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India Strategy: General election 2019 - Saffron sweeps; Economic revival to be the utmost priority

In a historic verdict, NDA swept back to power bagging ~350 seats. BJP has also gained standalone majority with ~303 seats (gaining a whopping 7% vote share, 38% in 2019 against 31% in 2014). As NDA/BJP got a decisive mandate from electorate, we expect NDA-2 to be a bolder version of NDA-1. While a closer look at BJP’s manifesto indicates an economic policy continuity at centre (in terms of social security net development, continued focus on infrastructure development, increased welfare dole outs under PM KISAN), but an overall blueprint for revival of economy seems amiss. Moreover, the new government will be faced with few immediate challenges in a unique economic backdrop (slowing global and domestic growth, high unemployment, tight liquidity in trade and banking system, sluggish earnings growth). While bond and equity markets alike have cheered the decisive mandate (exhibit 14-15), we see any further robust performance in both asset classes to be rather contained. While equity markets’ performance is expected to be capped by rich valuation (Nifty’s 12 month forward PE at 17.9X, upwards of 1 standard deviation from long term average) and tepid earnings expectations; bond markets are expected to feel the heat of fiscal costs of PM KISAN and infra spend and weak tax collection momentum. Overall, BJP’s manifesto sides with its right wing economic approach of making investments in economy by means of asset creation, thus supporting employment and income generation. Consequently, we believe that investment related sectors (Corporate Banks, Cement, Infrastructure) would do well, while consumption would also see benefits, albeit lagged. Hence, we continue with our sector preference in investment oriented sectors (details ) and we highlight the themes and beneficiaries emerging from BJP’s manifesto in Exhibit 1.

Unique challenges posed by current economic backdrop: Protectionism led slowing global growth and its impact on Indian exports, local liquidity crunch and its impact on informal sector, slowing domestic demand and industrial output, high unemployment rate, weakening rural demand, lack luster earnings cycle and limited fiscal space are the key immediate challenges that NDA-2 would need to attend to.

Good and Bad of BJPs manifesto and Policy continuity: BJP’s manifesto is the closest window we have to NDA-2’s economic policies and hence we studied it in detail to understand, what NDA-1 to NDA-2 transition would look like (we have highlighted key portions of BJP’s manifesto and put them together under relevant heads in annexure at the end of the report).BJP’s manifesto indicates a fair policy continuity but has it’s own challenges. Also, similar to NDA-1, we expect most of the benefits during NDA-2 to be delivered directly to bottom of pyramid through extensive use of technology. We highlight the good and bad of BJP’s manifesto below:

• The Good: Focus on rural and overall national infrastructure creation, employment and income generation through investment related approach, doubling of farmer’s income, focus on further development of social security net for the vulnerable, tax rationalisation effort to improve tax compliance, focus on making India a US$5trn economy by 2025
• The Bad: While standalone most of the initiatives sound good, an overall economic revival blueprint is missing. A clear path for GST and disinvestment reforms is not laid out. While unemployment is mentioned multiple times, there is no clear cut path to make an all-round attack on the issue

Challenges ahead: Some of the suggestions in BJP’s manifesto look fiscally ambitious, particularly a) PM KISAN (our calculations indicate a peak distribution would cost Rs1.7trm, 0.8% of GDP, exhibit 13) and b) Rs100 trn investment in infra sector over next 5 years. Given a limited fiscal space and already crowded out bond markets, we see either fiscal risk or miss in spending target.

Markets reaction: Both bond and equity markets cheered the decisive mandate, but we believe that upside in both asset classes would be capped in near term. While equity markets would see capped upside from rich valuation (Nifty 12 month forward PE trading above 1 standard deviation and long term average band) and limited earnings visibility in light of softer economic growth, bonds are expected to feel heat of limited fiscal space, crowding out of bond markets and ongoing weak tax collections. An improvement in weak economic environment and stable union budget for FY20 would be the key here.

Expect flows situation to be favorable: In light of event led global growth slow-down, we expect Fed and ECB to continue with dovish stance, thus keep global liquidity strong (details ). As India’s political uncertainty is out of window, we expect India to benefit from FII flows, should the macro-economic environment improve. Also, we expect, DII flows to pick up on higher retail participation as the sentiment sees a boost.

Our sector allocations: In light of policy continuity and current economic backdrop we continue with our sector allocation and preference towards investment related theme (details ). We highlight key themes and beneficiaries from BJP’s manifesto below: