Tighter liquidity in markets

MARKET INSIGHT

Imposition of commodity transaction tax, much like the securities transaction tax, will have an adverse impact on the already nervous secondary and primary markets.

It is very easy to dismiss the 2008-09 Budget as a non-event. It incorporates no earth-shaking changes in policy and rather predictably, it forgives farmers' loans.

However, it is a far less populist document than it could have been and that is a pleasant surprise in an election year.

In fact, it contains a few measures that should stimulate consumer spending and it doesn't increase the central subsidy burden substantially. That should be enough to keep the engine ticking over for 2008-09.

Fundamental analysts who seek above all, to make stable long-term projections should be happy. Their assumptions don't need to be suddenly rewritten due to sweeping changes in tax policy. If you liked the long-term growth prospects of a given industry or a given stock before the Budget, your assumptions are scarcely altered by it.

Coupled to the Economic Survey, the Budget does however make it clear that consumer spending will in itself, not be enough to maintain the desired GDP growth rates over the next five years.

The Indian economy needs vast investments and the primary task of the next government will be to create an environment conducive to attracting these. The 2008-09 Budget does very little on that front.

The thrust of the direct tax measures have certain interesting implications. On the whole, corporate India is relieved that rates have not been raised. But the surcharge stays, MAT stays, dividend distribution tax stays. Given that growth rates are likely to be lower in the coming fiscal, at least through the first half, that will not make corporates happy.

At the individual level, the IT relief is reasonable. However financial traders and investors alike are likely to be somewhat unhappy.

The hike in short-term capital gains tax is likely to be painful for punters in an already uncertain market and the imposition of a new commodity transaction tax (CTT) will also hurt. Thankfully, the break on long-term capital gains continues.

For the few Indians who have stock market and commodities market exposure, the overall tendency will be to make fewer transactions. Extrapolating from what happened when the securities transaction tax (STT) was first imposed, there could be a tapering off in secondary market liquidity and a sharper drop in liquidity on the commodity exchanges.

That in turn, will lead to a nervous primary market. In turn, a nervous IPO market will make it difficult to attract new investments on the scale that India requires.

The impact on the financial sector is therefore likely to be negative. Listed brokerages are likely to see some sharp sell-offs since these are all high-PE stocks with growth expectations that seem to become unrealistic in this current scenario.

At the same time, PSU bank balance-sheets in particular will be impacted by the farm loans write offs. Whether that will lead to sell offs across the banking sector is a different matter "� what it may do instead is lead to a sharper divide in earnings discounts inside the industry.

There are some banks that trade at 30-plus PE multiples while others trade at les than half those discounts. The low-discount banks are the ones that will be beaten down.

Coming to indirect tax, excise and customs rates remain an almost impenetrable maze. On the face of it, private sector refiners should gain due to the customs duty cut on crude and so should the auto industry on the basis of excise cuts. Beyond that, it's difficult to see vast changes in the fortunes of any given industry.

Even in refining and in the auto sector, rising input prices might make things more difficult. Both are low-discount sectors however so, there is little apparent risk in taking exposures here.

From the time the Q3, 2007-08 results came through, it has been apparent that 2008-09 would not be a great year in terms of corporate earnings growth. The subprime crisis and the impending elections, both here and in the US, will continue to deliver shocks that keep the market unsteady.

The budget doesn't change any of this "� nor does it offer obvious opportunities for investors to focus on given sectors where fortunes change.

This remains a market for systematic long-term investors. In the context of the next 12-18 months, returns are uncertain. Beyond that timeframe, returns should be extremely positive. Pick a portfolio, stick with it, accumulate more every time prices dip. Trite advice but it's likely to work better than any fancy footwork.