Here’s How the Union Budget 2022 Has Impacted Your Mutual Fund Investments

As you are aware, the Union Budget happens to be an important event not just for the markets, but also for the economy and all sections of society. But note that the impact of most announcements is seen over the long-term, as it lays the foundation pillars for economic progress. With changing times, many of the policy decisions are being taken in a staggered and responsive manner as the situation demands. That said, the Union Budget remains an important event to understand the overall blueprint of the government's near-term and medium-term vision plus the direction of its economic policies. It gives us an idea about the allocation of funds to the various sectors of the economy.

From that perspective, I would say the Union Budget 2022-23 has been a growth oriented-budget with greater allocations to infrastructure development programmes. Moreover, what is noteworthy is the consistency with which many of these programmes have been pursued. Take the case of PM GatiShakti: the approach here is driven by building Roads, Railways, Airports, Ports, Mass Transport, Waterways, and Logistics Infrastructure (which the Union Budget speech describes as seven engines) --many of which are work-in-progress--that would pull forward the economy in unison by creating employment generation. The budget assistance for the transportation sector is expected to jump 51% from Rs 2.33 lakh crore to Rs 3.52 lakh crore. Likewise, the PM Awas Yojana, both rural and urban, has received an allocation of Rs 48,000 crore to help build 80 lakh houses. This could provide affordable housing to the middle-class and the economically weaker sections of the society along with access to capital.

The government has allocated Rs 60,000 crore for the ambitious Nal Se Jal programme which aims to provide 3.8. crore households with tap water facility in FY23. Out of the current coverage of 8.7 crore households, 5.5 have already been provided with tap water in the last two years as per the data shared in the Union Budget speech.

The other key highlights of the Union Budget 2022-23 are as follows:

• Roll out of Raising and Accelerating MSME Performance (RAMP) programme to strengthen the MSME sector with an outlay of Rs 6,000 over 5 years.

• Assistance to the hospitality sector under Emergency Credit Line Guarantee Scheme (ECLGS) is increased by Rs 50,000 crore and the applicability will be extended to March 2023.

• Credit Guarantee Trust for Micro and Small Enterprises (CGTMSE) scheme will be revamped, thereby allowing the additional credit assistance of up to Rs 2 lakh crore.

• Recognising that telecommunication in general, and 5G technology in particular, the government will conduct 5G spectrum auctions in 2022. Plus, it would build a strong ecosystem in this regard. Further, to enable affordable broadband and mobile service proliferation in rural and remote areas, 5% of annual collections under the Universal Service Obligation Fund will be allocated. This is expected to promote R&D and the commercialization of technologies and solutions.

• With a higher emphasis on AtmaNirbharta in defence, the Union Budget 2022-23 has earmarked 68% of the defence procurement budget for domestic industry, as against 58% last time. Plus, the government plans to open up defence R&D to private industry, start-ups and academia with 25% of the defence R&D budget earmarked.

• Also given that Artificial Intelligence, Geospatial Systems and Drones, Semiconductor and its eco-system, Space Economy, Genomics and Pharmaceuticals, Green Energy, and Clean Mobility Systems--considered to be the new sunrise opportunities--have immense potential to assist sustainable development at scale and modernize the country plus provide employment; supportive policies light-touch regulations, facilitative actions to build domestic capacities, and promotion of research & development is intended to be carried out.

• Keeping in mind India's COP26 commitments, the government has allocated an additional sum of Rs 19,500 crore under the Production Linked Incentive (PLI) scheme to encourage the domestic production of high-efficiency solar energy modules.

These schemes (along with many others) are expected to serve the twin objectives of higher economic growth and employment generation. Having said that, the implementation of the announcements made in the Union Budget 2022-23 remain the key.

The total estimated capital expenditure at Rs 7.5 lakh crore in FY23 is 24.5% higher than FY22 revised estimates and 35% higher than FY22 budget estimates. However, it is necessary that the government front-loads much of this total capital expenditure in the first half of FY23 rather than wait until the second half. Sensibly spending the capital expenditure is expected to generate employment over a period of time.

The government, fortunately, in the endeavour to bolster the true spirit of cooperative federalism offered grants-in-aid to states, which will take the estimated capex for FY23 to Rs 10.68 lakh crore-about 4.1% of GDP. This is expected to catalyse overall investments in the economy.

The only disappointment for me was that the total healthcare expenditure increased only marginally by 0.23% in comparison with the revised estimate of FY22 to Rs 86,200 crore despite the COVID-19 pandemic having taught us a hard lesson and the World Health Organisation (WHO) stating that the pandemic is far from over. "I recognise we are in the midst of an Omicron wave, with high incidence, but milder symptoms. Further, the speed and coverage of our vaccination campaign has helped greatly. With the accelerated improvement of health infrastructure in the past two years, we are in a strong position to withstand challenges," said Ms. Nirmala Sitharaman in her budget speech. The share of government health care expenditure in the total GDP of the country is 1.35%, which in my view needs to move up and should be at least over 6% of GDP given the lack of social security in our country.

The overall trend that I have seen throughout the Economic Survey 2022 and the Budget announcements is the conservative assumptions with which the projections have been made.

As you may be aware, the Economic Survey 2022 expects the Indian economy to grow at 8%-8.5% in FY23. This is a conservative estimate considering IMF's estimate of 8.5%-9% on India's GDP for FY23.

The Economic Survey assumes that the crude oil prices would average USD 70- 75 per barrel in the next fiscal and the ongoing supply chain disruptions might ease as well, albeit gradually. The Economic Survey also assumes a normal monsoon this year and that there won't be further pandemic-related disruptions in FY23. However, this puts an enormous onus on the ongoing vaccination programme and the assumption that the existing vaccines work efficaciously against the virus mutations.

Fiscal discipline will be the key

The total expenditure in FY23 as per the budgeted estimates is expected to be Rs 39.45 lakh crore, while the total receipts other than the borrowings is estimated to be Rs 22.84 lakh crore.

The government borrowing calendar is also likely to remain extremely busy in FY23 with about Rs 11.60 lakh crore to be borrowed from the market to meet its expenditure (compared to the revised estimates of Rs 8.8 lakh crore for FY22). In other words, the government will borrow Rs 96,560 crore every month from the market. The Indian bond markets have displayed discomfort in this respect, as reflected by the 15 basis points (bps) rise in the 10-Year G-sec yield from 6.68% on January 31, 2022, to 6.83% on February 01, 2022. Currently, around 20% of the government's expenditure is now towards the interest payment, which is substantial.

The government has set the fiscal deficit target for FY23 at 6.4% of GDP, while the fiscal deficit target for FY22 has been revised upwards to 6.9% of the GDP (from 6.8% projected earlier in the budget estimates). Walking tight on the broad path of fiscal consolidation, the government plans to bring down the fiscal deficit to below 4.5% of GDP by FY26.

The Union Budget for FY23 has assumed only a 9.6% rise in the gross tax collections, which is fair and a rather conservative estimate. The government has estimated the nominal GDP of Rs 258 lakh crore and expects the gross tax collections to be 10.7% of the GDP in FY23.

Taking a positive step on voluntary tax compliance, the Union Budget 2022-23 has allowed additional time of two years from the end of the relevant assessment year to rectify errors in income estimation. Further, a level playing field for co-operative societies is created by revising the Alternate Minimum Tax rate to 15% from 18.5%. Further, the surcharge applicable to cooperatives is reduced from 12% to 7% for those having an income of more than Rs 1 crore to Rs 10 crore.

Besides, the eligibility deadline to establish a start-up for claiming the benefit of tax incentives applicable to them is proposed to be increased from March 31, 2022, to March 23, 2023. Similarly, to enjoy the benefit of 15% corporate tax, the deadline to start production of a new manufacturing plant will also be extended by a year, i.e. from March 31, 2023 to March 2024.

The Union Budget has also proposed to tax the income from the transfer of any virtual digital assets at 30% without allowing any deduction except the cost of acquisition.

What can mutual fund investors expect?

Given that the Union Budget 2022-23 made announcements that lay the foundation for long-term growth, the bull seems to be re-energised. Investment themes such as infrastructure, financials, IT, (given the emphasis on Digital India), Ed-tech, and other new sunrise sectors, such as artificial intelligence, geospatial Systems and drones, semiconductors and its eco-system, renewable energy, are likely to be the major beneficiaries.

However, what monetary policy action and stance the RBI takes amidst inflationary pressures is extremely crucial now. If the RBI continues with its accommodative policy stance and maintains the status quo for a while notwithstanding the policy normalisation by central banks in the western world, then it would augur well for economic growth and the Indian equity markets.

But if the stance of the monetary policy changes and policy rates are raised by the RBI, it would weigh down on infrastructure development and overall economic growth (as it will make borrowing expensive). But the risk here is that the extended policy support might make inflation a big threat to the capex programme because inflation could exacerbate the impact of already rising input costs and supply-chain disruptions.

The other concern is that there aren't specific announcements to stoke consumption-no tax direct tax rate revisions, no shuffling of tax slabs, no additional deductions, etc.

When investing in the Indian equity markets, note that valuations aren't looking cheap. At present, the Nifty 50 trades at a trailing Price-to-Earnings (PE) multiple of 24, while the mid-caps and small-caps are flying high. Only if the economic growth accelerates and corporates manage to report higher earnings growth, maybe the valuations might look more reasonable. But the risk is that inflation may drag down the bottom lines of listed companies. In that case, you need to take calculated risks while investing in equities and strategize your investment portfolio sensibly.

To benefit from potential investment opportunities arising from Union Budget 2022-23, you need not invest in any sector or thematic fund.

I recommend following the 'Core & Satellite Investment Strategy' instead. It's a time-tested strategy adopted by many successful equity investors across the world.

The Core & Satellite Investment Strategy facilitates optimum allocation across investment styles, strategies, and market capitalisations, with an aim to gradually build wealth in the long run.

The term 'Core' applies to the more stable, long-term holdings of the portfolio, whereas the term 'Satellite' applies to the strategic portion that would help push up the overall returns of the portfolio across market conditions.

The 'Core' holding should comprise around 65-70% of your equity mutual fund portfolio and consist of a Large-cap Fund, Flexi-cap Fund, and Value Fund/Contra Fund. On the other hand, the 'Satellite' holdings of the portfolio can be around 30-35%, comprising of a Mid-cap Fund and an Aggressive Hybrid Fund.

By wisely structuring and timely reviewing the Core and Satellite portions and the holdings therein, you would be able to add stability to the equity mutual fund portfolio while strategically boosting your portfolio returns at the same time.

But care should be taken to select the best equity mutual funds for investments in 2022. Here are a few fundamental rules to follow to build a portfolio of equity mutual fund schemes based on the Core & Satellite strategy:

1) Consider equity mutual funds that have a strong track record of at least 5 years and have been amongst the top performers in their respective categories.

2) The schemes should be diversified across investment styles and fund management.

3) Ensure that each equity mutual fund selected scheme abides with its stated objectives, indicated asset allocation, and investment style.

4) You should not only invest across investment styles (such as growth and value), but also across fund houses.

5) The equity mutual fund schemes should be managed by experienced and competent fund managers and belong to fund houses that have well-defined investment systems and processes in place.

6) Not more than two equity mutual fund schemes managed by the same fund manager should be included in the portfolio.

7) Not more than two equity mutual fund schemes from the same fund house shall be included in the portfolio.

8) Each equity mutual fund scheme that is to be included in the portfolio should have seen an outperformance over at least three market cycles.

9) You should restrict the count of equity mutual schemes in your portfolio to seven.

Although the Union Budget 2022-23 is a growth-oriented one, liquidity outflows won't be easy to deal with; volatility may intensify. Therefore, I suggest taking the Systematic Investment Plan (SIP) route to building the portfolio of best equity mutual fund schemes following the 'Core and Satellite' approach.

If you correctly follow the 'Core & Satellite' approach when investing in equity mutual funds, here are the six key benefits it will adduce:

1) Facilitate optimal diversification among the best equity mutual fund schemes.

2) Reduce the need to frequently churn your entire equity mutual fund portfolio.

3) Reduce the risk to your equity mutual portfolio.

4) Enable you to benefit from a variety of investment styles and strategies.

5) Create wealth cushioning the downside.

6) Help you potentially outperform the market.

Note, the Core & Satellite investment strategy may work for you in 2022 and beyond.

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With the right asset mix and proper diversification, you would be able to earn an optimal rate of return at a given level of risk with the best equity mutual funds schemes in your investment portfolio.

Happy Investing!

Warm Regards,
Rounaq Neroy
Editor, Daily Wealth Letter

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