The cyclical component of our thesis (i.e. improving GIP fundamentals + tightening fiscal and current account balances + speculation around political reform into the 2014 general elections = buy India) has as played out in spades in both the data and the early exit polling results.
Indian capital and currency markets have performed quite remarkably since we outlined our bullish thesis back on OCT 29th of last year. Specifically, the EPI etf has appreciated +21.6% since then, which compares to a sample mean of -1.4% across the 24 country-level EM etfs we track and good for the second-best performance over this duration. Moreover, the INR has appreciated +3.2% vs. the USD since then, which compares to a sample mean of -2.4% across the 21 currencies we track across Asia and Latin America and good for the third-best performance over this duration. Going back to the EPI etf, this fund has ripped +19.2% in the last ~3M alone (note: we reiterated our bullish bias in a detailed note on JAN 22) – implying some degree of investors crowding into this trade.
Given the recent performance, the risk that election results disappoint and lack of near-term positive catalysts, we think astute investors will look to book gains in Indian capital markets over the next ~1-3M. A diminished macroeconomic tailwind is cause for concern in the summer months as our GIP model has Indian real GDP growth slowing in the third quarter.
Key question: How much better is Indian economic growth going to get in the near term if consumer price inflation accelerates in 2Q?
Additionally, there’s a fair degree of open-the-envelope risk on Friday’s final vote tally, given India’s shaky history with exit polling. Specifically, the SENSEX dropped -11% in a single day in 2004 when the BJP coalition’s share was found to have been overstated by 70 seats in exit polls and the index rallied +17% in a single day in 2009 when the BJP coalition’s share was found to have been overstated by 30 seats in exit polls. Thinking longer-term, that’s an [potential] correction we’d want to buy – assuming Modi and the BJP capture enough of a ruling mandate to implement noteworthy economic reforms.
We continue to think what Dr. Rajan is doing on the monetary policy front is equally as critical – if not more critical – to structural improvement in India’s GIP fundamentals. While recent political rhetoric suggests that both his job and the RBI’s long-term policy guidance are safe, we can’t rule out investors speculating on an attack on the central bank’s sovereignty given that Dr. Rajan was appointed by the [likely] incumbent Congress Party and that his hawkish bias conflicts with Modi’s emphasis on promoting growth (albeit via proper economic management). That would be bad for the rupee and, historically, what’s bad for the rupee is bad for India (i.e. Quad #3 on our GIP model) because of the country’s dependence on foreign capital.
Feel free to ping us with any follow-up questions. Have a wonderful evening,
Associate: Macro Team