Why Stock markets were volatile after election results?

Political landscape of the country is embroiled with a new controversy involving the stock markets of the country. The markets, i.e. NIFTY 50, that touched a new high of 22,794 on April 10, 2024, corrected on June 4, 2024, when the general elections results were announced. This was the equity markets’ reaction to unfavourable results. In a way, the market had started correcting mildly immediately after it touched the new high. This correction in the market was due to widespread speculation that markets could have anticipated that Prime Minister Narendra Modi would not come back with a clear majority. Hence, after touching a new high has panicked with slower corrections.

Stock markets are indicators of what is likely to happen in the future, and that is factored into the market movements and valuations. So, if the market fears that PM Modi is not returning back to power, then it is evident that the economic reforms and, in turn, economic growth will take a beating. Policy consistency would also be hurt with the new Government taking office. Add to that the fear of an unstable political alliance because no party would have an absolute majority to push for political stability and reforms. All these factors have a negative impact on the stock market. Hence, it was stated that the markets are correcting in anticipation of unfavorable results. While PM Modi made a clarion call for 370 seats for the Bharatiya Janata Party and 400 for the NDA Alliance, the market was expecting anything in the range of 310-325 for the BJP. On the day of the results, when the market saw the reality that was much starker, and the BJP was not even reaching the halfway mark of 272, the market panicked, and we saw a further correction, which was also sharp and steep. Thankfully, the market did not tank as it did in 2004 when the then PM Atal Bihari Vajpayee lost the elections.

The fundamental premise for markets to rally to touch a new high before the elections began was the markets’ confidence in PM Modi and his economic agenda, which can be called “Modinomics” to usher India’s economic growth. Under the stewardship of PM Modi, the Indian economy was transformed from the Fragile Five economies in 2014 to Formidable Five economies in 2023. Flagship initiatives of PM Modi like the Production Linked Incentive (PLI) Scheme, Make in India, One District One Product (ODOP), Start-Up India, and the outreach to the global investors community have delivered results. It has also enhanced investors’ confidence in the Indian economy. Rising exports on the back of PLI scheme and global manufacturers shifting their manufacturing facilities from China to India has delivered expected results. PM Modi’s Government continued with the Capex Driven Growth strategy implemented by the Vajpayee Government by significantly increasing public investment in infrastructure. This was reflected in the form of an increased road network and four-laning of national highways, construction of flyovers and expressways, electrification of and broad gauging of railway tracks, expansion of railway network to include Kashmir and North East in railway map, building more than 75 new airports under the Udaan Scheme, electrification of villages, etc. On the defence front, India has become a significant exporter with exports of Rs 21,000 crores in FY 2023-24. Public Sector Defence Companies like HAL, BDL, etc. became multi-baggers due to the Government’s export push. All these factors led to a growth in economy and investors – both local and global reiterating their faith in the Government led by PM Modi. This is why, despite some initial turbulence in the market, not only the benchmark indices but even the broad market bounced back to touch the new high in Market Capitalisation of US dollar 5 tn.

In this article, we take a deep dive into the reasons why markets should be corrected and the reasons for high volatility.

Foreign Institutional Investors (FIIs) find Chinese Markets relatively cheap and attractive

FIIs sold heavily this month throughout May 2024. FIIs sold Indian equities worth around Rs 25,000 crores in the cash segment and around Rs 11,000 crores in the equity derivatives segment. This selling by FIIs has contributed to the fall in the market. This is because FIIs are finding Chinese markets more reasonably priced and available at attractive valuations. China Shanghai Composite Index trades at a Price Earnings Ratio of around 12.2 times compared to a peak valuation of around 69 times in October 2007 and around 25 times in June 2015. This shows that Chinese markets are available at a valuation cheaper than Indian markets and are trading at a Price price-earnings ratio of 23.6 times. No wonder FIIs are preferring Chinese stocks and selling Indian stocks. This has led to a fall in the market.

Strong US dollar on the back of rising FED rates in the US

The FED Rates in the US continue to remain firm, and the FED is giving hawkish signals. Currently, the FED rates are hovering at around 5.25-5.50 per cent levels. This also has an impact on FIIs’ decisions. FIIs and their investors would prefer to offload Indian equities and increase their exposure in the US treasuries. This especially holds true when Indian equities are fully or overvalued and doesn’t offer a huge upside to compensate the investors for higher risk and additional delta required for the exposure in the Indian equities over the US treasuries. Higher interest rates in the US also result in a strengthening in the US Dollar. Strengthening of the US Dollar means weakening of the Indian Rupee. This results in lower returns for FIIs who are invested in Indian equities. This is one more reason for FIIs selling Indian equities. This is one more reason for FIIs selling Indian equities and moving out.

Hence, due to the aforementioned reasons, we saw Indian markets correcting before and after the results were announced.

The market caught a frenzy once election results started coming out, which showed a grim situation. Markets’ fears of policy paralysis arising from an unstable Government with unreliable alliance partners would hurt economic growth and impact economic and policy reforms and continuity. This is why markets crashed. Add to that the biggest concern for markets is that if Modi-led NDA didn’t form the Government, then the whole process of reforms and development would be derailed. This is where the statement by Shiv Sena (UBT Faction) spokesperson Sanjay Raut, who said that the country will have 5 Prime Ministers in 5 years if the I.N.D.I Alliance came into power, resulting in chaos in the market. Given the unstable and opportunistic character of the alliance, this would lead to policy paralysis and reversal of economic and policy reforms undertaken by the BJP led NDA. A change of Prime Minister every year would again mean a change in policies and resultant instability. This is definitely not good for the market. This directly highlights the markets’ fear and lack of confidence in the I.N.D.I.A Alliance and its leaders like Rahul Gandhi, Lalu Prasad Yadav, Akhilesh Yadav, Mamata Banerjee, Arvind Kejriwal, Sharad Pawar, Uddhav Thackeray, etc. This is definitely not good news for these leaders and their respective political parties.

This is why markets corrected steeply after results. Once the markets saw that PM Modi managed to tie an alliance with Nitish Kumar’s JD(U) and Chandrababu Naidu’s TDP then the markets again gained stability and has now rallied to touch new highs.

However, we may see volatility in the markets in the prelude to the Union Budget 2024. Budgets have always been preceded by extreme volatility. However, once the Budgets were announced, then, we either saw the markets rallying or correcting based on what the Finance Minister proposed in the budgets. The same is expected to happen once again during this budget session. All eyes will now be on the Finance Minister, Nirmala Sitharaman, and what she delivers. If she delivers a good populist budget coupled with fiscal prudence, then we will see markets rallying after the budget. However, if the FM continues to remain stern on fiscal consolidation with fewer sops for industry and taxpayers, then the markets could take a beating. In other words, the volatility will continue in the markets. In other words, all eyes are now on the Finance Minister and her Budget.