Friday, July 13

Value Investing in uncertain times


This summary analyses the effectiveness of investor tools, support services, methodologies and hedging strategies to facilitate wise investing in today’s volatile market. The outline will have particular appeal to direct investors in the stock market or other asset classes and for those either managing or contemplating managing their own super fund or investment portfolio. Topics include valuing listed entities, other asset classes combed and evaluating research sources. There is an underlying theme to sage investing since the same methodologies can be applied to most asset classes. Many come under the heading of uncommon common sense whilst some aspects will have more of an appeal to those who like to do a lot of analysis. Either way my aim is to be sufficiently broad so that it’s helpful to a wide range of investors albeit there is more emphasis on equities.

However it is important to note this summary is very general in nature since one cannot know or take into account individual circumstances. If necessary, anyone contemplating any form of investment should consult a licensed professional who will be able to take into consideration individual circumstances and investor risk profile.
A lot is made about philosophy and the link to the humanities claiming it has nothing to do with business or investing.  But the broader definition of philosophy is – “A set of ideas or beliefs relating to a particular field or activity; an underlying theory”. That is what I propose to pursue with this summary on the basis that value investing is a theory that believes prices will ultimately always follow value    
 The equity market in Australia

When you acquire shares you become part owner in a business not a market.  

By the equity market we are talking about owning shares. It’s important to note at the outset that when you acquire shares in a company you become the part owner of that company to share in the profits from dividends and increases or decreases in the share price. Hence you own a share of that business and not a share of an equity market since ultimately future values are dependent upon the individual returns.

Equity market

The overall market is rarely in a consolidation phase but rather long periods of the so called bull market (sentiment is   optimistic) are punctuated by bear periods where doom and gloom depress prices. But regardless of the cycle there will always be good underlying businesses for the patient investor. Of course, one could opt to simply invest in an indexed fund which mirrors the index, but the objective of value investing is to achieve superior returns to the index.   
The average bear market in Australia since WW2 has lasted about 5 years as we enter our fourth year in what could be described as a bear market stock prices have fluctuated within in a band up to 40% below 2007 highs. No one can say for sure when their will be a recovery accepting for certain there will be one eventually- with a rebound of renewed optimism.  Even so, some sectors are struggling sectors continue to be plagued by downgrades.     

On a more negative tone markets could stay stuck in this band as a consequence of continuing shocks from abroad for many more years to come.    

2.00 -A conservative approach underlies value investing

2.1 Keep enough in reserves to avoid forced selling  

A good starting point is to ensure one remains in a strong position 
and avoids any forced selling at temporarily depressed prices. 

Ideally you aim to be on the other side of the transaction as the 
astute investor investing in undervalued stocks. Ultimately prices 
always catch up with value – but not always in logical sequence so that the market prices will continually overshoot or undershoot fundamental values. This applies equally to other asset classes and especially to property when one wants to avoid the spectacle of the “liquidation sale”:      

Individual circumstances will vary but assuming you’re already in 
receipt of an income stream it’s a good idea to have sufficient cash or liquid assets to be able to draw on these reserves if necessary during any unexpected prolonged downturn.  This goes to the heart of good investing - buy when sentiment is low at depressed prices to unlock outstanding value but don’t be afraid to offload at the other end of the spectrum when they overshoot.  Always have enough in reserve to allow you to adopt this conservative stance. 

2.2 -The dangers of gearing (borrowings)   
Excessive gearing was possibly the single most important feature that helped bring on the onset of the global financial crisis and when you added this to trading in leveraged derivatives the explosive mix brought about counterparties going into bankruptcy. Gearing (borrowing to buy securities) or buying into products which are already geared magnifies the losses as well as the gains. Be careful you understand what products do and make a distinction between investing and speculating.

Generally speaking in Australia gearing is prohibited within you self managed super fund to buy securities except for installment warrants. An installment warrant is a derivative and when purchasing warrants whose underlying security is shares you receive all the dividends as if you owned the securities. Installment warrants are issued by Investment Banks who purchase the underlining security, which is held in trust for you until such time, at your option, you purchase the security by paying the final installment at the expiry date.  Warrants are essentially the equivalent of a loan to buy shares, upon which you pay an initial installment and the balance at your option at expiry. The Investment bank issuing the warrants recovers their interest margin and protection costs within the issuance cost for the warrants.  Buying a warrant does not afford you any form of protection that can apply to other forms of derivatives. You cannot write options over warrants but you can buy and trade put (option to sell) and call (options to purchase) warrant options.      

3.00 -Valuing a listed security

3.1 Introduction

Value investing implies choices based upon a value criteria- to determine a risk reward margin and the selection process to identify those reaching this hurdle. In Australia where we have about 1800 listed securities its apparent we are going to need some form of supportive research.            


The risk reward margin is the level of return one would expect over non risky alternatives such as government guaranteed deposits or government bonds.  But before any consideration is given to entities that qualify one needs to weed out any securities considered an unacceptable risk. The degree of comfort an investor wishes to impose will vary – but excessive debts levels, a management or director record of poor governance, industries considered unethical or unsustainable have added elements of risk.  On the positive side entities with a low level of debt and prior good track records for earnings able to fund growth and pay dividends might pass our filters.     

Having eliminated those of unacceptable risks one needs to set a minimum return. There will ways be turnaround stories and start ups with current poor returns.  But given a choice, it’s less risky to invest in an entity that has already a proven track record with equaling appealing future prospects and sound governance.         

The investors expected rate of return is a subjective decision but generally a useful guide is around the 10- 12% mark which is the so called cost of capital. In other words this is the minimum return investors seek under new issuances based on the risk reward scenario.  For the sake of the exercise I will use the figure of ten percent.

In determining value an analyst would typically discount expected future returns using the discounted cash flow method which is in effect compound interest in reverse – in this case using the 10 % discount rate as a reference point.  But to initially illustrate my point I will revert to the more easily understood concept of the commonly used price earnings ratio- the multiple that earnings represent to its share price. Let us assume we are confident this current rate after will continue in the future in the examples provided in our table.   

An illustrative table below indicates preferences for A over B whilst C fails our criteria.     

Table 1
Share price

Another easily calculable methodology is to value an entities capital per share on the basis of that expected rate of return.  

All that is needed is to know the total number of shares on issue, shareholders funds and the profit after tax expressed as a percentage of shareholders funds. All of these figures are usually widely available and included in annual reports. The capital per share is a calculation as the total of shareholders funds divided by the average number of shares on issue and multiplied by a factor to find our value.      

The actual securities price then can be compared with this valuation based on this factor where 1.00 equals 10% as our benchmark. If it was 12% then a return of 12% would represent the benchmark factor of 1 and so on.  So if the return is 15% the factor on a benchmark of 10% is 1.5 and so on.

You discard any entities that earn less than 10% or those whose price includes a greater factor that your valuation.  In other words the share price multiple is too high to ensure you’re able to achieve your ten percent return on your outlay.             

An illustrative example is as follows which indicates D meets our criteria whilst E and F on face value fail   :
Table 2

Capital per security 
Stock Price 

3.3 Dividend yield and effect of undistributed profits on valuations 

In the earlier tables we have assumed all of the profits after tax have been paid out in dividends which are clearly rarely the case. In the example provided  in  table 1 if half of the earnings were paid out in dividends a dividend yield would be half the earning rate to yield a dividend rate of either 5.7%, 5.5 % and 3.7% respectively for A, B and C but increasing to 8.1%, 7.8%  and 5.4%  if 100 % franking was available. The important point to note is under examples an A and B we have a grossed up dividend yield that already gives us around 8% and there remains undistributed profits to build up further incremental value so long as those returns can be maintained.
This is because the remaining funds in the business (those not paid out in dividends) are earning at a rate that exceeds your benchmark to justify you paying a higher multiple than was illustrated in the previous examples.    
This obviously only applies where your benchmark rate is exceeded – in this case 10%. 
It is crucial to understand the concept of value and to be able to determine the merits or otherwise of securities that will potentially make up your underlying investments.  An excellent source for further reading is Roger Montgomery s book entitled “Value able” - second edition. Roger also provides an on line facility called Skaffold ( click here to visit) which covers all Australian listed entities with pertinent information inclusive of an assessment of their intrinsic value.
Roger's book can be purchased by clicking here.    
He's also on facebook at His facebook also has an events section which covers all the tv and radio appearances.
Roger is also speaking at the Trading and Investing Expo, find the webpage by clicking here.  

3.4 Property

The Australian property market is made up of many different 
markets and the sage investor will apply the same principles to 
determining value as was illustrated for securities. What is apparent 
is there is no such thing as bargains since properties are usually 
widely advertised and recent prices are easily ascertained from 
recent history. The idea you can pick up bargains that no one else 
wants is a hope and not a strategy.   
The first point to make is that to achieve value an investment 
property will need to have both a good rental yield and a healthy 
future capital gain. In determining likely future appreciation in rents 
and values the investor will need to impose criteria and rule out 
unacceptable risks. Boxes that might need to be ticked could 
include such things as the proximity to public transport, educational 
and health facilities, median income level, the attitude of councils 
to planning and growth, employment opportunities and whether or 
not the region is supported by growth industries to underpin future 
value.  One needs to determine the key market drivers to future 
value which underpin renter appeal and support growth in prices.

3.5 Interest bearing securities
Interest rate security pays either a fixed or a floating rate of return 
either as interest or dividends.
This class of security has increased in value as larger corporates 
have become more dependent on the debt market to raise capital to 
fund their operations. The debt market comprises of both senior and 
subordinated notes and for those prepared to take on an element of 
risk corporate bonds offer attractive income opportunities with 
recent issuances carrying rates in excess of 7%. Typically they will 
offer low volatility with the prospect of modest capital appreciation 
in any period where we are likely to see declining interest rates.  
The hybrid market as the name suggests are in effect an interest 
bearing security which exhibits both the characteristics of equity 
and of a bond. Hence Preference shares are hybrids which rank 
ahead of ordinary equities but pay dividends and will be redeemed 
at their face value at some future time.
Convertible notes on the other hand are convertible at a future 
point of time into equity but during their issuance period pay an 
interest rate like a bond.  

When assessing these issuances ones need to do the same valuation 
as investing in equities to identify strong financials which underpins 
their value.  

3.6 Other assets classes

 Hedge Funds 
Hedge funds have captured investor interest due to the relatively poor returns over the past few years but little is known about their activities as you can’t be sure about what trades they have entered into. There is no definition of a Hedge Fund which may use both leverage and derivatives to magnify returns regardless of whether or not the market is up or down. However some will also aim to both hedge individual stock exposures and reduce volatility. 

Typically they will have clients from institutions and high net worth individuals.

Hedge funds attempt to earn absolute returns of 15% or more by 
uncovering miss pricing and unlocking value through quality 
research. They don’t provide the certainty of regular income which 
may be important for many investors.

However many of the tools available to the Hedge Fund Manager 
can be accessed by the value investor even adopting a conservative 
approach. Derivative can provide modest hedging and additional 
income and let me provide a number of risk minimization strategies 
and their solutions:

Alternative Investments - Derivative Securities

What is a Derivative?

A financial instrument derived from the value of an underlying security. An examples of derivatives include options. 
An option can be sold by one party to another offering the holder the right, but not the obligation, to buy (call) or sell (put) a security at the strike price at future date.

Buying Options
Options are called either putts or calls. When you purchase an option, you pay a premium to the option writer. Options are complex securities that can carry significant risks.
Buying a call gives you the right to buy a stock from the writer at a specific price during a specific period of time, while buying a put gives you the right to sell the stock to the writer.

You would purchase a call if you expect the market price of the 
stock to rise and purchase a put if you expect the price to fall. 
Hence a call is similar to a long position in a stock, increasing in 
value as the stock's price rises. A put is similar to a short position 

that gains value as the stock's price declines.

Selling Options
The motivation to sell (write) options is to earn a premium. Most investors who sell options hope the purchaser will not exercise those rights. The safest form of option writing is via  a covered call because the worst outcome would be to have shares already owned called away. A much riskier choice is selling naked options.

A naked option is an option for which the buyer or seller has no underlying position in the stock. A writer of a naked call option does not own the stock on which the call has been written. Therefore, if the stock rises and the holder of the call decides to exercise the option, the writer of the naked call will have to
buy the stock at the higher price and sell it at a loss to the option holder.
Using derivatives to help protect portfolio and earn additional income.
Hence options are derivative and can be used for a variety of purposes. They can be used as a Hedging instrument and to earn additional income from your share portfolio. 

As a hedging instrument

Buying an American style put option (an option to sell) over a security or index gives you the options (but not the obligation) during the period of the option to exercise the option if the price falls below at agreed strike price in consideration of the premium paid.

Writing covered calls   

Call options are options to purchase at an agreed future price (strike price). The term covered calls is commonly used to describe an option writer and seller of a call who also owns the stock. Writing covered call generates income     

Before using options it highly advisable you undertake an educational course so you know what you are doing.      

  4.00 Research sources   

By now it’s become apparent one needs support to be able to undertake the analysis to determine value.      
Continued consolidation in Australia of financial services has reduced the numbers of independent research firms,   advisors and brokerages who are now more likely to be aligned to major financial institutions adding to the risk they aren’t always responsive to a client’s interests. Apart from that, brokers, financial advisors and analysts livelihood is dependent upon finding reasons to buy or sell when sometimes the best decision investment decision is the one not made at that time. Nevertheless there are a number of independent and well researched advisory groups and software available.

There is such a wide spectrum of opportunities one would be reluctant to make any recommendations.   

There are a number of sources which can arise from the more 
sophiscated credit scoring platforms, the research arms of 
independent brokers and from financial planners or other sources 
which match your investment philosophy. 

5.00 Diversification – helpful or a distraction? 

A great deal of attention today is given to the value of 
diversification to counteract volatility and create the notion that if 
you spread your wings you’re buying protection. But if you’re 
struggling to assess values in one asset class adding in new 
unfamiliar ones won’t help you one iota. Diversification in itself is 
not a panacea to reducing risk. But understanding the inherent risks 
and being able to value a security will enable you to do this.

The best person to look after your investments is you – but you need to be passionate and do a lot of homework. 
Realizing  you can’t do it all yourself you also need to find trusted sources of support

Thursday, July 5

Letters to the Editor updated

Below are my published " Letters to the Editor "  which appeared in the Australian Financial Review- several featured cartoons composed by their resident cartoonist are now included.  
Capital needs to flow back into Europe 
Robert Guy, in his article “G20 row over euro debt crisis” (AFR June 20), highlights growing tensions that haunt global markets.
Underlining these tensions is the flight to safety of capital flows ending up in the stronger European states or the US. But if European austerity measures are to have any chance of success, disadvantaged states such as Spain and Italy must have access to funds at comparable rates to other states, and be able to initiate stimulatory investments from the savings derived from austerity measures.
Italian Prime Minister Mario Monti makes the point that no one believes Europe was “the only source of the problem”.
The source of the problem is a lack of investment and fiscal stimulus, which applies to those voicing the heaviest criticism of Europe, the US and Britain, which remain reliant on their respective central banks to do all of their heavy lifting. No serious attempt has been made to identify any long-term budgetary savings as a source of funds for much-needed immediate investment expenditure to boost confidence both sides of the Atlantic. 
The current position is indicative of an absence of political leadership and is increasingly a source of frustration to central bankers running out of options to keep their respective fragile economies afloat.
Given decisive leadership combined with new investment spending, weaker European member states could again grow sufficiently to reduce their current crippling unemployment.

Australia better prepared than in 2008
Alan Mitchell’s article  (AFR, June 18) warns of possibly six months’ misery for Australia should Greece eventually exit the euro.
Mitchell draws on HSBC Hong Kong economist Frederick Neumann who posits that a Greek exit would precipitate “a full-blown credit crunch on a scale that would make 2008 seem mild (with the) European economy falling into a deep recession”, and this would have dire consequences for our region. However, since the onset of the 2008 global financial crisis, Australia’s position is a far cry from to what existed then as our banks are now far less reliant on short-term overseas wholesale bank funding.
The banks’ loan books have on average 4½ years until maturity and, combined with massive capital injections, mean any bond issuances rate highly with investors should additional funds be required.
But at present they already have sufficient funding to cover the next six months, assisted by a surge in customer deposits reflective of our high national savings rates – at 9.5per cent of disposable income the highest in 30 years.
Should Europe enter a prolonged and deep recession, have no doubt our Reserve Bank also has the capacity to engage in quantitative easing to ensure increased funding is made available to the financial services sector.
Australia is now very well placed to actively deploy her very substantial defences against any future global

Importance of  Greece overstated
You would be forgiven for thinking Greece must be our major trading partner given the elongated Greek 
crisis has become a proxy to explain away sharp falls on our stockmarket. Our trading with Greece is negligible but if she was to exit from the euro zone a devaluation of her currency followed by an appreciation of the euro would boost our revenues from the region as our exports would be more competitive. The risk of contagion to Portugal and Spain is minimal as there exists ample monetary facilities within the euro zone (of half a billion people) to accommodate any credit fallout. The euro zone has managed to avoid a recession unlike that of the United Kingdom. Those who argue the euro is destroying employment and preventing member countries like Greece from competing because of their inability to devalue a currency ignore recent political history.
Greece’s economic woes of higher unemployment and falling gross national product followed on after the 2007 election when the New Democracy Party managed only a very narrow majority whilst the left significantly increased their standing.

The market fears that the June re-elections will have a similar result and should Greece leave the euro zone it will cause untold havoc. 
This is an exaggeration since we depend, as does any country, on both good governance and the continuing ability to create wealth before you can spend it. 

Victoria counts on illusory surplus 
In “Case of the $129m health bill” (May 14) Mathew Dunckley points out that making up $100 million of this year’s promised Victorian budget surplus under “other revenue” buried at the back of the budget papers is a transfer of medical indemnity liabilities to the Victorian Managed Insurance Authority.

Although the state technically correctly treats this transfer out of liabilities as creating a surplus under accrual accounting, this is only because the accounts for the VMIA are not included in the budget papers. Rather, under the Whole of Government Accounts consolidation the position is clear – the gain to the Department of Health transferring out these liabilities is matched by the same amount transferred in to the VMIA for a zero overall effect. So it is illusory to count on this reduction in liabilities in only one set of books as representative of funds that contribute to an overall surplus. 

The transfer does not create revenue or income available to pay for services. Finance Minister Robert Clark was reported as saying “the final wash-up is that the bottom line is more than $100 million better off because it no longer has to worry about the misdeeds of doctors stretching back a decade”. Presumably the fine line of distinction he refers to is that VMIA, not the Department of Health, now has to worry about that.

JP Morgan makes mockery of Fed 

The latest revelation is that it has managed to lose $US2 billion in risky synthetic credit securities which turned sour eclipses any notion they are following reasonable banking practices and makes a mockery of the recent stress testing of financial institutions by the United States Federal Reserve.

These tycoons of industry who are paid a fortune to run these institutions obviously pay scant regard for shareholders’ funds which are used as gambling chips to make for huge trading bets. JPMorgan obviously has not learnt from past mistakes and reports have recently emerged of renewed in-house proprietary trading (making risky greedy induced trading bets) by other institutions which are unconnected to traditional banking services.

Regulators are dragging their feet in outlawing in-house proprietary trading which is at the expense of critical business lending and banking services in demand during this elongated period of aftershocks following the global financial crisis.

Regulators need to be more proactive and have a quiet word in the ear of the chiefs at the same time as a closer look at the books – the shame game will soon catch on to ensure the banking sector acts in a much more responsible manner.

Thankfully both the Australian Securities and Investments Commission and the Australian Prudential Regulation Authority seem to be more on the ball, but it is a salutary lesson as to how easily these giant institutions can completely go off the rails and cause confidence in the banking system to dissipate.

Ideology gone astray
When Conservative Prime Minister David Cameron came to power in England in May 2010, he said you could eliminate the budget deficit and still expand the economy, but given the last two consecutive quarterly contractions one can now say England is officially in a nasty recession.
Cameron’s simplistic approach seems to have gained resonance in Australia on both side of politics given the obsession to achieve a surplus. The point that recurrent entitlements and consumption expenditure should be matched by revenue does not negate investment expenditure funded from borrowings providing enhanced returns are assured in future years.
This is needed in the non-mining sector of the economy to help stimulate demand and would not lead to inflation. The unveiling of the budget did little to address this situation, nor is recognised in any policy from the opposition. 

Will misses target
Washington Post columnist George Will, in “The right man for Romney” (Opinion, April 10), never strays too close to anything remotely resembling a policy debate.
As an erudite writer, Will’s unashamedly pro-conservative perspective is simply dripping in contempt for the present administration in the United States. He contends that President Obama’s often breezy and “sometimes loutish indifference to truth should no longer startle” and he asserts Obama is “not nearly as well educated as many thought and he thinks”. 
Will names Paul Ryan and Bobby Jindal as two possible Republican running mates for Mitt Romney as those with the intellectual firepower to counter Obama’s not so smart approach. 
Ryan he describes as “no one more marinated in the facts to which Obama is averse’’. 
Will is long on emotive phraseology and very short on specifics, a good indication as to just how limited the debate is on any serious policy alternatives in the US presidential race

Security overkill with Huawei

Local Huawei chairmen John Lord is justified in rejecting the assertion that a security risk justifies exclusion of the local arm of the telco giant, the second-largest supplier of telecom infrastructure in the world, in the building of the $36 billion national broadband network (“Huawei: “We’re no risk”, March 27).

Huawei has more than 100,000 employees with nearly half employed in research and development in Germany, India, Russia, Sweden and the United States. Their network extends to over 100 countries including most of the world’s 50 largest telecoms. 
ASIO, of course, doesn’t have to justify its position to the public nor has our Prime Minister in her muted response “it’s prudent”. But with a project of this size one might reasonably ask why security safeguards and undertakings for all contractors aren’t already sufficiently robust to afford security protection. 
Perhaps we should also ban US companies on the basis that more US military involvement here poses a national security risk bearing in mind the ease with which their own top secrets were posted for all to see on the Wikileaks website.It doesn’t seem as if we have travelled too far forward from the time when the headlines screamed "Reds Under the Bed "!!.

Aboriginal claims in Twiggy case
Jonathan Barrett’s exclusive “Twiggy’s land grab ” (March 17-18) reports an investigation by AFR which has found the iron ore heavyweight Andrew Forrest, founder of Fortescue Metals Group, to be the main culprit of an industry wide practice known as “tenement parking”: whereby miners purposely keep their exploration from being granted until they are inclined to explore the land.
It also mentions a legal challenge by Forrest & Forrest against Fortescue in relation to mining tenancies over the Forrest-owned Minderoo station with a possible inference this action represents a stalling tactic. But what is not reported is Minderoo station is already subject to a native title agreement with the Buurabalayji Thalanyji Aboriginal Corporation for access and rights under the current pastoral leases. It seems likely future protracted negotiations to allow exploration activities at Minderoo now owned by a private company with shares held by both Andrew and his brother David Forrest may be the subject of this legal challenge. What is also not reported in the article is the delay in exploration activity as a consequence of objections under the National Native Title Tribunal by indigenous groups objecting against expedited procedures in the granting of mineral tenements.
For a cash-strapped WA state government to sit back and allow companies such as Forstescue to stall on exploration outside of given timelines to avoid paying rents seems somewhat implausible. 

Baillieu’s WorkCover grab
James MacKenzie, chairman of the Transport Accident Commission and Victorian WorkCover Authority, reaches the inescapable conclusion that a state government’s decision to impose a dividend on the workers’ compensation and work safe authorities is akin to simply another tax on employers (“Baillieu raid threatens WorkSafe’s full funding”, Opinion, February 28).

The Baillieu government has taken just this course in its move to take $471 million in additional dividends from the WorkCover Authority. I can remember the previous mess for workers’ compensation in the state several decades earlier, before the present reform when employers faced crippling premium rates as high as 8 per cent of wages as a consequence of large payouts under common law underwritten by a number of private insurers. Fortunately today, after much needed reform, we now benefit from the lowest rates in Australia.

But as MacKenzie correctly points out, these are now at risk if the government decides on a policy of dividend imposition that can only be recovered in increased premiums from employers. Hiding behind this ideological bent to pay a dividend should be seen for what it is – an additional premium increase on employers for no reason other than to boost the Treasury coffers and give the appearance of good economic management. 

Resources future assured

Stephen Wyatt’s “Boom glory days drawing to a close” (Commodities observed, February 23) continues his theme that prices beginning in 2013 will suffer severe falls and put pressure on the share prices of BHP Billiton, Rio Tinto and Fortescue Metals.

Forecasting one year ahead is difficult enough, but predicting a 50 per cent reduction in the iron ore price over the next three years, as Wyatt does, even when quoting commodity analysts, is implausible.
Wyatt fails to acknowledge that in India and China, softer future steel-making demand for construction (and hence iron ore demand) may be more than offset by robust growth in the consumption-related sectors such as machinery and transportation.
This is a natural progression for these developing economies fuelled by demand from a burgeoning middle class and echoes China’s latest five-year plan.
China is aiming at reducing its reliance on exports and investment to be more reliant on local consumption to sustain its economy.
If there is going to be any slowing in demand in commodities then a more likely outcome is a gradual decline but anyone predicting further massive falls is foolhardy. The dynamism of developing economies and their ability to sustain demand for resources over the next several decades should not be underestimated.

Hewson’s bank bashing unfair
John Hewson’s “Greedy banks cry foul” (Opinion, February 3) is another example of bank bashing lacking substance. I am intrigued by his idea that banks operate in a privileged position as a virtual oligopoly and are greedy.
Bank returns for the four majors vary from around 13 to 17 per cent on shareholders’ funds, with the top notch going to Commonwealth Bank of Australia and with each having a very distinctive customer base.
Many listed Australian icons easily exceed this return such as Telstra at 26 per cent, Woolworths 28 per cent and BHP Billiton 38 per cent. Given the cost of capital is 12 per cent, the banks’ average returns of 15 per cent can hardly be viewed as excessive. In fact our banking industry is extremely competitive, as evidenced by the string of foreign banks that closed their local operations unable to realise commercial returns.
Thankfully we have a strong industry, which did not succumb to the overtures by foreign banks to engage in the sub-prime securities and derivatives market that caused banking giants in the United States and Europe to need huge publicly funded bailouts to remain solvent.
The only reason banks have to seek wholesale funding overseas at higher interest rates is because their local depositor base here is insufficient. Hewson and the flurry of bank bashers only serve to undermine what is needed: a strong, healthy, profitable, competitive banking sector which is critical at a time when overseas credit markets remain constrained.

Asia resilient on Indian demand

Stephen Wyatt’s gloomy assessment on commodities “China props up shaky demand” (January 30) notes that while China remains the elephant in the room, it is not the only game in town.
Wyatt fails to mention some of the supply restraints emerging or that other resilient markets such as India and those in our Asian region can and are leading the way in a revival in construction projects whose increased demand for steel will lead to an increase, for instance, of iron ore consumption.
In fact, India’s consumption of iron ore is rising at a time in which it is reversing its position from self-sufficiency to a major importer since the government took action against illegal miners.
Further supply constraints are arising from Brazil, whose mines were recently affected by the very heavy rains.
Depressed levels in the euro zone and the United States are unlikely to get much worse so that overall, even if there was curtailment in China’s appetite, the slack might be offset by demand elsewhere combined with emerging supply restraints.