Modi’s BJP secures another historic win

In the lead up to the polls, the probability of BJP repeating its 2014 single party majority feat had been considered low, given the economic performance under Prime Minister Modi’s leadership. Over the last 5 years, BJP has delivered on some of the 50 key promises/reforms. There are still a number outstanding; key among these being the insufficient creation of jobs, weak manufacturing, shortfall in investments and low farm incomes. Equally, the party’s execution record is seen to be weak given the implementation issues around the demonetisation and Goods and Services Tax (GST) schemes. Having said that, there have been several landmark achievements that have been underappreciated. Rural electrification, direct benefit transfers for subsidies, construction of toilets across villages for improving sanitation and hygiene, LPG cooking gas (almost for all) and increasing the road network pan India have been very well received by the rural poor. Last but not the least, reining in inflation for food and protein has been the biggest scoring point.

In the end, the electorate obviously cheered the military response to the nagging internal security issues sponsored by Pakistan. At the same time, Modi’s popularity - especially among first-time voters ~ 15 million new voters in the 18-19-year age bracket, helped BJP to secure a single party majority at the centre.

Modi’s re-election is good news for investors as it spells stability and a continuity of leadership and crucial reforms. There are however several immediate challenges like the banking and non-banking financial companies (NBFC) crisis, as well as longer term socio-economic challenges.

BJP’s 2019 election manifesto suggests the next 5 years will be dedicated to fulfilling and furthering its 2014 promises. This term suggests that the electorate is convinced that the government should be given another term to complete the agenda that they set out earlier.

On the socio-economic front, it aims to further improve India’s rank in the ‘Ease of Doing Business’ category, simplify the GST process, double the country’s total exports, double farmers’ income by 2022, improve women’s welfare and provide proper housing for families living in mud sheds. Others include promotion of cultural heritage, a zero-tolerance approach to terrorism and enhanced national security. All are clearly high on the national agenda and election manifesto.

The party also aspires to make India the world’s third largest economy by 2030. Overall, the economy appears to be in a much better position than in 2014 as per the indicators below (see Fig 1). Although growth has not ticked up significantly, it has averaged above 7% over the last 10 years. Structural reforms have been initiated in the last term and the next five years would be the runway to complete them. The government will have to grapple with global crosswinds and internal economic challenges but reviving the economy with capital formation would be high on its priority.

Fig 1: Economic indicators’ trend¹

NDA: National Democratic Alliance is a coalition of Progressive centre-right to right-wing political parties in India. Formed in 1998, it was led by the Bharatiya Janata Party (BJP). NDA 1 refers to the period this coalition ruled India. NDA 2 refers to the period this coalition was returned to power in 2014 general elections.

UPA: United Progressive Alliance is a coalition of left and centre-left political parties in India. It was formed after the 2004 general elections. Its largest member party is the Indian National Congress (INC). UPA 1 and UPA 2 refer to the periods this coalition ruled India.

Promoting growth, raising incomes (especially for farmers since the agriculture sector still accounts for 67 percent of employment) and creating jobs will also be critical especially since India’s per capita income is lagging other large emerging economies (see Fig 2).

Job creation is a political imperative. India has a young and growing youth population. The country needs to create millions of jobs every year to absorb the youth entering the job market. After winning in 2014, one of Modi’s major promises was to create 20 million jobs a year. But according to the latest National Sample Survey Office (NSSO) report, the 2017/18 unemployment rate rose to 6.1%, the highest since 1972-73. Such a high unemployment figure has led to doubts over the actual economic growth.

Fig 2: India’s per capita income lags its peers²

Tackling the trade deficit is another challenge which in turn puts pressure on the current account deficit. Exports have been hard hit by rising input costs following the GST launch in 2017. Furthermore, rising oil prices have widened the trade gap; India, the third largest oil consumer, meets four-fifth of its oil needs through imports and remains vulnerable to oil shocks. Meanwhile the Rupee can complicate matters, having been one of Asia’s worst performers in 2018; further depreciation will put pressure on the deficit.

There are challenges, but it is good that the mandate is decisive, and they will be at liberty to do all that it takes to work towards their promises. It is for them to mess it up, now.

Although India did not suffer from 2018’s exorbitant valuation-driven meltdown in technology stocks, Indian equities in general have been in expensive territory for some time now, a sticky point for investors. The world will closely watch the pace of capital formation, job creation and earnings recovery. There is little room for profligacy and the reforms of the last 5 years should now start to yield dividends.

Indian corporates are in a much better position, having deleveraged over the past decade. Still, potential scams and upheavals in the banking sector can increase market volatility. Earnings estimates are also fully priced into the market and valuations compared to history and other emerging markets are at a premium now. The market remains vulnerable to earnings disappointment.

Nevertheless, the support for Indian equities is not all foreign based - It is worth noting that domestic not foreign flows have supported Indian equities in 2017. This trend is expected to grow given the push for Indians to invest in financial assets rather than in physical assets like gold or real estate, given the rather benign inflation environment. Domestic flows into equity mutual funds have seen a sharp increase since mid-2016.

Amidst all this noise, we will continue to focus on valuations and identify companies that have good long-term fundamentals. The stocks that stand to benefit from a strong government at the centre are consumption, information technology, private banks, housing and select mid-caps. Any deep market correction will present us with buying opportunities.