Economically speaking, we are currently in a world which seems to be filled with "macro" risks. These are broad, global risks which have the potential to seriously inhibit economic growth
1) Bad Sovereign Debt Dynamics in the US, Europe, Japan, UK, India & to some extent China
2) Increasing Monetary Debasement/Credit Expansion, led by the US & China and followed to a lesser extent by a number of regions, including the UK, Europe & Japan
3) Geopolitical Conflicts: These are most visible current in the Middle East & North Africa region. However there are a number of potential hotspots, such as Pakistan
4) Political Instability: Europe is unable to speak with one voice. The Indian government is unable to move forward with reforms because of corruption scandals. The US plays a game of brinkmanship in fiscal consolidation. China is poised for transition to the next rung of leadership in 2012. Japan has a new Prime Minister every year!
5) Resource Crunch?: Marginal costs of extracting natural resources have been increasing. Demand-supply cushions have reduced across commodities. There is a real danger of commodity supply proving increasingly inadequate to satisfy the needs of the world's population. The only reason I have put a question mark is because (to me at least) the medium term global demand for commodities is not fully clear, particularly when the impact of the risk factors mentioned above is neither fully know, nor fully factored in.
What the combination of these macro risk factors does is that it creates an environment wherein the set of possible global economic outcomes cannot even be fully articulated, much less modelled and estimated.
In such an environment, it becomes tougher to conduct business. It becomes tougher to invest. Projections based on past data will not suffice. Past correlations cannot be taken for granted.
While no business or investment shall be completely invulnerable to these macro risks, there will be businesses which are more susceptible, and those which are less susceptible. The trick is to be able to identify them. In abstract terms, the qualities of such businesses would be as follows:
1) Visibility of Demand / Cash Flows
Every bubble that the world has seen - think IT, US Housing, Chinese Real Estate - has had certain common features. These include the use of cheap short-term funds for investing in a "compelling long-term growth story" without the clear visibility of demand / cash flows from that business. Such a story has always ended in pain and misery. The first starting point for any business in the current macro environment should be visibility of demand. Entrepreneurs will find it difficult to flourish, though there will always be geniuses who manage to make a mark.
2) Tight Supply
It is obviously helpful if the goods sold by the business have tight supply fundamentals relative to demand. A shining example (so far) has been the Commodities sector.
3) Integration With Raw Material Supply
In a world which is facing weaker demand for low-margin finished goods, the profit margins of companies which process raw materials get squeezed particularly when raw material costs are higher due to supply constraints & higher marginal costs. Thus, true value will be created only by the lowest cost manufacturers which have backward supply linkagers.
4) Less Government / Policy Dependence
There are industries which are highly vulnerable to Government decision-making. The nuclear power industry in India is one such example. If the political & policy-making environment is not conducive then such industries will go belly-up when push comes to shove. Of course, the amount of control that the Government or Regulators exercise over industries is itself a variable that needs to be monitored. A classic example is the Indian Banking Treasury space wherein the Regulator through continual (& somewhat unexpected) tightening has drastically reduced the scope for business.
5) Global Diversification
This is a bit of a double-edged sword. Global diversification, when it reduces the correlations between various facets of the business, is a good thing. When it maintains or amplifies the correlations, however, it is a bad thing. It is not enough to say that a business is global and be happy. The extent of correlations needs to be considered. For example, a globalized Bank is much more vulnerable in the event of a global downturn than is a a global Consumer Products company.
1) Bad Sovereign Debt Dynamics in the US, Europe, Japan, UK, India & to some extent China
2) Increasing Monetary Debasement/Credit Expansion, led by the US & China and followed to a lesser extent by a number of regions, including the UK, Europe & Japan
3) Geopolitical Conflicts: These are most visible current in the Middle East & North Africa region. However there are a number of potential hotspots, such as Pakistan
4) Political Instability: Europe is unable to speak with one voice. The Indian government is unable to move forward with reforms because of corruption scandals. The US plays a game of brinkmanship in fiscal consolidation. China is poised for transition to the next rung of leadership in 2012. Japan has a new Prime Minister every year!
5) Resource Crunch?: Marginal costs of extracting natural resources have been increasing. Demand-supply cushions have reduced across commodities. There is a real danger of commodity supply proving increasingly inadequate to satisfy the needs of the world's population. The only reason I have put a question mark is because (to me at least) the medium term global demand for commodities is not fully clear, particularly when the impact of the risk factors mentioned above is neither fully know, nor fully factored in.
What the combination of these macro risk factors does is that it creates an environment wherein the set of possible global economic outcomes cannot even be fully articulated, much less modelled and estimated.
In such an environment, it becomes tougher to conduct business. It becomes tougher to invest. Projections based on past data will not suffice. Past correlations cannot be taken for granted.
While no business or investment shall be completely invulnerable to these macro risks, there will be businesses which are more susceptible, and those which are less susceptible. The trick is to be able to identify them. In abstract terms, the qualities of such businesses would be as follows:
1) Visibility of Demand / Cash Flows
Every bubble that the world has seen - think IT, US Housing, Chinese Real Estate - has had certain common features. These include the use of cheap short-term funds for investing in a "compelling long-term growth story" without the clear visibility of demand / cash flows from that business. Such a story has always ended in pain and misery. The first starting point for any business in the current macro environment should be visibility of demand. Entrepreneurs will find it difficult to flourish, though there will always be geniuses who manage to make a mark.
2) Tight Supply
It is obviously helpful if the goods sold by the business have tight supply fundamentals relative to demand. A shining example (so far) has been the Commodities sector.
3) Integration With Raw Material Supply
In a world which is facing weaker demand for low-margin finished goods, the profit margins of companies which process raw materials get squeezed particularly when raw material costs are higher due to supply constraints & higher marginal costs. Thus, true value will be created only by the lowest cost manufacturers which have backward supply linkagers.
4) Less Government / Policy Dependence
There are industries which are highly vulnerable to Government decision-making. The nuclear power industry in India is one such example. If the political & policy-making environment is not conducive then such industries will go belly-up when push comes to shove. Of course, the amount of control that the Government or Regulators exercise over industries is itself a variable that needs to be monitored. A classic example is the Indian Banking Treasury space wherein the Regulator through continual (& somewhat unexpected) tightening has drastically reduced the scope for business.
5) Global Diversification
This is a bit of a double-edged sword. Global diversification, when it reduces the correlations between various facets of the business, is a good thing. When it maintains or amplifies the correlations, however, it is a bad thing. It is not enough to say that a business is global and be happy. The extent of correlations needs to be considered. For example, a globalized Bank is much more vulnerable in the event of a global downturn than is a a global Consumer Products company.
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