Brokerages see limited impact of polls, Fed taper on markets

Credit Suisse, Espirito Santo Securities take contrarian view to that of Goldman Sachs, Nomura and CLSA

At a time when most market participants are eyeing the outcome of the recently concluded assembly polls and busy extrapolating the results to the possible outcome of the general elections scheduled for next year, analysts at Credit Suisse (CS) and Espirito Santo Securities seem to have a contrarian view. Besides this, CS also suggests that the impact of the bond-buying taper by the US Federal Reserve (US Fed) will be capped. These views are contrary to the recent reports by Goldman Sachs, Nomura and CLSA, which had suggested that the markets are eyeing a Narendra Modi-led National Democratic Alliance (NDA) government at the Centre.

“Of the ‘known unknowns’ in 2014, the two most significant are general elections and developments around the ‘taper’. While both are likely to drive market volatility given set expectations around their impact, in our view they have limited impact on the economy and earnings. The market should, therefore, revert to the trend soon after these events,” observes Neelkanth Mishra, India Equity Strategist at CS in his latest report on December 2.

Nick Paulson-Ellis, India Country Head, Espirito Santo Securities says his analysis of historical election outcomes suggests that market behaviour is erratic pre- and post-elections based on probability of election outcomes, which is temporal in nature.

“The impact of election results is generally neutral to positive for the market, unless a third front wins (like in 1996). We wouldn’t bet heavily on the election outcome, and instead focus on the fundamentals,” he says.

“A new, more competent, and hopefully stable government is certainly positive for India as it addresses policy paralysis, improves business confidence and supports fresh investments. However, the recovery is likely to be slower than what we have experienced in the past as our analysis suggests that the investment cycle will need more time to pick up, interest rates won’t decline in a hurry due to sticky inflation, and a fragile fiscal position means government investment is constrained,” Paulson-Ellis adds.

Mishra, on the other hand, believes that the fragmentation of the central government (i.e. number of parties coming together) has no correlation with GDP (gross domestic product) growth and market performance.

The three major reasons he cites for this are: (1) State governments drive execution whereas the central government just drives policies. The strong divergence in state-wise growth rates suggests state governments’ matter more; (2) Elections are not contested on economic ideologies but on caste, religion and local issues. This may be a flawed system, but the unintended benefit is the party can do what is economically necessary without worrying about voters; and (3) Central government action can take six-eight years for meaningful impact.

Bond-buying taper
As regards the taper, the CS report suggests that India will be much less impacted. “The current account deficit (CAD) has shrunk substantially and we believe sustainably, reducing dependence on volatile external capital flows. Further, the Indian economy’s interest rate linkage with that in the US is feeble at best, with very little of foreign institutional investors (FIIs) debt holdings remaining,” the report argues.

CS does not expect a pick-up in the investment cycle in the next two to three years and expects earnings downgrades to continue. “The current beta rally in our view is a sign that investors are turning neutral weight to avoid being whip-lashed on the day of the election results. We believe this rally is an opportunity to cut beta exposure, and not a sign that large-scale investment is likely to recover,” the report says.