulator is also close to issuing guidelines on real estate mutual funds, according to sources.
In April, Sebi banned open-ended mutual funds from charging the six per cent new fund offer expenses and its amortisation. Only closed-end funds were allowed to charge the NFO expenses.
This was a good step as many 'new' schemes that were actually just clones of the existing ones, were launched in order to charge the high NFO expenses, pass more commission to distributors and show higher inflows.
Sebi also empowered mutual fund trustees to certify that an NFO launched by the mutual fund is different from any of its existing ones. The intention was good, but there was a loophole - a closed-end fund is said to have a different characteristic from its open-ended peer even if their scheme objectives are the same.
Mutual funds exploited this and launched 12 closed-end equity funds that garnered Rs 8,400 crore (Rs 84 billion), up from nil in 2004.
Looking ahead
Realistic returns. Exercise caution going forward. Expect returns to be more realistic. Says Amitabh Chakraborty, business head, Brics Securities, "The Sensex will return around 10 to 12 per cent in 2007." Ignore short-term blips if you are in for the long haul. Expect diversified equity funds to outperform index funds in the long run. But if you want to avoid the fund manager's risk, go towards ETFs.
New funds and schemes. A total of 13 new fund houses are either waiting for Sebi's approval or have plans to enter the Indian mutual fund market. Expect more NFOs to hit the market. More capital protection schemes will be launched, as will India's first gold ETF. And, if Sebi issues REMF guidelines, we might just be able to see India's first REMF as well.
Opt for NFOs with care as fund houses and distributors have been known to play the 'Rs 10 NFO' myth. It is safer to invest in schemes that come with a proven track record.
Go SIP. Predicting which route the equity market will take is anybody's guess. Will 2007 see a correction or will the market remain bullish? In face of such volatile conditions, opt for SIPs if you want to invest in equity funds, especially for the long term. In this way your fixed monthly or quarterly investment in an equity fund will buy fewer units if the NAV is high, and more units if the NAV is low.
Try a systematic transfer plan if you have a lump sum to invest; you invest the entire amount in a liquid fund and instruct your fund house to transfer a fixed sum of money at periodic intervals to an equity fund of your choice. This way, your money earns on average of four to five per cent while it lies in the liquid fund (a good one to one and a half per cent more than what your savings bank account would give) and then earns equity-level returns on the sum transferred.
Commodity trading guide
Rajesh Kumar, Outlook Money January 05, 2007
You may have your debt and equity funds in place, but investing in commodities could just be the one element to improve your portfolio. Commodity trading provides an ideal asset allocation, also helps you hedge against inflation and buy a piece of global demand growth.
In 2003, the ban on commodity trading was lifted after 40 years in India. Now, more and more people are interested in investing in this new asset class. While price fluctuations in the sector could get rather volatile depending on the category, returns are relatively higher.
However, as this is not a primary area of investment for most, there is a lot of apprehension about when and how to invest. Outlook Money seeks to answer some of these questions and help you assess a whole new turf for making money.
Why invest in commodities?
Commodities allow a portfolio to improve overall return at the same level of risk. Ibbotson Associates, a leading US-based authority on asset allocation estimates that commodities increased returns between 133 and 188 basis points, at no extra risk.
Who should invest?
Any investor who wants to take advantage of price movements and wishes to diversify his portfolio can invest in commodities. However, retail and small investors should be careful while investing in commodities as the swings are volatile and lack of knowledge may result in loss of wealth.
Investors must understand the demand cycles that commodities go through and should have a view on what factors may affect this. Ideally, you should invest in select commodities that you can analyse rather than speculate across products you have no idea about.
Investing in commodities should be undertaken as a kicker in your portfolio and not as the first destination for your money.
What is commodity trading?
It's an age-old phenomenon. Modern markets came up in the late 18th century, when farming began to be modernised. Though the trade's mechanisms have changed, the basics are still the same.
In common parlance, commodities means all types of products. However, the Foreign Currency Regulation Act (FCRA) defines them as 'every kind of movable property other than actionable claims, money and securities.'
Commodity trading is nothing but trading in commodity spot and derivatives (futures). If you are keen on taking a buy or sell position based on the future performance of agricultural commodities or commodities like gold, silver, metals, or crude, then you could do so by trading in commodity derivatives.
Commodity derivatives are traded on the National Commodity and Derivative Exchange (NCDEX) and the Multi-Commodity Exchange (MCX). Gold, silver, agri-commodities including grains, pulses, spices, oils and oilseeds, mentha oil, metals and crude are some of the commodities that these exchanges deal in.
Trading in commodities futures is quite similar to equity futures trading. You could take a long position (where you buy a contract) or a short position (where you sell it). Simply speaking, like in equity and other markets, if you think prices are on their way up, you take a long position and when prices are headed south you opt for a short position.
How big is the Indian commodity trading market as compared to other Asian markets?
The commodity market in India clocks a daily average turnover of Rs 12,000-15,000 crore (Rs 120-150 billion). The accumulative commodities derivatives trade value is estimated to have reached the equivalent of 66 per cent of the gross domestic product and the future will only see the percentage rising, says ICICI direct.com vice-president Kedar Deshpande.
What do you need to start trading?
Like equity markets, you have to fulfil the 'know your customer' norms with a commodity broker. A photo identification, PAN and proof of address are essential for registration. You will also have to sign the necessary agreements with the broker.
Is there a regulator for the commodity trading market?
The Forward Markets Commission is the regulatory body for the commodity market in India. It is the equivalent of the Securities and Exchange Board of India (Sebi), which protects the interests of investors in securities.
What kind of products can be listed on the commodity market?
All commodities produced in the agriculture, mineral and fossil sectors have been sanctioned for futures trading. These include cereals, pulses, ginned cotton, un-ginned
cotton, oilseeds, oils, jute, jute products, sugar, gur, potatoes, onions, coffee, tea, petrochemicals, and bullion, among others.
What are the risk factors?
Commodity trading is done in the form of futures and that throws up a huge potential for profit and loss as it involves predictions of the future and hence uncertainty and risk. Risk factors in commodity trading are similar to futures trading in equity markets.
A major difference is that the information availability on supply and demand cycles in commodity markets is not as robust and controlled as the equity market.
What are the factors that influence the commodity prices in the market?
The commodity market is driven by demand and supply factors and inventory, when it comes to perishable commodities such as agricultural products and high demand products such as crude oil. Like any market, the demand-supply equation influences the prices.
Variables like weather, social changes, government policies and global factors influence the balance.
What is the difference between directional trading and day trading?
The key difference between commodity markets and stock markets is the nature of products traded. Agricultural produce is unpredictable and seasonal. During harvesting season, the prices of these commodities is low as supply goes up. There are traders who use these patterns to trade in the commodity market, and this is termed directional trading.
Day trading in commodity markets is no different from day trading in the equity market, where positions are bought in the morning and squared off by the end of the day.
Does commodity speculation affect agricultural income in India?
The vision for the commodity market in India is to reduce information asymmetry and make a robust market available to the end producer or farmer. It is also expected to balance out price information and give the producer a better price and a platform to hedge.
The futures market will allow the farmer to see the upside of the price over two to three months and help him decide where to sell.
How to keep updated?
Most commodity trading firms have a research team in place that prepares commodity charts and conducts detailed study on the trends of the commodity in question.
Investing strategies based on this research are usually provided to clients.
They usually provide daily market reports before the market opens and intra-day calls during trading hours, along with monthly and weekly research reports.
You may have your debt and equity funds in place, but investing in commodities could just be the one element to improve your portfolio. Commodity trading provides an ideal asset allocation, also helps you hedge against inflation and buy a piece of global demand growth.
In 2003, the ban on commodity trading was lifted after 40 years in India. Now, more and more people are interested in investing in this new asset class. While price fluctuations in the sector could get rather volatile depending on the category, returns are relatively higher.
However, as this is not a primary area of investment for most, there is a lot of apprehension about when and how to invest. Outlook Money seeks to answer some of these questions and help you assess a whole new turf for making money.
Why invest in commodities?
Commodities allow a portfolio to improve overall return at the same level of risk. Ibbotson Associates, a leading US-based authority on asset allocation estimates that commodities increased returns between 133 and 188 basis points, at no extra risk.
Who should invest?
Any investor who wants to take advantage of price movements and wishes to diversify his portfolio can invest in commodities. However, retail and small investors should be careful while investing in commodities as the swings are volatile and lack of knowledge may result in loss of wealth.
Investors must understand the demand cycles that commodities go through and should have a view on what factors may affect this. Ideally, you should invest in select commodities that you can analyse rather than speculate across products you have no idea about.
Investing in commodities should be undertaken as a kicker in your portfolio and not as the first destination for your money.
What is commodity trading?
It's an age-old phenomenon. Modern markets came up in the late 18th century, when farming began to be modernised. Though the trade's mechanisms have changed, the basics are still the same.
In common parlance, commodities means all types of products. However, the Foreign Currency Regulation Act (FCRA) defines them as 'every kind of movable property other than actionable claims, money and securities.'
Commodity trading is nothing but trading in commodity spot and derivatives (futures). If you are keen on taking a buy or sell position based on the future performance of agricultural commodities or commodities like gold, silver, metals, or crude, then you could do so by trading in commodity derivatives.
Commodity derivatives are traded on the National Commodity and Derivative Exchange (NCDEX) and the Multi-Commodity Exchange (MCX). Gold, silver, agri-commodities including grains, pulses, spices, oils and oilseeds, mentha oil, metals and crude are some of the commodities that these exchanges deal in.
Trading in commodities futures is quite similar to equity futures trading. You could take a long position (where you buy a contract) or a short position (where you sell it). Simply speaking, like in equity and other markets, if you think prices are on their way up, you take a long position and when prices are headed south you opt for a short position.
How big is the Indian commodity trading market as compared to other Asian markets?
The commodity market in India clocks a daily average turnover of Rs 12,000-15,000 crore (Rs 120-150 billion). The accumulative commodities derivatives trade value is estimated to have reached the equivalent of 66 per cent of the gross domestic product and the future will only see the percentage rising, says ICICI direct.com vice-president Kedar Deshpande.
What do you need to start trading?
Like equity markets, you have to fulfil the 'know your customer' norms with a commodity broker. A photo identification, PAN and proof of address are essential for registration. You will also have to sign the necessary agreements with the broker.
Is there a regulator for the commodity trading market?
The Forward Markets Commission is the regulatory body for the commodity market in India. It is the equivalent of the Securities and Exchange Board of India (Sebi), which protects the interests of investors in securities.
What kind of products can be listed on the commodity market?
All commodities produced in the agriculture, mineral and fossil sectors have been sanctioned for futures trading. These include cereals, pulses, ginned cotton, un-ginned
cotton, oilseeds, oils, jute, jute products, sugar, gur, potatoes, onions, coffee, tea, petrochemicals, and bullion, among others.
What are the risk factors?
Commodity trading is done in the form of futures and that throws up a huge potential for profit and loss as it involves predictions of the future and hence uncertainty and risk. Risk factors in commodity trading are similar to futures trading in equity markets.
A major difference is that the information availability on supply and demand cycles in commodity markets is not as robust and controlled as the equity market.
What are the factors that influence the commodity prices in the market?
The commodity market is driven by demand and supply factors and inventory, when it comes to perishable commodities such as agricultural products and high demand products such as crude oil. Like any market, the demand-supply equation influences the prices.
Variables like weather, social changes, government policies and global factors influence the balance.
What is the difference between directional trading and day trading?
The key difference between commodity markets and stock markets is the nature of products traded. Agricultural produce is unpredictable and seasonal. During harvesting season, the prices of these commodities is low as supply goes up. There are traders who use these patterns to trade in the commodity market, and this is termed directional trading.
Day trading in commodity markets is no different from day trading in the equity market, where positions are bought in the morning and squared off by the end of the day.
Does commodity speculation affect agricultural income in India?
The vision for the commodity market in India is to reduce information asymmetry and make a robust market available to the end producer or farmer. It is also expected to balance out price information and give the producer a better price and a platform to hedge.
The futures market will allow the farmer to see the upside of the price over two to three months and help him decide where to sell.
How to keep updated?
Most commodity trading firms have a research team in place that prepares commodity charts and conducts detailed study on the trends of the commodity in question.
Investing strategies based on this research are usually provided to clients.
They usually provide daily market reports before the market opens and intra-day calls during trading hours, along with monthly and weekly research reports.
Subscribe to:
Posts (Atom)