- January 18, 2024
- Posted by: CFA Society India
Vaibhav Agarwal, CFA
Founder, Vaibhav Capital
Elections have a direct impact on government policies and reforms which in turn impacts the real growth in the economy. As a result, historically, elections have had a great influence on stock markets. Also, markets tend to react positively when there is a stable government at the helm, as there is uniformity in decision making at the top. Markets like stability, certainty and predictability.
However, stock market performance is affected by a myriad of factors like global growth, inflation and geo-politics or events like demonetization, taper tantrum or the IL&FS crisis. Hence, it may not be prudent to attribute the returns over a longer period to any election outcome.
From 1999 onwards we have seen that each of the governments has completed a full term. During this period, the markets have given about 29% returns, on average, over a one-year period before the election results (Exhibit 1). There was only one instance, in 2009, when there was a drawdown of 25% due to the Global Financial Crisis. Apart from that markets have always run up before elections. We are seeing similar trends this time as well.
Elections have more impact in the short term, less in the medium term and lesser in the long term after the election outcome.
For example, in 2004 it was a consensus estimate that the NDA will come to power. However, to everybody’s surprise the UPA government was victorious. The Sensex went down more than 25% in just two sessions after the results. However, it is noteworthy that in 2004 the markets still gave 20.5% returns!
Similarly, in 2009 Sensex went up 17% in a single session when the UPA was re-elected. So, it is evident that election results in higher short-term volatility. In 2009, the calendar year returns were close to 81% but that had a lot to do with the global recovery after the financial crisis in 2008. So, elections are only one of the variables when we look at returns over a medium to long term. There are a lot of other endogenous and exogeneous factors that are at play.
General elections also have a bearing on FII flows. Political risks in emerging economies are an important consideration for foreign investors. If there is political certainty and stability for the next 5 years then the FII flows tend to improve. This can be seen in the context of the current state election results which gave positive affirmation of the NDA government coming to power in the 2024 general elections. Foreign money which was waiting on the sidelines and which was circumspect on the election outcome started coming back to the Indian markets.
The question now is what should be the strategy for a long-term investor in India when it comes to general elections. In my opinion, election outcomes ought to have limited impact on investors’ decision making. In India, economic growth has remained resilient despite several changes in political leadership.
The basic tenets of value investing advocated by Graham or Buffett do not change. Focusing on good business economics, a good management and having a margin of safety in investing are the principles that one has to keep in mind whether its an election year or not.
Outcome of elections is a known unknown. We can have our opinions and biases but no one can be a 100% sure about the outcome. The last 25 years of data (Exhibit 2) shows that market returns have been above average in an election year. The consensus view is that in 2024 the NDA will be re-elected with a majority. If this view pans out, the markets will remain stable with moderate upward trajectory. In case there is a different outcome there will surely be a decent correction in the markets. However, one must take a long-term fundamental view of the companies one has invested in and ride the wave, as the long-term structural growth story for India remains intact.
|Sensex Returns 6 months before elections
|Sensex Returns in election year
It is realistic to assume that long term growth potential of India’s GDP is 6%-7% which translates to nominal growth of 11-12%. The larger companies in the Index can outgrow this by 2-3% due to better productivity and market leadership. This should result in 13-15% returns over a longer time frame for both the fundamentally good companies and the markets. This has been the case historically too. In 1980 the Sensex was at 150. It has crossed 70k recently, translating into about 15.5% CAGR over the last 4 decades.
It’s important to note that the impact of elections on the stock market is complex and multifaceted. Investors should consider a holistic approach to analysing market movements, taking into account economic fundamentals, corporate performance, and global factors. Having a diversified portfolio and a long-term investment perspective can help navigate short-term market fluctuations associated with elections.
Disclaimer: “Any views or opinions represented in this blog are personal and belong solely to the author and do not represent views of CFA Society India or those of people, institutions or organizations that the owner may or may not be associated with in professional or personal capacity, unless explicitly stated.”
About the Author
Vaibhav Agarwal has more than a decade of experience in capital markets and is a distinguished financial expert. He is a qualified Chartered Accountant and a CFA Charterholder. He is also a Company Secretary and has a Master’s degree in Finance. He did his graduation in commerce from ST. Xavier’s College in Kolkata. Vaibhav’s passion for business and finance started during his college days. Since then, he has worked with prominent institutions like CitiBank, ICICI and Aditya Birla Group. He most recently worked as Head of Equity Research at a leading boutique PMS before starting his own venture, Vaibhav Capital.