The other day, while I was chatting with an old student of mine, he asked me whether we should factor general elections while doing valuation. Every 5 years we go to election. Why do not we factor that while projecting the free cash flows.
My immediate reaction was that since this is something we cannot predict, we should assume that free cash folows do not depend on general elections, that is they are politics-neutral. I am strongly of the opinion that it really does not matter who is there in power. If you are a businessman, you bribe whoever is in power to get your work done. If you are a normal citizen, you bribe the government officers and police for getting the work done (paying to the police when he comes for verification for passport, etc. You name it and we have it :)
So why should we care who comes to power. But should we? I just wanted to see how Indian economy was performing under different regimes here. I started from the 7th Lok Sabha election and tried to look at the performance of our stock market and the GDP growth rates during this time period. I thought there would be no difference.
I have not seen anybody doing this type of research before. So I used a methodology similar to event study here. To explain: Let's assume that the stock market has increased by about 214% when the current UPA government was in power. How much of this is due to UPA? Stock markets worldover were increasing at this time. So I also found the US market's stock performance during the same time. I attributed the difference between the Indian stock market growth rate and the US stock market growth rate during the last five years to the UPA government. Ditto for GDP growth rate.
Secondly, the non-congress governments lasted for less than five years in 3 out of 4 times they came to power. So I compared the performance on a year-wise data.
As far as the GDP growth rate (defined as the Indian GDP growth rate minus the US GDP growth rate during the same time period) is concerned, I found that the difference in performance is marginal (10.9% for Congress vis-a-vis 8.3% for Non-Congress parties). However, as far as the stock returns are concerned (defined the same way as for GDP) the difference in performance is spectacular (23.59% for Congress vis-a-vis a negative 1.2 % for the non-Congress). Either Congress is plain lucky or the stock market seems to like the policies of the party (which some way does not get reflceted that clearly in the GDP growth rate).
Yet to do a robust study of the results. These are just the preliminary results. The GDP story tells me that the free cash flows probably remain a bit high when Congress is in power. But the stock markets tell me a different story.
When a party goes to power, it is not that its policies stop having impact on the overall growth rate. If, for example, a different party comes to power now for the 15th Lok Sabha, then the policies made by UPA Government will still have impact on the GDP growth rate post April 2009. But over a long time period, that should get averaged out.
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As a corollary, if your analysis is true, based on predictions in the directions in which the economy is going (GDP growth) or stock market predictions by technical/fundamentl analysts, I should be able to predict which party will come to power in this election :)
One question that came to my mind was over the last 62 years, Congress has been in power for around 55 years, directly or indirectly, arent we then looking at a skewed picture in any case.
Also think period till 1992 and post that should be viewed differently.
Fundamentally my view is which government comes to power will define short term Market range, long term may be over a year or so will still be politically nuetral !
Congress has been ruling for a long time and the ministers are well adept at running the govt machinery. Non-congress parties are like freshers in college trying to understand the system. So when things move faster at the govt level -Eg(govt expenditure that is actually spent and not just shown on outlays)- one has better growth in GDP.
Similarly I assume the ministers are well accustomed to various businesses and their needs. A party that has been in opposition may not have enough experience to deal with the requirements of different industries. Moreover all the business houses are better networked with a party that has been ruling for a long time. So lobbying for their needs is easier.
Another possibility is that most of the Congress ministers have stock holdings of various companies acquired by "Various" means!! So it is in their interests to give good news in terms of good policies to get the market going up.
Sugar prices seem to shoot up when Sharad Pawar comes to power. Is there a relation?
looks like Prashant's Corollary has been just proved right!
Lets hope the government and the good leaders last for another 5 years.
Sir,
Very interesting observation about GDP and Stock Markets.
Firstly, GDP is more precise measure of performance of an economy as it takes into account entire economy. On the other hand, Stock market Index (Sensex) represents just a small number of companies performance. Secondly, GDP growth is about the past performance of the economy, that is what actually has happened. On the other hand, value of a stock at any particular moment shows future cash flows, that is taking into account all possible future cash flows. Finally, Since value of a stock depends on future situations, it is inherently decided by our optimism, confidence and sentiments. So It is very much affected by human psychology and therefore imprecise measure of performance of an economy.
In conclusion, both GDP and Stock markets are different things So their trends will hardly depict any similarity.
Narendra
Interesting, i will do some study myself and comment on this.
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