Sucheta Dalal :In sync with tempered expectations
Sucheta Dalal

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In sync with tempered expectations  

Feb 28, 2005


Over $1.8 billion in foreign institutional investment (FII) in one week and the leading stock market indices are stagnant or marginally down. Does that signal the capital market is not particularly dreamy about P Chidam-baram’s Budget? Or that it has correctly tempered its over-heated expectations?

In fact, it is both. The economic scenario is good enough to hype up expectations. GDP will grow in the range of 6-7%, the savings rate is a robust 28%, inflation is under control, interest rates are stable and corporate India boasts of a fat pipeline of projects. Yet, the market is circumspect. Investors are worried about the compromises that will be forced by the allies, especially the communists. The hike in interest rate on the Employee Provident Fund scheme and the chaos triggered among company-managed provident funds has not built confidence.


The triumvirate of Dr Manmohan Singh, Mr Chidambaram and Dr Montek Singh Ahluwalia is a dream team from the market’s perspective. But the comfort is marred by rumours that the Planning Commission’s tendency to encroach on the FM’s domain is causing frequent discord; especially since the PMO is allegedly more comfortable with Dr Ahluwalia. Businessmen are more comfortable with Mr Chidambaram. Although Dr Singh is held in the highest esteem by businessmen and investors, they trust Mr Chidambaram to steer the reform programme more effectively and pragmatically.


Thanks to all these worries, the large FII inflow last week didn’t impact stock prices, with investors across market segments preferring cash and caution to speculative bravado. But the underlying sentiment remains bullish and stock indices remain near their all time high levels. Regulators say that turnover data does not show any direct correlation between FII inflow and stock price movements. That may have been especially true last week.


A major chunk of the $1.8 billion investment probably went into the primary market. Secondly, FIIs are exploring options in non-index stocks, for instance, those of construction companies. Thirdly, large retail sales (retail inve-stors tend to square up outstanding positions to avoid nasty surprises in the Budget) and heavy selling by Indian mutual funds probably offset FII buying.


Interestingly, the worry about political compulsions would have been even greater, but for the smart decision to keep most policy initiatives out of the Budget. The trend probably began when Jaswant Singh was the finance minister and has been even more smartly exploited by Mr Chidambaram. Major initiatives have already been announced. These include the liberalisation of the aviation industry, hike in Foreign Direct Investment (FDI) in telecom and the surprise announcement for real estate construction that came almost on the eve of the Budget. Private provident funds have been allowed to invest in equity and equity mutual funds. Even on foreign investment in banking, the government will call the shots instead of the Reserve Bank of India. The government seems to have had its way on FDI in private banks. There are indications that the rule on voting rights will be changed to make the voting power equal to shareholding.


• The large FII inflows over the past week have not sent stock prices soaring

• Investors are worried about compromises that may be forced in the Budget

• The worry would have been more but for the smart move of keeping policy out


A major concern is whether the government will be able to successfully introduce the value added tax (Vat) regime across the country. Anything to the contrary will dampen sentiments, but the extent of opposition to Vat can be gauged only after the Budget. Some kind of amnesty scheme to mop up black money is also likely. Unfor-tunately, earlier attempts to mop up black money failed miserably and may even have encouraged its generation. However, the issue here is whether the government uses black money for infrastructure development or the huge forex reserves, as advocated by Dr Ahluwalia. As far as the capital market is concerned, it is certain that the securities transaction tax (STT) introduced last time will be hiked. Again, there is a general acceptance of an increase in the STT from 15 basis points to 20, but anything significantly beyond that could cause a temporary blip.


The government has been collecting a fairly healthy tax of Rs 100 crore every month. And a slight increase in STT, coupled with increased trading volumes, would provide a further boost to the tax collection effort.


Informed sources indicate there may be some policy reorientation on stamp duty. Although stamp duty is entirely a state subject, the arbitrage opportunities provided by varying stamp duty structures has been affecting fine costs in all kinds of low margin business, including stock market operations.


In his last Budget, the finance minister announced his resolve to set up a separate bourse for small and medium enterprises (SME) to help this class of companies raise equity and debt. Since then, The Stock Exchange, Mumbai (BSE) has successfully launched Indonext — a separate trading platform for SME companies. But Indonext doesn’t quite fulfill the FM’s promise. It has merely transferred already listed entities to a separate trading platform, providing them a much-needed boost. There is still need as well as scope for a genuine SME market. Hopefully, it will remain on the FM’s radar.


Finally, there has to be come clarity over the future of the debt market. The Reserve Bank’s contentious move to splinter the debt market by restricting access to its negotiated dealing system (NDS) and to eliminate brokers was halted by the finance ministry, but it continues to hang fire and needs a decision. Overriding all such expectations is the understanding that the Budget itself is bound to build-in the possibility of several rollbacks, in order to appease the government’s political allies. This means that a clear picture about the government’s plans and actions will only be clear a week after February 28.

-- Sucheta Dalal