As Exit Polls were out yesterday Bharatiya Janata Party (BJP) lead by Shri Narendra Modi is in sight of magic number 272 to reach for a simple majority in the 543-seat Lok Sabha, or lower House of Parliament, in the general election that got completed yesterday.
The BSE’s S&P Sensex, India’s most closely tracked stock market benchmark, has risen 13% since the start of the year on top of a 9% gain in 2013.Foreign institutional investors (FIIs) have bought a net $4.84 billion of stocks from the local equity markets in addition to the $20 billion they pumped in on a net basis last year.
The market is quite confident of the outcome of elections and the formation of a stable National Democratic Alliance (NDA) government, which has resulted in a strong performance of the market in the run-up to the elections.
Markets performance in Election year in Month of May
May 14 Till today +6.5%
May 09 +28.1%
May 04 -17.4%
May 1999 +15.8%
The flip side
Let’s first consider a downbeat scenario, in which the BJP-led NDA ends up with 220 seats in the Lok Sabha, well short of a majority, leading to a change in the dynamics of the coalition. That would throw up several possibilities, including likely alliances with large regional parties after hard bargaining.
In such a scenario, the BJP may be forced to dump Modi, who has a hardline image that centrist politicians cannot live with, and project an alternative prime ministerial candidate who would be more acceptable to regional parties.
This will be a hard outcome for the markets to swallow, given they are betting as much on Modi becoming PM as the NDA unseating the Congress-led United Progressive Alliance (UPA), buffeted by corruption scandals and charges of economic mismanagement during much of its second term in office.
The markets are focused not just on the party but also on the person. If BJP-NDA is unable to get more than 220 seats, then it will have to rely on other regional parties, which may have divergent ideologies and this will be taken negative by market in extremely short term.
It is not only about NDA this time; rather it’s about Modi if we are talking about the impact of election outcome for equity markets.A weaker performance by the NDA than is being priced in by the markets could trigger a 10%-odd fall in indices.
The best case
To be sure, as things stand, market participants are assigning a very small probability to the downbeat scenarios playing themselves out.
In terms of a positive outcome, there are essentially only two scenarios that can please investors. One is the consensus that opinion polls are suggesting and most people are working with—the BJP-led NDA winning around 240 seats in the Lok Sabha and Narendra Modi becoming PM.If the NDA comes to power with 230-240 seats, it is likely to be a stable government which can aid a recovery in the investment cycle. Markets like this, but this outcome is more or less priced in already.
The second possibility is that the NDA gets at least 272 seats for a majority on its own and forms a government . That outcome can deliver an immediate fillip to the markets after the results are announced.
“In the event of a pure majority of 272 seats, there would not be a need for post-poll alliances and we could see a quick 3-8% rally in the market as a reaction,”
Will be the rally be sustainable?
The immediate market reaction around the election outcome is likely to be an emotional response—whether of celebration or disappointment. What’s really important is what ensues in the days and months to come. The outcome of the elections may carry the markets for a quarter or so; but after that, economic reforms, inflation and economic growth will be back in focus. “The market has its own risk-on and risk-off mode. If the outcome is positive, risk-on will continue and we will see cyclical and rate-sensitive stocks rallying, whereas the defensive stocks will lag,
“The opposite can happen if the outcome is against what the market is expecting.”
The first budget of the new government will be key as it will set the nation’s economic agenda and demonstrate its commitment to reforms. “The announcements made in the budget session will give an indication of how things are likely to proceed, and that can set the stage for markets till around December” What happens in the next six-nine months will also depend on how the government gets formed and, ultimately, on whether things on the ground move forward.
The two immediate issues the new government will have to address are elevated inflation and the fiscal deficit.