In the two days following the unfolding of the budget 2019-20, the Pakistan Stock Exchange (PSX) has seen brisk trading with investors falling over one another in a bid to buy shares in companies across the sectors. As a result, the benchmark KSE-100 index has rallied to gain 743 points or 2.1pc.

Given the tough measures—increased taxation, withdrawal of subsidies and generally a ‘neutral to negative’ budget for the market, the investors’ buying frenzy boggles the mind. But there is method in the madness.

The Economic Survey, released a day before the federal budget, cleverly swept the vagaries of the outgoing fiscal year under the carpet and instead of mentioning the performance for the FY19, it began from Jan 1, 2016 stating that the KSE-100 index which stood at 33,229 points climbed 16pc to 38,649 points on March 31, 2019.

The survey skipped comment on FY19 which was marked by unprecedented volatility, where the index lost 3,261 points or 8pc between July 2018 and March 31. During the year, the index hit three-year lows and scores of stocks saw their values wiped off by as much as 60 to 70pc. There was never a happy moment for investors in equities who saw the market fall intensify during and after the completion of staff level talks with the International Monetary Fund for a bailout package. There was a widespread anxiety in the market having agreed to harsh tax measures to meet IMF stabilisation conditions, which would jeopardise profitability of the corporate sector. That sent the shares scurrying down to dirt cheap valuations, but still without buyers.

But when the budget was unveiled, it turned the old Wall Street adage on its head: ‘’Buy on rumour, sell on news”. While almost all negatives were priced in, investors found that disappointing as they were, the budgetary measures were not as devastating as were widely feared to be. It has brought back the bulls in the market which has started to show signs of recovery.

The KSE-100 index stands at 35,403 points. Topline Securities mention: “Based on price-to-earnings ratio of 7-8 times seen during low growth period and post IMF programme, our index target range is 39,000-44,000”. Several other market strategists also concur that the market may recover by 15-18pc by December 2019.

That should offer relief to the investors who may be comforted by the belief that the worse may be over for the equity market. But corporate bosses lament that the harsh budget, made worse by the concurrent heavy devaluation of the rupee against the dollar, have put future plans and corporate profitability for at least the next three quarters in disarray.

Sector-wise, the budget is considered ‘negative’ for consumer products; textiles; cements; banks; steel; tobacco and automobiles. It stands out as ‘’neutral’’ for the fertiliser industry, the oil and gas exploration & production companies; oil & gas marketing companies; independent power producers (IPPs) and pharmaceutical companies.

Some of the negatives for the market include the proposal to freeze the corporate tax rate at 29pc for the next two years, which is departure from the government’s commitment to reduce corporate tax rate by 1pc a year till it reaches 25pc by FY23. The budget seeks to increase the minimum turnover tax, which is thought to

impact margins of companies that derive thin margins like the chemicals, OMCs and consumers. It could also impact future profits of steel and the cement sectors.

According to the Topline Securities’ analysts, budgetary measures that fall in the ‘neutral’ category include no change in capital gains tax (CGT) which for tax filer stands at 15pc. Further, taxes on dividend income remain unchanged at 15pc, though on IPPs’ dividend these have been brought up to 15pc, from 7.5p. General sales tax has been kept unchanged at 17pc which is contrary to market fear of an increase which would have led to higher inflation and demand contraction.

A major setback is the reduction of tax credit on new investments to 5pc from 10pc. It would jeopardise cost estimates of ongoing expansions by companies mainly in the cement, steel and glass sectors. Two rare positive proposals in the budget for the equity market are, first to increase tax on fixed income to bring it in line with 15pc tax on dividend and CGT on sale of shares. Secondly, the government has decided to revise upwards taxes and valuation of property to tighten the noose around the property sector and reduce public exposure to black and undocumented economy.

AKD Securities in its post-budget report states that Pakistan stocks trading at price-to-earnings multiple of 7.3 times in isolation appears positive. However, it is insipid when compared with sovereign yields. “We believe any euphoria whether on the Market Support Fund or else may be short lived where from budget’s context, negatives certainly outweigh the positives, at least for now.”

Equities now have the most attractive taxation regime with 15pc tax on capital gains arising out of sale of shares and 15pc tax on dividends. But the sectoral impacts of the budget range from neutral to negative.

Real estate sector sees a paradigm shift with revision of the official valuations, extension of the holding period for applicability of the capital gains tax and requirement that transactions over Rs5m be carried out through banking channels.

The government hopes to receive dividend income of Rs66bn from government investments in securities, which is 9pc lower than last year. The major dividend income is estimated from financial institutions.

Published in Dawn, The Business and Finance Weekly, June 17th, 2019