As the worlds largest democracy undertakes its quinquennial exercise of electing a new government,the investment community will watch the results with bated breath. While we often say that Indias entrepreneurs succeed despite their government rather than because of it,politics does impinge on the nations economy and its stock markets.
Deng Xiaoping once observed that it does not matter if the cat is black or white so long as it catches mice. In similar spirit,Indian investors will not mind the ideological stripes of their new government so long as it provides what they prize most stability. Currently,with the economy backsliding by the day,the significance of a strong coalition that can act purposefully cant be emphasised enough.
Positive,neutral and negative outcomes
According to P. Phani Sekhar,fund manager,Portfolio Management Scheme,Angel Broking,From the markets point of view,a positive outcome would be a stable,non-Left government. And that would mean the NDA (National Democratic Alliance) coming back to power. A neutral outcome would be a repeat of 2004 with the UPA (United Progressive Alliance) coming back to power. A setback would be a motley bunch of regional parties bound by the Left (the Third Front) forming a coalition,because such governments do not have a track record of stability. (See box: Who has done what,a record of the reforms undertaken by various governments,to understand why the investing community in India prefers the NDA).
While predicting these elections outcome is a task best left to psephologists and political pundits,market analysts fear that the verdict this time round may be even more fractured than in 2004. Says Gopal Ritolia,analyst at India Infoline: Both the leading national coalitions UPA and NDA are having difficulties with their alliance partners. Naveen Patnaik of the Biju Janata Dal (BJD),a steady partner,has walked out of the NDA. Similarly,the UPAs alliance with the Samajwadi Party (SP) in UP has not been smooth at all. And if the Third Front comes to power,there will be a lot of jostling for the prime ministers chair,as is apparent from the way all the second rung national leaders are positioning themselves to become the consensus PM candidate.
Worrisome policy vacuum
What also worries market participants is the policy hiatus that will prevail for the next few months. Already the restrictions imposed by the Election Commission on initiating new spending programmes have come into force at a time when the economy is in dire need of initiatives that could provide employment and stimulate demand. Says Sekhar: Monetary intervention alone will not suffice; fiscal stimulus is very much required. The elections could not have come at a worse time. By the time the next government takes over some time in end-May or early June,gets its policy framework ready and announces it by July,and the policies start showing results,it will probably be September. We would have lost several months of the year because of the elections and the change of government.
New governments dilemma: spend more?
Unlike the UPA government which enjoyed a benign economic environment for four years,the new government will inherit a slowing economy with mounting job losses,and will have to act promptly to steady the boat. Two views prevail about what the new government will need to do.
The first view is that a government confronted with a slowing economy will perforce have to overlook concerns about mounting fiscal deficit and launch more employment-generation programmes. Says Sekhar: The new government will have to spend at least 2-3 per cent of the GDP on infrastructure,because that is where you can create the maximum employment.
The other point of view is that since the fiscal deficit is already in double digits,the new government will have limited legroom for launching new programmes. Says Ritolia: The new government should try to crank up the implementation machinery. A large number of highway and power projects are already under implementation. Both these sectors could do with some acceleration in implementation. That way even without awarding new projects,or taking on new initiatives,the new government could provide a massive stimulus to the economy.
Investor,dont act in haste
On stocks. Stock markets are averse to uncertainty (regarding who will form the next government),so they usually languish before elections. At present,the stock markets have taken a beating due to two factors: the global meltdown and a slowing Indian economy; and the impending elections. Post elections,one of these uncertainties will be gone,so the markets could rally,provided the global environment also improves (See table: Markets pre and post elections).
For those interested in investing in stocks for the long term,this is actually a good time to enter the markets as valuations are attractive. Post elections,a possible rally could drive valuations up.
Meanwhile,here is a list of dos and donts for both before and after the elections. One,dont gamble on the elections,i.e.,dont invest in stocks on the assumption that a particular party will come to power. Predicting the winner is awfully difficult: analysts believe that all the three formations have an equal chance of coming to power. Besides,as Sekhar says: Investing is a much more serious business that taking a two-three month punt on the political fortunes of the country.
Two,if you feel that the uncertainties prior to the elections are too much for you to stomach,wait for them to get over and then enter the markets.
Three,for any investment that you make valuations should be sacrosanct. Buy at good valuations and invest for at least three years.
Finally,dont sell out based on any purportedly negative news that comes in post-elections. If news comes in,say,that a Left-supported formation will come into power,avoid selling off your shares even if there is a sharp sell-off in the market. History has shown that irrespective of the nature of the government,if it is stable and you have bought at good valuations,then the returns you earn from stocks are better than those from bonds, says Sekhar. Besides,it is difficult to predict how a political formation will behave once it assumes power. The policies parties pursue once in government are often at variance with those they espoused when in the opposition. For instance,when the NDA assumed power it was feared that they would follow swadeshi policies,but their policies were,in fact,very market friendly.
On other asset classes. Continue with your other investments,such as systematic investment plans (SIPs) of index funds or diversified equity funds. According to Pune-based financial planner Veer Sardesai,You may even increase your exposure to equity mutual funds. Over the next three to five years,based on current valuations we expect the returns from equities to be much better than from any other asset class.
To have a diversified portfolio,a part of your investments should also go into Public Provident Fund (PPF). It is risk-free (since it is backed by the government),gives you an 8 per cent compounded rate of return,which moreover,is tax-free. As for liquidity,you may withdraw half the corpus after five years and the entire corpus at the end of 15 years (beginning of 16th year).
While fixed deposits could form a part of your portfolio,remember that interest earned on them is taxed depending on your tax bracket (so the rate would be very high for someone in the highest tax bracket).
Income funds are more tax-effective than fixed deposits,and they are expected to give you good returns over the next one year as interest rates head south. But they are not entirely risk-free: you must be able to time your exit right when interest rates stop falling. If you have a longer time horizon,then you must reconcile yourself to returns that are in keeping with the rates prevailing within the economy.
Finally,despite golds high current price,keep accumulating it in small amounts to serve as a contingency reserve. It will be volatile in the interim,but if you have an investment horizon of at least five years it will give you returns that beat inflation. u
Who has done what:
economic reforms post 1991
Tenure Beginning May-04
1. Administrative reform: Right to Information (RTI) Act
2. Implementation of VAT
3. Formation of empowered group of state finance ministers to implement Goods & Sales Tax (GST) from March 2010
4. Power sector reforms: setting up of ultra mega power projects; launch of Rajiv Gandhi Gramin Vidyutikaran Yojana for rural electrification
5. National Rural Employment Guarantee Act promising 100 days of manual labour to every household whose adult members volunteer
6. Notification of SEZs to boost export-intensive industries
Tenure Mar-98 to May-04
1. New Telecom Policy in 1998
2. Insurance sector opened to private players
3. Reduced EPF rates from 12% in 1998 to 9.5% by 2004
4. Power sector: set up CERC,approval of Accelerated Power Development and Reforms Programme (APDRP)
5. Set up National Highways Authority of India
6. Introduced PPP model for infrastructure development
7. Disinvestment in select public sector enterprises
Government United Front
Tenure June-96 to Mar-98
1. Tax reforms: lowering of rates,removal of surcharge on corporate tax,reduced corporate tax rate
2. Voluntary Disclosure of Income Scheme
Tenure June-91 to May-96
1. Abolition of licence quota raj
2. Rationalisation of import duties and tariffs
3. Streamlining of procedures for FDI approvals; automatic approval within limits in 35 industries
4. Increased limit on foreign capital in joint ventures from 40% to 51%; 100% in specified sectors
5. Controller of Capital Issues,who decided the number and prices of shares that cos could issue in IPOs,abolished in 1992
6. Opening of equity markets in 1992 to FIIs. Indian companies permitted to raise capital abroad through GDRs
Source: Angel Broking