Simple analogy for Bubble Burst of Oct 2008

Recently I recieved this in my in-box. Very interesting narration for bubble burst.

Once there was a little island country. The land of this country was the tiny island itself. The total money in circulation was 2 dollars as there were only two pieces of 1 dollar coins circulating around.

1) There were 3 citizens living on this island country. A owned the land. B and C each owned 1 dollar.

2) B decided to purchase the land from A for 1 dollar. So, now A and C own 1 dollar each while B owned a piece of land that is worth 1 dollar.

* The net asset of the country now = 3 dollars.

3) Now C thought that since there is only one piece of land in the country, and land is non producible asset, its value must definitely go up. So, he borrowed 1 dollar from A, and together with his own 1 dollar, he bought the land from B for 2 dollars.
*A has a loan to C of 1 dollar, so his net asset is 1 dollar.
* B sold his land and got 2 dollars, so his net asset is 2 dollars.
* C owned the piece of land worth 2 dollars but with his 1 dollar debt to A, his net residual asset is 1 dollar.
* Thus, the net asset of the country = 4 dollars.

4) A saw that the land he once owned has risen in value. He regretted having sold it. Luckily, he has a 1 dollar loan to C. He then borrowed 2 dollars from B and acquired the land back from C for 3 dollars. The payment is by 2 dollars cash (which he borrowed) and cancellation of the 1 dollar loan to C. As a result, A now owned a piece of land that is worth 3 dollars. But since he owed B 2 dollars, his net asset is 1 dollar.

* B loaned 2 dollars to A. So his net asset is 2 dollars.
* C now has the 2 coins. His net asset is also 2 dollars.
* The net asset of the country = 5 dollars. A bubble is building up.

(5) B saw that the value of land kept rising. He also wanted to own the land. So he bought the land from A for 4 dollars. The payment is by borrowing 2 dollars from C, and cancellation of his 2 dollars loan to A.

* As a result, A has got his debt cleared and he got the 2 coins. His net asset is 2 dollars.
* B owned a piece of land that is worth 4 dollars, but since he has a debt of 2 dollars with C, his net Asset is 2 dollars.
* C loaned 2 dollars to B, so his net asset is 2 dollars.

* The net asset of the country = 6 dollars; even though, the country has only one piece of land and 2 Dollars in circulation.

(6) Everybody has made money and everybody felt happy and prosperous.

(7) One day an evil wind blew, and an evil thought came to C’s mind. “Hey, what if the land price stop going up, how could B repay my loan. There is only 2 dollars in circulation, and, I think after all the land that B owns is worth at most only 1 dollar, and no more.”

(8) A also thought the same way.

(9) Nobody wanted to buy land anymore.

* So, in the end, A owns the 2 dollar coins, his net asset is 2 dollars.
* B owed C 2 dollars and the land he owned which he thought worth 4 dollars is now 1 dollar. So his net asset is only 1 dollar.
* C has a loan of 2 dollars to B. But it is a bad debt. Although his net asset is still 2 dollars, his Heart is palpitating.
* The net asset of the country = 3 dollars again.

(10) So, who has stolen the 3 dollars from the country? Of course, before the bubble burst B thought his land was worth 4 dollars. Actually, right before the collapse, the net asset of the country was 6 dollars on paper. B’s net asset is still 2 dollars, his heart is palpitating.

(11) B had no choice but to declare bankruptcy. C as to relinquish his 2 dollars bad debt to B, but in return he acquired the land which is worth 1 dollar now.

* A owns the 2 coins; his net asset is 2 dollars.
* B is bankrupt; his net asset is 0 dollar. (He lost everything)
* C got no choice but end up with a land worth only 1 dollar

* the net asset of the country = 3 dollars.

Changing gears in Davos

The Annual meeting of World Economic Forum for 2008 is in session at Davos. A lot many distinguised people from finance world, politics, manufacturing, media etc are present there to discuss the issues facing the world right now. In normal circumstances, the meeting would have focused the collaboration that's needed for the peace in Middle East, making use of the latest technologies for fighting against social and environmental issues or to discuss the prospects of Pakistan and Afghanistan. But here comes the thunderball. A lot of energy would now be spent on the US recession and its impact on the economy across the globe.

Till now people have been optimist. Yes, there is a credit crunch due to reckless lending in the subprime mortgage category, and also in property and credit cards - but we will handle it. Another perscpective was that growth is very powerful in India, China and middle east - that will wither the American storm.

But "Decoupling" is not working. The fear has crept in big time. The insatiable desire for cunsumer stuff in US (much of it made in China) is now making the growth charts go southwards. Recession gurus are saying, "we are almost there"!

Bulls have been Chained

My wife told me couple of weeks back (even before the whole gamut of things started) that this is a KAAL year! She read it that this year is not that great! Have I started believing that? Oops, let me set the context right, though I'm sure most of you guys must have sensed it by the title of this post. But still for others I'm talking about the finance market in India; in fact the whole world market. Where are markets going from here? Is 2008 really a bad year for Indian economy?

These days as soon as I reach home I switch on my idiot box (which doesn't seem to be as idiot to me as before) to listen to NDTV Profit. And the more I watch it, the more I'm getting perplexed. US market as well as Asian market is taking a bit hit. Yesterday's fearsome declarations by Vikram Pandit (CEO of Citigroup) of the huge losses and mammoth write-off's have left me more shocked. The winds of change have finally arrived and it seems the world market gonna make devastating changes. Is it a sign that India will head its way towards becoming the global power?

But right now I dont see the light at the end of this tunnel. Indian economy itself is weak right now. Prime minister with his financial advisors are meeting to find out a way to resolve the issues or rather finding a way to beat the heat. They are coming up with re-structuring the tax slabs, change in indirect taxes, etc. Mr C Rangarajan is still projecting that the growth rate will be 8.5% this year (quite hopeful). I'm sure these guys are thinking hard to make that happen.

For me, things are too scary. I've been into this market very recently and all this is making me learn a lot (well, i'm trying to hide my fear here). But I'll keep watching the market and make my moves as and when required. And surely I wish my wife makes some more predictions; of course in favor of my portfolio :-)

So whats your game plan??