Finding Opportunity in a Bear Market

It was just four days after the Dow Jones average had plunged more than 777 points -- its biggest one-day point drop in history -- and only hours before Congress was about to vote yet again on an unprecedented $700 billion bailout package for the financial industry, with the fate of large banks and insurance firms hanging in the balance.
Simply put, it was a heck of a day to be holding the 11th annual Wharton Investment Management Conference, bringing together some of the nation's top financial experts on the aptly chosen topic of "Investing in a Volatile World." But if the session's keynote panel of investment advisors agreed on any one point, it was that the current bear market offers great opportunity to buy distressed stocks at bargain prices -- if not on that particularly turbulent day, then some time in the near future.
According to Michael Roth, a founding principal of Wisconsin-based Stark Investments, the stock market is playing out "a classic fear or greed scenario right now." While it has been fear of the unknown magnitude of losses in complex mortgage-backed securities and credit swaps that has driven the Dow down by more than 25% in just one year, eventually "people will get bored with being afraid, and there will be a herd mentality. You will see a real upside-only scenario. The market will go beyond a near-term [perspective]," he predicted.
Another member of the keynote panel, David Antonelli -- executive vice president and chief investment officer for MFS Investment Management -- agreed, noting that over the last 10 years, stock averages have increased at roughly 2% a year, even as corporate earnings have continued to rise at a rate of 8% to 9% annually, thus creating an imbalance. "There's a reason to be optimistic," he said. "A lot of extra profits have been left on the table."
But as is always the case with investing, timing is everything. And the panelists also seemed in broad agreement that despite the bad news pouring out of the world's financial markets, the worst may not be over yet, nor is it completely clear that the $700 billion federal aid package is enough to stop the bleeding.

"I think that we're somewhere in the middle," said T.K. Duggan, a managing principal of Durham Asset Management LLC, which specializes in global, event-driven distressed debt, who noted that in 1989 and 1990 it took a considerable amount of time for a massive bailout of the U.S. savings and loan industry to work its way through the economic system. This time, it has taken about a year for the initial bad news from the American housing crisis to bring Wall Street to this point, and it may take another year before the unrest is over, even though Congress did vote final approval of the bailout package that afternoon.
'Ignoring the Risk Half of the Risk-Reward Equation'
This year's Wharton Investment Management Conference marked one of the most tumultuous years since the event began, certainly since the terror attacks of September 2001. Conference co-organizer and Wharton MBA student Spencer Reich received a huge laugh when he joked that "one of our biggest fears was that the markets would stabilize and this conference would no longer be relevant."
A more somber tone for the day was established right from the start by the opening speaker, undersecretary of the U.S. Treasury David McCormick. "These are incredibly challenging and unprecedented times for the United States," said McCormick, who, since August 2007, has been the chief advisor to Treasury Secretary Henry Paulson on international economic issues. "Over the last 12 months, we have witnessed one of the most significant periods of economic turmoil that has ever faced our country."
McCormick gave the Wharton audience an overview of the events that led to a series of unprecedented developments -- including federal bailouts of insurer AIG and financial firm Bear Stearns, shoring up of mortgage giants Fannie Mae and Freddie Mac, the collapse of Lehman Brothers and, finally, the request for a $700 billion fund to encourage credit activity that has become all but frozen because of the high rate of uncertainty and risk in the market. His main explanation for the root cause of the crisis would be echoed by other speakers at the conference: That the normal rules of risk and reward for investors had collapsed over the last decade, especially with the bundling and trading of home loans that in too many cases went to buyers not worthy of credit in the first place. He traced this trend to the heady economic times of the 1990s, which caused investors and regulators to "ignore the risk half of the risk-reward equation that's at the very heart of financial markets."
Investors around the world "who, in preceding years, had enjoyed above-historical average returns on both asset classes, continued reaching for ever higher gains, and the financial services industry created a variety of complicated products to meet this demand," McCormick said. "Regulators and investors alike showed a growing complacency toward risk. And these factors blended together into a dangerous cocktail of underlying conditions that were ripe for instability."
As federal regulators learned the extent of losses in these new financial instruments backed by troubled home loans, they also discovered that this trading of mortgage-backed securities and the role of U.S. government-supported housing giants Fannie Mae and Freddie Mac were so deeply intertwined with the global financial system that a dramatic response was required, he noted.
"Fannie Mae and Freddie Mac are now so large and so interwoven in our financial system that if either one of them were to fail, it would have far-reaching effects for the U.S. economy and economies around the world, because financing would be more difficult to obtain, constraining job creation and making it harder for Americans to get home loans, auto loans and consumer credit," McCormick said.
But McCormick's outline of the problem also made clear the enormous challenge facing federal officials charged with finding solutions: If the system of economic risk and reward has careened out of balance on Wall Street, how does a massive federal bailout that essentially fails to punish risky behavior solve the problem going forward? Indeed, several members of the keynote panel said that the 1998 government intervention in the collapse of the Long-Term Capital Management hedge fund was a turning point in convincing investors that the consequences of taking greater risks would be minimal, as was the implication that then-Federal Reserve chairman Alan Greenspan would take the same steps in any similar situation.
"There has been a mismatch between risk and reward," panelist Antonelli said, adding that the sense of comfort provided by the interventionist Fed chairman created an appetite for riskier loans that carried higher returns, which is why mortgage-backed securities boomed along with the upward surge in housing prices in the first half of this decade. For much of this decade, Antonelli stated, the demand for non-investment grade paper -- offering greater earnings than much less risky AAA-rated bonds -- was so high that high-yield debt seemed immune to the laws of supply and demand.
Answering questions after his speech, Treasury secretary McCormick acknowledged the difficulty that federal officials encounter when dealing with the "moral hazard" issue. Closely related is whether investors and top executives of troubled financial firms must face some type of financial penalty for their bad judgment even as their massive and largely worthless debt is purchased by the government. "I think getting this balance right -- fulfilling the responsibility of minimizing systemic risk while maintaining market discipline -- is one of the difficult [challenges] that we have to face," he said. "And it's more difficult when you think about it in the context of the institution-by-institution response. That gives greater credibility to the more comprehensive systemic response -- where you can make sure you have that right balance."
Getting People 'off the Ledge'
But is the $700 billion package enough to halt the crisis? Here, the panelists seemed divided. Roth, of Stark Investments, suggested that the real significance of the bailout may lie less in the actual dollar amount than in the symbolic power of the U.S. government to reassure investors, who have now parked billions of dollars of cash in safe, low-interest accounts waiting for the market to hit bottom. He said that aggressive action by the Bush administration and by Congress "will get people off the ledge. There's a tremendous amount of money sitting on the sidelines." McCormick, in his opening speech, voiced a similar sentiment, noting that the $700 billion package that President Bush would sign that afternoon "sends a strong signal to markets around the world that the United States is serious about restoring confidence and stability to our financial system."
On the other hand, the panelists also acknowledged that the global nature of the financial markets poses a risk that the crisis will spiral well beyond the control of the United States government -- a worry that seemed confirmed immediately after the Wharton conference as banks in Europe faltered and as financial markets there and in Asia plunged at a faster rate than on Wall Street. "We are in a global slowdown," said Antonelli, who suggested that the crisis has undermined financial experts who claimed there has been a "decoupling" of the American economies from Japan and Europe.
Indeed, the nature of the evolving financial crisis was such that the main topic of the Wharton conference -- advice for investors in turbulent times -- seemed somewhat buried in the mix at times. According to Duggan, the expert on investing in troubled companies, the scope and magnitude of the current downturn means there are excellent opportunities for bold investors. "This is the greatest list of distressed capital that we've seen in our lifetimes," Duggan said.
Pressed to name specific sectors, he noted that retailers have been particularly hard-hit by the ongoing slowdown -- including recent bankruptcy filings by well-known chains Linens 'n Things and Steve & Barry's -- and are poised for a rebound once the economy starts turning around. He also cited U.S. automakers as another beaten-down cyclical industry that presents an investment opportunity, especially with the federal government offering a $25 billion aid package.
Understandably, the investment experts were less bullish about the financial sector. Several noted that while two leading Wall Street firms, Goldman Sachs and Morgan Stanley, have survived the turmoil as stand-alone companies, the recent move to reclassify them as traditional bank holding companies will limit their ability to make high-risk, high-yield investments. That, in turn, will reduce their ability to post the massive profits that investment houses were reporting earlier in the decade.Touching on a subject that held great interest for the many Wharton students in the audience, the panelists also acknowledged that while the massive layoffs on Wall Street have crimped traditional job openings for MBA recipients, the radical changes in the financial markets should create different types of career options in smaller new firms, with a premium on research skills. Several noted that they had launched their own careers in finance during the late 1970s and early 1980s, during the last severe downturn. Said Roth: "There are going to be plenty of opportunities in startups."

From, Knowledge @ warton

Pinch In Outsourcing Industry

IN ONE respect it has been a record couple of weeks for “outsourcing”. Around the world, governments and taxpayers have agreed to help ailing financial firms offload their toxic loans and resolve their liquidity worries. Banks are not the only ones hoping that this will help keep them afloat. The multi-billion-dollar outsourcing industry that runs computer systems and other things on companies’ behalf is keeping its fingers crossed, too. After all, financial giants have helped drive the industry’s stellar growth in the past few years. Now they threaten to undermine it.

Huge outsourcing deals involving banks are still being done—on October 8th Tata Consultancy Services (TCS), a big Indian firm, announced a $2.5 billion, nine-year deal with America’s Citigroup—but they are getting rarer. TPI, a consultancy which tracks outsourcing deals worth over $25m, says that in the first nine months of 2007 financial-services firms signed 132 such deals, worth a total of $17.9 billion; in the
first nine months of 2008 there were only 101, worth a total of $10.8 billion.

Some outsourcing folk claim that the financial crisis could ultimately help their business, even though it threatens to harm it in the short term. For one thing, they say, banking survivors that already use outside contractors will give them more to do as they cut costs. For another, banks that have hitherto shunned outsourcing will have to embrace it to protect their margins. And those with their own offshore activities will be more likely to turn them over to specialists. As part of this week’s deal, Citi is selling its Indian back-office operation to TCS for $505m. “This deal sets the stage for a lot of future revenue,” says Subramanian Ramadorai, TCS’s chief executive.

Other industry bosses are more cautious about forecasting the impact of the banking debacle. “It’s like driving blind at the moment,” says Girish Paranjpe, co-chief executive of Wipro, another leading Indian outsourcing firm. As they struggle for survival, many banks have put discussions about outsourcing contracts on hold or just cancelled them altogether. Once the dust settles there will be far fewer financial
institutions around, so competition for the remaining contracts will be stiffer.

American outsourcing giants such as Accenture and IBM will suffer from all this too, but India’s behemoths are particularly exposed. Unlike their American rivals they do not have other activities, such as consulting, to fall back on. NASSCOM, a body that represents India’s outsourcing firms, reckons that financial-services work accounts for 30-40% of the industry’s activity. To make matters worse, other areas such as backoffice operations for airlines and retailers are also slowing. Hence predictions that contract prices charged by Indian firms are likely to drop. CLSA, a brokerage firm, predicts they will fall by 3-5% in the next fiscal year, starting in April 2009.

Faced with tougher times, more outsourcing firms sitting on piles of cash will turn to acquisitions as a way to boost revenues. Infosys and HCL Technologies, two other big Indian companies, are already locked in a battle for control of Axon, a British firm that provides outsourced computer services. On September 26th HCL bid £441m ($813m) for Axon, trumping an earlier offer of £407m from Infosys. As they chase new revenues, outsourcing companies will also need to clamp down on costs. These have been soaring, especially in India, where a ferocious war for talent has driven up wages and led to very high staff-turnover rates. But now companies are hiring new staff only once deals are in the bag, and turnover rates are falling, says Mr Paranjpe. That is good news, but it signals trouble ahead.

From, Economist 11th Oct edition

Silent Busts: More Chinese businesses are collapsing—though you would never know it

OFFICIALLY, only a few thousand companies will declare bankruptcy this year in China. Unofficially, local manufacturing groups believe many more than that will go out of business in the southern province of Guangdong alone. And the underlying causes—falling demand for exports, higher material costs, stricter labour laws—are hardly unique to that province. But in contrast to Europe and America, where business failures are meticulously tracked, the only trace left by most of these firms will be rusting locks on their old front gates.

This is because Chinese business owners who wish to shut down their companies have three options: to reach informal agreements with employees, trading partners and the government; to file under the auspices of a court; or to walk away. Each has its drawbacks.

A Shenzhen manufacturer who recently tried to close by informal agreement describes the process as almost impossible. He had to negotiate separately with over a dozen government agencies, including tax, labour and even the fire department; each had demands that changed by the day. Then there were skittish suppliers, one of whom blockaded his firm’s entrance. “Everyone just wanted more money,” he says. “That is why most people just shut down overnight.” The only thing everyone agreed on was the need to avoid the local courts.

Last year a new bankruptcy law came into effect, but it is incomplete and poorly understood. Even firms that might recover by restructuring under court protection are reluctant to use it, says Helena Huang of Kirkland & Ellis, a law firm. In the past, bosses often preferred to run a business down to its last yuan before acknowledging problems, at which point there was little to reorganise. Even under the new law, it is unclear whether lenders who step in after a bankruptcy have priority over old claims, undermining any incentive for a would-be backer to give a firm a second chance.

As a result, any reorganisations that do take place often happen informally. One local municipal government, Ms Huang says, recently bailed out a big local firm because it feared that a collapse would harm local jobs and its own reputation—and this is hardly uncommon. There are quiet bail-outs, she adds, even among publicly listed companies.

More than 30 companies on the national stockmarkets have recently failed, says Alan Tang of Grant Thornton, a consultancy. But in many cases control has been acquired by other firms to engineer a “backdoor listing”, without the lobbying and delays common in China. Evidently some Chinese entrepreneurs continue to believe that a listed firm’s ability to raise public capital is worth having—if not now, then one day.

From, Economist, 11th Oct Edition

India's Rupee Slides to Six-Year Low on Capital Outflow Concern

India's rupee fell to the lowest level in 6 years on speculation a rout in global equities well encourage investors to take more money out of the nation.

The currency dropped for a fourth day, joining decline in all the Asian's 10 most active currencies. India's benchmark share index fell 7.3%.

The rupees market is concerned over the large amount of foreign investments that are being pulled out of india as well as elsewhere, "said Nizam Idris, a foreign exchange strategist at UBS AG in singapore.

The rupee fell 1.4% to 48.63 versus the dollar as of 11:41 a.m in Mumbai, according to data compiled by Bloomberg, the weakest level since August 2002. The rupee may decline to 49 before year-end, Idris said.

The Bombay Stock Exchange's Sensitive Index has fallen more than 46% this year, almost wiping out all of 2007's gains. Funds based abroad sold $9.8 billion more Indian shares than they bought this year, accouding to the Securities and Exchange Board of India.

By, Anil Varma, Bloomberg

The Trouble With INDIA

From, Businessweek

Cover Story March'07

Crumbling roads, jammed airports, and power blackouts could hobble growth

When foreigners say Bangalore is India's version of Silicon Valley, the high-tech office park called Electronics City is what they're often thinking of. But however much Californians might hate traffic-clogged Route 101, the main drag though the Valley, it has nothing on Hosur Road. This potholed, four-lane stretch of gritty pavement—the primary access to Electronics City—is pure chaos. Cars, trucks, buses, motorcycles, taxis, rickshaws, cows, donkeys, and dogs jostle for every inch of the roadway as horns blare and brakes squeal. Drivers run red lights and jam their vehicles into any available space, paying no mind to pedestrians clustered desperately on median strips like shipwrecked sailors.

Pass through the six-foot-high concrete walls into Electronics City, though, and the loudest sounds you hear are the chirping of birds and the whirr of electric carts that whisk visitors from one steel-and-glass building to the next. Young men and women stroll the manicured pathways that wend their way through the leafy 80-acre spread or coast quietly on bicycles along the smooth asphalt roads.

With virtually no mass transit in Bangalore, Indian technology firm Infosys Technologies Ltd. spends $5 million a year on buses, minivans, and taxis to transport its 18,000 employees to and from Electronics City. And traffic jams mean workers can spend upwards of four hours commuting each day. "India has underinvested in infrastructure for 60 years, and we're behind what we need by 10 to 12 years," says T.V. Mohandas Pai, director of human resources for Infosys.

India's high-tech services industry has set the country's economic flywheel spinning. Growth is running at 9%-plus this year. The likes of Wal-Mart, Vodafone, and Citigroup are placing multibillion-dollar bets on the country, lured by its 300 million-strong middle class. In spite of a recent drop, the Bombay stock exchange's benchmark Sensex index is still up more than 40% since June. Real estate has shot through the roof, with some prices doubling in the past year.

But this economic boom is being built on the shakiest of foundations. Highways, modern bridges, world-class airports, reliable power, and clean water are in desperately short supply. And what's already there is literally crumbling under the weight of progress. In December, a bridge in eastern India collapsed, killing 34 passengers in a train rumbling underneath. Economic losses from congestion and poor roads alone are as high as $6 billion a year, says Gajendra Haldea, an adviser to the federal Planning Commission.

For all its importance, the tech services sector employs just 1.6 million people, and it doesn't rely on good roads and bridges to get its work done. India needs manufacturing to boom if it is to boost exports and create jobs for the 10 million young people who enter the workforce each year. Suddenly, good infrastructure matters a lot more. Yet industry is hobbled by overcrowded highways where speeds average just 20 miles per hour. Some ports rely on armies of laborers to unload cargo from trucks and lug it onto ships. Across the state of Maharashtra, major cities lose power one day a week to relieve pressure on the grid. In Pune, a city of 4.5 million, it's lights out every Thursday—forcing factories to maintain expensive backup generators. Government officials were shocked last year when Intel Corp. chose Vietnam over India as the site for a new chip assembly plant. Although Intel declined to comment, industry insiders say the reason was largely the lack of reliable power and water in India.

Add up this litany of woes and you understand why India's exports total less than 1% of global trade, compared with 7% for China. Says Infosys Chairman N.R. Narayana Murthy: "If our infrastructure gets delayed, our economic development, job creation, and foreign investment get delayed. Our economic agenda gets delayed—if not derailed."

The infrastructure deficit is so critical that it could prevent India from achieving the prosperity that finally seems to be within its grasp. Without reliable power and water and a modern transportation network, the chasm between India's moneyed elite and its 800 million poor will continue to widen, potentially destabilizing the country. Jagdish N. Bhagwati, a professor at Columbia University, figures gross domestic product growth would run two percentage points higher if the country had decent roads, railways, and power. "We're bursting at the seams," says Kamal Nath, India's Commerce & Industry Minister. Without better infrastructure, "we can't continue with the growth rates we have had."

The problems are even contributing to overheating in the economy. Inflation spiked in the first week of February to a two-year high of 6.7%, due in part to bottlenecks caused by the country's lousy transport network. Up to 40% of farm produce is lost because it rots in the fields or spoils en route to consumers, which contributes to rising prices for staples such as lentils and onions.

India today is about where China was a decade ago. Back then, China's economy was shifting into overdrive, but its roads and power grid weren't up to the task. So Beijing launched a massive upgrade initiative, building more than 25,000 miles of expressways that now crisscross the country and are as good as the best roads in the U.S. or Europe. India, by contrast, has just 3,700 miles of such highways. It's no wonder that when foreign companies weigh putting new plants in China vs. India to produce global exports, China more often wins out.

China's lead in infrastructure is likely to grow, too. Beijing plows about 9% of its GDP into public works, compared with New Delhi's 4%. And because of its authoritarian government, China gets faster results. "If you have to build a road in China, just a handful of people need to make a decision," says Daniel Vasella, chief executive of pharmaceutical giant Novartis. "If you want to build a road in India, it'll take 10 years of discussion before you get a decision."

Blame it partly on India's revolving-door democracy. Political parties typically hold power for just one five-year term before disgruntled voters, swayed by populist promises from the opposition, kick them out of office. In elections last year in the state of Tamil Nadu, for instance, a new government was voted in after it pledged to give free color TVs to poor families. "In a sanely organized society you can get a lot done. Not here," says Jayaprakash Narayan, head of Lok Satta, or People Power, a national reform party.

Then there's "leakage"—India's euphemism for rampant corruption. Nearly all sectors of officialdom are riddled with graft, from neighborhood cops to district bureaucrats to state ministers. Indian truckers pay about $5 billion a year in bribes, according to the watchdog group Transparency International. Corruption delays infrastructure projects and raises costs for those that move ahead.

Fortunately, after decades of underinvestment and political inertia, India's political leadership has awakened to the magnitude of the infrastructure crisis. A handful of major projects have been completed; others are moving forward. Work on the Golden Quadrilateral—a $12 billion initiative spanning more than 3,000 miles of four- and six-lane expressways connecting Mumbai, Delhi, Kolkata, and Chennai—is due to be completed this year. The first phase of a new subway in New Delhi finished in late 2005 on budget and ahead of schedule. And new airports are under construction in Bangalore and Hyderabad, with more planned elsewhere. "We have to improve the quality of our infrastructure," Prime Minister Manmohan Singh told a gathering of tech industry leaders in Mumbai on Feb. 9. "It's a priority of our government."

Singh, in fact, is promising a Marshall Plan-scale effort. The government estimates public and private organizations will chip in $330 billion to $500 billion over the next five years for highways, power generation, ports, and airports. In addition, leading conglomerates have pledged to overhaul the retailing sector. That will require infrastructure upgrades along the entire food distribution chain, from farm fields to store shelves.

Envisioning a brand-new India is the easy part; paying for it is another matter. By necessity, since the country's public debt stands at 82% of GDP, the 11th-worst ranking in the world, much of the money for these new projects will have to come from private sources. Yet India captured only $8 billion in foreign direct investment last year, compared with China's $63 billion. "Having grandiose plans isn't enough," says Yale University economics professor T.N. Srinivasan.Just about every foreign company operating in India has a horror story of the hardships of doing business there. Nokia Corp. saw thousands of its cellular phones ruined last October when a shipment from its factory in Chennai was soaked by rain because there was no room to warehouse the crates of handsets at the local airport. Japan's Maruti Suzuki says trucking its cars 900 miles from its factory in Gurgaon to the port in Mumbai can take up to 10 days. That's partly due to delays at the three state borders along the way, where drivers are stalled as officials check their papers. But it's also because big rigs are barred from India's congested cities during the day, when they might bring dense traffic to a standstill. Once at the port, the Japanese company's autos can wait weeks for the next outbound ship because there's not enough dock space for cargo carriers to load and unload.

India's summer monsoons wreak havoc, too. Even relatively light rains can choke sewers, flood streets, and paralyze a city, while downpours are devastating. Two years ago, Florida-based contract manufacturer Jabil Circuit Inc. saw shipments of computers and networking gear from its plant near Mumbai delayed for five days after an epic storm. "In our business, five days is a really long time," says William D. Muir Jr., who oversees Jabil's Asian operations.

Companies often have no choice but to make the best of a bad situation. Cisco Systems Inc. the American networking equipment giant, has had a research and development office in India since 1999 and already has 2,000 engineers in the country. To supply the country's fast-growing telecommunications industry, Cisco decided last year to try its hand at making some parts locally. In December it contracted with another company to build Internet phones in the southeastern city of Chennai. Although Cisco says the quality of the workmanship is up to snuff, it has to fly parts in because the ports are so slow—and getting them to the factory right when they're needed is proving nettlesome. "We believe in manufacturing in India, but we don't believe in logistics in India—yet," says Wim Elfrink, Cisco's chief globalization officer. Elfrink adds that unless the Chennai operation demonstrates it can run as efficiently as Cisco setups elsewhere, it won't go into full production as planned this summer.

Even the world's largest maker of infrastructure equipment is constrained by India's feeble underpinnings. General Electric Co. last year sold $1.2 billion worth of gear such as power generators and locomotives in India, more than double what it billed in 2005. To meet that surging demand, it is scrambling to find a location where it can manufacture locomotives in partnership with India Railways. But when GE dispatched three employees to survey a potential site the railway favored in the northern state of Bihar, the trio returned discouraged. It took five hours to drive the 50 miles from the airport to the site, and when they got there they found...nothing. "No roads, no power, no schools, no water, no hospitals, no housing," says Pratyush Kumar, president of GE Infrastructure in India. "We'd have to create everything from scratch," including many miles of railroad tracks to get the locomotives out to the main lines.

But there is a silver lining for GE and other international giants: India's infrastructure deficit could yield huge opportunities. American executives who traveled to India last November on the largest U.S. trade mission ever were tantalized by the possibilities. Jennifer Thompson, director of international planning at Oshkosh Truck Corp., viewed construction projects where swarms of workers carried wet concrete in buckets to be poured. That told her there's great potential in India for selling Oshkosh's mixer trucks. "There are infrastructure challenges, but we see a lot of opportunities to help them meet those challenges," she says.

That explains why so many multinationals are flocking to India. Take hotel construction: In a country with only 25,000 tourist-class hotel rooms (compared with more than 140,000 in Las Vegas alone), companies including Hilton, Wyndham, and Ramada have plans for 75,000 rooms on their drawing boards. Or consider telecom. Because of deregulation and ferocious demand, India boasts the fastest growth in cell-phone service anywhere, with companies adding some 6 million new customers a month. No wonder Britain's Vodafone Group PLC just ponied up $11 billion for a controlling interest in Hutchison Essar, India's No. 4 mobile carrier. U.S. private equity outfits also want in on the action. On Feb. 15, Blackstone Group and Citigroup announced they are teaming up with the Indian government and the Infrastructure Development Finance Corp. to set up a $5 billion fund for infrastructure investments in India.

But while the laws of supply and demand would argue that India's infrastructure gap can be filled, that logic ignores the corrosive effect of the country's politics. To gain the favor of voters, Indian politicians have long subsidized electricity and water for farmers, a policy that has discouraged private investment in those areas. That's what wrecked the now-infamous Dabhol Power plant. In the late 1990s, Enron, GE, and Bechtel spent a total of $2.8 billion building a huge complex near Mumbai capable of producing more than 2,000 megawatts of electricity. But a government power authority set prices so low that it was uneconomical for Dabhol to operate, and the whole deal fell apart. (The plant, taken over by an Indian organization, now runs only fitfully.) A 2001 law was supposed to create a framework to support private investment in power generation. But according to American construction company executives, it's not working well. "Everybody knows what needs to be done, but they have great difficulty doing it," says one of the Americans. "If the party in opposition offers subsidized power, the party in power has to give subsidized power to get reelected."Politicians who refuse to play the game pay a steep price. N. Chandrababu Naidu, the former chief minister of the state of Andhra Pradesh, transformed the state capital of Hyderabad from a backwater into a high-tech destination by building new roads, widening others, and aggressively carving out land for factories and office parks. Google, IBM, Microsoft, and Motorola have all built R&D facilities there.His reward? Voters tossed him out of office two years ago. During his decade in power, Naidu didn't do enough for rural areas, and his challenger promised to channel state funds into irrigation projects and electricity subsidies. "Naidu thought economics were more important than politics. He was wrong," says V.S. Rao, director of the Birla Institute of Technology & Science in Hyderabad. Naidu, 56, is plotting a comeback in elections two years hence. This time, he's preaching a new gospel. "You can't just target growth," says a chastened Naidu. "You have to create policies that make the wealth trickle down to the common man."

But even when politicians say they're beefing up infrastructure, it rarely helps the poorest Indians. Agriculture is stagnant in part because of a lack of the most rudimentary of roads to get to and from fields. N. Tarupthurai, for instance, scratches out a living from a five-acre plot in Jinnuru, a village in northeastern Andhra Pradesh. But his fields are more than a mile from the nearest paved road, so each day the 40-year-old Tarupthurai must carry his tools, seeds, fertilizer, and crops down a dirt path on his back or on his bicycle. "I have asked for a road, and the government says it's under consideration," says the mustachioed, curly-haired farmer. Then he shrugs.

One reason little practical help makes it from the seats of power to India's impoverished villages is that so much money gets siphoned off along the way. With corrupt officials skimming at every step, many public works projects either go over budget or are never completed. "You figure that 25% of the cost goes to corruption," says Verghese Jacob, head of the Byrraju Foundation, which promotes rural development. "And then they do such a bad job that the road falls apart in one year and has to be patched over again," Jacob says as he jostles along in a car on a potholed byway outside Hyderabad.

None of the solutions to India's infrastructure challenges are simple, but business leaders, some enlightened government officials, and even ordinary citizens are chipping in to make things better. The most potent weapon India's reformers have against corruption is transparency. Last October a new right-to-information law went into effect requiring both central and state governments to divulge information about contracts, hiring, and expenditures to any citizen who requests it. The country is also putting to work its vaunted technology prowess to police the government. Officials in 200 districts are using software from Tata Consultancy Services Ltd. to help monitor a government program that offers every rural household a guarantee of 100 days of work per year. Most of this labor goes into public works. To minimize "leakage," the TCS software tracks every expenditure—and makes all of the information available real-time on a Web site accessible to anyone.

Sometimes frustrated Indians take matters into their own hands. Tired of spending four-plus hours a day in traffic, Aruna Newton last fall helped organize something of a women's crusade to speed up infrastructure improvements. Nearly 15,000 volunteers now monitor key road projects and meet with state officials to press for action. They even enlisted the state chief minister's mother, who helped get his attention. "It's about the collective power of the people," says Newton, a 40-year-old vice-president for Infosys. "I just wish building a road was as easy as writing a software program.

"Increasingly, companies trying to expand in India have the government as a willing partner rather than a roadblock. The state of Andhra Pradesh rolled out the red carpet last year for MAS Holdings Ltd. of Sri Lanka, South Asia's largest garment manufacturer. It promised subsidized electricity, new access roads, and even a deepwater port if the company would place a huge industrial park on the southern coast. Now MAS Holdings plans to build a cluster of factories that will eventually employ 30,000 production workers. And it chose India over China. "The government support was absolutely vital," says John Chiramel, India director for MAS Holdings. "If we can work together, there's no stopping growth in this country.

"A key to getting massive projects off the drawing boards is forming public-private partnerships where the government and companies share costs, risks, and rewards. In 2005, India passed a groundbreaking law permitting officials to tap such partnerships for infrastructure initiatives. Developers ante up most of the money, collect tolls or other usage fees, and eventually hand the facilities back to the government.

The first project to take advantage of the new law is the $430 million international airport scheduled to open next year in Bangalore. The facility is designed to handle 11.5 million passengers per year—nearly double the capacity of the overburdened existing airport. It will be owned by a private company, which will turn it over to the Karnataka state government after 60 years. Global engineering and equipment giant Siemens is helping to build the facility, and Switzerland's Unique Ltd. will manage it. These companies are also equity investors. The state had to contribute just 18% of the cost. Without such an arrangement, Karnataka wouldn't be getting a new airport.

A lot of India's hopes rest on the airport deal's success. If it proves the viability of public-private partnerships, more such ventures could come pouring in. A visit to the site instills confidence. Project manager Sivaramakrishnan S. Iyer is a crusty veteran of mammoth infrastructure ventures throughout South Asia and the Mideast. Wearing a scuffed hardhat, with a two-day growth of white stubble on his face, he surveys the site from a 2.5-mile-long bed of crushed granite that will be the runway. Work goes on seven days a week, 18 hours a day. Iyer is intent on wrapping up on schedule in April, 2008. "We have the will to do it, and it will be done," he says.

Will the airport open on time? That's not within Iyer's control. Two government authorities are responsible for building the road that leads to the airport, and they're locked in a dispute over how to do it. Work hasn't started.

And so it goes in India. Unless the nation shakes off its legacy of bureaucracy, politics, and corruption, its ability to build adequate infrastructure will remain in doubt. So will its economic destiny.

Gold Retreats Despite Strong Physical Demand, Tight Supplies

By Peter A. Grant

Over the past several weeks, market conditions have been about as crazy as I have ever seen them in over 20-years as a market analyst. As global financial markets teetered on the brink of complete meltdown -- a meltdown that could indeed still happen -- we at USAGOLD - Centennial Precious Metals have been witness to one of biggest gold rushes in history.
All of our brokers, including myself, have been working extended hours in an effort to accommodate absolutely unprecedented demand for physical gold as worried investors scrambled for the safest of safe-haven assets. There have been plenty of 12-hour days in recent weeks, days were it seemed we were on the phones for 12-hours straight.
We frequently worked through meals, even though Mike and Marie were bringing in food each day. George, who works the late-shift on the desk, was often here until 1:00 or 2:00 in the morning trying to keep up with correspondences and paperwork. There were days that for every order I took, I would end up with 6 or 7 calls to return.
Call volume has been at record highs to be sure, but we've also seen unprecedented web traffic at USAGOLD.com. We've been seeing absolutely mind-boggling numbers. Every time we increased the capacity on our website to accommodate increased traffic, it was immediately filled.
I personally have been leaving the office each day exhausted, starving, probably dehydrated and perhaps a tad over caffeinated. However, this is not a whoa-is-me broker's sob story, I love being busy. I just want you to get a feel for what it's been like around here.
Amidst this absolutely insatiable demand for physical gold, we've seen supplies tighten further. The mints of the world are having a hard time keeping up with demand. There is in fact a shortage of available physical gold, but that does not mean there is a complete absence of the yellow metal.
Over the past 35-years we have built a very robust supply chain. Physical gold is increasingly scarce, but we do have supply. Overall, the industry as a whole is doing a remarkable job in handling the situation.
In a hallway conversation yesterday morning, we all concluded that based on supply/demand dynamics, gold should be trading around $1100 to $1200 an ounce. News that the Senate had passed the latest TARP proposal drove gold down even further today. The yellow metal is grossly under priced at these levels.
One of my market contacts reported this morning that Barclays was aggressively buying $1200 Dec calls. It seems they may have a similar view with respect to a fair market value for gold.
Of course getting the bailout plan through the House is going to be the real challenge. If the House fails to approve the latest plan, all of today's losses in the gold market are likely to be quickly retraced. Perhaps that will be the trigger that sends the yellow metal on its way to its fair market value.
Even if TARP is passed, the long-term implications for the dollar are extremely negative. Since gold and the dollar have a negative correlation, passage of TARP would be very positive for gold.
Initial jobless claims for the week ended 27-Sep were 497k, above market expectations. Factory orders for Aug were down 4%, well below market expectations. The ISM manufacturing index for Sep came out yesterday at 43.5%, recording the biggest m/m plunge since 1984.
All of these data are extremely recessionary and do not bode well for the stock market. Expectations are growing that the Fed will cut interest rates whether TARP is passed or not in an effort to mitigate the recession that we may already be in.
Oct Fed funds futures have fully priced in a 25bp rate cut. Odds of a 50bp rate cut this month are running over 80%.
The prospect of a rate cut along with monetary expansion on a massive scale is also extremely dollar negative and inflationary. Imagine a recession where inflation rather than deflation is the primary concern.
All of these concerns, along with ongoing systemic risks, are going to continue to drive strong safe-haven buying interest in gold. Pressure is building on the market and I wouldn't be surprised to see more record days like we saw back on 17-Sep when gold surged more than $80 in one day.
One consistent theme I've heard from dozens of clients in recent weeks is that they wished they had been accumulating physical gold more diligently over the years. There were certainly ample opportunities to buy gold in much more 'normal' market conditions over the past 14-months as the current economic crisis unfolded.
Over the past several weeks, they have been forced to join panicky buyers in a mad rush to preserve their wealth as global credit markets threatened to seize completely. This in turn has heightened fears of bank failures and a collapse of the stock market.
The immediate storm will pass at some point. Higher prices will bring supplies back to the market, and while I think the gold market has entered a new paradigm, things will return to some semblance of order. It is in those times, when all is relatively quiet, that you should be adding to your physical gold holdings.
Buy now because you need the diversification and wealth protection aspects afforded by physical gold. However, accumulate on a consistent and regular basis in order to maintain the proper level of diversification.
When I collapse in a heap at the end of a long day of selling gold, I sleep fitfully knowing that I am providing a valuable service to my clients. I also sleep easily because I am a gold owner myself.

Outsourcing Shops Feel the Street's Pain

DELHI As the credit crunch on Wall Street sent dominoes toppling around the globe, Tata Consultancy Services, India's largest software-services company, started tightening its belt. Travel was restricted, electricity consumption was to be reduced, and the company considered removing Microsoft Office from its PCs and replacing it with free open-source alternatives, employees say.
India's seemingly unstoppable outsourcing industry is grappling with the woes of the financial firms that make up as much as half of revenues for some players. "How this plays out, who knows?" says Pramod Bhasin, CEO of Genpact, the world's largest business process outsourcing company. Although he's optimistic, he says: "The ability to predict has gone away."
HOW TEMPORARY?
Outsourcing companies have already pulled back on new office space and leases, according to Knight Frank India, a property consultant. "Their level of concern has gone up dramatically in the past few weeks with their top-tier customers vanishing right before their eyes," says John McCarthy, a Forrester Research analyst who traveled to India twice in September to meet with jittery Indian players. "Anyone who says they aren't worried is probably lying."
In the past two months some of the biggest names in U.S. finance have gone under. Vanishing with them is the kind of work Indian software professionals have long excelled at—projects requiring mountains of coding and individual attention. In the first half of 2007, financial companies around the world handed out at least 48 major outsourcing contracts with a total value well in excess of $5.5 billion, reports researcher ValueNotes. The first half of this year saw just eight such contracts with a total reported value of $767 million. "A lot of companies are putting on a brave face and saying this is just a temporary phase," says ValueNotes CEO Arun Jethmalani. "But how temporary is temporary?"
The estimated hit to India's outsourcers? As much as 8% of total revenue could vanish, Forrester predicts, as information technology spending in financial services shrinks by 15% to 20% over the next year. India's top five info tech and outsourcing companies saw slower growth in the first quarter, and their stocks have taken a beating. TCS's annual profit growth slowed to 7%, down from 36% in 2007. The company declined to comment for this story. Infosys Technologies has warned that it probably won't see a rise in profit this year but had no further comment. Satyam Computer, the No. 4 software service provider, says it has contracts with Lehman Brothers, AIG, and Merrill Lynch. Those are "minuscule parts" of Satyam's $2.7 billion in annual revenues, says Chief Financial Officer V. Srinivas. "But that doesn't mean there won't be an impact in the future," Srinivas says. "We would be kidding ourselves if we thought that."
Optimists predict the downturn will be short. They say revenues will bounce back when American business decides to be more efficient, resulting in more outsourced work. One rosy estimate, by consultancy Everest Group, projects that cost-cutting spurred by the crisis will result in a 40% to 50% increase in financial-service outsourcing over the next five years.
The Indians, though, will continue to face increased competition for those jobs. Global players such as IBM, Accenture, and Hewlett-Packard have grown deep roots on the subcontinent. "The crisis will make [the Indians] face the reality of doing global business," says Siddharth A. Pai, managing director of TPI, a consultant that helps companies manage outsourcing contracts. "They haven't seen the trough yet."

by Mehul Srivastava and Nandini Lakshman