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How to position yourself ahead of the Budget?

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Budget and the Stock Markets – The Myth about Pre-Budget Rallies

From the view point of the investor, it is important for him to see the impact of the budget on the financial markets as well as on tax rates that will ultimately affect his disposable incomes. There is a general perception that the equity markets see a rally in the build-up to the budget called the pre-budget rally in stock market parlance. Nothing could be farther from the truth as an analysis of pre-budget behavior of stock markets since 1996 shows.

Union Budget has been declared 17 times since July 1996 (including interim budgets) and stock markets (represented by the BSE Sensex) have given positive returns during the preceding 30 days in only 6 out of the 17 such occasions. On 8 such occasions, the markets have been negative by more than 1%, whilst on the remaining 3 occasions they have been almost flat giving returns between (+/-) 1%.

The behavior of markets even after the budget, say a week after the budget and a month after the budget also does not show any clear trend, with positive returns being seen on less than 50% of the times. Hence, the general perception of a pre-budget or post budget rally is largely unfounded. Of course there are singular instances of stocks from budget sensitive sectors moving up or down for instance stocks associated with railways, education, automobiles, etc but it is very risky to take directional calls even in such cases, in absence of clear trends.

What should an investor do then?

Investments in stock markets should thus be guided by fundamentals and valuation levels than by budget expectations. However, if anticipations from the budget are likely to support fundamentals and valuations, then one can invest in sectors from time to time based on budget expectations.

Infrastructure Sector can be a major beneficiary from the upcoming Budget

For instance, the need for better infrastructure has never been felt so badly than now in India. Most of the inflation related problems can be attributed to the poor state of infrastructure in India which limits production of goods, productivity of the industry & farms and the movement of goods from one place to another. With domestic consumption demand remaining strong in the wake of strong economic recovery and higher income levels, the gaps in demand and supply are being exposed more explicitly. Infrastructure development in India has lagged mainly because of lack of adequate financing and more importantly due to problems in land acquisition.

It is high time that these impediments are addressed and the Union Budget is one of the most appropriate platforms to bring about reforms and declares new policies. We expect some strong policy initiatives in this regard in the upcoming budget which should be bullish for infrastructure (including sectors catering to industrial capex) sector.

Infrastructure as a sector has underperformed the broader markets significantly over the last 2-3 years. Leading stocks in the sector are thus trading at relatively attractive valuations as compared to their historical valuation levels as well as those of other sectors. With potential order flows in the medium to long term remaining strong, growth is unlikely to be a concern for this sector if the two underlying problems of financing and land acquisition are corrected.

Moreover, a typical characteristic of the sector is that due to high fixed overheads, as revenues increase beyond the break even point, the amount of contribution rises exponentially as an increasing portion of the revenues starts flowing towards the bottom line. Hence, beyond a certain activity level, growth in profits can really outpace the growth in revenues for these businesses. Infrastructure is thus likely to be the single largest theme that plays out in the budget.

There are other sectors too that should benefit from this budget

Apart from that other sectors than can potentially benefit from the budget are organized retail (due to a calibrated opening up of the multi-brand retail business), insurance industry (chances of the FDI limit being increased are potent) and export oriented sectors such as textiles, gems and jewelry and IT software. The focus on export oriented sectors should be driven by the fact that we need to boost our exports if we really want to bring down the trade and current account deficits. With rupee remaining uncharacteristically strong, exports have been hurt resulting in a large trade deficit. The sector thus needs continual support from the government.

Another sector that is in dire need of support is the farm sector. Serious steps have to be taken to bring about another green revolution if we want to attain self sufficiency in food and bring down food price inflation and food subsidy bills. Policy initiatives coupled with investments in logistics, storage and warehousing facilities are the need of the hour. Steps aimed at improving agricultural productivity and irrigation facilities can be expected in the budget. As such one can reasonably get bullish on companies engaged in activities ancillary to agriculture such as seeds, farm equipments, irrigation facilities, fertilizers among others.

Budget and the Bond Markets – Watch out for the projected fiscal deficit for 2011-12

For debt markets, target fiscal deficit for the next financial year is an important piece of information declared in the budget simply because it also gives an idea on the borrowing plan of the government in the near term. This data is mainly important for the long term government securities or corporate bonds market and has very little impact on short term bonds. This information gains even more significance when the government is already running a high fiscal deficit as is the case at present. Hence, all eyes will be on the target fiscal deficit figure for 2011-12 to be declared in the budget. This, coupled with the actual borrowing plan for 2011-12 impacts long term g-sec rates considerably and hence the returns from long term debt funds. Savvy investors normally choose to wait and watch the budget before committing themselves to substantial investments in long term debt funds. http://www.justtrade.in/blogs/

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