- A weak union budget presented by the Modi government failed to meet investor expectations.
- Finance Minister failed to address issues of the Indian economy like the NBFC crisis.
- Coronavirus has the potential to trigger a massive sell-off in the Indian stock market.
India’s finance minister Nirmala Sitharaman presented the union budget on Saturday. The Indian stock market had appreciated considerably leading up to the union budget on the hopes of several tax cuts. However, the budget was underwhelming, and the stock indices underwent a sharp correction. [Business Today].
The Modi government has often failed to please Dalal Street with the union budget reports. Consequently, the Indian stock market usually struggles to pose any meaningful rally in the days after the budget report.
Sitharaman’s budget speech was the longest in history at two hours and 43 minutes and consisted of 13,128 words. A speech that seemed to go on for an eternity [India Today] also failed to address the key areas of concern.
Post speech, key indices like the Nifty and Sensex tanked 2.51% and 2.43% respectively. As many as 220 stocks went limit down and 86 traded at 52-week-lows [Moneycontrol]. However, due to positive global cues, both key indices have bounced back nearly to pre-budget levels.
The initial sell-off didn’t just seem like a knee-jerk reaction to the budget, as Krishna Sanghvi, Chief Investment Officer of Mahindra Mutual Funds pointed out [Business Standard]:
Too early to say whether Budget Day volatility was a one-day event. We will have to see the market reaction this week as several institutional investors, especially foreign portfolio investors (FPIs), may not have participated as it was a Saturday.
Because the Narendra Modi-led NDA government failed to address key issues of the slowing Indian economy, you can expect a rockier road ahead for the Indian stock market.
Worsening Shadow Banking Crisis
The Indian Non-Banking Financial Company (NBFC) space has been the biggest cause of bad debt over the last few years. The sector alone is responsible for financing the majority of the purchases made by consumers, especially when it comes to buying vehicles.
India’s corporate affairs secretary, Injeti Shrinivas outlined the whole situation in an interview with the Press Trust of India [PTI News] back in September.
There is a credit squeeze, over-leveraging, excessive concentration, massive mismatch between assets and liabilities, coupled with some misadventures by some very large entities, which is a perfect recipe for disaster.
There are 11,400 shadow banking companies in India with a combined valuation of $304 billion. Since the Indian NBFC behemoth IL&FS started defaulting [Live Mint] back in September 2018, the crisis has only gotten worse. The government had to step in to try and rescue the NBFC-giant.
The 2020 union budget did little [Economic Times] to provide a proper structure for companies to come out of the crisis. The half measures will not go unnoticed by the Indian investors.
Abolishing DDT Won’t Boost Indian Stock Market
The finance minister also announced [Economic Times] eradication of dividend distribution tax (DDT). It will lead to approximately $3.5 billion in tax revenue losses as the government charged companies 20% for distributing dividends.
However, this ‘tax cut’ is deceptive. Now, instead of charging the company for distributing the dividend, the government will tax the income from the dividend according to the existing tax slabs on personal income.
But this may backfire. Usually, insiders and promoters hold majority shares in a company. These people form the wealthy part of the society, and just last year, the Indian government raised taxes on the super-rich [Economic Times] to over 42%. Now the dividends they issue will be taxed at 42% instead of 20%.
Abolishing DDT will incentivize the company’s management to spend money on either share buybacks or use it for expansion instead of paying dividends. This will hurt the middle-income earners who relied on dividends for income.
Coronavirus Outbreak is a Threat
The Wuhan coronavirus has already made its way into India. The number of confirmed cases rose [Live Mint] to 3 recently. While a dozen other countries already have confirmed coronavirus cases, India has more reason to panic than any of them.
Considering the dire sanitary conditions, poor personal hygiene, ever-increasing overpopulation, and the living conditions, coronavirus could spread like wildfire in the country.
As Arup Mitra, professor – health policy research unit told Live Mint,
When we talk about India, the cities here are overpopulated and the poor living conditions, inadequate amenities, poor waste management, unhygienic habits and practices, and the degraded sewerage system help spread viruses here with tremendous rapidity.
The virus has spread exponentially in mainland China thanks to overpopulation and high population density. The conditions in India will make this curve even steeper as the Indian government doesn’t have the same resources as China to contain coronavirus.
Even if the outbreak doesn’t spread across India, there will be economic repercussions from the slowdown in China. The Indian stock market hasn’t priced in the slowdown-risk and looks ripe for a correction.
Disclosure: The author is short Nifty via put options.