Happened to read a nice survey from McKinsey and company about the leading practices in Supply Chain Management that are practised by the leaders across diverse industries and market segments.
Here is a brief analysis of the practices,
1. Supply chain strategic alignment
2.Segmentation to embrace the complexity that matter
3.A balanced and forward-looking design
4.A lean, end-to-end value chain
5. World-class integrated planning
6.The right talent, accountable for performance
The above mentioned indicators reflect a trend that is developing towards development of solutions and implementation of the strategies to excel in operations. Supply chain efficiency also has a direct impact on the financial performance of the company. Some make or buy decisions have a disproportionate influence of quarterly performance of the companies. After analysing the trends its clear to me that, a great amount of expectations for earnings, profit margins and other financial metrics would depend on the supply chain performance of the company.
Monday, December 20, 2010
Wednesday, October 13, 2010
Recent readings- Chilean Miner Rescue, Robert Peston
Happened to read the updates from Robert Peston from the BBC. He is a analyst who speaks with some degree of authority and presents news and analysis with convincing grasp of reality, scepticism and great degree of openness. His recent post on Standard Chartered was worth a read which underlines the qualities just mentioned.
"When I was a banking editor some 20 years ago, the rule about Standard Chartered is that if it could go wrong, it would. So I have had to pinch myself periodically over the past seven years, as its profits have risen in a straight line and its shares have soared. Today Stan Chart's market value at a shade under £40bn is greater than Barclays' and Royal Bank of Scotland's.Which is quite extraordinary when you consider that Stan Chart's balance sheet is less than a fifth the size of their balance sheets."
This kind of analysis is mixed with the right ingredients that serve as a powerful influencing tool in the public domain. I was drawn to the role of information in the markets as in the modern portfolio theory. As mentioned in one of the six tenets of modern finance on market efficiency(Brearley, Myers and Allen)
Finally wrapping up he says,
"So here's the question. Is Standard Chartered's £3bn fund raising an example of safety first by a prudent bank, or a hubristic precursor to the acceleration of lending in markets that are becoming a bit too
bubblicious?"
Although, I must also confess that I do also follow Stephanie Flanders and her writings on economics. Her writings offer a different perspective though there is a huge disparity in the degree of intensity found in analysis of topics and her blogs, which are rather, more direct.
Finally the biggest news story, that was all over the media. I just actively following the mine rescue effort, especially the last rescue effort through the capsule and the hole dug in the mile.It is amazing event, a positive story which captures multiples of human emotions. Finally at this hour and second, the final miner has been rescued, a Momento de gran alegría for Chile. The event also helped to divert the focus on practices from the mining companies and maybe a precursor for heightened spate of Health and Safety regulations in developing countries (and possibly its effect on the bottom lines of these companies). All my best wishes to the rescued miners and many thanks to the contributors to the rescue effort. It all ended in cheers, which is great.
"When I was a banking editor some 20 years ago, the rule about Standard Chartered is that if it could go wrong, it would. So I have had to pinch myself periodically over the past seven years, as its profits have risen in a straight line and its shares have soared. Today Stan Chart's market value at a shade under £40bn is greater than Barclays' and Royal Bank of Scotland's.Which is quite extraordinary when you consider that Stan Chart's balance sheet is less than a fifth the size of their balance sheets."
This kind of analysis is mixed with the right ingredients that serve as a powerful influencing tool in the public domain. I was drawn to the role of information in the markets as in the modern portfolio theory. As mentioned in one of the six tenets of modern finance on market efficiency(Brearley, Myers and Allen)
Finally wrapping up he says,
"So here's the question. Is Standard Chartered's £3bn fund raising an example of safety first by a prudent bank, or a hubristic precursor to the acceleration of lending in markets that are becoming a bit too
bubblicious?"
Although, I must also confess that I do also follow Stephanie Flanders and her writings on economics. Her writings offer a different perspective though there is a huge disparity in the degree of intensity found in analysis of topics and her blogs, which are rather, more direct.
Finally the biggest news story, that was all over the media. I just actively following the mine rescue effort, especially the last rescue effort through the capsule and the hole dug in the mile.It is amazing event, a positive story which captures multiples of human emotions. Finally at this hour and second, the final miner has been rescued, a Momento de gran alegría for Chile. The event also helped to divert the focus on practices from the mining companies and maybe a precursor for heightened spate of Health and Safety regulations in developing countries (and possibly its effect on the bottom lines of these companies). All my best wishes to the rescued miners and many thanks to the contributors to the rescue effort. It all ended in cheers, which is great.
Wednesday, September 15, 2010
Discount rates: how to calculate the rates today, Volatility, credit risk and the vast area.....
What is discount rate
Although it is subject to wide interpretation amongst the wider academia and finance practitioners, the concept of discount rates remains tricky at the best. A discount rate is the percentage by which the value of a cash flow in a discounted cash flow (DCF) valuation, alternatively the interest rate used to find the present value of future cash flows. It is also the rate at which credit is availed from the lender of the last resort(central bank). Often the discount rate is taken as the risk free rate, which in turn is derived from the yield of 10 year treasury bonds or Gilts in the UK. One easy way of finding the discount rates in the current times could be from the other definition of it. Let me explain.
During the financial crisis the Federal reserve and the UK (bank of England) had to lend to the big banks to prevent their failure and avert an shock in the system. If we see the rates at which these funds were delivered, we can fairly estimate the current levels of discount rates. But wait a minute, what was the exact discount rate for one of the major bailouts during the financial crisis. When I googled the interest rate for Citi Bank bailout of 300 billions, the figure that showed up most consistently is 8%. It is a lot higher when compared to the 3 months treasury bill rates. Farrokh Langdana (2009)in his book states that discount rates usually follow 3 month T bill rates and suggests that there is empirical evidence for the same.
In the case of Citibank bailout it was stated by the US treasury that interest rates will be higher for initial few years and reduce progressively.
Amazing that the financial crisis changed the basis for making estimates for the discount rates for financial organisations all over the world. It made it obvious, rather transparent. So the one of the thumb rules for estimating discount rates should be just ask Citibank (or the Fed) the interest rates that they are paying (or receiving) on the bailout funds.
CREDIT risk
It is the risk of loss of the principal due to the failure of the borrower to fulfil contractual obligations. Basically the risk of the borrower going bankrupt as faced by the lender is termed as credit risk.The area of research done on Volatility, Options, Volatility skew and its linkages with risk and returns is a vast and very rich area of finance. Also preliminary analysis has made it obvious to me that these interrelations between these factors forms the crux of many financial models that exist in the markets today. It also encompasses vast areas from financial engineering, statistics, calculus and mathematics. In the coming days I am going to explore this area starting from the basics and gradually moving towards the more sophisticated concepts. One unique thing that is going to be done is the inclusion of relevant examples from the developments in the financial world.
The Beginning:
One popular approach to assessing credit risk involves Merton’s (1974) model. This
model assumes that a company has a certain amount of zero-coupon debt that will
become due at a future time T. The company defaults if the value of its assets is less than the promised debt repayment at time T. The equity of the company is a European call option on the assets of the company with maturity T and a strike price equal to the face value of the debt. The model can be used to estimate either the risk-neutral probability that the company will default or the credit spread on the debt.
Although it is subject to wide interpretation amongst the wider academia and finance practitioners, the concept of discount rates remains tricky at the best. A discount rate is the percentage by which the value of a cash flow in a discounted cash flow (DCF) valuation, alternatively the interest rate used to find the present value of future cash flows. It is also the rate at which credit is availed from the lender of the last resort(central bank). Often the discount rate is taken as the risk free rate, which in turn is derived from the yield of 10 year treasury bonds or Gilts in the UK. One easy way of finding the discount rates in the current times could be from the other definition of it. Let me explain.
During the financial crisis the Federal reserve and the UK (bank of England) had to lend to the big banks to prevent their failure and avert an shock in the system. If we see the rates at which these funds were delivered, we can fairly estimate the current levels of discount rates. But wait a minute, what was the exact discount rate for one of the major bailouts during the financial crisis. When I googled the interest rate for Citi Bank bailout of 300 billions, the figure that showed up most consistently is 8%. It is a lot higher when compared to the 3 months treasury bill rates. Farrokh Langdana (2009)in his book states that discount rates usually follow 3 month T bill rates and suggests that there is empirical evidence for the same.
In the case of Citibank bailout it was stated by the US treasury that interest rates will be higher for initial few years and reduce progressively.
Amazing that the financial crisis changed the basis for making estimates for the discount rates for financial organisations all over the world. It made it obvious, rather transparent. So the one of the thumb rules for estimating discount rates should be just ask Citibank (or the Fed) the interest rates that they are paying (or receiving) on the bailout funds.
CREDIT risk
It is the risk of loss of the principal due to the failure of the borrower to fulfil contractual obligations. Basically the risk of the borrower going bankrupt as faced by the lender is termed as credit risk.The area of research done on Volatility, Options, Volatility skew and its linkages with risk and returns is a vast and very rich area of finance. Also preliminary analysis has made it obvious to me that these interrelations between these factors forms the crux of many financial models that exist in the markets today. It also encompasses vast areas from financial engineering, statistics, calculus and mathematics. In the coming days I am going to explore this area starting from the basics and gradually moving towards the more sophisticated concepts. One unique thing that is going to be done is the inclusion of relevant examples from the developments in the financial world.
The Beginning:
One popular approach to assessing credit risk involves Merton’s (1974) model. This
model assumes that a company has a certain amount of zero-coupon debt that will
become due at a future time T. The company defaults if the value of its assets is less than the promised debt repayment at time T. The equity of the company is a European call option on the assets of the company with maturity T and a strike price equal to the face value of the debt. The model can be used to estimate either the risk-neutral probability that the company will default or the credit spread on the debt.
Sunday, August 22, 2010
Contingent convertibles, Prof Theo Vermaelen, Potash, shareholders and bondholders..
Happened to read a news article from Prof. Theo Vermaelen, about Contingent Convertibles. Firstly he defines these class of bonds as ones that are offered in financial crisis times by Banks(example Lloyds TSB) which are triggered once the capitalisation falls below a specified ratio say 5 %.Investopedia defines it as " A security similar to a traditional convertible bond in that there is a strike price (the cost of the stock when the bond converts into stock). What differs is that there is another price, even higher than the strike price, which the company's stock price must reach before an investor has the right to make that conversion"These bonds are nicely suited for bond holders who can exit at the same price of their investment.
(A video of Prof. Theo is available at http://www.cnbc.com/id/15840232/?video=1540724090&play=1)Basically it is call option that converts bonds into stock(or fresh equity) after breaching a specific trigger. This is specially useful in case of risky assets such as Bank capital adequacy ratios.If the capital fall below 5 % then bonds can be converted into stock and the capital can reach to 7%(just an simple example). Of course there is an incentive for bondholders to convert into shares, they receive more shares than the corresponding buying power of the bonds as in the normal times(as against in times of distress)
In their new paper Vermaelan and others propose a new security, the Call Option Enhanced Reverse Convertible (COERC). The security is a form of contingent capital, i.e. a bond that converts into equity when the market value of equity relative to debt falls below a certain trigger. The conversion price is set significantly below the trigger price and, at the same time, equity holders have the option to buy back the shares from the bondholders at the conversion price. Compared to other forms of contingent capital proposed in the literature, the COERC is less risky in a world where bank assets can experience sudden jumps. Moreover, the structure eliminates concerns about putting the company in a "death spiral" as a result of manipulation or panic. A bank that issues COERCs also has a smaller incentive to choose investments that are subject to large losses.
All this points out to a tricky territory for the investors. Also the strategies proposed above seem to be significantly tilted towards reducing the "areas of conflict" between bondholders and shareholders" Worth mentioning here is the pecking order theory at the time of financial distress. Also COERC and other Contingency convertibles offer companies an option to save themselves from financial distress by recapitalising through swapping of equity among two(main) principals .i.e. shareholders and bondholders.
Potash is not going down under to BHP, as of yet. The offer price of 130 a share was deemed too low by the board and they expect at least 160 offer to emerge from BHP. Analyst expect BHP to come up with a revised offer. Looks to be a another big acquisition story which will keep finance watchers on the hooks....
Link to the COERC article is here:
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1656994
(A video of Prof. Theo is available at http://www.cnbc.com/id/15840232/?video=1540724090&play=1)Basically it is call option that converts bonds into stock(or fresh equity) after breaching a specific trigger. This is specially useful in case of risky assets such as Bank capital adequacy ratios.If the capital fall below 5 % then bonds can be converted into stock and the capital can reach to 7%(just an simple example). Of course there is an incentive for bondholders to convert into shares, they receive more shares than the corresponding buying power of the bonds as in the normal times(as against in times of distress)
In their new paper Vermaelan and others propose a new security, the Call Option Enhanced Reverse Convertible (COERC). The security is a form of contingent capital, i.e. a bond that converts into equity when the market value of equity relative to debt falls below a certain trigger. The conversion price is set significantly below the trigger price and, at the same time, equity holders have the option to buy back the shares from the bondholders at the conversion price. Compared to other forms of contingent capital proposed in the literature, the COERC is less risky in a world where bank assets can experience sudden jumps. Moreover, the structure eliminates concerns about putting the company in a "death spiral" as a result of manipulation or panic. A bank that issues COERCs also has a smaller incentive to choose investments that are subject to large losses.
All this points out to a tricky territory for the investors. Also the strategies proposed above seem to be significantly tilted towards reducing the "areas of conflict" between bondholders and shareholders" Worth mentioning here is the pecking order theory at the time of financial distress. Also COERC and other Contingency convertibles offer companies an option to save themselves from financial distress by recapitalising through swapping of equity among two(main) principals .i.e. shareholders and bondholders.
Potash is not going down under to BHP, as of yet. The offer price of 130 a share was deemed too low by the board and they expect at least 160 offer to emerge from BHP. Analyst expect BHP to come up with a revised offer. Looks to be a another big acquisition story which will keep finance watchers on the hooks....
Link to the COERC article is here:
http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1656994
Tuesday, August 17, 2010
The commodities market, issue and MY project on commodities....
GRAPH showing change in US wheat prices.
This week the biggest topic in the commodities market is the escalating price of wheat.BHP Billitons bid for potash has shown their agriculture related ambitions. Sounds as a foray into agriculture, but looks related to core business since some of the raw materials used in agro fertilizer is mined as well. The adjoining figure shows the fluctuations in the wheat prices. The commodities market is indeed a complex market with lots of data related to price volatility, fluctuations, long term and short contracts and the different expectations of sellers and buyers with respect to the prices of their produce.
Fortunately since I have been working on a project that analyses the agricultural marketing system in India, it has offered me insights into the pricing issues related to commodities. I will discuss more on this in coming days.
Saturday, August 7, 2010
Selected News, bond yields, deflation and economy ...
Happened to read an article from a columnist in FT yesterday, It was about the negative returns for the US Treasury Inflation Protected securities,(TIPS). The whole point was who would be buying securities that are protected for inflations with negative "real" returns. A standard definition of TIPS would give this:
" TIPS are bonds issued by the US Government that guaranty you a fixed return (usually around 2%) PLUS whatever inflation (CPI) turns out to be each year. These bonds are one of the safest investments you can make because there is very little or no credit risk (issued by the US government), liquidity risk (TIPS are heavily traded), or inflation risk. These TIPS bonds adjust their principal value and payout twice a year to compensate for any inflation"
Along with this, the few of virtues of buys TIPS, include protection from inflation, and deflation, along with offering real yield diversification. But is this a real problem for investors? I think it is. the simple explanation for this is the fallacy involved in selling the TIPS. Even though inflation protected securities are marketed and widely seen as a tool against adverse inflation movements(from the point of hedging the inflation risk), it actually offers pretty much less fortification against deflation. Maybe this quote can explain it in a better way.
"Deflation remains a larger risk as long as interest rates remain near zero, the firm said. Although investors in conventional Treasuries are "protected" by the zero bound on nominal yields, investors in TIPS are exposed to a bit more risk due to the cash flows of such bonds declining in tune with deflation."
So the risk associated with TIPS isn't exactly related to deflation but rather sublimed due to the declining cash flows.
The events triggered by the TIPS saga has precipitated the movement of banks towards mortgage bonds over Treasuries for the prospect of higher yields.
I was thinking to write something about the economy this week, but it(the news) is full of usual stuff, Job losses, fears of deflation, and so on. I would prefer not to discuss the job losses figures, especially at a time, when I am hunting for a job!
Saturday, July 31, 2010
The field of Ethical finance
In this blog, I would like to share the recent developments in the ethical finance domain of the financial services. Ethical finance has been a hot topic for a considerable time now. My business school had a block module(an action packed one week course) on this topic. One of the highlights was the the role of ethics and values in finance. It is amazing that, most of the headlines in FT/WSJ are full of issues related to this field, albeit for the wrong reasons. The Goldman Sachs-Abacus issue related to John Paulson or the trader at Societe Generale,leaving aside the 'n' number of Ponzi schemes run under the name of secured portfolios.The latest being the case of Helmut Keiner, the german hedge fund manager who defrauded investors for £249 million. This case is turning into an ill thought script for a novel. The Ponzi schemes are actually the most convincing reason for the existence of Socially responsible investments.They bring the ethical question into critical focus.As they put their hard earned money into a fund, investors have an absolute and unquestionable right to know the nature of their portfolio.This is what is done by SRI's. In the same veins, the course of ethical finance has helped me to understand the tremendous size and scope of socially responsible funds and its wider implications. According to one estimate currently the $1.2 trillion of funds are managed by SRI's(Socially Responsible Investments) and this figure is increasing. The latest development in the SRI funds is to provide an opportunity to investors to "mix and match" companies or investment that are highly consonant with their individual values. For example investors can set filters for selection of companies, by preferring companies that pollute less, use better recycling systems or even address global poverty reduction issues. This model has been developed long back and has recently(not so recent though) picked up, from an unexpected quarter, the middle east, viz. Islamic finance. Wrapping up, the key emerging trends are related to,
1.I think the most important value that ethical finance has managed to address is: transparency. Since SRI's give an options to investors to filter out their selections they become more open and this reduces the chance of large scale fraud(read ponzi) by multiple factors.Funds that address this important value are more likely to fall under ethical ones rather than just complying the checklist for SRI guidelines and principles. So transparency+ Filter options = nearly ethical fund/investment
2. Tremendous opportunities to raise capital by tapping the SR investors. Once the company adhers to the value of its investors it can raise capital at favourable rates and terms.
Way to go in the future, but will it go this way lets see !
1.I think the most important value that ethical finance has managed to address is: transparency. Since SRI's give an options to investors to filter out their selections they become more open and this reduces the chance of large scale fraud(read ponzi) by multiple factors.Funds that address this important value are more likely to fall under ethical ones rather than just complying the checklist for SRI guidelines and principles. So transparency+ Filter options = nearly ethical fund/investment
2. Tremendous opportunities to raise capital by tapping the SR investors. Once the company adhers to the value of its investors it can raise capital at favourable rates and terms.
Way to go in the future, but will it go this way lets see !
Wednesday, July 28, 2010
The Hedge Fund Industry: Renaissance Funds
"Does Renaissance Technologies — arguably the most successful hedge fund in the history of the world — know why it makes as much money as it does? A couple of weeks ago, I thought that it did, after reading a piece about RenTech’s Robert Frey in the FT. One of the fund’s four principles, he said, was rationality – “it can’t just be statistically valid”. You have to employ reason to identify a statistically significant but spurious pattern — which meant, I thought, that RenTech had a common-sense test: it wouldn’t enter into a strategy without having some kind of grip on why that strategy should work"
There's a lot of talk about Ren Tech these days, and it seems that experts want to crack the "genetic code" for its fabulous run so far.
"It’s weird, but if you believe Mallaby and Mercer, it’s true: somehow RenTech discovered a secret formula for making money. Follow the rules it spits out, and you’ll be rich, even though the formula makes no visible sense at all."
Correlation, Strategy, Luck, data mining, algorithm(google type), or maybe simply a mixture of all these things! The best part of blogging, and not being a expert is, to make some extraordinary guesses, wild guesses or maybe true sometimes.So what is the reason for Ren Tech's accurate calls(and puts) ? My guess is they use extensive correlation algorithms which are refreshed as in google periodically and they are more dependent on speciality indices, where the patterns are easy to analyse. But the essential crux is between aligning the correlations, patterns with the risk return strategy. By this I mean, only the returns for Ren Tech are consistently mentioned and analysed by the news experts. What about the risk? The level of risks involved, the internal thresholds of risk taking and management are the key factors which differentiate Ren Tech from the pack.That's just a naive guess !
A few good reasons to work in Financial Services Industry this month(and many more..)
- Came across a news in FT (date 26 July), the city added 1700 new jobs in June. and nearly all in the Financial services. The three biggest job creators were US, China and India.
- The continuing movement of banks from non banking activities (Barclays- Blackrock merger) will provide a rising degree of stability to the industry, may be this activity will be accelerated after the results of "stress tests" across Europe. Just saw the stress test graph and could not stop wondering about the number of German Banks hovering around the baseline capitalisation rate of 6.2%, All this is a precursor, to the exciting times for the financial services in the near future. An overhaul is round the corner..
Finally some good links I have come across that explains the success of Renaissance funds, maybe people already know the secret behind renaissance funds, its quite obvious, to be true. One good paper to know more(recommended by a friend) is
'When There is No Place to Hide' - Correlation Risk and the Cross-Section of Hedge Fund Returns by Buraschi, Kosowski et al.
Can be found at: http://papers.ssrn.com/sol3/papers.cfm?abstract_id=1639984
Bye for now !
Sunday, July 25, 2010
Developments in Financial Services Industry:Exciting times for a career opportunities
Robert E. Diamond Jr., the president of Barclays, has a lot to say about bank bailouts, stress tests and executive bonuses.
The bank has weathered the financial crisis far better than its competitors, staying profitable during the crisis and even picking up Lehman Brothers’ lucrative North American operations. Mr. Diamond told the Fox Business Network on Friday that he was a supporter of the financial regulatory overhaul and that it would help end “too big to fail.”
The comments above show the opportunities that bigger banks such as Barclays see in the post-regulation era. Now that the banks have accepted that regulation is "très important à l'avenir" its going to dominate the scenario on the banking domain in coming years.
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