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Budget 2018: Has the Modi government earned enough credibility from investors?

Feb 04, 2018 09:35 AM IST

One should find solace in this fact and accept that ample rewards will come to those who stick with India’s flourishing equity markets - just as they have for last 4 decades.

Gaurav Aggarwal Metis Capital Management

The obligatory, breathless, and needlessly congratulatory budget coverage/semi-analysis along with attempts to provide juicy tidbits on India’s FY2019 budget is starting to dissipate.

Let us all take a breath and step back for some perspective. What are the future implications and expectation change, if any, for the performance of Indian equity markets - a growing and important source of much-needed capital?

We must frame the question in terms of time-frame (short-term i.e. up to 3 years); and longer term (3+ years). I will limit my points to equity segment only.

Indian equity markets have given 15 percent annualised return for the last 38 years so reducing return by 10 percent (ideally LTCG tax rate should have been closer to 5 percent to make it more attractive to be investor vis-a-vis trader who pays 15 percent) to 13.5 percent (can practically round to 14 percent) is not going to be enough of a hit to prevent significant change in medium to long-term capital flows (domestic or international).

Allowing capital gains earned till January 31, 2018 (effectively shifting cost basis to this date for each holding unless there is a dip in value from January 31 to time of sale) to be tax exempt was a clever move to limit pushback and temper market reaction in medium to long-term.

Plus, keeping Rs 1 lakh of capital gains as tax-exempt was to again try to limit negative sentiment from the vast majority of small/new investors in the equity markets.

The actual tax delta to Government of India from such moves, assuming STT stays as is, would not be immaterial (Rs 20,000 crore in the first year as per FM speech) over time assuming markets perform per historical pattern.

The key question is of trust: Has the Modi government earned enough credibility from investors that they don’t mind paying this tax with the ultimate benefit of getting sustained higher rural growth to percolate into higher earnings growth across Corporate India?

In my view, the jury is still out but the investments proposed should lead to better results (actual closer to target but most still not achieving target such as doubling of average farm income by 2022) than previous administrations due to many factors, not the least being the urgent pressure to perform with upcoming elections.

The domestic/foreign capital holders who are real believers in the India story and its companies will not be deterred by this, on balance, fair tax, and this event actually provides a good opportunity to shake-out shorter-term tourists in India’s equity markets (which I am estimating was the biggest driver of February 2 sharp market fall).

Beyond unpredictable short-term return, there is no escape for anyone in equity markets (think of it as the law of gravity), in India or anywhere else, future earnings amount and its growth will continue to drive medium to long-term returns (3+ years) from equity markets.

One should find solace in this fact and accept that ample rewards will come to those who stick with India’s flourishing equity markets - just as they have for last 4 decades.

Disclaimer: The author is Co-founder and Portfolio Manager, Metis Capital Management Ltd. The views and investment tips expressed by investment expert on moneycontrol.com are his own and not that of the website or its management. Moneycontrol.com advises users to check with certified experts before taking any investment decisions.

first published: Feb 4, 2018 09:35 am
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