Pedestrians walk past the Bombay Stock Exchange (BSE) building in Mumbai. (Photographer: Dhiraj Singh/Bloomberg)

Surprise Twist in India's State Election Deflates Stocks Rally

(Bloomberg) -- A last-minute move by India’s main opposition party to keep Prime Minister Narendra Modi’s Bharatiya Janata Party from wresting control of a key southern state flattened the biggest stocks rally in three months.

The S&P BSE Sensex erased an intra-day advance of 1.2 percent to close little changed after the Congress party said it would support a regional outfit to form the government in Karnataka. Early trends that showed the BJP was set for a majority had sent the gauge to its highest level since Feb. 1. The rupee closed at the lowest level since last January.

“Investors are wary that the BJP might just fall short of the number required to form the government and this has pulled back the market,” said Sushant Kumar, a fund manager at Raay Global Investments Pvt. in Mumbai. “The volatility will persist until there is certainty of who forms the government.”

The BJP is leading in 104 seats, 8 short of the majority mark in the 224-member assembly, according to Election Commission of India’s website. The incumbent Congress party was ahead in 78 seats, it said. Regional party Janata Dal (Secular) was ahead in 38 seats.

The inconclusive outcome may result in a hung assembly, paving the way for the JDS to play kingmaker in forming a coalition government. Although poll trends signal that the BJP might fall short of simple majority, investors see the vote as bolstering the ruling party’s chances of winning a second term in next year’s national ballot, said Abhimanyu Sofat, vice president at India Infoline Ltd. in Mumbai.

Oil Threat

With the Karnataka election done and dusted, investor focus will return to elevated prices of oil -- India’s top import -- and higher U.S. interest rates, says Anindya Banerjee, a foreign-exchange analyst at Kotak Securities in Mumbai. The rupee reversed a gain of 0.1 percent.

“Karnataka’s impact on the rupee is done, and most probably, we’ll get a pullback in the coming days,” he said. “It can be said that the political risk premia has come down, but oil and the U.S. monetary policy threat are not going away. There is a real risk that if oil prices continue to punch higher, the rupee may head to 69 in the next three months.”

Here’s what other analysts are saying about the Karnataka poll results:

BNP Paribas Sharekhan (Hemang Jani)

  • BJP leading in Karnataka elections with almost 114-115 seats has been better than market expectations as traders were factoring in a hung assembly.
  • Stocks to remain positive on the back of BJP doing better than expectations and good quarterly results by consumer companies.
    • Prefers consumer companies like Hindustan Unilever, Britannia Industries, Marico Ltd. and Dabur India for medium- to long-term perspective.

Samco Securities (Jimeet Modi)

  • BJP winning elections comfortably may signal that the government may not resort to populist policy measures, which can strain public finances.
  • State poll results can be presumed to be harbinger for 2019 elections, which is why the market is rejoicing.

Scotiabank (Qi Gao)

  • Prospects of BJP winning a simple majority in Karnataka is in itself positive for the INR
  • However, an uptick in India’s CPI and core CPI will continue weighing on local bonds and the INR, together with rising 10-year U.S. Treasury yields.

ING (Prakash Sakpal)

  • BJP’s victory improves the odds of Modi retaining power at the next federal election but the rupee still faces the prospect of quickening inflation and widening trade and current-account deficits.
  • Public finances may also remain under pressure before the 2019 election as the government could seek to boost its popularity with increased spending.

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