On May 23rd 2019, after a seven-phase election spread over more than a month, we would know whether – 1) Narendra Modi of the Bharatiya Janata Party (BJP) will get a second term as Prime Minister or 2) the grand ‘old’ Congress party led now by its ‘young’ 48 year old president Rahul Gandhi would once again come back to power or 3) the diverse Indian voter base would have voted in such a way that a non-BJP, non-Congress motley coalition would put together a majority block and form the government, something which hasn’t happened since 1996.
That all the three possibilities are still bandied about with only the last phase of voting remaining is indicative of the fact that this election result which was a foregone conclusion in favour of Mr. Modi and his party about a year ago, is bitterly close and is being bitterly fought.
We do know that election results do not matter to long term economic growth and the Indian economy chugs along at its 6.5% – 7.0% (old series) potential GDP growth despite and in spite of any form of government at the Centre – coalitions, strong mandates, weak mandates, right winged, left dominated…
But asset prices (equities, bonds and currency) do and can react in the short term and thus we will have some severe hyperventilating from the evening of Sunday May 19th, when exit polls are due to be released till Thursday 23rd when the final results are actually announced.
Option 1 and Option 2 are KNOWN KNOWNS for the markets as the ideologies, the policies and the people of these two parties are known to the investors. The markets may still react negatively on Option 2 but within time the asset prices will move towards fundamental realities and long term trends, opportunities and risks.
Option 3 is an UNKNOWN UNKNOWN. The policies, the ideology and the people in the government would be known to investors only over time and markets may react negatively and for a longer period of time until convinced otherwise.
For Indian bond market, given that interest rate changes are now set by a Monetary Policy Committee (MPC), government influence on rate decisions are that much lesser. But the key drivers for Indian bond markets out of governments is their view on fiscal prudence and the desire to keep inflation under control.
Fiscal consolidation and the goal to reach 3% fiscal deficit / GDP remains elusive and we would caution investors from expecting it from any government in the near term.
The BJP though has traditionally shown a stronger desire to keep inflation under check than the Congress.
The Indian bond markets are currently attractively valued on both nominal and real terms with the 10 year government bond yielding ~7.4% (semi-annualized); the 10 year AAA PSU at ~8.4% (annualized) at a time when CPI is forecasted by the MPC to average 3.4% over the next year and the Repo Rate is at 6%.
The uncertainty of the election result is probably bearing on market yields. The bond market also remains expectant of some monetary policy action, rate cuts and liquidity infusion. We expect RBI to ensure that system liquidity remains in surplus mode but that need not necessarily alleviate the credit situation of stressed NBFCs and corporates.
(Arvind Chari is the Head, Fixed Income – Quantum Advisors)
The views expressed here in this article are for general information and reading purpose only and do not constitute any guidelines and recommendations on any course of action to be followed by the reader.