The Modi effect

Indian govt seeks to cash in on Modi rally

Narendra Modi is helping to boost India's fiscal position even though the politician is still in opposition. The current government is planning to reduce its stakes in listed state-controlled entities with a new exchange-traded fund (ETF). If the offering is successful, it will help New Delhi shake off its poor reputation for divestments. It will also allow the current prime minister to benefit from investors' hopes that Modi will soon take his place.

The ambitious plan would see the government raise up to $490 million by selling a basket of shares in 10 companies where state ownership is above 55 per cent. Investors would then buy shares in the fund, which is managed by Goldman Sachs. While the Central Public Sector Enterprise (CPSE) fund isn't large by Western standards, its intended size is more than twice the value of India's existing equity-focused ETFs. Hong Kong is the unlikely inspiration for the scheme. The city used an ETF to gradually dispose of shares in blue chip companies worth $18.1 billion bought by the Hong Kong Monetary Authority (HKMA) during the Asian financial crisis in the late 1990s.

Shares of India's state entities tend to fall when the government announces a stake sale. The ETF structure makes it harder for hedge funds to anticipate disposals. It also allows India to offload stakes in less attractive companies at a similar discount to more sought-after ones. The intended proceeds are modest when compared with the $79 billion market value of the state's shareholdings in the ten companies. Nevertheless, they will help the government meet its privatisation target, which has been reduced to $4.2 billion for the current financial year.

Investors could benefit from the timing. India's weak economy and battered rupee means that state-owned entities trade on a lower multiple of earnings than the broader market and offer a better dividend yield. If Modi becomes prime minister in May, the stock market's six per cent rise in the past month could end up looking tame. By then, the opposition leader may be able to claim he has helped to reduce the deficit even before taking office.