Surprise election outcome in May can see markets tank 40%: Morgan Stanley

Morgan Stanley sees up to 10 per cent rise in the Indian markets ahead of general elections scheduled for May 2024 in anticipation of ‘continuity and majority’ in the polls. Markets, Morgan Stanley said, typically approach the elections with optimism, and this time around is likely to be no different. However, it cautions that the markets can tank up to 40 per cent in case the outcome is unfavourable.

“Historically, the Indian market approaches elections with optimism. We expect it to follow a familiar pattern this time around, i.e., pricing in a result that favors continuity in government with a majority. However, this is contingent upon how successfully the opposition shares the seats that pose a threat to the incumbent. Advancing the election date could concentrate the market move into a shorter period," wrote analysts at Morgan Stanley, led by Ridham Desai, their head of India research and India equity strategist, in a report co-authored with Sheela Rathi and Nayant Parekh.

The forecast assumes the election process will start in April and will end with results being announced around the third week of May. It also assumes that the elections are not advanced to an earlier date, which is always a possibility. 

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“Advancing the election date could concentrate the market move into a shorter period. Back in 2004 when the election results were against what the market was pricing in, the Sensex fell 17 per cent in a single trading session,” Morgan Stanley said.

The defining moment, Desai said, could be if and when the 26-party opposition alliance, known as I.N.D.I.A., is able to strike a seat-sharing deal. “This is something we will know only closer to the election date,” the note said.

The outcome of the general elections, meanwhile, the Morgan Stanley note said, has enough firepower to sway the markets on either side.

“If we are right about the pre-election market move, then depending on what the election result is, we believe the market has the potential to swing between +5 per cent and –40 per cent –a wide range underpinning how important the elections could be to the market in the short-run. The wild swing has historical precedence, although we think it could be more acute this time around,” Morgan Stanley said.

Investors, it advises, can use 'options' (derivative strategies) to hedge against the volatility. For others, they recommend barbell portfolio that is overweight domestic cyclicals, rate sensitives and technology. 

US stock market, interest rates, growth, crude oil prices and inflation are some of the factors, Morgan Stanley said, will also play a key role as India's election calendar gets busy in the months ahead.

There are three cohorts, Desai, Rathi and Parekh believe, that will probably affect the election outcome disproportionately, which includes stock market investors, social media users (over 500 million) and first time voters (around 130 million). 

These are not mutually exclusive pools but are mostly larger in size now than they were in 2019, which is especially true of stock market investors (now at an estimated 100 million and 120 million voters) given the surge in the number of equity investors over the past five years. We see these groups as important because of their large size and their superior access to information. 

“There is limited information available to say how these groups will vote in the forthcoming elections, although it is likely that the stock market cohort, which has amassed significant wealth over the past five years, will vote in favor of continuity in administration as it is more likely to ensure stock market stability,” the note said.