With Shri Narendra Modi Ji at the helm of affairs, here is the outlook for Indian Economy and Equity
India’s growth potential has been constrained by a number of factors linked to the socialist and centralized control model that India has adopted all these years, rendering India as a country that “grows stealthily at night”. Modi is a man who believes in untying these knots and he is backed by the authority to do what he believes. It is fair to assume that the policy environment will turn progressive and conducive and that will drive a turnaround in business sentiment and investment cycle. India’s GDP growth on a structural basis is now upward sloping.
Both revenue and fiscal deficit will head down - Given the basic ethos of BJP to move away from an entitlement model, expenditure management will be better. Cumulatively, this will help rein in deficits and government borrowings.
Inflationary pressures will ease. Three key reasons why inflation remained elevated in the past few years are: a sharp worsening in revenue deficit (and consequently, fiscal deficit), ever exacerbating supply side bottlenecks and linked to that, poor quality of growth.
Investments and savings will rise, cost of capital will come down. Lower government dissaving will drive up overall savings and that will feed onto a virtuous loop of rising savings and rising investments. Savings are down by 8% of GDP from the peak, while investments are down 7%. Coupled with a likely fall in India risk premium, long-term cost of capital will come down.
Equities are in a sweet spot. Of all macro variables, corporate earnings are most elastic to changes in real growth (see our note ‘What drivers corporate profit growth’ dated 10th April, 2013); understandably so, as the cyclical sectors are the most levered. As real growth picks up, earnings will see upgrades and capital efficiencies will get better.
Nifty trades at FY15 PER 16x, FY16 PER 14x. The near-term risks are more external than internal, in our view.
