(Corrects spelling of Modi's first name in first paragraph,
corrects 2nd paragraph to day votes counted from day of voting)
By James Saft
May 20 Investor enthusiasm for new Indian Prime
Minister-to-be Narendra Modi and for activist investment may
spring from a common underlying cause: the reality of lower,
less explosive growth.
India handed Modi and his Bharatiya Janata Party (BJP) a
thumping victory in elections last week, setting off an equally
explosive rally in shares, which jumped as much as 6 percent on
the day the votes were counted and the results announced.
On the surface India's rally, essentially a bet that Modi's
pro-business and development policies will succeed, seems very
different from the joy with which investors have taken to
greeting news that an activist investor has taken a stake in a
company and is banging the table for change.
Underneath both can be seen as a reaction to more difficult
times, conditions in which growth is at a premium.
Just as investors push for yield when interest rates
decline, taking on more risk in search of a little extra return,
so do they put a premium on potential cash flows as growth
declines. That can be via genuine organic growth, as Modi hopes
to create with infrastructure investment, or it can be the
result of financial engineering, as with the share buybacks and
dividends so often demanded by activists.
In both cases we get what may be an outsized reaction to
changes in policy simply because more difficult conditions make
small, incremental increases in outcome that much more valuable.
While the hope within an Indian context is for faster
growth, the reality in the rest of the world is less upbeat. Not
only did both the euro zone and U.S. economies barely make
headway in the first quarter, but Chinese growth, long to be
relied upon, has sputtered. Citigroup's Economic Surprise Index,
which measures economic data relative to expectations, is in
negative territory for the U.S. and Japan, is negative and
falling in Europe and has more or less fallen off a cliff in
That weakness in China, which is growing but far less
rapidly than we are used to, is ironically making the hope of
future growth in India that much more attractive. Indeed
foreigners front-running a Modi victory committed upwards of $16
billion into Indian shares in the past six months, taking their
holdings to more than a fifth of all Mumbai-listed issues.
None of this is to say these are the correct strategies, but
they certainly become more attractive to investors when the
low-hanging fruit elsewhere has been plucked.
But India, history shows, is a difficult place in which to
effect 'business-friendly' reform, and though Modi and the BJP
have the best mandate in decades successes will carry political
costs which may make them self-limiting. Growth too, as ever
with structural change, will only come at a considerable delay
to when the reforms are begun, much less when elections are
held. It seems likely, then, that the market is crediting Modi
and the BJP party with perhaps a bit more ability to get things
done immediately than they will display.
Are Indian shares worth 8 percent more than a month ago?
Impossible to say, but very likely that they have enjoyed a tail
wind because of the lack of positive stories elsewhere. After
all, there aren't that many societies these days with more than
a billion people and better growth prospects than a year ago.
That lack increases India's value, regardless of its degree of
success in enacting reforms.
The lack of great growth stories is also very likely part of
the reason for the growing popularity of activist investing,
which at its best is really no more than shareholders playing
their proper role as owners. More than $3.5 billion net cash
flowed into activist hedge funds in the first quarter alone,
according to Hedge Fund Research, well over double the pace in
Though activists haven't got anything like a monopoly on
knowledge of how to extract value from a company, it is very
likely that they get a better hearing, both from corporate
boards and from other investors, during times in which organic
growth is more difficult to come by.
Take Apple for example, which came under pressure
from activists Carl Icahn and David Einhorn over the past year,
positions taken after the company amassed a huge cash pile and
seemed less sure-footed in expanding its product lines.
Though Icahn eventually dropped a proposal seeking $50
billion of additional share buybacks, Apple did come through
with much of what they'd been asked for. The company's earnings
in April featured $30 billion in new buybacks, a 7 for 1 stock
split and a big hike in its dividend.
If the current period of slower growth proves protracted, we
can expect many more such stories, both corporate and national,
and an increasing willingness by investors to pay a premium for
(At the time of publication James Saft did not own any direct
investments in securities mentioned in this article. He may be
an owner indirectly as an investor in a fund. You can email him
at firstname.lastname@example.org and find more columns at blogs.reuters.com/james-saft)