Mid and small-cap stocks have been outperforming the frontline stocks since March 2020 and have gone past their previous best on several fronts, brokerage firms Motilal Oswal Financial Services has said.
The brokerage said in a report that they have set new benchmarks on multiple fronts—consecutive months of positive returns, 12-month rolling returns gap versus the Nifty, relative valuations, and contribution to the overall market capitalisation (m-cap).
"The sharp outperformance of mid-caps, bolstered by healthy earnings, improved sentiments, benign liquidity, and low cost of capital, has more than bridged the valuation gap against large-caps. Current valuations, while not prohibitively expensive, are not lucrative from a risk-reward perspective," said Motilal Oswal.
As of July 5, the benchmark Sensex had gained 11 percent in 20210 but the BSE midcap and smallcap indices were up 26 percent and 42 percent, respectively. The Nifty is up 13 percent whereas the Nifty midcap 100 index is up 30 percent and the Nifty smallcap 100 index is up 41 percent.
"Balance sheets and cash flows have improved in FY21 as corporates tightened costs and deleveraged. The gradual unlocking of the economy and an improved demand backdrop do offer bottom-up opportunities. Consistent earnings delivery versus expectations is critical for further outperformance. Any risk-off owing to concerns over potential interest rate hikes may impact mid and small-caps more," the brokerage said.
The Nifty’s underperformance against the midcap index on a 12-month rolling basis is at the highest levels since the 2007-08 global financial crisis (GFC), Motilal Oswal observed. For the smallcap index, this rolling 12-month underperformance is at the same level as during the 2007-08 crisis.
However, despite these recent sharp gains, the NSE midcap 100 and smallcap 100 indices have underperformed the Nifty since their previous peaks of December 2017.
The Nifty has gained 51 percent since December 2017, while the NSE midcap 100 and smallcap 100 have returned 28 percent and 6 percent, respectively, Motilal Oswal said.
The recent broad-based rally has led to a sharp increase in m-cap contribution from the mid-cap and small-cap universe.
The m-cap of the NSE midcap index now contributes 12.1 percent to the overall m-cap, up from 9.8 percent in March 2020. The m-cap for small-cap companies accounts for 3.7 percent to the overall m-cap, up from 2.7 percent in March 2020, Motilal Oswal said.
In terms of absolute m-cap, Motilal said the NSE midcap and Smallcap indices are at the highest ever levels of Rs 28 lakh crore and Rs 8.5 lakh crore, respectively.
The Nifty smallcap 100 has been trading at a premium to the Nifty for the first time since December 2014. It is trading at a premium of 7 percent against an average discount of 21 percent on a 12-month forward basis, Motilal said.
Valuations for the Nifty Midcap 100 index is on par with the Nifty on a 12-month forward basis. However, if one were to remove loss-making companies from both the indices, then the midcap and smallcap indices are trading at a trailing P/E of 21 times/23 times FY21 earnings, at a marginal discount to the Nifty, Motilal Oswal said.
Max Financial, Varun Beverages, L&T Technology, Emami, Endurance Tech, J K Cements, ICICI Securities, Indian Hotels, Aditya Birla Fashion and Orient Electric are the top mid-cap ideas of Motilal Oswal Financial Services.
Disclaimer: The above report is compiled from information available on public platforms. Moneycontrol advises users to check with certified experts before taking any investment decisions.
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