The budget is anti-inflationary and seems more realistic: Sandesh Kirkire

Sandesh Kirkire, CEO, Kotak Mutual Fund says that the future direction for both the equity and the debt market would be driven by a combination of domestic factors like corporate performance and government finances, and global factors affecting the liquidity.

The FY-13 budget presented by Pranab Mukherjee on 16^th March is more indicative of a fiscal consolidation. The fiscal situation, while not grim, has made the government cautious.

The bottom line of the budget is really the fiscal deficit. Against a budgeted fiscal deficit of 4.6% of GDP in FY-12, the government has actually overshot to 5.9%.

For FY-13, the budgeted deficit is projected at 5.1% of GDP. The current year GDP growth is expected to be at 6.9% with the next year projection being 7.60%. The fact that there have not been large expenditure announcements is a positive and indicates the possibility of achieving the budget numbers.

The budget seems to be more like a balancing exercise. Let us look at it from the tax front. The government revenue growth is happening mainly through the hike in indirect taxes of excise duty and service tax, with a marginal drop in custom duty (in a few items); and a rise in customs duty for gold. There are more services now being brought under the net with the introduction of a negative list.

The indirect tax hikes could fetch an inflow of Rs. 45,940 crore for the government. The FM has also re-juggled the tax slabs. The lower tax slab has moved up from Rs 1.80 lakh to Rs. 2 lakh, while the 20% slab is up from Rs. 8 lakh to Rs. 10 lakh. At the lowest slab, this tantamounts to a gain of Rs. 2,000; while at the second slab, this tantamounts to Rs 20,000. However, the rise in indirect taxes would more than offset this for the consumer. 

The policy thrust expected in the budget from the government to put India on a high growth path did not happen. The budget has not laid down a clear roadmap on the implementation of both DTC and GST, while there has been a passing reference. As the indirect tax rise is marginal, it may not impact inflation negatively. Inflation therefore would be guided by the global crude price behavior and the supply bottlenecks of the domestic food articles. If the global oil prices do not spike, we may see lower inflationary environment in India. That could embolden RBI to drop its policy rates. This would be needed to fund the large borrowing program for the next year. The interest rates could drop only when this happens.

For the markets, there are two positives. The STT has been dropped by 20% for delivery transactions. As less than 10% of the transactions in the equity markets are for delivery, this should inculcate more long term investing behavior.

There has also been an introduction of a new scheme, called Rajiv Gandhi Equity Savings Scheme. This scheme would allow for income tax deduction of 50% to new retail investors, who invest up to Rs. 50,000 directly in equities and whose annual income is below Rs. 10 lakh. This scheme would have a lock-in period of 3 years. While the details are yet to be seen, I hope the Equity Linked Savings Scheme (ELSS) provided by the Mutual Funds with a lock- in of 3 years, do get this benefit. As this benefit is proposed to be provided to the first time investors, it would be easily possible to monitor it for the ELSS investors as well. This, to my view is a positive move. We need more investors in the equity markets and that too for the long term.

Overall the budget is anti-inflationary and seems to be more realistic. The future direction for both the equity and the debt market would be driven by a combination of domestic factors like corporate performance and government finances; and global factors affecting the liquidity.

Budget update: FY2012-13 & Bond Markets

With regards to the budget, the following points are important from the bond market perspective:

• Fiscal Deficit for FY2012-13 is likely to be at 5.1% against the revised fiscal deficit of 5.9% in FY2011-12 (original budget target at 4.6%)
• Total budget expenditure will be Rs. 14.9 trillion as against Rs. 13 trillion this year
• Net borrowing for FY2012-13 will be Rs. 4.79 trillion
• Gross borrowing will be Rs. 5.69 trillion
• In addition, there will be a net T-Bill issuance of Rs. 0.9 trillion
• Further, a net state loan auction of Rs. 1 trillion
• That will result in a total supply of Rs. 7.59 trillion, a sizeable increase as compared to this year’s total supply of Rs. 7 trillion
• Total subsidies bill will be around Rs. 1.8 trillion, more or less in line with market expectations
• Disinvestment target is set at Rs. 300 billion
• Provision to issue tax-free infrastructure bonds of Rs. 600 billion. This may reduce the supply of taxable corporate bonds and may result in tighter spreads for some of these issuers.
• Total subsidies bill will be capped at 2% of the GDP
• Projected revenue targets appear to be achievable

Clearly, the bond market was not happy with the borrowing program. The benchmark 10Y yield increased from 8.35% to 8.42% pa immediately after the news.

Market participants will be keen to understand how an average weekly supply of around Rs. 150 billion will be absorbed. Moreover, the bond supply is expected to be front-loaded in the first-half of FY13 (65% of total supply).

From the demand side, we believe that the following demand is visible:

• Rs. 3 trillion from the banking system assuming 18% growth in deposit and 28% SLR maintenance level
• Rs. 2 trillion from the insurance companies and pension funds
• Rs. 500 billion from Foreign investors and other investors

 Please remember that this year, the RBI has purchased bonds worth Rs. 1.24 trillion this year so far. If one takes into account permanent liquidity injection of Rs. 800 billion via CRR cut, then the total support by the RBI has already reached Rs. 2 trillion this year.

Market participants are likely to be cautious and may begin to scale back their expectations of the extent of interest rate cuts by the RBI in the next fiscal year.

There is also a concern that this borrowing number may rise due to a number of factors such as a lower-than-expected growth in tax collections and disinvestment target being not achieved.

Based on these variables, we believe that the benchmark 10Y yield may revisit 8.55% level (50% rebound from the current fall from 8.97% pa in mthe near-term. Current level @ 8.45% pa). We also expect the 10Y to trade between 8.33% to 8.55% pa with an upward bias from the technical perspective in the near-term.

We also expect more supply at the long-end of the curve (10Y+) next year. This may help the government increase the average maturity of their borrowings. This will result in a steeper yield curve from the current inverted shape. We believe that short-term rates may ease in response to RBI’s interest rate cuts in the first-half of FY2012-13 while long-term yields may inch up due to higher supply in the first-half.

Industry experts feel that the policies proposed by the finance minister are credible and focus on fiscal consolidation.

Here’s what industry honchos have to say about today’s budget:

Nimesh Shah, MD & CEO, ICICI Prudential Mutual Fund

The Union Budget 2012 has been a tight ropewalk between triggering a roadmap for fiscal consolidation and managing development & popular sentiment. The increase in service tax by 2% and an increase in excise duty were anticipated and have resulted in some fiscal respite.  The introduction of the Rajiv Gandhi Savings scheme is a clear positive for the equity market by way of increased long-term investor participation. In addition, reduction in STT on delivery by 20% has added to the investors return potential for equity. Going forward the budget will have to be followed by a decrease in subsidy in tune with the budget estimates. The market will require the government to take the fiscal consolidation roadmap ahead with possible increase in oil/ petrol prices, which will be crucial to providing RBI headroom for significant rate action. Until then it is over to affirmative execution by the government.

Gopal Agarwal, CIO, Mirae Asset Global Investments

The union budget announced today seems realistic, credible and is a sincere attempt towards achieving fiscal consolidation. It focuses on measures that will enable broadening of the capital markets, facilitating companies to access funds through external commercial borrowings and Infrastructure bonds. There is a clear push towards propelling infrastructure development through reforms in sectors like roads, ports and power. We believe that the budget needs political consensus on big policy reforms for achieving the intended objective.