After highs, expensive valuations, change in LTGG tax structure risks to market rally

Following a sharp rally in the Indian markets since their June 2022 lows, risks are emerging in the form of high valuations and moderation in growth amid a recession across major economies, according to analysts. Any change in the current capital gains tax structure in the upcoming Budget also poses a risk to the market.

Still, they believe the Indian markets would be able to tide over the current short-term uncertainty.

From their lows in June, the S&P BSE Sensex and the Nifty50 have gained around 18 per cent each and have outperformed their global peers by a wide margin. The rally since then on renewed foreign investors’ participation and a resilient domestic macroeconomic situation, according to analysts at BNP Paribas, has led the Nifty50 valuation to expand to around 19.7x, which is 22 per cent above its long-term average.

“The bond earnings-yield gap has widened to -2.4 per cent, which is around 120 bps below its average of -1.2 per cent since 2009. Historically, at this level of gap, we have seen negative oneyear forward returns. For the Nifty 50, we see lack of positive catalysts for any meaningful consensus (earnings) estimate upgrades, with risks skewed toward the downside on a sharper-thanexpected global slowdown and inflation remaining stable at high levels,” said Kunal Vora, head of India equity research at BNP Paribas Securities India.

Meanwhile, the Indian economic growth, as measured by gross domestic product (GDP), according to analysts at Goldman Sachs, is likely to slow to 5.9 per cent in 2023 as against 6.9 per cent in 2022. Growth, they believe, will likely be a tale of two halves, with a slower first half as the reopening boost fades, and monetary tightening weighs on domestic demand.

“In the second half (of 2023), growth is likely to re-accelerate as global growth recovers, drag from net exports diminishes, and investment cycle picks up. We forecast a headline CPI inflation to decrease to 6.1 per cent (average) in 2023 from an estimated 6.8 per cent in 2022, as food prices remain contained,” wrote

Andrew Tilton, chief Asia-pacific economist and head of EM economic research at Goldman Sachs in a recent note co-authored with Santanu Sengupta and Deepak Narendranath.

Capital gains tax

Another unknown risk that the markets are not pricing in at the current levels is the possibility of a change, if any, in the treatment of the current capital gains tax structure in the upcoming Budget, analysts said. The government, reports suggest, may rationalise long-term capital gains tax (LTCG) structure by bringing parity between similar asset classes. That apart, revising the base year for computing indexation benefit can also be on the anvil.

Fresh peaks

After Tuesday’s trade, the BSE gained 177.04 points to settle at 62,681.84, its fresh record closing high while Nifty advanced 55.30 points to end at 18,618.05, another record close. Meanwhile, the Sensex has gained more than 7 per cent on a year-to-date basis — overtaking Indonesia’s 6.4 per cent — to become the best-performing Asian market of 2022.