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| Jamal Mecklai: Will it rain the day after tomorrow? | | Create rules and follow them |
| Jamal Mecklai / New Delhi Jun 12, 2009, 00:07 IST |
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Look out the window. Consult your favourite meteorologist. And unless you are a die-hard college kid betting out of boredom, the only honest answer that you can give is that you don’t know.
Remarkable then, isn’t it, that so many reasonable people believe they can predict where the market will be not just the day after tomorrow, but three months or six months down the line. Sure, there are technical analysts — premium meteorologists — who can read patterns and voila! forecast medium- to long-term moves, but these are often fraught with dangerous issues of timing. Without question their forecast will be reached (give or take a few, or several, percentage points), but the roller coaster you have to ride getting there could well give you serious nausea or worse, huge MTM losses.
Don’t get me wrong — I have nothing against high-quality technical analysts, and I consult one regularly. He is currently looking for a surprising dollar rally (up to 1.20 to the euro and 1.40 or so to the pound), after which it will collapse again to new all-time lows. One of the reasons I enjoy his forecasts so much is they are usually controversial, contrary to much common expectation, and, over the years, my favourite learning from the market has been that the majority is almost always wrong.
(Almost) nobody is buying a serious dollar rally. More and more analysts are, as is their wont, closing their eyes to the real world and insisting that the huge amounts of liquidity that the Fed and US government have pumped in/are pumping in to the market are bound to result in a game-changing collapse in the dollar. Just like a few years ago, the twin US deficits were evidence of a certain dollar collapse. The Chinese have got into the act recently and the wild-eyed gold bugs have come back, as they tend to do with amazing regularity.
But the dollar really ain’t doing anything dramatic. Not yet, at any rate. And while it might — ‘ANYTHING IS POSSIBLE’ is, perhaps, the only sound thing you can say about the market — I’m no longer a bored college kid who bets on anything.
So, will it rain the day after tomorrow?
I don’t know.
And will the renewed global investment interest in India push the rupee up through the 47 cap the RBI seems to have applied?
Again, I don’t know.
Could a sudden burst of fresh trauma from overseas create a new aftershock of risk aversion which will send the rupee tumbling towards (and possibly through) 50 again?
Sorry, for being so boring, but I really don’t know.
And, neither do you.
So, how should you manage the forex risk on your business? Simply hedge everything and forget about it? Talk to the analysts, if the rupee does turn the other way. Buy plain vanilla options to eliminate risk and retain opportunity? Talk to your investors who will say, hey, that costs far too much.
Perhaps, a combination of forwards and options would be more sensible — that way you don’t spend too much money upfront and have a little bit of the good of both worlds. But, what percentage of options do you buy? At what level? And isn’t the premium too high?
Well, will it rain the day after tomorrow?
There is no correct answer — before the fact, that is. And so, rather than tearing your hair out trying to figure out the answer — when, as I just said and everybody knows, there is no correct answer before the fact — I believe the best way is to create a set of rules and follow them with UNYIELDING discipline and see what happens. It surely couldn’t be much worse than what you’re already doing.
I recently ran just such an experiment with a high-end mid-sized IT services company. We worked for several months to create a set of hedging rules that they would follow. And, of course, when we went live in October last year — incidentally, the period of highest rupee volatility — they didn’t. Follow the rules, that is.
The treasury and the risk management committee kept looking at the sky, consulting their personal meteorologists. And, for much of the time, they were correct. Their largely unhedged portfolio ran a bit ahead of the rule-based system, till, of course — and there will always be an “of course” — the market turned after the election results, the rupee shot higher and they were caught still looking skywards in the downpour that followed.
Meteorologists’ disclaimer: Carry an umbrella, even if the sun is shining.
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