Nifty Zoomed By 1.77% And Rallied Most On A Budget Day Since 2005 As FY-18 Projected Fiscal Deficit Came Below Market Expectations Amid No Negative Surprise On “Capital Market Tax Reform” And Cut In Income Taxes For “Aam Admi” With Huge Push In Infra & Rural/Social Spending; What’s Next ?

Market Wrap: 01/02/2017 (19:00)

Looking at the chart, Nifty Fut (Feb @8736) has to sustain over 8765-8800 area for further rally towards 8855-8895 & 8935-8995 zone in the short term (under bullish case scenario).

On the other side, sustaining below 8725-8690 zone, NF may fall towards 8625-8545 & 8455-8365 area in the near term (under bear case scenario).

In the absence of any negative surprise (capital market tax reform & FPIS taxation issues) for which the market was very concerned, today’s budget day rally may be more of a relief rally primarily driven by huge FNO short covering amid some cut in income taxes for the low income bracket (Aam Admi) and thrust on infra & rural spending and fiscal prudence. Going forward, fine print of the budget and its proper implementation may be the key.

Nifty Fut (Feb) today closed around 8736 (+152 points) after making a session low of 8555 and closing hours high of 8747.45 after the presentation of FY-18 budget. Today’s budget day rally is the biggest in the history of last twelve years (since 2005) and more over, NF rallied by almost 192 points from today’s low of 8555, respecting the 10-DEMA after FM announced FY-18 projected fiscal deficit as 3.2% of GDP against market estimates of 3.3-3.5% and reduction of income tax from 10% to 5% for the lower income category (2.5-5 lakh). As FM finished the budget speech, market realized that there is no “capital market tax reform” for the “development of the nation” as previously feared by the market participants (i.e. rejig of LTCGT definitions etc & FPIS taxation issues), Nifty rallied from around the day low aided by huge short covering.

Bank counters also rallied significantly by around 2.70%, outperforming the Nifty as there was a budget proposal for increased income tax relief for bad loan provisions (from 7.5 to 8.5%). Also the Govt’s plan to infuse additional Rs.10000 cr for recapitalization for the ailing PSBS in FY-18; but analysts are not sure, if this amount is additional capital infusing plan over the current “Indradhanush” plan or not (Rs.75000 cr per year from 2015 to 2019); FY-18 recapitalization plan of Rs.10000 cr may be below market estimates, although Govt has assured no deficiency in funding of PSBS, if there is a real need. Also, projected FY-18 Govt borrowing came at Rs.3.48 tln, which is below FY-17 revised estimate of Rs.4.1 tln may be good for the banks.

Thus, incrementally higher Govt capex, balanced approach in fiscal prudence and no negative surprise on the capital market tax reform issues in the budget today may have ignited the rally. The market sentiment was further boosted by better than expected Mfg PMI (Markit) which came above boom/bust line of 50 for Jan’17 after last month’s dip (PMI: 50.4; estimate: 49.7; prior: 49.6) and upbeat monthly auto sales figure from Maruti for Jan’17, despite demonetization blues.

Today’s budget proposal to abolish FIPB for FDI approval may have also boosted the market sentiment for the theme of ease of doing business in India (entry & exit); but Govt will probably put an alternative mechanism (regulation) for it in the days ahead.

Granting infra status to affordable housing is also positive for some of the real estate companies and banks & NBFC; although it is in expected line, some of the companies (DLF/DHFL/HDFC Duo/Gruh Finance/IRB Infra) may benefit; also reduction in import duty for LNG is positive for Petronet and rural thrust may be also positive for FMCG. Less than expected ED on cigarettes and fresh duty on tobacco products may be good for ITC. Having said that, all the stocks need to be checked technically, if there is any further scope for rally in the near term or not.

 As the market/analysts/rating agencies will further analyze the fine print of the FY-18 budget and actual figure for FY-17 in the coming days, the near term trajectory of the Indian market may also depend on the Q3FY17 & subsequent Q4FY17 earnings recovery cycle, which is mixed/tepid so far, further evidence/data of economic disruptions for the demonetization, pace of remonetization, uncertainty about implementation of GST in FY-18 & any initial disruption thereof and overall various global headwinds including Trump tantrum and trajectory of global commodity prices, specially crude oil.

As par some estimates, today’s income tax relief to the lower income group may save around Rs.12000/- par tax payer, which may help to boost consumption (demand) for the economy, bracing under demonetization & “war on black money”. But, in reality, a gross income up to Rs.5 lakh PA may not invite any actual payment of income taxes, if one planned appropriately thanks to various available exemptions. Moreover, a savings of 12000/- PA or 1000/- PM for limited sets of income tax payers may be of little help to revive the great Indian consumption story, which was traditionally too much dependent of the “unaccounted black money”; at least 30% of that high value consumption may be affected as the “war on black money” continues. Rebuilding & redistribution of that “lost wealth” may take several years, despite Govt’s best effort to recapitalize the same at the earliest.

Only some limited tax relief may not be sufficient to sustain the present market rally; it has to be backed by revival in growth & earnings and for that revival of private capex is also required. Incremental Govt capex may also result in higher Govt debt/GDP ratio, which may be one of the deterrent of India’s rating upgrade, which is just one notch above international junk grade.

Although, market have rallied on various positive budgetary proposals, implementation of the same is key and can correct also very fast, if reality does not catch up with the hopes (projections).

Earnings need to be also catching up with the rally; at 8700-8800 level, Nifty TTM PE may be around 23.2-23.46 (based on actual Q2FY17 TTM EPS of around 375) and even if, FY-17 final EPS come around 415, projected FY-17 PE may be around 21, which is historically on the higher side.

As time & price action is the ultimate, irrespective of any narratives, keep watch on 8765-8800 zone in NF; only a consecutive closing above that may invite further rally towards 9000-9200 & even 9700 in FY-18; otherwise it will come down towards 8455-7900 & 7700 in the coming months, if sustained below 8600.

 SGX-NF