Riding a Wave of Optimism, Small and Midcaps Outshine Large-caps in May

While sentiment across the overall market has been on the rise since mid-April, it has been the broader market, housing small and midcap stocks, that has outshined large-caps in the last one month.

To put things in perspective, the benchmark Nifty 50 index has returned around 2% over the last month. In contrast, the Nifty Smallcap 100 and Nifty Midcap 100 indices have delivered much stronger gains of nearly 7% and 5%, respectively. This outperformance highlights the renewed investor interest in the broader market. The midcap index has not only recouped its earlier losses but is now in positive territory for the year.

Meanwhile, the smallcap index, though still down 5% year-to-date, has made major strides, significantly narrowing its correction.

With debates over hot valuations across most pockets in the broader market having flooded headlines in recent times, the strength shown by small and midcaps has been nothing short of remarkable. More so, the surge in small and midcap names also suggests changing sentiment around the broader market, hinged largely on easing valuations in some pockets after the long period of downturn and improving earnings growth prospects.

“A significant feature of the Q4 results season is the outperformance of the midcaps which has helped reduce the high valuations of the segment," VK Vijayakumar, Chief Investment Strategist, Geojit Investments explained.

Meanwhile, several market experts have also shattered the perception around largecaps being cheaper in valuations as compared to small and midcap names. Analysts at JM Financial explained that when looking at the estimated price-to-earnings (P/E) ratios for FY26, midcap stocks do appear to be the most expensive, with the Nifty Midcap 100 trading at 29.3 times earnings. Small caps follow at 25.2x, while large caps seem the cheapest at 20.6x (Nifty50).

However, scratching deeper, a look at the FY26 price-to-earnings growth (PEG) ratio, which adjusts for expected earnings growth, the picture changes. Midcaps actually come across as the cheapest, with a PEG of 1.3x, followed by small caps at 1.7x, and large caps appear the most expensive with a PEG of 1.9x. In short, the analysts revealed that while midcaps look pricey based on P/E alone, their stronger growth prospects make them look more attractive when growth is taken into account.

The recovery in the broader market is also no longer limited to a few sectors such as defence and NBFCs. It has extended to a wider range of industries, including metals, real estate, and automobiles, all of which are considered rate-sensitive and have benefited from falling inflation and growing expectations of an interest rate cut in the RBI’s June 6 Monetary Policy Committee meeting.

Analysts attribute the broader rally to stronger-than-expected corporate earnings in the March quarter and renewed buying by both domestic and foreign investors.

“In an environment where global and domestic risks are easing, the broader markets are seeing an upswing, supported by a firm recovery in domestic demand, as reflected in Q4 earnings,” noted Vinod Nair, Head of Research at Geojit Financial Services.

Nair added that the current momentum in mid- and small-cap stocks comes after a period of underperformance, which was driven by expensive valuations, earnings downgrades, and softer flows from foreign and retail investors. The recent turnaround suggests these pressures may now be easing.

Now while the broader market space has been beaming with positivity in the past month, analysts continue to vouch for being stock specific. Stocks with strong fundamentals and consistent earnings performance are likely to remain in favour. On the flipside, others may eventually fall prey to steep profit booking as the market prioritises earnings growth hereon.

To that effect, analysts at Elara Capital believe the margin sustainability and earnings visibility will be tested yet again for the midcap space once global demand normalises and cost base resets. To handle such jitters and periods of downturn, analysts suggest investors to focus on companies with strong growth visibility rather than running behind ‘narrative’ names.