Processing Knowledge

When the inflation rate falls below 0% then researchers say that we are currently in state of deflation. The good news or the wolf in sheeps clothing is deflation brings or is an outcome of sustained decrease in the general price level of goods and services.

The deflationary Spiral

Deflationary Spiral: A whirpool to be avoided

The bad news is that deflation may result or be a symptom of  a deflationary spiral, where decreases in price lead to lower production, which in turn leads to lower wages and demand, which leads to further decreases in price.  The Great Depression was is a classical example of such a deflationary spiral. According to financial analysts and KPOs such as S G Analytics, a deflationary spiral is usually triggered by higher interest rates. These high interests result in a fall in money supply and a consequent a  fall in demand for goods. The fall in demand results in an increase in inventory and thus a fall in production and thus a fall in stock prices

KPOs revealing the hidden treasure:

In such situations many cash rich companies might have an attractive E/V and some might fall in the negative EV category. Financial researchers and KPOs consider some critical times in these times as the right time to invest. A detailed analysis of the funds and the sectors reveals the hidden treasure which is worth investing. These analysts burn the midnight oil while analyzing such data which only a few realize and put to optimum use.

Newspapers and blogs highlight that the current market trends have jeopardized the enterprise value (EV) of many companies. Many investors spend sleepless night analyzing the annual reports of organizations to get a clear picture of the actual EV. Sector researchers and fund manager propose mathematical tools to predict this EV. So what exactly is this EV? For the common man the EV is the takeover price of organizations as it takes into account the cash
reserves.

Is the EV a good indication of the health of the organization?

The EV works for most of the organizations, however it might be misleading for a few sectors. There can be organizations that have a negative EV and yet be profitable. Such companies are exposing their
cash reserves for a penny. But are their cash reserves make such organizations a good buy? As pointed out in the blog by a KPO called S.G. Analytics,  the banking sector cannot be evaluated like other sectors. Further, the analysis done by SG Analytics shows that only in the Financial sector a significant number of companies (38) in East Asia, followed by 34 in North America (US) fall in the negative EV category. A simple research shows that a significant amount of cash is deposited at the central banks in the form of cash reserve ratio (CRR) and the statutory liquidity ratio (SLR). However, in the current economic downturn the market capitalization of many financial institutions have shrunk and have become trivial compared to the total cash held by these banks.

Are analysts and KPOs of any help?

The cash reserves that make the stocks of such banks tempting may many a times be a mirage as the current economic downturn may spiral the good loans to go bad and might play a spoilsport by eating up most of the cash reserves. Thus, the moral of the story is predicting the EV of the banks is a non trivial task and should be better left to analysts and KPOs like SG Analytics.