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How Politics Plays a Role in Influencing the Stock Markets?

    IndianMoney.com Research Team | Tuesday, March 25,2014, 06:17 PM
 

Stock Markets create history

On a bright sunny morning on May 18th 2009 history was created in the Indian stock markets. Within a minute of trading the stock market indices had hit an upper circuit of 10% and trading was halted. When trading resumed the stock market indices had hit the final upper circuit of 20% and trading was suspended for the day. So why did the stock market’s rise to such gigantic heights on a single day?

  • >This was a day when a newly elected Government would come to power with an overwhelming majority.
  • The common perception was that if a Government came to power with such a winning margin, regional and left parties would have no say or harbor no interference to the newly elected Government.
  • This would result in the Government being able to make industry friendly decisions with virtually no interference from Regional and other parties.

This feel good factor resulted in a resounding upward movement in the stock markets

Markets lie in the dumps

  • Stock markets after a rousing 2009 and 2010 slowly started drifting downwards and by May 2012 seemed rudderless.
  • This situation coined up an interesting term “Political paralysis”.
  • Credit rating agencies downgraded India’s investment status.
  • Slumping growth and a very high current account deficit stared the Indian economy in the face.
  • Political infighting and lack of a consensus with the opposition lead to industrial friendly reforms being put off.
  • Retrospective tax and corruption raised its ugly head.
  • Stock market indices nosedive.

The above two examples of sudden movements of the stock market were due to political moves/changes. Needless to say politics plays a big part in (stock market) economics. Listed below are four broad political factors which affect or can affect stock markets.

  • Non uniform policies / Policy paralysis
  • The nexus between politicians and businessmen – When they are exposed
  • Coalition Politics
  • Vote bank politics

Let’s take up the above listed factors and try to understand how they can affect the market.

Non uniform policies / Policy paralysis

  • Policy paralysis commonly called policy uncertainty is a severe dampener for businessmen conducting business operations in India.
  • Retrospective taxation send shivers down the spine of MNC’S planning to start operations in India.
  • Another major problem plaguing business in India is red tape. Projects worth lakhs of crores are known to be held up even after obtaining the necessary environmental clearances.
  • The holding up of projects critical to industry which depend on policies framed on coal steel and natural gas slows down business as well as causes a severe loss to the nation.

Result : Share prices of industries who have their projects delayed drop resulting in a severe loss to investors.

How does delay in obtaining environmental clearances affect growth of industries and thereby their share prices?

Environmental clearances play a massive role in the operations of infrastructure and mining Companies. Environmental and forest clearances are mandatory for some of their projects and inordinate delays can lead to projects being held up for years. Better to err on the side of caution than face the wrath of the people is the agenda followed by the political rulers of our nation. Shares of Infrastructure and mining Companies rise rapidly when news of them bagging or starting major projects comes in. However the delays in obtaining the necessary clearances can drag on for many years and subsequently their share prices fall.

  • A massive iron and steel MNC is denied permission to start its operations as it would harm the local populace and pollute the environment.
  • Granting of licenses and environmental clearances only if the Government obtains a commitment towards social causes and development of society by the MNC.
  • Rejection of licenses and environmental clearances of mining behemoths operating in the country owing to tribal rights and their protection and degradation of forest land.
  • Shutting down of smelting operations as it is deemed hazardous to the environment and the health of the local population.
  • Extensive iron ore and sand mining from riverbeds used in the construction industry banned due to environmental degradation.

So what effect does failure to obtain environmental clearances have on the stock market?

Banning of mining affects the share prices of Companies exporting iron ore fines to China which has a guzzling appetite for steel and construction.
Result : Shares of Iron ore mining Company in the dumps.

Cancellation of coal blocks allotted to Companies due to delay in production of coal from these blocks results in a shortage of raw coal feed for these Companies owning power plants. Costly coal has to be imported and this pushes up the cost of power produced.
Result : Shortage of coal impacts power stocks and the power sector in India is down in the dumps.

The nexus between politicians and businessmen –When they are exposed.

Coal is an important natural resource and control and operations of coal mines known as captive coal blocks are the prime focus of industries involved in the power sector.

  • If an industry bigwig has captive coal blocks he rules the power industry. Supply of precious coal is assured. In a country starved of power and energy this industry bigwig is a King. So how can this industry bigwig obtain a captive coal mine? The answer is obvious. Connections in the right places. Simple isn’t it “Use political connections to procure coal mines. This access to a vital power and energy producing source powers the power plant producing vital electricity sold at a high cost. Allow the Company to be taken over by a powerful acquirer and sell out at a massive profit may be a practice used.

Result : Imagine the share price of a Company having its own captive coal mines. Acquire the coal mine …Watch the share price skyrocket.

That scarce spectrum

One has read about the 2G and 3G spectrum allocation and how scarce spectrum is the lifeblood of the telecom industry. Whichever business house owns spectrum in the maximum possible circles controls its own telecom destiny and businessmen involved in this industry want to procure scarce spectrum at any cost.

  • Political nexus helps procure scarce spectrum which increases the hold of the business in the circles (territories where he owns scarce spectrum).

Result : Stocks of telecom Companies owning scarce spectrum rise.

Coalition Politics

FDI in Multi Brand retail

Entry of multi brand retail into the country…Small traders in India tremble in fear…Politicians line up behind these traders to protect local industry and garner votes. Political vendetta or settling of old scores between politicians engaging in petty politics is a severe dampener for business.

  • Individual state leaders get to decide whether to allow multi brand retail into their states or not.
  • Certain political parties in power oppose the entry of multi brand retail into their states to protect the interests of the local traders.

Sourcing norms :
The multi brand retailers need to source 30% of goods used in their products from local domestic Indian Companies for their operations. A thorn in the flesh for retail MNC’S as they view this local produce as sub standard affecting the final quality of their product.

  • New rules state the local small scale and medium industries being part of the sourcing must have an investment of $ 2 Million in plant and machinery instead of $ 1 Million stated earlier. A relief for MNC’S in multi brand retail.

Result : The multi brand retailers enter into joint ventures with local partners in India. The stocks of these local partners would rise.

Vote bank politics

Land is an asset which is in short supply in the nation more so for industry. Automobile industry involves large holdings of land for its operations and automobile big wigs wine and dine with politicians to get their way.

  • Secure land for automobile operations in order to mass produce vehicles.
  • Granting of land to automobile ancillary industry and providing support to help tap local labor.

Result : Automobile shares go up on procuring land for their operations.
Farmers oppose the granting of agricultural land to be converted to industrial use. Farmers serve as a very large vote base and politicians in many states in India yield to them as they do not want to affect their vote banks.

Result : Automobile shares take a tumble.
There is a famous saying on politics “ In politics there are no permanent friends or enemies only interests”. Business has a similar saying “ There are no friends and enemies in business”. There is only business. The coupling of business and politics cannot be wished way and stock market movements will depend on politics for many years to come.

IndianMoney.com Research Team

The research team at IndianMoney.com comprises of certified and experienced professionals who share the company's vision to make every Indian financially literate by equipping every Indian with right and unbiased advice. IndianMoney.com research team provides newsletters, articles, videos and FAQs on various financial products and concepts only to help you make wise financial decisions.

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