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Parliament's a bad investment
Ram Kumar Kakani & Avinash Ghalke | July 29, 2006
India's elected representatives typically meet in Parliament three times a year. When Parliament reconvenes after a recess, it is expected that important policy matters will be discussed and these will alter existing economic equilibriums.
As a result, there is a veil of uncertainty around the decisions reached during the sessions. Some of these decisions are vociferously opposed by various industry lobbies such as Confederation of Indian Industry and Assocham.
We believe there has always been a power struggle between political leaders and big corporations. Naturally, the political leaders' ability to signal their power over large corporate houses is greater when Parliament is "in-session", than when it is "in-recess" - for instance, this can be done by sending negative signals on privatisation.
Based on this, we tested the proposition that prima facie returns on stock markets (apart from being an economic indicator, it also signals the power of big business) ought to be lower when Parliament is "in-session" than "in-recess".
We have used both the BSE Sensex and the NSE's CNX Nifty, and the indices span more than 14 years - from 1991 to 2005. The data on Parliament sessions was obtained from the Statistical Handbook published by the Ministry of Parliamentary Affairs.
From 1991 to 2005, we have had 3,628 trading days, during which Parliament was in-session for 1,331 days while it was in recess during 2297 days. We first created a simple portfolio in both indices and then followed two strategies.
The first strategy was to invest in the market index only on the day that Parliament is in-recess. This automatically implies that when Parliament is in-session, there will be no investment and we will hold cash.
The second strategy was to invest only on the day that Parliament is in-session. This automatically implies that when Parliament is in-recess, there will be no investment and we will hold cash. The returns in each strategy are calculated as the gains in the index for that period. We assumed that there would be no returns while one holds on to cash.
While Strategy I (in-recess) gave a daily return, from June 1, 1995, to October 15, 2005, of 0.326 per cent on the BSE, Strategy II (in-session) gave a return of 0.009 per cent - this was 0.337 and 0.003 per cent respectively for the NSE.
During just the past seven years, an in-session investment strategy would have resulted in a wealth destruction of more than a fourth while a in-recess strategy would have increased wealth more than four times.
One reason for this divergence in performance is that during the Parliament session, policy-makers debate on numerous policy issues and there is a lot of uncertainty about the outcome of the discussion, and this then has a negative impact on market returns.
Since there is a power struggle between the elected representatives and large firms, the legislature tries to use each opportunity to reinforce this power - so, Parliament sessions are not seen favourably by stock market players (especially investing in large-sized firms).
A cursory glance at the media discussion and Parliament questions raised indicates the large number of questions targeted at companies having a significant share in the GDP.
The fight between Infosys and elected representatives in Karnataka, or the ONGC CMD versus the oil ministry tiff, or the number of questions raised against Reliance are all indicators of this.
Since no party had a majority during the better part of this period, any policy decision had to satisfy all coalition partners, which would be a tough task due to the varied interests of the partners.
Parliament sessions bring these differences to fore when bills and policy matters are tabled for discussion. This was visible when the elected governments in power were trying to divest shares in PSEs, push for financial reforms, deregulate the petroleum sector, or open up the telecom sector.
The stocks of these sectors showed depressed returns and increased volatility during this period.
Since the ruling party heading a coalition also has to manage coalition partners with different ideologies, there is a reasonable chance of the ruling party trying to avoid information flow.
So, one may state that the information flow is asymmetric when Parliament is in-recess. On the other hand, there is more information flow and information symmetry when the Parliament is in-session. Hence, these differences (and, political risks) are visible when Parliament is in-session.
Also, to ensure minimum problems with coalition partners, market-friendly decisions favouring large investors and corporations are taken when Parliament is in recess.
Given this, the Parliament session effect would have vital managerial and other implications for various participants, including investors and fund managers.Dr Ram Kumar Kakani is faculty, XLRI Jamshedpur. Avinash Ghalke is a management graduate from XLRI. The views expressed here are personal.