Monday, October 20, 2008

Global Meltdown: How safe is your Job?

The writing is clearly on the wall now. There is an obvious meltdown in the world financial markets. The impact is being seen on the jobs as well. The companies have started to downsize the staff (Jet Airways fiasco is the latest example). They actually have no other option. If a company has to survive, it has to downsize to cut costs. The easiest victim would be the employee who is an average performer and is not quite the blue eyed boy of his manager.

What are your options in such a scenario?

Start saving for the rainy day, if you already haven't! This is the time to accept the mistake. You should have started this much earlier. But it's better late than never. You should now start to save as much as you can for the dreaded day when you will fall pray to the job loss.
  • If you had saved Rs 2,000/- every month for the past 5 years, you would have had Rs. 1,20,000/- by now only in principal. I've not counted the interest you could have earned on it in the FD or for that matter RD (These are the safest instruments and you will never lose money here).
  • This fund would help you in your lean period and will cover your EMIs, rent and telephone bill.
In case, you are one of the scapegoats, liquidate those shares, where you had invested in order to make hefty gains. Whatever is the leftover in this investment can now work for the payments of your bills and help you run the household expenses till you find the next job.

Start Enhancing your skills. Any new skill earned can help you in getting a new job in case of a job loss.

Make yourself visible in the organization. It makes it difficult to fire you, if you are known to people. But this should be through your work and not through the other activities.

Scale down your expectations. Be it in the present company or in the new job that you are looking for, you should bring your expectations a bit down and be realistic. A job in hand is better than 10 lucrative offers.

Better be serious about your job. This way, you may not have to actually watch the day when you are given the pink slip.


Tuesday, October 14, 2008

Deposit Insurance and Credit Gaurantee Corporation

Off late there has been a lot of talk about some commercial banks going bust/bankrupt. And thus there was a rumor of depositors losing money that was kept in the bank.

I was searching on the topic and came to know about this corporation (DICGC). DICGC works on the safety of all the depositor's money kept in savings a/c, FDs etc with the banks. Almost all the banks in India are a part of this corporation and thus the money should be safe enough.

List of partner banks

Brief History of DICGC:

The concept of insuring deposits kept with banks received attention for the first time in the year 1948 after the banking crises in Bengal. The question came up for reconsideration in the year 1949, but it was decided to hold it in abeyance till the Reserve Bank of India ensured adequate arrangements for inspection of banks. Subsequently, in the year 1950, the Rural Banking Enquiry Committee also supported the concept. Serious thought to the concept was, however, given by the Reserve Bank of India and the Central Government after the crash of the Palai Central Bank Ltd., and the Laxmi Bank Ltd. in 1960. The Deposit Insurance Corporation (DIC) Bill was introduced in the Parliament on August 21, 1961. After it was passed by the Parliament, the Bill got the assent of the President on December 7, 1961 and the Deposit Insurance Act, 1961 came into force on January 1, 1962.

The Deposit Insurance Scheme was initially extended to functioning commercial banks only. This included the State Bank of India and its subsidiaries, other commercial banks and the branches of the foreign banks operating in India.

Since 1968, with the enactment of the Deposit Insurance Corporation (Amendment) Act, 1968, the Corporation was required to register the 'eligible co-operative banks' as insured banks under the provisions of Section 13 A of the Act. An eligible co-operative bank means a co-operative bank (whether it is a State co-operative bank, a Central co-operative bank or a Primary co-operative bank) in a State which has passed the enabling legislation amending its Co-operative Societies Act, requiring the State Government to vest power in the Reserve Bank to order the Registrar of Co-operative Societies of a State to wind up a co-operative bank or to supersede its Committee of Management and to require the Registrar not to take any action for winding up, amalgamation or reconstruction of a co-operative bank without prior sanction in writing from the Reserve Bank of India.

Further, the Government of India, in consultation with the Reserve Bank of India, introduced a Credit Guarantee Scheme in July 1960. The Reserve Bank of India was entrusted with the administration of the Scheme, as an agent of the Central Government, under Section 17 (11 A)(a) of the Reserve Bank of India Act, 1934 and was designated as the Credit Guarantee Organization (CGO) for guaranteeing the advances granted by banks and other Credit Institutions to small scale industries. The Reserve Bank of India operated the scheme up to March 31, 1981.

The Reserve Bank of India also promoted a public limited company on January 14, 1971, named the Credit Guarantee Corporation of India Ltd. (CGCI). The main thrust of the Credit Guarantee Schemes, introduced by the Credit Guarantee Corporation of India Ltd., was aimed at encouraging the commercial banks to cater to the credit needs of the hitherto neglected sectors, particularly the weaker sections of the society engaged in non-industrial activities, by providing guarantee cover to the loans and advances granted by the credit institutions to small and needy borrowers covered under the priority sector.
With a view to integrating the functions of deposit insurance and credit guarantee, the above two organizations (DIC & CGCI) were merged and the present Deposit Insurance and Credit Guarantee Corporation (DICGC) came into existence on July 15, 1978. Consequently, the title of Deposit Insurance Act, 1961 was changed to 'The Deposit Insurance and Credit Guarantee Corporation Act, 1961 '.

Effective from April 1, 1981, the Corporation extended its guarantee support to credit granted to small scale industries also, after the cancellation of the Government of India's credit guarantee scheme. With effect from April 1, 1989, guarantee cover was extended to the entire priority sector advances, as per the definition of the Reserve Bank of India. However, effective from April 1, 1995, all housing loans have been excluded from the purview of guarantee cover by the Corporation.

Sunday, October 12, 2008

History of Financial Crises

I found this nice article in The Hindu Business Line on the previous financial crises around the world. This is worth a look, so decided to post it here.

Not learning from history

Parvatha Vardhini C.

As the world struggles in the throes of a credit crisis, it seems appropriate to recount some (un)forgettable meltdowns of the twentieth century, the economics behind them and the panic that they created. Each of these major crises had features that have parallels in the current one. Yet, history repeats itself. Could investors have drawn a lesson or two from each of these and been more prudent? Read on.

The Japanese property bubble

The fall in property prices and defaults by sub-prime borrowers flagged off the now famous credit crisis. Will this crisis tip the world into recession? Let us hark back to the Japanese property bubble in the early 1980s.

At that time, Japan had huge trade surpluses (excess of exports over imports) with the US. Alarmed at its unfavourable Balance of Trade position, the US, through the Plaza Accord of 1985, allowed the yen to appreciate against the dollar. In two years’ time, the yen was up by almost 50 per cent.

The country’s export-dependent economy stumbled. Capital investments slowed. To avoid a recession, Japan eased restrictions on borrowings and progressively lowered interest rates. But low inflation (due to cheap imports and the fall in international oil prices), coupled with cheap money, enabled cash-flows into the property and stock markets as well.

Over the next few years, as demand for land increased, property prices soared. In the latter part of 1989, the Nikkei too raced towards its all-time high of 38,957 points but inflation had started to rear its head.

As the New Year dawned, the stock market nose-dived. The Bank of Japan sharply increased lending rates and placed restrictions on lending to the real estate sector. Property prices plummeted. Loans given with land as collateral went bad.

Soon, slowing investment and consumption led to deflation. Following the crash, the 1990s came to be known as ‘the lost decade’ in Japan. With the Asian financial crisis further rubbing salt into the wounds, Japan’s central bank adopted an extremely easy money policy that kept interest rates at virtually zero. Even today, at half a per cent, Japan has one of the lowest lending rates in the world. Little wonder that its central bank couldn’t cut rates earlier this week, alongside several other countries, in response to the US credit crisis!

Great Depression

The current credit crisis is increasingly being compared to the Great Depression in the US in the 1930s. The 1920s witnessed a huge increase in manufacturing output in the US. But the wages didn’t keep pace. Instead, the bulk of the profits was pocketed by corporates, creating a wide gap between the rich and the blue-collared.

At the same time, capacity expansions by companies (signalling higher profits), rising dividends and speculation drew surplus into the stock market. The upward spiral helped the Dow Jones Industrial Average hit a peak of 381 in September 1929.

When volatility rose, speculation gave way to fear and the party wound up quickly. The rich stopped spending. The poor, who were earlier financing their purchases mostly on credit, cut back. As demand declined, so did production. As a result, unemployment rose. Borrowers defaulted.

Ironically, it was the onset of World War II that boosted spending and bailed out the economy .

Asian crisis

If the Great Depression was born out of the unequal fruits of industrial prosperity, the Asian currency crisis of 1997-98 exposed the harm that volatile capital flows and highly leveraged positions can cause to entire economies. The years preceding the crisis saw South-east Asian economies such as Thailand, Malaysia and Indonesia open up their economies to foreign direct investments and capital flows.

Full capital mobility was allowed, with these Asian economies aligning their exchange rates closely with the dollar.

A sharp appreciation in the dollar in 1995 caused South-east Asian currencies to appreciate against other currencies as well. This resulted in significant losses on the export front — which was a key blow to these externally dependent economies.

A widening current account deficit (financed with overseas borrowings) coupled with basic differences in the economies of the US and these countries aroused speculation as to the ‘real’ exchange rate — the fixed exchange rate regime collapsed. As a result, the currencies of countries such as Thailand, Malaysia, Indonesia, Korea and Philippines were sharply devalued.

Interest rates were steeply raised to protect the local currencies. This set off a vicious spiral of rising cost of financing for companies and a squeeze on debt servicing capabilities. Earlier, the fixed exchange rates and the free flow of foreign funds had prompted domestic banks and corporates to borrow heavily from abroad.

Once disaster struck, the high leverage choked borrowers. Banks which resorted to borrowing from abroad for lending domestically too felt the heat. The excessive inflows had also found their way into asset classes such as the stock market and real estate.

When foreign investors began to pull money out, both stock market and real estate prices slumped. In the latter half of 1997, the IMF, along with the World Bank and the Asian Development Bank, provided aid to these countries as they were in danger of defaulting on their debt repayments.

These countries also agreed to undertake structural reforms by tightening their fiscal and monetary policies.

Latin American debt crisis

A similar story had already been enacted in Latin America in the 1980s. In the context of massive inflows of foreign capital and subsequent flight, the Asian crisis was, in fact, Latin America Part II.

The substantial increase in oil prices in 1973-74 by the OPEC nations resulted in massive inflows of surplus money into the oil-exporting countries. With the availability of funds far exceeding domestic requirements, these countries parked surplus funds in international commercial banks.

This happened at a time when countries such as Chile, Uruguay and Argentina had just liberalised trade and needed money to implement economic reforms.

Besides, oil-importing countries in this area also needed money to finance their deficits. So Latin America resorted to borrowing these surplus ‘petro-dollars’ from commercial banks whose loans were short-term and carried variable rates.

As the 1970s drew to a close, oil prices spiked again, fuelling inflation and, hence, higher interest rates. Money was needed to finance both the trade imbalance and the higher interest. For this, these countries resorted to fresh borrowings, and were thus pulled into a debt trap.

A year or two later, oil prices fell, but not interest rates. In Mexico, an oil-exporting country there was a flight of capital abroad. The peso depreciated by about 80 per cent; Mexico was unable to service its debt and was on the verge of defaulting on loan repayments.

Other Latin American countries followed suit. Further lending to these countries was refused and they could not get out of the debt trap. These nations were later forced to renegotiate their debt and the IMF stepped in to co-ordinate.


Saturday, October 11, 2008

Fixed Diposits: The safe Havens for the risk averse investors

As the Equity markets were on full swing last year, the good old fixed deposits and the post office schemes were loosing their sheen. But now that the markets have tumbled on their head and investors are looking for cover, it's once again time to look at these safest forms of money saving instruments.

Investors should go for bank deposits or Fixed Maturity Plans (FMP) of mutual funds which provide cushion and risk free returns during the uncertain times as now-a-days. These can be of paramount importance to senior citizens and to those with limited risk apetite.

Most Public sector banks are providing 10% p.a. for the fixed deposits (10.5% in case of senior citizens), which means you stand to earn Rs. 10,000 in a year on an FD of Rs. 100,000 pre-tax. The key aspect here is to protect your savings while keeping the returns modest.

FMPs are another way to invest in debt instuments. These are better than FD for the tax paying investors as they impose lesser tax penalty than a FD. FMPs are schemes from mutual funds that have a fixed tenure before they can be redeemed, much like the Fixed Deposits, but they provide you returns in terms of dividends that is taxed at 14% (Dividend Distribution Tax) whereas the FD is taxed at your respective income slab. 

It is always better to keep some portion of your investment portfolio in this instrument as well to keep your savings intact. 

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Tuesday, October 7, 2008

Interest Rates and stock markets

Interest is nothing but the cost you have to pay for the use of someone else's money. Credit users know this scenario quite well - they borrow money in order to buy something. When it comes to the stock market and the impact of interest rates, the term usually refers to something else.

The interest rate that applies to investors is the RBI bank rate. This is the cost that banks are charged for borrowing money from the RBI. It is the way the RBI attempts to control inflation.

What is Inflation?

Inflation is caused by too much money chasing too few goods (or too much demand for too little supply), which causes prices to increase. By influencing the amount of money available for purchasing goods, the RBI can control inflation.

Basically, by increasing the bank rate, the RBI attempts to lower the supply of money by making it more expensive to obtain.

Effects of an Interest Rate Increase

When the RBI increases the bank rate, it becomes more expensive for banks to borrow money from the RBI.

The first indirect effect of an increased bank rate is that banks increase the rates that they charge their customers to borrow money. Individuals are affected through increases to credit card and mortgage interest rates, especially if they carry a variable interest rate. This has the effect of decreasing the amount of money consumers can spend, after paying the loan installments and bills for food, utilities and other essentials. This means that people will have less money to spend, which will affect the revenues and profits of businesses.

Businesses are also affected - When the banks make borrowing expensive, companies might not borrow as much and will pay a higher rate of interest on their existing loans. Less business spending can slow down the growth of a company, resulting in a decrease in profit.

Stock Price Effects

Changes in the bank rate thus leads to less spending and impacts corporate turnover & profits. If, a company is seen as cutting back on its growth spending or is making less profit - either through higher debt expenses or less revenue from consumers - then the estimated amount of future cash flows will drop. This will lower the price of the company's stock. If enough companies experience a decline in their stock prices, the whole market, or the SENSEX, will go down.

Investment Effects

For investors, a declining market or stock price is not a desirable outcome. Gains come from stock price appreciation, the payment of dividends - or both. With a lowered expectation in the growth and future cash flows of the company, investors will not get as much growth from stock price appreciation, making stock ownership less desirable.

Furthermore, investing in stocks can be viewed as more risky compared to other investments in such as scenario. When the RBI raises the bank rate, freshly issued government securities, such Treasury bills and bonds, which considered as the safest investments will usually experience a corresponding increase in interest rates. In other words, the "risk-free" rate of return goes up, increasing the demand for these investments.

When people invest in stocks, they need to be compensated for taking on the additional risk involved in such an investment, or a premium above the risk-free rate. The desired return for investing in stocks is the sum of the risk-free rate and the risk premium. As the risk-free rate goes up, the total return required for investing in stocks also increases. Therefore, if the required risk premium decreases while the potential return remains the same or becomes lower, investors might feel that stocks are not going to reward them adequately for the risk they have to take. Hence when the risk-reward for investing is against the investor, he will sell leading to fall in prices of stocks.


Since around the last quarter of 2007 – rise in inflation, interest rates & all input costs along with the consistent lowering of GDP forecasts have clearly indicated the need for lowering expectations of returns from stocks. The risk-reward for investors in debt has improved and for stocks and real estate it has deteriorated. The recent volatility in gold prices, clearly hold no attraction as a haven for capital looking at a "flight to safety". The government finances are not in good shape. It is expected that the benchmark "risk-free" rate in the form of the 10 year GoI bond yield is likely to go up by 0.5 to 1%. This would definitely lead to increase in cost of all forms of capital with the highest impact being in the cost of equity which as our explanation confirms will lead to moderation in return expectations and hence valuations.


Sunday, October 5, 2008

What is an Insurance?

Insurance works on the concept of pooling of risk. In the ancient times, merchants started this concept by poling the risk of their cargoes being sunk in the sea. They started pooling money which would be used to compensate the damages occurred to the merchant whose cargo sunk.

The same concept has been carried forward to the modern day insurance, where one can insure not only his cargo/vehicle but also his health and life!

In India, insurance can be broadly classified into 2 categories:
  1. Life Insurance: Financially covers the family against the death of the insured.
  2. General Insurance: Protects several areas including health, property, professional liability and many more.
Striking a balance between the cover needed and the premium paid for the cover is very critical to get the optimum value.

Here are certain factors that should be considered before deciding ona particular insurance policy:

The probability and impact of the event to be covered:

Before taking a particular insurance, one should assess the probability of the event and its possible impact on the individual and family.

Suppose, you own a shop in Mumbai, and want to cover the shop against earthquake! This is a rare event and might not happen very frequently. But the damage would be significant in case it occurs. So, you may go for an insurance. As the event is infrequent in nature and the probability is low, the premium may be very low.

But the same event will have a high premium in JAPAN, as the earthquakes there are frequent and the probability is high.

For life insurance, the impact varies based on the age of the person and the number of dependents.

Adequate Insurance:

That you have a cover is not enough. You should make sure the cover is adequate enough to cover the damage. You should evaluate your future worth in case of a life casualty and then go for the cover depending on that.


This is a major factor while taking an insurance cover. Too much premium would be a burden on your purse an too low premium will not serve the purpose. You should do some calculations to get the adequate cover with the most affordable premium.

Income Tax:

While the premium paid can be used to reduce the tax liability under 80-C, one should not be guided by this. By doing so, you would not consider what is best for you and go for the one with maximum premium.

Do not treat Insurance as an Investment:

This is a fallacy that is present in almost everyone's mind. Treat insurance as a safety net in case of you not being there for the family and invest separately to make your money grow!

Several studies have proved that un-bundling of insurance and investment aspects lead to a better overall result. This will however call for the investing discipline on the part of the policyholder.

Watch this space for more on insurance basics.

Saturday, October 4, 2008

Things to keep in mind while investing

Your journey towards financial freedom isn't complete without obstacles which you must learn to face and conquer. The sooner you learn to take action against them, more money you make.

Impulse Buying

Always buy when you see value not the price movements. Price movements are often due to market momentum and not for the value the stock presents.


Inflation hurts people particularly those in fixed incomes like the elderly and those whose income isn't indexed to inflation. They lose a part of their purchasing powers because their cash flow remains constant while their cost of living increases. Employed individuals, despite receiving constant salary increments, are hurt because there is a time lag in compensation adjustments. By the time they receive higher nominal income, it has already been months since the prices of commodities went up.

Have a plan to buy assets which gain during inflation.


Procrastination simply refers to the habit of putting off doing something for a later time. Aside from the definition, it is also necessary to learn why we often choose to procrastinate. Is it simply because we are too lazy to act or is it something much deeper? More importantly, how do we get rid of this bad habit? What is the best way to really overcome procrastination?

Do today, what you can do tomorrow. Do now, what you can do today. This is the famous lesson that Ravana gave to Laxman in Ramayan while on the death bed.

Fear of Taking Risks

"Remember, life is a risk. To do or not to do something is an equal risk. And not doing something is the greatest risk of all. If you do it, you could lose . And if you don't do it, you will never know the benefits of having done it, or whether it will even work or not. So not risking is the greatest risk of all."

Wrong Beliefs About Money

If you think about it, money is simply defined as a tool that we use to acquire the things that we need or want. It is a non-living thing that is void of emotion or bias. Take a Rs 1000 note out of your purse right now and look at it. Would you agree with me if I say that you're simply holding a piece of paper? Can you shred it to pieces now ? No you would not.Yet we invest money into wrong places and throw our wealth into the sea.

Keep these things in mind and overcome them when taking investment decisions.


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