FIRST GLOBAL

For Private Circulation only

The Azhar Syndrome

The Occasional that talks sense... most of the time
(March 12, 2009)
By: Le Grand Fromage
Email: legrandfromage@fglobal.com

Sometimes we get what we wish for, and then we get the rest of our lives to repent.

This is precisely what has happened to India.

This country has craved a bull market since the day a few Gujus got together and formed the
Bombay Stock Exchange under a tree (actually, that’s probably a charitable description. More likely,
they formed it in a slum). Since then, this country has lived on in the hope that it will get a secular
bull market, akin to what the US got between 1982 and 2000. And intermittently, it did get bull
markets…short, sharp ones, that enriched no one but the brokers. But nothing ever got even close to
the US bull market. All of us sell-side low lives sold the mythical India story to dumb foreigners
through the ‘90s, gobbled up their dollars at Rs.31.37/$, got them to buy loads of rubbish that
miraculously turned more illiquid than molasses come a mini-bear market so that the foreigners
could never take back the dollars they had brought in. But the broad bull market never came.

Then came the 2003-2007 bull run. And that ruined the country.

This bull market inflated dumb promoters to God-like status. It made mediocre fund managers
become stars. It made below-mediocre sell-siders become ace stock-identifiers. It made the fiscal
deficit nearly go away, however illusorily. It made even lowly back office clerks become Bloomberg
operators at JP Morgan’s outsourcing units, getting in a month what they were getting in a year, so
tight was the market for Bloomberg operators.

MBA graduates joined their first jobs, with the laser-like clarity that the first task they needed to get
accomplished, was to shoot off their resumes to all the other wannabe securities firms planning IPOs.
IIM graduates shamelessly played one company off another to get $250 k joining packages from
Lehman and like firms. The MBA institutes dutifully instilled the virtues of greed and avarice in
their wards. Not that they needed to do much, for their wards had been coached into these virtues
from childhood by their middle-class parents from Phagwara, who had never driven anything better
than a beat up Ambassador. “Puttar, jitney paise mile, kam hai. Yaad rakhna, tere baap ne bahut
mehnat karke tujhe padhaya. Ab, jaakar phatte chak de”: would be the mom’s sage advice (Son,
money is everything. Remember, your father worked really hard to put you through MBA. Now, go
and grab the maximum you can get”). With such solid middle class values deeply ingrained, young
MBA kids ran amuck. And this led to the crazy spectacle of the recruiter actually being a person who
was getting less money than the recruitee. There was simply no fairness in the world back then. But
fairness is back. IIM graduates are being hired in dozens by state-owned Union Bank of India. Serves
the losers right. One only hopes they don’t turn Union Bank into Lehman.

1
FIRST GLOBAL

In the bull market, promoters dreamt up grandiose businesses. Did silly acquisitions. Bid for
nonsensical projects. And then went and poached “talent” from competitors at salaries that made
Wall Street compensation look distinctly Cleveland-ish.

It was crazy, and just plain out of control. All that is over, and isn’t coming back for a while to come.
Thank God for that.

But it is hurting: the fact that one year you were in the Forbes 400 Richest List, and now, you will
more likely make the List of 400 Most Indebted Promoters. As Darryl Hannah told Charlie Sheen in
Wall Street “Bud, one day you’ll realize that it’s a whole lot worse to make money and then lose it
all, than never having made it at all.”

This line sums up India’s plight. If the bull market hadn’t happened, the Tatas wouldn’t have had
Jaguar and Corus. The Ambanis wouldn’t have had organised retail or nation-wide broking.
GMR, GVK wouldn’t have got the airports. The brokers would never have listed. The real estate
companies would have never accumulated land banks in the Andaman & Nicobar Islands or some
such God-forsaken place. Subhiksha would have never got Rs.750 crs of debt (who are the dumb
bankers who gave this kind of money to a cash negative retailer with no hard assets?) The peons
wouldn’t have become Bloomberg operators, and then gotten laid off. The MBA kids would have
never joined Lehman. Low intelligence, high momentum hedge fund managers wouldn’t have got
any assets worthy of mention. Vijay Mallya wouldn’t have got his airline (now that would have
been a shame, for Kingfisher First is far and away the best Business/First Class in the world).

And now that the high watermark of life has been set, almost anything else seems a huge failure now.
A guy drawing $250k now gets an offer of $100k, heads out to commit suicide. In 2002, he would
have been spraying Veuve-Clicquot on Marine Drive.

This is precisely what The Azhar Syndrome is all about. Azhar is the kid from the slums in
Slumdog Millionaire. He flew to LA for the Oscars, slept on clean sheets in an air-conditioned
hotel room, for the first time (and possibly the last time)…came to his Bombay slum home…and
moaned to the press “It is so hot here, and the mosquitoes…I can’t sleep”. He is finished. A few
nights in a clean hotel room, and the guy can’t adjust back to the reality of his slum existence.
And before LA happened, he was happily rolling in the mud all day, and sleeping soundly with
mosquitoes and all, in precisely the same slum.

Azhar enjoyed a 5 day bull market. And his life is ruined forever. India enjoyed a 5-year bull
market. And a whole generation has been scarred for life. Before the bull market, a stock market
that doubled in three years seemed miraculous. An economy that grew 5% seemed fabulous. A
market cap that reached a billion dollars in ten years was a gift from God. A salary that rose 9% a
year was stuff that dreams were made of. An AUM of $50 mln was enough to get the sell-side to
send you the hottest escorts.

Naah…we were all so much better off without the bull market. Just as Azhar was so much better
without the Oscar trip. We would all have been as happy as pigs rolling in shit. We are all rolling in
shit all right. Except that we aren’t happy.

Which brings me to this whole Slumdog mania. (I find the name utterly insulting. The book on
which it’s based was called ‘Q&A’!). I mean…this guy, Danny Boyle has rubbed the face of this
country with…well, you know what. And this country is dancing in the streets, in the aisles, in the
shit-pits, in the Parliament, in the election campaigns…The newspapers have been breathless, the

2
FIRST GLOBAL

radio jockeys have been gushing, some brand consultants have even said that this will boost tourism,
just as Lord of the Rings boosted tourism in New Zealand!

Danny Boyle is lucky. If he had done an equivalent film about Singapore (on whatever soft
underbelly Singapore has), he would have been behind bars, getting caned across his butt with sticks
dipped in alcohol. But then…what does one do with this country that loves becoming the laughing
stock of the world? Where a Cabinet Minister states that the movie shows how the slums are a
beehive of entrepreneurial activity. Unbelievable.

Of course, Slumdog was going to win the Oscars. Look, there is a formula that wins Oscars. You
crack the formula, you win. Further, a triumphalist film like Lagaan could never have won the
Oscars. Everybody knows why.

Have I seen Slumdog? No. Why should I pay to watch something I can see for free?

Why are India’s Private Sector Bank Stocks tanking?

ICICI Bank has lost 45% in the past 60 days. Axis Bank is down 43%. HDFC Bank is down nearly
25%. What’s going on here?

Well, what’s going on is that the market is getting really nervous about the quality of their loan
books. Remember, Indian private sector banks have been on a tear last few years. Great asset growth.
Great earnings growth.

Precisely the kinds of things that make me lose sleep. I just hate fast growing banks. I operate with
the simple-minded belief that any bank that does that comes to grief, sooner or later. Banking is
arguably the dumbest business known to mankind, and a fast growing bank is the dumbest beast in
the jungle. The only model of banking that makes sense to me is a small, focused, narrow footprint
bank, where the CEO knows every borrower, runs a dull, boring business that trades at book
value. Any other model will self-destruct at some point. Citigroup exemplifies this self-destruct
model, having lived on the edge for over 20 years. It survived its last brush with bankruptcy thanks
to Alwadeed, who must surely rank as an even worse investor than what Warren Buffet has lately
become.

Indian Private Sector Banks have grown on all fronts last five years (the same 5-year syndrome
again!). But surely this breakneck growth must have given birth to some warts that will show up
when the cycle turns down? For sure. First Global’s Banking Analysts highlighted this risk in a
report “Banking: Food for Thought - How serious is the threat to the loan book of Indian private
banks? (Sector downgrade)” dated November 28, 2008. The key points that were highlighted in
that note (which also downgraded all the major Private Sector Banks like ICICI, Axis and HDFC
Bank): “Exposure to real estate alone was 175% of Net Worth for ICICI Bank, 180% for Axis
Bank and 88% for HDFC Bank…and this was after the serial fund-raisings by all of them..…plus
there was significant exposure to other cyclicals like steel, textiles, et al. Unsecured loans were
(and probably still are) are between 112-165% of tangible networth. Total Sensitive Sector
exposure + Unsecured lending, of these banks is: 305% of Tangible Net Worth for ICICI Bank;
Axis Bank has the same ratio at 316% of Tangible Net Worth; and HDFC Bank, 292% of
Tangible Net Worth. Sensitive Sectors are Real Estate and related sectors + Capital Markets”.

Mind you, this ratio excludes exposure to other troubled sectors like Gems & Jewellery, Textiles,
Steel, etc. Do the math or just send us a mail for our November report. It does not make for
pleasant reading, though, I must warn you.
3
FIRST GLOBAL

The above ratios are the key to understanding why we turned outright bearish on these names a
while back. Looking at the above numbers, our take was that there was no way the lofty 2-4x
Price/Book of these banks would last. Their book values will take some hits in the coming months,
and that is precisely what the market is saying through its price action on these names. So don’t
start getting carried away by the usual sell-side rubbish about how attractive these banks are at
these P/BVs.

The Other Important thing to remember

When folks start talking about the security of the Indian banking system (and of course, it is fairly
secure…so far), and how it weathered the ’98 Asian crisis so well, bear in mind one very important
thing: back in ‘90s, there were virtually no Private Sector Banks of any size or consequence around:
HDFC Bank was barely 2 years old at the time of the Asian crisis, Axis didn’t exist, ICICI Bank was
still a development bank. It is since 2002-03, that Private Sector banking has become the dominant
force in Indian Banking, on an incremental basis: their business has grown at CAGR of 34% last five
years, vs 25% for the entire Indian Banking industry. And we all know Private Sector Banks take far
higher risks than state-owned banks. This is precisely my worry about India’s banking situation: in
the ‘90s, the state-owned banks ran relatively conservative banks. In this decade, the risk-meter has
swung more to the right, what with the Private Sector Banks’ pressure of quarterly numbers, growth,
and the desire to impress the Street. None of which, generally speaking, makes for sound banking
practice.

The World According To CMIE

One of the most puzzling phenomena last 12 months has been the venerable Centre for Monitoring
Indian Economy (CMIE)’s amazingly bullish forecasts about the Indian economy. Slowdown, what
slowdown, has been Mr. Mahesh Vyas’ refrain all this while. India will grow 8.5-9% in FY09. All
this talk of a slowdown is plain rubbish.

But now, CMIE has outdone even the most Polyanna-ish forecast of Indian corporate profits. It now
says that Indian Corporate profits will rise 75% or so in FY10, and margins will double. Talk about
CMIE being on steroids or some other substance.

I have no doubt whatsoever that CMIE’s Excel sheets have become all corrupted as all the good
Excel operators now work as construction crane operators (that became one hot paying job in India,
believe it or not), and the formulae being fed in have gotten crazily mixed up. Unfortunately, the
only guys believing these forecasts are living in Lutyens’ Delhi, and nowhere else.

4
FIRST GLOBAL

FG Markets, Inc.
90 John Street, Suite 703,
New York, NY 10038
Dealing Desk (US):
Tel. No.: +1-212-227 6611
Email: us@fglobal.com
FIRST GLOBAL FIRST GLOBAL (UK) Ltd.
Nirmal, 6th Floor, Nariman Point, The Cobalt Building, 19-20, Noel Street,
Mumbai - 400 021, India. London W1F 8GW, United Kingdom
Dealing Desk (India): Dealing Desk (UK & Europe):
Tel. No.: +91-22-400 12 400 Tel. No.: +44-207-959 5300
Email: fgindiasales@bloomberg.net Email: uk@fglobal.com

The information and opinions in this report were prepared by First Global. Information contained herein is based on data obtained from recognized
statistical services, issuer reports or communications, or other sources, believed to be reliable. However, such information has not been verified by
us, and we do not make any representations as to its accuracy or completeness. Any statements nonfactual in nature constitute only current
opinions, which are subject to change. First Global does not undertake to advise you of changes in its opinion or information.
First Global and others associated with it may make markets or specialize in, have positions in and effect transactions in securities of companies
mentioned and may also perform or seek to perform investment banking services for those companies.

Whilst all reasonable care has been taken to ensure the facts stated and the opinions given are fair, neither First Global (UK) Limited nor FG
Markets, Inc. nor any of their affiliates shall be in any way responsible for its contents, nor do they accept any liability for any loss or damage
(including without limitation loss of profit) which may arise directly or indirectly from use of or reliance on such information.
First Global (or one of its affiliates or subsidiaries) or their officers, directors, analysts, employees, agents, independent contractors, or consultants
may have positions in securities or commodities referred to herein and may, as principal or agent, buy and sell such securities or commodities. An
employee, analyst, officer, agent, independent contractor, a director, or a consultant of First Global, its affiliates, or its subsidiaries may serve as a
director for companies mentioned in this report.

First Global and its affiliates may, to the extent permitted under applicable law, have acted upon or used the information prior to or immediately
following its publication, provided that we could not reasonably expect any such action to have a material effect on the price.
This memorandum is based on information available to the public. No representation is made that it is accurate or complete. This memorandum is
not an offer to buy or sell or a solicitation of an offer to buy or sell the securities mentioned.

The investments discussed or recommended in this report may not be suitable for all investors. Investors must make their own investment decisions
based on their specific investment objectives and financial position and using such independent advisors as they believe necessary. Where an
investment is denominated in a currency other than the investor's currency, changes in rates of exchange may have an adverse effect on the value,
price of, or income derived from the investment. There may be instances when fundamental, technical, and quantitative opinions may not be in
concert.

Past performance is not necessarily a guide to future performance. Income from investments may fluctuate. The price or value of the investments to
which this report relates, either directly or indirectly, may fall or rise against the interest of investors. There are risks inherent in international
investments, which may make such investments unsuitable for certain clients. These include, for example, economic, political, currency exchange
rate fluctuations, and limited availability of information on international securities.

The value of investments and the income from them may vary and you may realize less than the sum invested. Part of the capital invested may be
used to pay that income. In the case of higher volatility investments, these may be subject to sudden and large falls in value and you may realize a
large loss equal to the amount invested. Some investments are not readily realizable and investors may have difficulty in selling or realizing the
investment or obtaining reliable information on the value or risks associated with the investment. Where a security is denominated in a currency
other than sterling (for UK investors) or dollar (for US investors), changes in exchange rates may have an adverse effect on the value of the security
and the income thereon. The tax treatment of some of the investments mentioned above may change with future legislation. The investment or
investment service may not be suitable for all recipients of this publication and any doubts regarding this should be addressed to your broker.
While First Global has prepared this report, First Global (UK) Ltd. and FG Markets, Inc. is distributing the report in the UK & US and accept
responsibility for its contents. Any person receiving this report and wishing to effect transactions in any security discussed herein should do so only
with a representative of First Global (UK) Ltd. or FG Markets, Inc.

First Global (UK) Limited is regulated by FSA and is a Member firm of the London Stock Exchange.

FG Markets, Inc. is regulated by SEC and is a member of The Financial Industry Regulatory Authority (FINRA) and Securities Investor Protection
Corporation (SIPC). FG Markets, Inc., its affiliates, and its subsidiaries make no representation that the companies which issue securities which are
the subject of their research reports are in compliance with certain informational reporting requirements imposed by the Securities Exchange Act of
1934. Sales of securities covered by this report may be made only in those jurisdictions where the security is qualified for sale.
Additional information on recommended securities is available on request.

This report may not be resold or redistributed without the prior written consent of First Global.