The Indian government has taken action to suppress the stock market.

On the 23rd local time, the Indian government submitted the central finance budget, proposing to increase the capital gains tax on equity investments and derivative trading in the budget. Indian Finance Minister Nirmala Sitharaman announced:

A 20% capital gains tax (short-term capital gains tax STCG) will be levied on financial assets held for less than 12 months, up from 15% before.

A 12.5% capital gains tax (long-term capital gains tax LTCG) will be levied on financial assets held for more than one year, up from 10% before.

Starting October 1st, the trading tax on stock options will be raised to 0.1%, and the trading tax on futures will be raised to 0.02%, up from 0.0625% and 0.0125%, respectively.

The Indian government has taken heavy-handed measures to cool the speculation frenzy of Indian retail investors.

The Indian government raises taxes to crack down on speculation frenzy.

Since 2020, the Indian stock market has set multiple historical highs, continuing its strong upward trend since the previous year. Currently, the market capitalization of Indian stocks has exceeded $5 trillion.

Analysis shows that this is mainly due to the strong participation of Indian retail investors, and the number of Indian retail investor accounts has more than doubled since 2020, reaching about 0.16 billion. Especially among young people, it has become popular to buy stocks and options frantically. In January alone, the nominal trading volume of Indian stock derivatives reached a staggering $6 trillion, exceeding India's economic size.

According to data from Bank of America, the daily average nominal trading volume of Nifty 50 index options in India this year is about $1.64 trillion, exceeding the $1.44 trillion of the S&P 500 index.

Seeing that Indian stock derivative trading has soared to such a high level, the Indian government is afraid that families will use all their savings for speculation, and has repeatedly warned against the continuous increase in market speculation behavior, and then hopes that raising taxes can reduce the speculation frenzy.

However, the Indian stock market still took tax hits calmly. The Indian NSE Nifty 50 index fell 1.8% when the news came out, and then almost recovered all the decline.

Vikas Khemani, the founder of Carnelian Asset Management, said that he expected the tax changes not to have a significant impact on market sentiment and still believed in investing in India.

What impact will the capital gains tax increase have on the Indian market?

Analysis generally believes that the tax increase may have a negative impact in the initial stage, but the negative impact will quickly dissipate. In the long run, these measures may bring long-term benefits to the Indian capital market, because these measures will promote a more sustainable and balanced investment pattern.

Shlok Srivastav, co-founder of Appreciate, said that to be fair, the market and the business ecosystem both want a more reasonable long-term and short-term capital gains tax.

Given the signs of overheating in the derivatives market, a significant adjustment of the short-term capital gains tax from 15% to 20% is reasonable. India's market regulator recently said that the growth of derivatives trading has moved from a micro-level issue to a macro-level one, largely implying that the Indian government is actively addressing excessive speculation in the derivatives market.

At the same time, we appreciate the revision of the long-term capital gains tax by the Indian government. The increase of the capital gains tax from 10% to 12.5% will hardly affect larger gains for serious long-term investors. It will encourage investors to enter the Indian market with reasonable long-term expectations and encourage them to become actual stakeholders in the Indian economic growth story. Of course, the upward adjustment of the long-term capital gains tax will suppress market sentiment for a period of time. After all, we know that participants in the capital market will accept this adjustment and continue to move forward.

Shripal Shah, Chairman and CEO of Kotak Securities, also said that this federal budget has set a clear vision for India's economic future, and growth and fiscal responsibility are paramount. These tax increases are all aimed at easing the current excessive stock market speculation and allowing the stock market to grow at a sustainable rate.

We expect a small adjustment period as the market adapts to these new tax rates, but this will ultimately help create a sustainable investment environment and promote the balanced and orderly development of the capital market.

Shripal Shah also pointed out that India's financial budget for 2024 aims to achieve a balance between investor interests and long-term market stability. The rationalization of the capital gains tax system is expected to bring a simpler and easier investment environment for investors, thereby promoting more investor participation.

Aman Soni, the head of Prudent Equity, believes that the tax rate adjustment is a direct blow, but it has not changed investor interest in the Indian stock market. As more and more retail investors participate, the Indian capital market will continue to expand, and investors should focus on identifying stocks that are suitable for their understanding and risk preferences, and continue to invest.

Even after the increase in capital gains tax, stocks will still be the preferred asset class. Considering all aspects, stocks will continue to provide generous returns and, considering the cancellation of indexed gains in real estate transactions, stocks will generally become investors' preferred asset class.