Don’t fault the guys on the Street for reading the assembly election verdict as an overwhelming vote from one-sixth of Indian voters for the BJP’s prime ministerial candidate Narendra Modi, whatever is the political argument for or against this view.
That the stock market loves Modi is no secret by now; the exuberance has even led foreign brokerages like Goldman Sachs, CLSA, Nomura and a few others to jump protocol and virtually endorse Modi. The views of the brokerages need not necessarily be that of the average investor, though the stock market and the rupee did respond excitedly to last week’s exit poll predictions, making pretty clear what investors want.
Political waves have often found reflection in the stock market. Dalal Street saw extreme sentiments after the general elections threw up big surprises in 2004 and 2009. The victory for a Left-leaning UPA government in 2004 saw the market plunge 18 per cent while a near-majority for the UPA-II led Sensex 19 per cent higher in 2009.
It’s not very clear, though, whether the market community is rooting for Modi, per se, or simply yearning for a change, as the incumbent government has lost credibility in the eyes of investors despite some bold moves by finance minister P Chidambaram to revive confidence in the economy.
In a report ‘Modi-fying’ its previous bearish view on India to ‘marketweight’, Goldman Sachs said the optimism over political change is trumping economic concerns, given the expectations that the opposition BJP, led by Narendra Modi, could prevail in the parliamentary elections due by May 2014.
Nick Paulson-Ellis, India country head of foreign brokerage Espirito Santo Securities, says it’s a bit of both – backing for Modi and a desire for change.
“There is a strong desire for change after an extended period that lacked concerted policy actions and saw weak implementation, which caused structural damage to the economy. But there is also a genuine belief in Modi’s capabilities. Investors see him as a strong leader after a period when this is perceived to have been lacking in India. He is a very capable administrator, who is business-friendly and can get things done,” he says.
Goldman referred to Modi as ‘an agent of change’, inviting a rap from the government, with one Union minister asking them to do the job that they are good at and not make political comments.
Modi’s standout record as a chief minister driving Gujarat at double-digit growth for a decade raises hope that he can deliver from the present state of morass and induce fresh life into the domestic economy, which last year slumped to the lowest GDP growth since 1991 at 5 per cent.
What has added to the excitement among businesses in an environment of agonising policy hurdles, long project delays and bureaucratic red-tapism is Modi’s slogan of “maximum governance, minimum government,” by which he declares that the government has no business being in business.
The NDA government that was in power from 1998 to 2004 was popular with the industry, as it had opened the telecom and insurance sectors to private players, privatised loss-making public enterprises and legislated fiscal responsibility.
Lalit Nambiar, senior vice-president, head of research and equity fund manager at UTI Mutual Fund, says the market reaction to the political outcome may be related more to hopes of a strong decisive government, and not necessarily to the style of one party or the other.
Saurabh Mukherjea, CEO of institutional equities at Ambit Capital, has a similar view. “I don’t think the market has specific expectations from any party. What has happened is that the cyclical economic downturn has worn down a number of investors. In that fatigued state, they are trying to spot a new dawn. Rightly or wrongly, Modi to several such investors appears to represent that dawn.”
Dhananjay Sinha, head of institutional research at Emkay Global, says, “Modi is perceived to be a strong administrator and hence, people see the system moving with great alacrity if indeed he becomes the prime minister. Overall, the market seems to be pricing in a big shift in policy framework which is more conducive for productivity and economic growth.”
He points out that the market expected big reforms from the UPA-II as the Congress was not dependent on the Left, but is left disappointed. Stocks had rallied significantly after the 2009 elections threw UPA back to power with a bigger majority without the Left.
Weak macros
Two points are being missed out in this exuberance. First, the ills of the economy are quite deep-rooted and it may not be easy even for Modi to correct things in a hurry. Second, historically election results from these states have not been a clear pointer to the outcome of the general elections.
From an economic perspective, the election results should impact sentiment positively, but do not change the fundamental outlook, says Sonal Varma, vice-president and India economist at Nomura.
“A sustained improvement in economic fundamentals will take time to change. Domestic demand remains very weak and we see no immediate catalysts. Forthcoming fiscal austerity measures to meet the budgeted fiscal deficit target are likely to hurt growth. Therefore, we expect GDP growth to moderate from around 5 per cent in the fourth quarter of 2013 to 4.5 per cent by the second quarter of 2014 (the first quarter of the new government),” Varma pointed out in a report.
That would leave the new government with a tough task. For, much of the anguish of the nation has been a reflection of its growing impatience for faster growth as the economic slowdown has led to job cuts, pay freezes, high interest rates, price rise and a slump in asset prices.
Some comfort, if at all, comes from the fact that economic growth is finally bottoming out, led by better exports and good monsoon, if one were to go by the recent improvement in growth and current account data. The worst in terms of quarterly GDP growth seems to be behind us.
“The market anticipates that a Modi-led government will address policy paralysis, improve business confidence and help kickstart the investment cycle. However, there is a risk of overestimating the impact of political change and underestimating structural challenges faced by the economy,” says Nick of Espirito Santo.
Eventually it will boil down to specific policies relating to the problems, says Emkay Global’s Sinha. For instance, what are the key steps BJP proposes to take to tame inflation, resuscitate investments and savings, take care of the banking sector impairment, tame labour shortage and wage-inflation spiral, break the persistent high food inflation and land prices and its stand on critical legislations like the land bill.
Over to 2014
Historically, the results of these assembly elections have not been a clear pointer to the outcome of the general elections. In 2004 and 2008, the outcome of the general elections was not on the lines of these verdicts.
Ambit’s Mukherjea says it is not clear that these states are voting for change, per se. “After all in some of these states, the incumbents have been re-elected. Nor is it obvious that there is a direct read across from these state polls to the general elections.” In 2004 and 2008, the verdicts were quite the reverse.
Nambiar cautions that it would be difficult to extrapolate the state election results into the general elections. “In a lighter vein, maybe brokerages like to provide a slightly different viewpoint in order to get mind share of their clients just as media likes to sensationalise these issues to get higher readership,” he says matter-of-factly (Read full interview on page II).
And even bigger risk will be the final shape of the general election verdict even in an atmosphere of a political wave.
While the consensus is ‘Modi-fying’ its view on India based on the hope of BJP winning the general elections, we don’t think it is that straightforward, says Nick of Espirito Santo.
“If the past is anything to go by… extrapolating local trends to a national level, while easy, distorts reality and often fails to capture the full story. Given the reducing margin of victory over the years, any small vote swing will be critical, making forecasting election outcomes very difficult,” he points out.
Risky exuberance
Brokerages have a vested interest. Given the prolonged slump in the market, the market needs a big trigger to get into a higher gear, and more importantly, to woo back retail investors, who have almost deserted equities.
“If the election results are on track, the market will start moving into a completely new expectation mode. This will make retail investors to come to the market,” Raamdeo Agrawal, joint managing director of Motilal Oswal Financial Services, said in a note released before the assembly election results.
The risk here is that such a bounce in the market may turn out to be irrational, he pointed out.
From the stock market’s point of view, its best time was not the NDA regime, but UPA’s first term when the BSE Sensex surged from 4,961 in May 2004 to 13,737 in May 2009, registering a 176.86 per cent growth. Even the UPA’s second term — haunted by the global financial crisis, allegations of corruption and policy paralysis — has seen the benchmark Sensex climb 52.85 per cent so far.
In comparison, the return on the Sensex during the Atal Bihari Vajpayee-led BJP government from 1998 to 2004 was 29.71 per cent. Earlier during PV Narasimha Rao’s tenure between June 1991 and May 1996, which saw the opening up of the economy, Sensex had rallied 178.79 per cent.
Cyclicals in favour
Stock markets tend to do well in India during the pre-election period, and it should not be very different this time around unless US Fed’s tapering of the quantitative easing measures plays spoiler.
“We may well see a pre-election rally, with expectations of a more reform-centric and pro-investment agenda. This, alongside a gradual economic and earnings recovery, fixed income looking less attractive than equities as we head into tapering and developed markets materially more expensive after a strong year, suggest a reasonable outlook for Indian equities,” says Nick of Espirito Santo.
“Cyclical stocks, which benefit from an improvement in the economy and from risk appetite, and investment-related stocks such as industrials, power and infrastructure, should do well in anticipation of a more investment-friendly government,” he says.
As is already evidenced, capital goods, infrastructure, metal and banking stocks are expected to do well in a pre-election market rally, simply because these are the sectors that have been suffering due to the so-called policy logjam. There were early signs of life in these stocks in the post-exit poll rally on Thursday.
But remember, event-based stock rallies tend to be short-lived, as fundamentals catch up with the momentum soon enough, leaving unsuspecting investors in the lurch.
That the stock market loves Modi is no secret by now; the exuberance has even led foreign brokerages like Goldman Sachs, CLSA, Nomura and a few others to jump protocol and virtually endorse Modi. The views of the brokerages need not necessarily be that of the average investor, though the stock market and the rupee did respond excitedly to last week’s exit poll predictions, making pretty clear what investors want.
Political waves have often found reflection in the stock market. Dalal Street saw extreme sentiments after the general elections threw up big surprises in 2004 and 2009. The victory for a Left-leaning UPA government in 2004 saw the market plunge 18 per cent while a near-majority for the UPA-II led Sensex 19 per cent higher in 2009.
It’s not very clear, though, whether the market community is rooting for Modi, per se, or simply yearning for a change, as the incumbent government has lost credibility in the eyes of investors despite some bold moves by finance minister P Chidambaram to revive confidence in the economy.
In a report ‘Modi-fying’ its previous bearish view on India to ‘marketweight’, Goldman Sachs said the optimism over political change is trumping economic concerns, given the expectations that the opposition BJP, led by Narendra Modi, could prevail in the parliamentary elections due by May 2014.
Nick Paulson-Ellis, India country head of foreign brokerage Espirito Santo Securities, says it’s a bit of both – backing for Modi and a desire for change.
“There is a strong desire for change after an extended period that lacked concerted policy actions and saw weak implementation, which caused structural damage to the economy. But there is also a genuine belief in Modi’s capabilities. Investors see him as a strong leader after a period when this is perceived to have been lacking in India. He is a very capable administrator, who is business-friendly and can get things done,” he says.
Goldman referred to Modi as ‘an agent of change’, inviting a rap from the government, with one Union minister asking them to do the job that they are good at and not make political comments.
Modi’s standout record as a chief minister driving Gujarat at double-digit growth for a decade raises hope that he can deliver from the present state of morass and induce fresh life into the domestic economy, which last year slumped to the lowest GDP growth since 1991 at 5 per cent.
What has added to the excitement among businesses in an environment of agonising policy hurdles, long project delays and bureaucratic red-tapism is Modi’s slogan of “maximum governance, minimum government,” by which he declares that the government has no business being in business.
The NDA government that was in power from 1998 to 2004 was popular with the industry, as it had opened the telecom and insurance sectors to private players, privatised loss-making public enterprises and legislated fiscal responsibility.
Lalit Nambiar, senior vice-president, head of research and equity fund manager at UTI Mutual Fund, says the market reaction to the political outcome may be related more to hopes of a strong decisive government, and not necessarily to the style of one party or the other.
Saurabh Mukherjea, CEO of institutional equities at Ambit Capital, has a similar view. “I don’t think the market has specific expectations from any party. What has happened is that the cyclical economic downturn has worn down a number of investors. In that fatigued state, they are trying to spot a new dawn. Rightly or wrongly, Modi to several such investors appears to represent that dawn.”
Dhananjay Sinha, head of institutional research at Emkay Global, says, “Modi is perceived to be a strong administrator and hence, people see the system moving with great alacrity if indeed he becomes the prime minister. Overall, the market seems to be pricing in a big shift in policy framework which is more conducive for productivity and economic growth.”
He points out that the market expected big reforms from the UPA-II as the Congress was not dependent on the Left, but is left disappointed. Stocks had rallied significantly after the 2009 elections threw UPA back to power with a bigger majority without the Left.
Weak macros
Two points are being missed out in this exuberance. First, the ills of the economy are quite deep-rooted and it may not be easy even for Modi to correct things in a hurry. Second, historically election results from these states have not been a clear pointer to the outcome of the general elections.
From an economic perspective, the election results should impact sentiment positively, but do not change the fundamental outlook, says Sonal Varma, vice-president and India economist at Nomura.
“A sustained improvement in economic fundamentals will take time to change. Domestic demand remains very weak and we see no immediate catalysts. Forthcoming fiscal austerity measures to meet the budgeted fiscal deficit target are likely to hurt growth. Therefore, we expect GDP growth to moderate from around 5 per cent in the fourth quarter of 2013 to 4.5 per cent by the second quarter of 2014 (the first quarter of the new government),” Varma pointed out in a report.
That would leave the new government with a tough task. For, much of the anguish of the nation has been a reflection of its growing impatience for faster growth as the economic slowdown has led to job cuts, pay freezes, high interest rates, price rise and a slump in asset prices.
Some comfort, if at all, comes from the fact that economic growth is finally bottoming out, led by better exports and good monsoon, if one were to go by the recent improvement in growth and current account data. The worst in terms of quarterly GDP growth seems to be behind us.
“The market anticipates that a Modi-led government will address policy paralysis, improve business confidence and help kickstart the investment cycle. However, there is a risk of overestimating the impact of political change and underestimating structural challenges faced by the economy,” says Nick of Espirito Santo.
Eventually it will boil down to specific policies relating to the problems, says Emkay Global’s Sinha. For instance, what are the key steps BJP proposes to take to tame inflation, resuscitate investments and savings, take care of the banking sector impairment, tame labour shortage and wage-inflation spiral, break the persistent high food inflation and land prices and its stand on critical legislations like the land bill.
Over to 2014
Historically, the results of these assembly elections have not been a clear pointer to the outcome of the general elections. In 2004 and 2008, the outcome of the general elections was not on the lines of these verdicts.
Ambit’s Mukherjea says it is not clear that these states are voting for change, per se. “After all in some of these states, the incumbents have been re-elected. Nor is it obvious that there is a direct read across from these state polls to the general elections.” In 2004 and 2008, the verdicts were quite the reverse.
Nambiar cautions that it would be difficult to extrapolate the state election results into the general elections. “In a lighter vein, maybe brokerages like to provide a slightly different viewpoint in order to get mind share of their clients just as media likes to sensationalise these issues to get higher readership,” he says matter-of-factly (Read full interview on page II).
And even bigger risk will be the final shape of the general election verdict even in an atmosphere of a political wave.
While the consensus is ‘Modi-fying’ its view on India based on the hope of BJP winning the general elections, we don’t think it is that straightforward, says Nick of Espirito Santo.
“If the past is anything to go by… extrapolating local trends to a national level, while easy, distorts reality and often fails to capture the full story. Given the reducing margin of victory over the years, any small vote swing will be critical, making forecasting election outcomes very difficult,” he points out.
Risky exuberance
Brokerages have a vested interest. Given the prolonged slump in the market, the market needs a big trigger to get into a higher gear, and more importantly, to woo back retail investors, who have almost deserted equities.
“If the election results are on track, the market will start moving into a completely new expectation mode. This will make retail investors to come to the market,” Raamdeo Agrawal, joint managing director of Motilal Oswal Financial Services, said in a note released before the assembly election results.
The risk here is that such a bounce in the market may turn out to be irrational, he pointed out.
From the stock market’s point of view, its best time was not the NDA regime, but UPA’s first term when the BSE Sensex surged from 4,961 in May 2004 to 13,737 in May 2009, registering a 176.86 per cent growth. Even the UPA’s second term — haunted by the global financial crisis, allegations of corruption and policy paralysis — has seen the benchmark Sensex climb 52.85 per cent so far.
In comparison, the return on the Sensex during the Atal Bihari Vajpayee-led BJP government from 1998 to 2004 was 29.71 per cent. Earlier during PV Narasimha Rao’s tenure between June 1991 and May 1996, which saw the opening up of the economy, Sensex had rallied 178.79 per cent.
Cyclicals in favour
Stock markets tend to do well in India during the pre-election period, and it should not be very different this time around unless US Fed’s tapering of the quantitative easing measures plays spoiler.
“We may well see a pre-election rally, with expectations of a more reform-centric and pro-investment agenda. This, alongside a gradual economic and earnings recovery, fixed income looking less attractive than equities as we head into tapering and developed markets materially more expensive after a strong year, suggest a reasonable outlook for Indian equities,” says Nick of Espirito Santo.
“Cyclical stocks, which benefit from an improvement in the economy and from risk appetite, and investment-related stocks such as industrials, power and infrastructure, should do well in anticipation of a more investment-friendly government,” he says.
As is already evidenced, capital goods, infrastructure, metal and banking stocks are expected to do well in a pre-election market rally, simply because these are the sectors that have been suffering due to the so-called policy logjam. There were early signs of life in these stocks in the post-exit poll rally on Thursday.
But remember, event-based stock rallies tend to be short-lived, as fundamentals catch up with the momentum soon enough, leaving unsuspecting investors in the lurch.
