Will budget trigger a correction?

Correction! This is the new talking point in the market. Everyone is hoping that it will come sometime soon. However, like the elusive Scarlet Pimpernel, no one knows for sure when and where it will come. Everyone is hoping and waiting for the correction, including the 42 lakh newbie investors who opened their demat accounts in June. While it is an exercise in futility to second guess the market’s movement, one view is that the budget will provide an opportunity for the much-desired correction to make its appearance. Everyone is expecting a good budget, and there have been enough indications prior to the budget that their hopes will not be belied. In which case, it would be fair to assume that there would be some profit-taking post-budget. If some of the proposals presented by the FM, Nirmala Sitharaman, do not go down well with the markets, as is bound to happen since the FM cannot please everyone, there is likely to be some selling from these disgruntled investors.

The point is that in either case, a good, bad, or ugly budget could be followed by a fair amount of selling in the aftermath of the presentation. The good thing, however, is that corrections in a bull market are quite short-lived and may not last for more than a few days.

Sunil Singhania, founder of Abakkus Asset Manager LLP, says: “In a lot of sectors, the correction is long overdue. I have been anticipating it over the last month. In sectors like defence and railways, valuations are clearly stretched. Traditional valuation metrics are not in sync with the current prices. Many PSU defence stocks, as well as railway stocks, are valued at 10-15 times sales.” Abakkus manages AUM of R26,500 crore across various schemes focusing on alpha generation (beyond the normal returns provided by the benchmark index). “I am not bearish,” adds Singhania, saying that despite good businesses, valuations are crazy. Singhania does not feel there will be any deep correction but expects up to a 5 per cent dip in Nifty. As for the budget, he says a correction is unlikely unless there are changes to the capital gain tax, which seems unlikely, markets may not react adversely.

There are so many funds with investors that no correction is likely to last more than a few days. Indeed, there is such a fancy for defence stocks that thematic funds in this sector have grown more than 150 per cent over the last year. HDFC Defence Fund has stopped lump-sum investments in the fund, with only SIPs being permitted, and that too at a maximum level of R10,000 per month only. Motilal Oswal Defence Index Fund, NFO, which closed in the last fortnight of June, saw a collection of nearly R1,700 crore. Nifty India Defence Index has nearly doubled in value over the last year. The fund tracks 15 PSU and government companies. Currently, there are just 50 companies in the defence sector. Some others in the private sector have defence as a sector in their company. As such, the floating stock of defence companies’ paper is low.

This is one of the reasons why corrections will be welcomed by investors wholeheartedly. The rationale is that they will be able to get shares at lower rates. For the sellers who have sold earlier, it will give them a chance to get in at a lower rate to book profits. The last major correction post the declaration of the election, which saw an intraday drop of nearly 6,000 points on 4 June in the Sensex, saw investors buying heavily with a spectacular rise in daily volumes. The Sensex, after making an intraday high of 76,304, dropped to an intraday low of 70,234 before closing at 72,000-plus. At that time, it was the retail investors and mutual funds which played bull to the retreating FPIs. This time, however, everyone, including FPIs, FIs, mutual funds, and retail investors, is buying heavily in anticipation of a good budget with its long-term improvement in the economy.

This explains why, despite the 6,000-point intraday fall, the Sensex recovered in four sessions before notching up an all-time high of 80,000 in less than a month, on 3 July to be precise. FPIs bought heavily in June and the first few days of July. This is in sharp contrast to the selling pressure in May.

According to one view, the budget may not be the trigger for correction. Niket Shah, CIO, Motilal Oswal MF, which manages AUM of nearly R70,000 crore (of which nearly 90 per cent is in the top quartile), says: “The market needs to consolidate. I do not foresee a massive correction of 20-25 per cent.” Shah says while in some cases valuations are at a premium of 15 per cent over their 10-year average, he believes that large caps have not really gone up to that extent and they are on average trading at 5 per cent below their 10-year levels. Shah adds: “What could be a concern is that if the EPS growth slows down, we may see both a price and time correction.”

“Budget may not be a trigger for a correction,” says Vikas Khemani, founder of Carnelian Asset Advisors, an investment firm managing assets of $1 billion. Khemani exclaims that the economy is doing well and the environment for growth is good. A budget may give indications about the government’s long-term plans, and he does not expect any major disappointment. He adds: “The mood is bullish, and even though some sectors look overvalued, I do not see any major corrections. I agree investors have to be careful. In any case, in a bull run, corrections are extremely short-lived. Any bad news in the budget will not last for more than a few days. What will guide the direction of the market are the FII flows and corporate earnings growth.”

As no one can time the markets or predict the timing and intensity of corrections, it is best that investors ignore short-term movements. Over the last 26 years, since 1988-99, the Sensex has gone up 21.3 times. These are the annual year-end figures, but they do not really show the sharp corrections which have taken place in those years. The ones which were really sharp occurred post the sub-prime crisis when the Sensex dipped from 20,000 in January 2009 to 9,000 within the span of a few months. More recently, this was seen during the onset of Covid-19. The point is that while there have been several sharp corrections over the past 2.5 decades, it’s important to consider the broad direction of the market, which has been bullish throughout, especially since 2014 when the Modi government came to power. In the third term, Modi’s team is likely to lay out a development timeline up to 2047 with a heightened focus on capital expenditure. This will include an emphasis on infrastructure development and creating an enabling environment for future growth.

It is true that the movements of the Sensex are not what really matter. What matters as far as investors are concerned is how their portfolios have fared. Not many investors have been around for such a long period. Many new investors, in fact, would be in the age group of 20-35 and would not have seen any major corrections. Given their convictions, it is unlikely that corrections would sway them. Post-budget, there will be another narrative, and corrections may not be the only talking point.

Fears ahead of the budget

The negatives which the market fears concern the proposals to bring about changes in the capital gains tax. Before the elections, indications were given that there should be uniformity in taxing gains on all asset classes. If this is to be done, either Long Term Gains on property would have to come down from the current 30 per cent to 10-15 per cent or LTGC on shares have to double to 20 per cent with a view to increasing it later. The other fear is that there could be a change in the period of long-term from the current one year to two years while retaining the incidence of tax at 10 per cent. One

view is that the government in its third term will not do anything to disturb the equilibrium in the market. Old-timers point out that when the Security tax was introduced, it was to have been a substitute for capital gains. It was a more democratic way to introduce a tax on the turnover of trades.

The STT (Securities Transaction Tax) collection has been increasing year on year. In a year or so, it will become a formidable R50,000 crore. There is no separate classification in the receipt budget for short-term and long-term gains, as both are clubbed with the individual’s income, albeit at the special rate.