Modi’s Budget Holds Key to Boosting Outlook for India Stock Flows

  • Roads-to-rail spending crucial to counter impact of cash ban
  • Investors want tax breaks on equity investments to remain

India's prime minister Narendra Modi

Photographer: Kuni Takahashi/Bloomberg

Foreign investors’ renewed interest in Indian equities faces a big test as Prime Minister Narendra Modi’s government prepares to present the federal budget.

Investors say the first stock inflows from overseas in more than a month could accelerate if the Feb. 1 budget unveils steps to boost spending to stimulate growth that’s forecast to slow to a three-year low. On the other hand, a move to end a tax break on equity gains or a levy on foreigners will once again sour the sentiment for India just when the markets are facing uncertainties over Brexit and U.S. President Donald Trump’s economic policies.

“The market has a limited appetite for surprises,” said Mihir Vora, who helps oversee about $6 billion as chief investment officer at Max Life Insurance Co. “We’ve withstood demonetization and other unanticipated events such as a new policy regime in the U.S. Any changes in tax treatment or rules for foreign investors will impact sentiment.”

Global funds last week bought $101 million of shares amid signs the cash crunch from Modi’s shock currency ban is easing, and as the government put on hold a proposal to tax indirect transfers of assets held by foreign investors. The inflows follow $4.3 billion of withdrawals since November, the highest among eight Asian markets tracked by Bloomberg.

The S&P BSE Sensex jumped 1.2 percent to its highest close in almost three months.

INFRASTRUCTURE

Faced with a slump in demand, the budget is expected to take steps to boost investment and stimulate consumption.

The economy will grow 7.1 percent in the year to March, the government forecast earlier this month. And that doesn’t factor in the impact of the cash ban, which economists in a Bloomberg survey said will curb growth to 6.8 percent. Private consumption growth is seen slowing to 5.9 percent from October through March, compared with 7.1 percent in the April-September period, according to credit-rating company Crisil Ltd.

“The economy has got hit and it needs some boost or it will go in a downward spiral,” Mahesh Patil, co-chief investment officer at Mumbai-based Birla Asset Management Co., which has $25 billion in assets, said in an interview. Exporters including drugmakers and software companies are “themes to play” until domestic demand recovers, he said.

The budget may have a “sharp pro-poor, pro-rural" focus, Deutsche Bank said in a note, while Bank of America Merrill Lynch said the government may offer continued support for affordable housing, raising demand for steel and cement.

Read: India Budget Stocks Preview: Eyes on Welfare Spends, Tax Changes

TAXES

A remark last month by Modi that people who profit from the stock market should pay more taxes has unsettled investors. The line was interpreted as a signal that the government may raise the tax on short-term capital gains or bring back a levy on equity investments held for more than one year.

While Finance Minister Arun Jaitley was quick in clarifying that the government has no such plans, doubts linger given India’s history of unpredictable tax policies. A tax circular issued in December was put on hold by the government last week after the proposal scared foreign investors by raising the prospect of multiple taxation on the same income.

“There’s been talk of capital gains tax coming back, but I hope it doesn’t happen as the move is not great for the market,” said Sridhar Sivaram, investment director at Mumbai-based family office Enam Holdings Pvt. “The circular on foreign investors has been kept in abeyance but the tax act itself should be amended. That will be a big relief.”

The government must use this year’s spurt in revenue to lower personal taxes and embrace technology to simplify the nation’s tax structure, according to SBI Funds Management Pvt., which has $19 billion in assets. Such a move would boost compliance and put more money in the hands of consumers.

“A large number of small businessmen will come into the tax net if the levy is collected via a mobile-phone app and rates are kept low,” said Navneet Munot, chief investment officer at SBI Funds.

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