Dear investor
In this edition let us look at the following:
· Budget FY25 key takeaways
· Q1 result season
· US elections and possible outcomes and impact on India
· This continues to be time for alpha
· FPI flows, Chinese market is again weak after a strong rally
Budget takeaways
The Indian union budget saw government’s big focus on fiscal consolidation as FY25 fiscal deficit was budgeted at 4.9% versus 5.1% in the interim budget in Feb 2024 and the plan to bring it down to 4.5% in FY26 was reiterated.
The covid years had seen a sharp spike in Fiscal deficit and the same is now being corrected. The actual numbers realised should be better because the tax to GDP is assumed @1 while the trend has been that of an improvement.
Contrary to expectations, there has been no change in subsidies, which as a percentage of GDP, continues to drop while in absolute terms they are preserved at last year’s levels. Capex spends continue to gain market share. Rural spending remains weak.
The large RBI dividend was partly used to fund support to Bihar (for new roads, power project and flood control) and AP (for new capital) and rest for fiscal consolidation.
As compared to the interim budget, no extra allocation has been seen in defense and other capex. This is a year of consolidation for this space after strong growth over the past 2 years. Quantum of capex done can still show momentum if more BoTs are done with much better corporate balance sheets. While overall capex numbers have not moved much vs the interim budget, provisions for PMAY, renewable energy and roads has been increased while PM Sichai has seen a cut. In defense, the biggest increase is seen in aircrafts.
Overall capex of Center, states and CPSE is expected to remain at 6.1% of GDP implying growth rates in line with tax collections.
Tax buoyancy continues to be good. Q1 tax collections are above the assumptions taken for FY25. RBI’s dividend is reducing the stress on borrowings. Helped with sustained FPI inflows on debt side, we should see a downward pressure on bond yields.
A hike in both short term and long term taxes on equity is a clear negative. However, now that the LTCG rates have been harmonised, the threat of an adverse change on this count is low in future. Since equities pay STT (nil in other classes), the lower STCG should also continue in the future. The higher taxation in India would reduce the attractiveness of India as an investment destination for FPI. The Gift city route to invest into MFs would become more attractive.
The removal of inflation indexation will impact investment attractiveness of premium real estate based on price compounding achieved. Ballpark, real estate price compounding of over 10% is beneficial for investors vs the older regime.
Urban consumption has been given a fillip by reducing income taxes.
With a clear focus on job generation, the government revealed a new employment subsidy, which should also aid low-end discretionary consumption.
The budget doesn’t change the direction for any sector. The changes are small. Cigarettes are celebrating on status quo being maintained. Jewellery should see better formalization on reduced import duties. PLI allocations have moved up to Rs.133bn and many spaces would wait in anticipation.
The change in capital gains tax structure increases the relative attractiveness of Mutual Fund platform for investors to participate in the markets for their equity investment. We expect equity inflows into MFs to strengthen going forward. Change in STT taxation does impact the arbitrage funds marginally but they would retain their competitiveness.
Overall, the outlook on the sectors has not changed post budget.
Q1FY25 result season
Q1 result season is on. 45 companies tracked by us have declared result as of 23rd July. Overall, the results have delivered a miss of 2% vs already muted expectations of a 2% decline in PAT. Ex OMCs PAT is up 6% vs expectations of 7%. In NIFTY, ex OMCs (13 cos), PAT is up 7% vs expectations of 8%. The miss is mostly on account of commodities. Earnings downgrades have been more than upgrades.
The period of high profit growth is behind us. We believe that going forward, the higher growth delivering companies would start to command a growth premium over others. It could also mean that the value part of the market, where growth quotient is low, could peak out.
Chinese market, FPI flows and a rally in India
Chinese market has again started to show weakness. The strength in Chinese market during Feb to mid – May period had sucked up FPI liquidity from all over the world. India had also experienced outflows during the period. Now the Chinese market has started to show weakness. From the peak in May, it has dropped 10-15%. India has again started to get consistent FPI inflows. It was over USD3bn in June and has crossed that level by 3rd week of July.
India is seeing strong domestic flows. June saw over Rs41kcr of inflows into mutual funds. Continued domestic flows help sustain stability in the market while if FPIs also turn buyers, the positive momentum in the market increases. Last 3 months have seen Indian market perform relatively strongly.
FPI flows into debt markets have also picked up. Positive FPI flows have helped in achieving record forex levels in the country. 10 year bond yield has declined to just below 7% now vs 7.2% in May.
US election impact
US elections would be held in November. It is possible that there could be a regime change. This may have some impact on our markets. Let us examine the same
· Lower crude prices: We expect the republican candidate to focus on higher US oil production. This should put a downward pressure on oil prices. Downward pressure on oil prices is good for manufacturing margins. In terms of global sentiment, India benefits since we are the largest oil importing country.
· End of Russia-Ukraine war: The republican candidate has been in favour of a negotiated settlement of this war. It this happens then again the risk premium on Oil would reduce and oil should get cheaper. This is good for India. However, Russia-Ukraine war ending may impact the sentiment towards the defense companies (while we believe as a learning, defense expenditure would be high for several years and around the globe). India has been more focused on Chinese presence on our borders, and that threat remains. The narrative of China-Taiwan would also remain. Moreover, Ukraine may have to cede a large territory to Russia, an outcome that is not easily digestible. This may be the first instance of large territorial seize after world war 2 and has implications for other areas such as Taiwan. Hence, we do expect the defense build up globally to be maintained.
· Lower USD: post elections, we may see steps taken to weaken the USD vs other currencies to help American manufacturing. Lower USD again is positive for EMs and Indian equity market should benefit.
· Deal with China on Semi Conductors: there is a strong anti-China sentiment currently and this is helping Indian manufacturing. The republican candidate had started the anti-China thought process However, there is a thought that he is also a deal maker and can change his position, particularly in the space of semi-conductors. This may weaken the anti-China thought and consequent outlook on the stocks benefiting from the same across the world. However, the cooperation is expected to be limited to a few spaces and we do believe that the overall disengagement would continue.
Our thought is that overall, an US election outcome would either be status quo or better for the direction of Indian markets though some sectoral leadership may change or undergo a valuation correction.
This continues to be time for alpha
Q1 Result season is on. In this result season, growth rates of profits of India Inc is seen to drop. IT and banks, two spaces that make up close to 50% of the index weight are expected to deliver lower than index earnings growth. Earnings growth which seemed to be omnipresent a few quarters back would be at a premium. This makes us believe that the value trade may be getting over as after 4.5 years of strong performance, in the absence of growth, continuing the momentum should now become increasingly difficult.
As earnings growth gets limited to a smaller part of the market, we believe that this part would get a premium vs others in line with our belief that market follows earnings growth. Our portfolios are built of high sustainable growth companies and are well placed.
Valuation and upside
Markets have done well over the past period. Valuations are clearly higher than long period averages in most parts of the market. However, with higher growth outlook, higher valuations should sustain. We had shown earlier that a 1% higher earnings growth for 10 years bumps up valuations by 5%.
India inc retains is positive outlook by and large. This being the case, we do expect only a time correction rather than any sharp drop in the market and expect investors to make use of any dips in the market.
Thank you
Happy Investing
May the Good Times Continue 😊
Prateek Agrawal
Executive Director
Motilal Oswal Asset Management Company Limited
Source: NSE Indices, Bloomberg, MOAMC Internal Research
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