Is the worst over for small-cap and mid-cap stocks?

After dropping sharply in the past six months, small-caps and mid-caps have started showing price recovery

Published 6 years ago on Aug 07, 2018 2 minutes Read

Manish Sonthalia, head of equities, Motilal Oswal AMC

The introduction of capital gains tax and regulatory change in the definition of large-cap, small-cap and mid-cap had triggered large-scale selling in this space. However, the earnings of most quality small-caps and mid-caps have started to pick up in line with that of large-caps, hence selling is not warranted to the extent we have seen lately. Investors can now look to build a small and mid-cap portfolio with a time horizon of two or three years as valuations are seriously in favour. The market is bullish about large-caps, but in the small and midcap space, valuations have dropped by 40% to 50%. Moreover, the earnings growth trajectory in some small and mid-caps remains intact. There is under-ownership in the small and mid-caps and I think large-caps are priced to perfection for the near term. Investors will make more money if they invest in small and mid-caps as compared to large-caps with the above mentioned time horizon.

Dipen Sheth, head — institutional research, HDFC Securities

Small-caps and mid-caps have not bottomed out. Valuations in some of the mid-cap counters are still looking stretched especially compared to some of the respectable large-caps. Selective premium multiples were fine so long as there was growth and reinvestment visibility. The valuations have cracked in the mid-cap space due to the rise in interest rates and also because they were irrationally high in many cases. Additional market risk in small and mid-caps is that leveraged positions in many of these stocks are built via actual margin borrowing by investors, rather than positions created in the futures market, which is the case in large-caps. Very often, financiers of such margin money sell hypothecated stocks algorithmically as prices hit pre-defined risk levels. This, coupled with the relatively low liquidity in these counters, makes the small and mid-cap universe much more volatile than the large-cap universe.