After a seven-week election, Narenda Modi was sworn in as India’s prime minister for a third consecutive term. But his party’s failure to win an absolute majority for the first time in 10 years sent markets falling after a long bull market for Indian equities. After the election shock, fund managers consider whether this result affects the investment case for India.
The initial effect will be to delay political decision making, they argue.
“This could lead to a slowdown in policymaking and a potentially more populist turn. However, we believe the BJP’s pro-growth and investor-friendly agenda will continue on the path it has already taken,” says Ashish Chugh, portfolio manager at Loomis Sayles (an affiliate of Natixis IM).
Amol Gogate, manager of Carmignac Portfolio Emerging Discovery, says that “running a coalition could somewhat slow the pace of government execution”.
“One of the reasons Modi has been such an effective leader is that his party had a simple majority. The market, or businesses, never had to worry about a coalition partner standing in the way of a particular reform or legislation. His business-supportive policies and fiscal orthodoxy have undoubtedly underpinned India’s strong recent performance.
“While the election results have certainly dampened markets and sentiment in the short term, they also show that India is a true democracy.”
India’s Stock Markets Hits $5 Trillion
On January 22, the Indian stock exchange officially surpassed that of Hong Kong in capitalisation ($4.3 trillion versus $4.29 trillion), rising to fourth place in the ranking of the world’s largest stock markets, boosted by the growing optimism of international investors about New Delhi’s economic prospects. Currently, the Indian market is back in fifth place, despite exceeding the $5 trillion market cap for the first time.
Overtaking Hong Kong reflected India’s exceptional performance in 2023. This year, the trend has not changed much, with the Morningstar India Index rebounding 15.3% from 1 January to 7 June 2024, compared to 8.3% for the Morningstar Emerging Markets Index over the same period (in euros).
Here you can see the performance of some of the India funds with the highest Morningstar Medalist Ratings: FSSA and Stewart Investors are rated Gold and Liontrust is a Silver-rated fund.
Expect Short-Term Volatility
Now, however, investors are wondering whether things could change. On June 4, Indian equities posted their worst daily performance in four years (-6%) in the wake of exit polls showing the BJP without an absolute majority.
But this may be a shortlived reaction, some argue.
“Although we expect to continue to see some volatility in the short term as the market assimilates these changes – the rotation towards stocks that have lagged the rally in Indian markets over the past 18 months may persist in the short term – in the long term we think the impact will be minimal,” says Nick Payne, investment manager at Jupiter Asset Management.
“The last two terms of economic reforms have prepared the country to continue its current growth trajectory.’
In the short term, Indian equities are vulnerable as small and mid-cap valuations are high, says Kunjal Gala, head of global emerging markets at Federated Hermes. Investors should expect volatility, given the risk related to government policies and priorities. In the medium term, Gala continues, the outlook for stocks will depend on the trajectory of earnings.
“In part, this will depend on the recovery of the rural and agricultural sector, the government’s investment plan, and the recovery of private sector investment.”
India’s Bond Profile
The increase in capital allocation by global investors is likely to be a catalyst for the country’s future growth. To date, investment in India’s stock and bond market has been predominantly domestic, but two events could shake things up: the inclusion of India in JP Morgan’s widely followed emerging market government bond index, starting June 2024; and the inclusion of eligible Indian bonds in Bloomberg’s local currency emerging market index, starting September 2024.
“According to our estimates, these two events could bring up to $40 billion in new foreign investment. As international investors become more familiar with the country, this development should also transfer to the stock markets,” Carmignac’s Gogate says.
This capital boost, coupled with Modi’s pro-business approach and a well-managed domestic financial system, could push Indian markets higher. But not all stocks will benefit, he says.
“As valuations are already high and the political environment is now more uncertain, volatility could increase, so selectivity becomes increasingly important,” Gogate adds.
“In our view, small and mid-cap companies will benefit from a likely investment growth cycle, as will financial services, high-end manufacturing and real estate. The most innovative businesses with the greatest growth potential will emerge thanks to a highly supportive ecosystem for growing companies.”
