How the market corrected recently

The Nifty and the Sensex correction from the peak levels was much more violent than expected.While the loss of 8-9% may not be substantial in relative terms, the impact was palpable because the markets were overbought. But the bigger question is what triggered this sharp correction and whether the worst is behind us? More importantly,are there any key event risks left in the market at this point of time?

LTCG tax leads the way…

The 10% tax on LTCG above Rs.1 lakh per year is likely to be a dampener for equity markets.But the bigger trigger was the impact on mid-cap and high beta stocks. Faced with the prospects of paying LTCG tax after March 31^st, there was a rush to book profits wherever possible since there was a window till March 31^stwherein investors could book profits without paying LTCG tax. All profits booked after that date would be taxable. This was the big dampener from the Union Budget since the very concept of equity attractiveness came from the tax shield. In addition, equity mutual funds also started selling expecting that there could be sudden surge in liquidity demand as equity funds were also subject to this LTCG tax. The incremental trigger came when the financiers started putting pressure on borrowers and promoters to lighten their position or face margin calls. That, in a way, was the key trigger that led to the sharp sell-off in equities.

Global markets sold off…

It is easy to say that Indian markets are largely decoupled from global markets; and to an extent it is! However, when the Dow falls by 1000 points for two trading sessions it is actually hard to ignore the global contagion effect of the US markets. Not just the Dow, but European markets and the Nikkei also gave sharp swings leading to pressure on the SGX Nifty in early trades. The bigger worry was more fundamental. Like in India, bond yields are up sharply across the world. This is likely to create huge losses in bond holdings and bond fund holdings across the world. The market correction was also to factor in the likely impact of these hidden losses in the portfolios of financials.

Is there a risk-off worry?

The entire idea of risk-off shift maybe overstated as the US has been leading the way in the recent correction. The market is preparing for bond portfolio losses; and that could run into billions of dollars. In the Indian context, the combination of global triggers with the LTCG tax created a sense of urgency and panic in the equity investors. The skimming of profits from investments appears to be more a case of smart profit booking at historically above-average valuations. The global bond yields and LTCG tax may just be the triggers. Indian markets have reasons to be wary; not exactly to worry
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