Friday, August 30, 2013

Is the Indian Stock Market Really Recovering?

Yesterday was a crazy day for the Rupee and the Indian Stock Market. The Rupee halted its downward spiral and stabilized. After days of southward movement the market stabilized and went north. The BSE went up by 404 points and the NSE for its part went up by 124 points. Logically speaking, a market goes up when people start buying stocks and the no. of buyers outnumber the no. of sellers. Simple - Demand and Supply logic. But, with the economic growth sluggish in our country, the rupee being as beaten up as it is and with no visibility on recovery measures from our government and policy makers, do you really think that people have already regained confidence in our markets?

To top it all off, FIIs are still selling and liquidating their positions as explained in my previous article titled - The Falling Rupee and Falling Stock Market - Connection Explained!!!

So, given all this information, what do you think made the stock market recover? Care to venture a guess???

LIC Has Started Buying Shares

Did you expect this to be the reason for the upward momentum? I am sure you did not...

Though there is no official or confirmed notification from either market regulators or from LIC, we cannot be 100% sure that they are indeed the reason for this upward momentum but I guess they are at least partially responsible for this upward movement.

Is this the first time LIC is rescuing our markets?

Absolutely Not. LIC has been coming to the rescue of our stock markets every time there is some kind of crisis like what we are facing right now. The finance ministry requests LIC to pitch in and pump in some cash into the markets to boost volumes and to stop the free-fall and almost always LIC obliges.

In 2010-11, the government raised Rs 22,763 crore by divesting stake in six companies - SJVN, Engineers India, Coal India, Power Grid, MOIL and Shipping Corporation of India. LIC had invested close to Rs 8,000 crore for buying shares in these companies.

Last year we had a divestment by ONGC and LIC picked up 88% of the shares divested by the Government. This year in Hindustan Copper Offer for Sale, they picked up 22.5 million shares which again was a huge chunk of the total shares divested. Experts expect this trend to continue in the future divestment programs that are coming up in government owned entities.

How Does LIC Manage to do this?

Funds have never been a problem for the government owned Insurance Co. Every year the senior management comes up with a % allocation of their funds that is to be invested in the Equity Markets and the funds work out to approximately 40,000 crores or more. This year sources claim that LIC has already set aside around 2000 crores to invest in Banks in our markets and another 10000 crores for the government divestment programs. They still have room in their equity allocation limits which is what they are using now to invest into our stocks and stabilize our market.

Quick Statistics:

1. In case of ONGC, LIC has picked up over 40 crore shares, or 93 per cent of the 42.78 crore shares sold, at a price of Rs 304.25 per share, including brokerage and STT. It shelled out Rs 12,179 crore for buying ONGC shares.

2. In case of the NTPC OFS in February 2013, LIC picked up 12 crore shares worth Rs 1,765 crore, of the 78.33 crore shares on that were available for sale.

3. In NMDC disinvestment in December 2012, LIC bought 1.86 crore shares for Rs 278 crore, against 39.65 crore shares that were available for sale.

4. In case of SAIL, LIC purchased 12.45 crore shares, out of the 24.04 crore shares that were put up for sale. LIC's investment was Rs. 786 crores

5. In case of NALCO, LIC purchased 7.22 crore shares, out of the 15.69 crore shares that were put up. LIC's investment was valued at Rs. 289 crores

6. In case of MMTC share sale in June, LIC bought 4.81 crore shares, of the 9.33 crore shares on offer, thereby investing Rs 289 crore.

As you can see, LIC has been repeatedly investing huge sums of money in government companies on a regular basis.

Is this a Good Idea?

No, I don’t think so. When the investment experts in LIC come up with a detailed rationale on why they should invest in a stock there is merit in the decision but investment decisions triggered by the finance ministry to stabilize the market isn’t always the best idea.

From the statistics in the previous section, LIC has invested over 15,000 crores into Government run corporations. If we compare this against the current valuations, LIC is looking at, at least 20% or more losses.

Where is all this money coming from? - Money Invested by Policy Holders through their Insurance Premiums.

What Will be the Impact?

Impact No. 1: Earnings for Policy Holders will come down

LIC guarantees only around 4-6% returns on the premiums that are collected. The final bonus component that gets accrued into your policy is based on the company's overall performance and given the magnitude of losses LIC is making due to investment in Government run corporations, I highly doubt policy holders getting good bonuses.

Isn’t that bad news?

Impact No. 2: The government may have to bail-out LIC in Future

LIC has one of the lowest Solvency Margins in the Indian Insurance Industry. The solvency ratio is 1.54 for LIC and to compare HDFC Standard Life has 1.88 times while ICICI Prudential has 3.71 times

The solvency ratio is the sum of capital and market value of assets that insurers have to maintain over their insured liabilities.

So, surprisingly the private Insurance co's have a higher solvency ratio and hence are probably safer than LIC. Shocking isn’t it?

If the Solvency Margin goes below the mandated levels (1.5 times) then the government would have to come up with a fresh fund infusion - which is technically a bailout. If LIC does not have enough funds to keep up its solvency ratio, it is technically putting in danger all of the insurance policies and the maturity amounts of millions of middle class Indians.

This is probably the biggest risk. This random investment in the stock markets by LIC is putting the livelihoods of millions of Indians at risk which I feel is a really bad idea. Let us just hope that the market recovers and LIC's prospects improve and the Government does not have to bail-out LIC.

Some Last Words:

Investments in Equity Markets is always risky especially when we invest because we are asked or told to rather than by our own accord. LIC is treading on the dangerous line and is investing because it is helping the Government Raise Funds through its divestment programs. But, at the end of the day LIC is owned by the Government and so technically, it will definitely pitch in and rescue LIC in case of the unfortunate situation (Like what the US Government did a few years ago to bailout AIG). But, that will put further pressure on our Economy and Markets...

As I said before, the markets will continue to remain volatile. So, stay cautious and invest only after thorough analysis and for the long-term. For the short-term CASH IS KING.

Disclaimer: All views expressed above are the authors personal opinion and the data was gathered from the Internet. The author does not guarantee the accuracy of the claims in the article.

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