Of Oil and Oil Cakes

Had a talk this weekend by the Head of Treasury of L&T, who had come over to campus along with an Alumnus of ours. The company has one of the best managed and developed Treasury Departments among Indian companies. The speaker was knowledgeable as expected, he gave lots of insightful snippets of information.

First of all he started off by saying that corporate finance and treasury are not that complex as one thinks. Even a mundane business like Cattle Feed can have greater challenges. He gave an example of oil-cake production. It can take about a 1000 substitutable ingredients, depending upon tastes of types of buffaloes and supply conditions etc, a large Linear Programming model is developed to find the optimal mix.

Then he talked about evolution of the financial system in India from the corporate perspective. He told about an interesting phenomenon that is financing of a long term project using Call-Money rates(ie the rate at which banks lend overnight) it was a crazy but brilliant move, because at that time the callmoney even hovered around 1-2%. But then on some days it reached 70-80%. Such volatility was the end of the brilliant scheme. Nowadays the Call money market is pretty stable around 6.00%. Then he talked about the forex markets how their depth has increased. He said a few years back ,even the action of a single corporate could change the Re/$ rate significantly , not so now. Also the interlinkages between markets have increased, forex movements affect liquidity, interest rates and vice versa.
He also gave an overview of commodity trading, used terms like Contango and Backwardation. Talked about the recent copper crisis in China. Even L&T has exploited this opportunity, and people are booking profits over the hapless Chinese.
He had also once advised the RBI a few years back to buy oil futures which were trading at 20$,
rather than invest the forex reserves in the low yield t-bills of US. If someone had heeded his advice, India could have saved billions of Dollars I guess.
Another interesting snippet was that Warren Buffet is now investing heavily in South Africa and Botswana !!, and L&T has also followed suit. The Alumnus of ours said he has now started trading in the Botswanan currency. Cool huh!.

He also explained how the market had collapsed last year on May 17th when the Government was formed, he blamed the system of NSE/BSE. How the malaise spread from the futures market to the spot one and how the increasing margin requirements had screwed up the market, and detered some potential buyers. The markets had tanked without volumes, which was not expected if there really had been large scale panic selling.

Also he explained why L&T needed such a sophisticated treasury and deals extensively in Forex and commodities, since it is not a trading company. He said that L&T is now a major exporting company, and needs to protect itself from the increased volatility of markets, plus he said being a project company they have unique risks and cash flows that necessitate customized hedging and forwards, rather than rely on standard futures. Plus he said being active in the markets helps the finance department step out of their Ivory towers and get a feel of things and the ground realities.

He further talked about the various types of Risk that a corporate faces viz. Business,Fianncial,Credit ,Operational, and how they try to mitigate them.

Finally he ended saying that surprisingly currencies and their exchange rates now influence trade and capital movement around the world, rather than the other way round.