With exit polls pointing to a clear majority for the Bharatiya Janata Party (BJP)-led national Democratic Alliance, it seems the Street's optimism of acche din annewale hain wasn't misplaced. Since Narendra Modi had been named the BJP's prime ministerial candidate, the Sensex has gained 19 per cent, 5.5 per cent of this through the past two sessions.
In the immediate term, there are chances of extreme price swings. But beyond that, markets are more likely to respond to fundamentals, rather than specific events. As Benjamin Graham, the pioneer of value investing put it, in the short term, markets will act like voting machines, for which public opinion matters, while in the long term, they are more like weighing machines, with stocks reflecting fundamentals.
"Investors should look beyond events such as the outcome of elections, which will produce lot of volatility and irrational behaviour, but that is an opportunity to find bargains and compound wealth in the long term," says Nilesh Shah, chief executive, AxisCapital. Today, there aren't many cues about the certainty of a recovery in earnings but broadly, things aren't in the worst-scenario bracket, as most experts are expecting a revival in earnings. For instance, after a decline in earnings and subdued growth about a year ago, the Sensex has recorded double-digit growth in earnings through the past two quarters. In this quarter, too, net profits are expected to grow 12-14 per cent, which marks a recovery.
"A broad recovery in earnings will probably come after the June quarter, as consumer confidence grows and the investment cycle kicks in. Markets tend to look at all these things well in advance. By the time the earnings come, we could be in for a mid-year correction in India. What we are suggesting to people is this is as good a time as when you had invested in 2003," says Ramesh Damani, an investor and member of BSE.
Obviously, near-term risks remain. But experts say one should not completely subscribe to the 'gloom and doom' theory because even during the crisis and the economic slowdown during 2009-13, Sensex earnings had grown about 10 per cent. This is because even if the rate-sensitive and economy-sensitive sectors such as capital goods, automobiles, power, metals and infrastructure do not contribute significantly, sectors such as fast-moving consumer goods, pharmaceuticals, information technology and banks have, to an extent, been helping boost growth. Therefore, if an economic recovery takes longer than expected, it is quite possible Sensex earnings could grow 8-10 per cent.
In the best scenario, if economy-sensitive sectors also start to contribute, growth will be much higher. As of now, analysts expect Sensex earnings to grow 15-16 per cent through the next two years. In absolute terms, they expect Sensex earnings per share to rise from Rs 1,331 in FY14 to Rs 1,793 in FY16.
"Markets are slave to earnings, not slave to any party. In the past, we have seen during the formation of a government, despite the issues of a clear majority, markets have been making new highs. So, even if the national Democratic Alliance is not able to form government, nothing goes for a toss. In the short term, the sentiment will be negative, but beyond that, earnings will start to reflect," said Nilesh Shah, managing director and chief executive, Envision Capital Though elections and the formation of new government will have an impact in the near term, growth in earnings is unlikely to be ignored by the market through the long term and that should support markets and drive them higher.
But should we pay for this expected recovery when part of this growth is already factored in? "The markets tend to react six-eight months in advance. It is factoring in a new government; new policies will take place and that will spurt the investment cycle. Consequent to that, an earnings upgrade will take place," says Ramesh Damani. EXPERTSPEAK RAKESH ARORA MD & head of research - India, Macquarie Capital Securities
The markets have not yet fully factored in a Bharatiya Janata Party win, which is why we saw sharp movement in the last two days. FII flows could increase if the election outcome is in line with market expectations NAVNEET MUNOT CIO, SBI MF
The rally is in anticipation of a stable government, which would be business-friendly and revive the investment cycle in particular. In case we get a fractured mandate, the markets will give up the recent gains S NAREN CIO, ICICI Prudential MF
It appears the markets have already factored an election result of a stable and strong government at the Centre. While the medium- to long-term outlook remains positive for growth revival and interest rates barring the monsoon risk, the near-term direction is totally dependent on what happens on May 16 GAUTAM CHHAOCHHARIA Head of research India, UBS
Markets are rallying on expectations of a positive outcome for the elections. If the National Democratic Alliance achieves a target of 270, the markets could touch 7,800-levels on the same day, but that would be more of a euphoric reaction. If the outcome is negative, Nifty could fall to 6,100 or 5,800-levels