The “Bottom Line” on Europe, Outsourcing and Global Innovation

Judging from the number of e-mails I received from you yesterday, the election of a socialist President in France received a lot of coverage in the United States. And many of you wanted to know my take on the impact of the elections from my own perch here in Europe.

So, I thought I would use this edition of The Global Guru to answer some of your questions — as well as add some of my observations on other investment-related topics across the globe.

1) The European Elections: The French Will Eat Their Words

With the election of Francois Hollande, France got its first socialist president in 18 years. The reporters on CNN International were virtually breathless in their glee that the current right-wing political consensus of austerity was set to be overturned in Europe.

The big question is whether the new French government will seek to sabotage the hard-fought, German-led European fiscal pact that gave teeth to limits on government spending in the European Union. This morning, Hollande also threatened to push for imposition of taxes on financial transactions that would cripple Europe’s financial center, the City of London. On the other side of the continent, Greek voters expressed their will to either repudiate or re-negotiate Greece’s bailout deal. And now they are looking at Francois Hollande as a champion of their cause.

And yet, once the euphoria of his victory fades, Hollande will have to face the pesky reality.

Germany benefits from the politically incorrect version of the golden rule: “He who has the gold, rules.” And in Europe, it’s Germany that has the gold. Not only is Germany the largest economy in Europe, but as the world’s second-largest exporter, it is Europe’s most successful economy. That may inspire both envy and ire. But when push comes to shove, all the ne’er do wells of Southern Europe will always be forced to go hat in hand to the Germans. They have no alternative. Certainly, the markets won’t continue to fund governments’ spending at a rate of 50% of gross domestic product (GDP). No amount of political posturing can change that economic fact.

The bottom line?

The new French president won’t overturn the fiscal pact. Faced with a choice between supporting Greece and supporting Germany, the French will go with the Germans. Hollande’s threat of anti-austerity measures will be exposed as hollow. But that also means that Greece will head for another fiscal crisis this summer.

2) May 7, 2012: The Day Outsourcing Died

Remember when outsourcing was all the rage? The media was chock full of stories about how all of the call center jobs in the United States were moving to Bangalore, India. And you couldn’t call up your bank without being connected to your customer service representative “Frank” who had a curiously Indian accent. That same thing applied to all sorts of back office functions across a wide swathe of industries. Why hire Chuck for $60,000 in Akron when you could get Sanjiv in Mumbai to do the same work for $15,000.

Well, it turns out that something happened over the last two years. Sanjiv is now asking for $45,000. And he’s actually not all that great at his job. According to a recent survey, only 32% of U.S companies say they currently outsource services or manufacturing to organizations outside of the United States. In 2009, this number was 62% — and 2011 marked the third straight year of decline. And the story gets worse for India. Among the U.S. companies not currently outsourcing, 80% say they are unlikely to outsource services or manufacturing overseas in the near future. No wonder the overall level of outsourcing to India has been declining since Q2 of 2011.

That’s a big switch. As long-term subscribers to The Alpha Investor Letter know, one of my favorite megatrend themes in the past few years has been global outsourcing. New Jersey-based outsourcing giant Cognizant Technology Solutions (CTSH) was a stock I not only recommended, but also actually held for my clients in my “Global Gains” Investment Program at Global Guru Capital until very recently.

Well, it was a good thing that I finally sold the stock last month. You see, Cognizant plummeted 19.2% just yesterday as the company lowered its full-year forecast for the first time in nearly four years, citing weak demand from financial services clients in North America. The company was merely echoing sentiments expressed by its India-based rivals like Infosys Ltd (INFY) and Wipro Ltd (WIT).

The bottom line?

Thanks to higher costs and questionable levels of service, the outsourcing game is over. The “outsourcing to India” investment theme died on May 7, 2012. If you have any investments in the above-mentioned companies, sell them today.

3) Innovation Trumps The Financial Crisis and Politics

On Friday, May 4, I attended a “Global Impact Competition” sponsored by Silicon Valley-based Singularity University in Budapest, Hungary. Singularity University was founded by Ray Kurzweil and Peter Diamandis in 2008, based on the single insight that the exponential growth of technology will have an impact on our lives we can scarcely imagine. It’s a concept that Kurzweil discusses extensively in his groundbreaking book “The Singularity is Near.”

Five young innovative Central and Eastern European entrepreneurs presented their ideas at the competition — each with the objective of changing the lives of at least one million people in the next five years. The projects presented included a Czech solution for traffic jams; a Polish solution for re-cycling drugs; a Hungarian solution for reducing the 7% infection rate among patients during visits to hospitals; and the winning entry, by a young Hungarian psychologist and founder of www.be-novative.com, a website that combines the creative benefits of brainstorming with the scale and novelty of global social networking. She received a $30,000 scholarship to study at Singularity University, and will be spending the next three months in Silicon Valley.

Here’s what I found fascinating. Physically, we were in a country (and region) that hardly is known for being at the cutting edge of innovation. Yet, there were world class ideas being generated here. And there was no mention of the global financial crisis or the political shenanigans taking place in the Hungarian Parliament less than a mile away. It was almost as if the world of innovation and technology operate in a parallel universe. I suddenly realized that while politicians and governments squabble, innovation and entrepreneurship across the world are moving on.

And thanks to the efforts of a brand-spanking new, Silicon Valley-based group, Singularity University, the very best ideas across the globe — whether from Palestine, Chile, Eastern Europe or the Dominican Republic — are being brought to Silicon Valley.

The bottom line?

You often hear how the very best companies are founded in the midst of recessions, as both Apple and Microsoft were in the 1970s. Yet, I bet we’ll be saying the same when we look back 30 years from now, and marvel that some of the world’s most dominant companies were started during the difficult years of the early 21st century. Thanks to the interconnectedness of the world, a lot of the ideas won’t start in Silicon Valley. But thanks to the enduring attractions of the private sector in the United States, they will end up there.

Let’s just hope the U.S. government doesn’t do anything to screw it up.
Sincerely,

Nicholas A. Vardy
Editor, The Global Guru

P.S. Please join me for the Las Vegas Money Show, May 14-17, at Caesar’s Palace. To register, call 1-800/970-4355 and mention priority code 026655 or go to NicholasVardy.lasvegasmoneyshow.com. I also encourage you to sign up for my hedge fund seminar, Wednesday, May 16, 9 a.m. – 11 a.m.