(Mint)
(Mint)

Stocks leap, may look closely later

  • Investors liked the consumption thrust in the budget
  • Budget’s tone also suggests that consumption-led growth is an answer to the country’s tight finances

The stock markets love good headlines and the interim budget had plenty. The fiscal deficit numbers turned out to be lower than market expectations for the current fiscal year, while increased income for farmers and the middle class is expected to boost consumption demand. As the real estate industry is one of the largest employment providers, besides being a large vendor for many other industries, sops for the sector helped improve investor sentiment as well.

The big theme was consumption, and the Nifty Consumption index rose 3% intraday on Friday, ending nearly 2% higher. “Consumption demand will get a boost from the schemes announced for the rural population and tax sops in the budget," said Prabhat Awasthi, managing director and country head (India) at Nomura.

Sahil Kapoor, chief market strategist at Edelweiss Investment Research, said: “Demand from the bottom of the pyramid will catch up very fast due to the direct benefit scheme. The demand would benefit FMCG companies and small-ticket brown goods, but it could take a few quarters to reflect in their earnings." FMCG stands for fast-moving consumer goods.

But, note here, that stock markets tend to be obsessed with growth, and the budget’s tone also suggests that consumption-led growth is an answer to the country’s tight finances. The possibility that a push for growth can worsen finances seemed to have been ignored.

While the headline fiscal deficit number of 3.4% of GDP (gross domestic product) may be below the market’s expectation of 3.5%, some experts are worried about the underlying state of the government’s finances and its eventual impact on interest rates.

Note, for instance, that the government’s borrowing for the next fiscal year has been pegged at as high as 7.1 trillion, far higher than the Street’s estimates.

Bond traders were understandably spooked given that the Reserve Bank of India (RBI) would find it difficult to take some of the load on its balance sheet next year. The central bank has bought close to 1.8 trillion worth of bonds through open market operations (OMOs) in the current fiscal year so far, which is roughly 40% of the net supply of bonds.

That kind of support may not get repeated next year as the central bank has little reason to infuse liquidity unless the exchange rate depreciates more.

“The RBI had multiple reasons to do OMOs this year. I don’t think the RBI would do as much next year. To that extent, there will be more supply in the market and, therefore, pressure on yields," said R. Sivakumar, head of fixed income at Axis Mutual Fund.

The large borrowing number for FY20 has naturally upset traders, with yields already rising. Moreover, bond investors were concerned that the government’s math may have to be reworked next year.

Analysts also questioned the source of funds for additional allocations in the budget. “The internals of the fiscal deficit numbers would show that some of the numbers on goods and services tax receipts and corporation tax are aggressive," said Kapoor of Edelweiss.

Another concern is that some of the tax sops could be inflationary down the line, making it difficult for RBI to hold on to policy rates. The higher borrowing number itself has pushed up yields and, therefore, would put pressure on interest rates indirectly.

“The budget is supportive of consumption growth and, in that sense, it appears reflationary," said Shubhada Rao, chief economist at Yes Bank Ltd. Both Rao and Sivakumar of Axis Mutual Fund expect the central bank to be on an extended pause on policy rates. 

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