Modi: not out?

Ewan Thompson of Neptune Investment Management discusses the Indian growth story. Here he explains why India remains one of the most attractive long-term markets.

Investing in India over the past 18 months has been something of a turbulent affair. Whilst in general India has outperformed wider emerging markets in recent years, in the last few months it has been a bumpy ride, with performance being driven by a combination of external macro drivers and domestic political considerations.

First the macro: once labelled as one of the Fragile 5 emerging market economies in 2013 during the Taper Tantrum, India has enjoyed a recovery in fortunes as the Central Bank worked to rebuild currency reserves and policy makers addressed the current account deficit that had left the economy so externally fragile. However, one of India’s key external exposures remains its status as an oil importer and thus vulnerability to rising energy costs. It was therefore the rally in crude oil prices above $80 per barrel in September last year that initially sent the Indian market sharply tumbling along with the rupee. However, India has also suffered a degree of domestic uncertainty in recent months, especially connected to the upcoming elections this year.

The 2019 General Election is currently underway, which will ultimately see nearly a billion people go to the polls to choose the next government. Famously, the election of 2014 – which saw the victory of Modi’s BJP party – saw a sustained subsequent rally in Indian equities on expectations of a pro-business government policy agenda. Indeed, four out of the last five elections have seen strong market performance in the run-up to the event as investors, frustrated by coalition government, have hoped for an administration with a clear mandate for reform. The upcoming election is somewhat unusual in that the current leadership is not a hamstrung coalition, yet the outcome remains of vital importance to the markets as to whether India will remain under a reform-led BJP government with a clear mandate, or see a return to coalition politics. To this end, many investors had responded negatively to polling earlier this year suggesting an unclear outcome – this in large part explains the weak performance of the Indian market at the start of this year.

However, all of this has recently been turned on its head in the final run-up to voting – in large part a response to the recent military spat with Pakistan over Kashmir. In the wake of a bomb attack on an Indian army convoy on 14 February, events have led to a surge in support for the government and expectations for a BJP victory – with the market rallying robustly as it has moved to price in the more favourable outcome. Indeed since mid-February, $10bn of foreign inflows have surged into the market in just one month, significantly eclipsing the $4.5bn of inflows during the entirety of 2018. This improving domestic political outlook has also come at a time where US bond yields have eased significantly and the ascent in the US dollar has moderated, both of which supporting emerging markets in the early months of this year.

With inflation running at an extremely low level of just 2%, the Reserve Bank of India also has plenty of room to cut interest rates and stimulate credit growth, offering a favourable domestic economic backdrop to support the market. With the improving external backdrop as well as clearer domestic political outlook, India has had an opportunity to recover recent underperformance against wider emerging markets and all eyes will now be on the election, the results of which are due at the end of this month. The market is now clearly hoping for – and expecting – a decisive BJP victory and therefore continuation of market-friendly reform policies that have begun in Modi’s first term, which has seen the long-awaited passing of the Goods & Services Tax, bankruptcy reform and demonetisation. Although the roll-out of these policies has not been without incident – GST has raised less revenue than hoped, bankruptcy reform came later than hoped for, and demonetisation was seen as disruptive at the time – the direction of travel is clearly one that is beneficial to India’s long-term economic prospects. The key concern for the new government will be to kickstart a long-overdue investment cycle.

Whilst India remains one of the more expensive Emerging Markets – currently trading at the upper range of its historical premium to peers – it remains one of the most attractive long-term markets due to its enviable demographics and high-quality corporate management. In the short term, all eyes will be on the outcome of the 2019 election on 23 May, but in the long run it is difficult to see the Indian growth story being derailed significantly.


Issued by Neptune Investment Management

Important information

The value of an investment and any income from it can fall as well as rise as a result of market and currency fluctuations and investors may not get back the original amount invested. Neptune funds may be higher risk than other funds and past performance is not a guide to future performance. Investments in emerging markets are higher risk and potentially more volatile than those in established markets. Neptune funds may hold a greater percentage of smaller company stocks which can be higher risk than those in larger companies.