Vinod Nair
We had a strong rally in mid & smallcaps in the last two weeks, Nifty Midcap100 and Nifty Smallcap100 indices are up by 9 percent and 13 percent, respectively, from recent lows of February 18.
Market feels that one of the important reasons for this rally is de-escalation in geopolitical risks and positive vibes over the upcoming elections. While we feel that this could be secondary factor, the main reason is cheap prices and valuation given the tremendous fall since January 2018 to February 2019. Nifty Midcap index was down by 24 percent and smallcap index fell 37 percent during the same period.
This fall was triggered by premium valuations of mid, smallcaps in comparison to largecaps by 20% above the long-term average, slowdown in economy due to bunch of disruptive reforms (demonetisation, GST, IBC), a similar slowdown in world economy leading to downgrade in earnings. While stricter norms from SEBI and reduction in financial liquidity in the banking system due to NPA and NBFC issue impacted the stocks accordingly.
Earnings growth for midcaps was positive between FY17 and FY18 which slowed heavily from Q1FY19 onwards. At the same time, the average valuation on a 1-year forward P/E basis was as high as 25x which has come down to 15x.
Market expects earnings growth to revive in FY20 with rebirth in economic momentum from Q2 to Q3. Domestic worries like slowdown in business has stabilised as financial liquidity is improving, NPA issue is at the second phase of development led by IBC and improvement in GST collection.
Post general election and stability in domestic market, capex cycle can revive. This is likely to be supported by reduction in interest rate as market expects further 50bps reduction in repo rate given a fall in inflation and a systematic need of the economy given the slowdown in FY19. All these factors are supporting mid & smallcaps.
March will be very crucial for the market globally and domestically, too. Clarity is likely to emerge on US-China trade deal by mid of March. Similarly, Trump is contemplating a similar tactic with Europe, Japan and India. Till date, the development of this meeting is positive and not likely to be as hazardous as expected earlier.
The other points are Britain’s role in EU (BREXIT) by March 29 and central banks' meeting of US Fed, ECB and Bank of Japan which will define the support to the slowing world economy. Economic data of US, China and EU will be very eagerly watched by the market to decide the outlook of CY2019. IMF had cut its world GDP forecast for the year in January.
Only few domestic macros are due in the month of March but the above-mentioned global event will weigh on the domestic market. It will be data heavy in April – May led by RBI policy meet, Q4FY19 results and general election.
This ongoing rally may take a break in between given the sharp nature of the bounce, but we believe that it will build a positive momentum in the long-term and we continue to have a very positive view on mid & small caps.
Here are the top stock trading ideas which can give good returns:
Mold-Tek Packaging: Rating: Buy | CMP: Rs 275 | Target Price: Rs 312 | Return: 13%
Mold-Tek Packaging (MTEP) is one of the leading suppliers of high-quality packaging for Paints, Lubricants, Food and FMCG. Its revenue grew by 12 percent CAGR whereas PAT grew by whopping 41 Mold-Tek Packaging CAGR over FY13-FY18.
EBITDA margin expanded by 830bps to 18.7 percent over FY13-18. Strong profitability growth was led by margin expansion on account of increasing share of in-mold volumes. Incremental volumes owing to capacity expansion, higher contribution from in-mold sales and rising share of FMCG in revenue mix will be margin accretive. Given strong earnings outlook of 22 percent CAGR over FY19E-21E, we have Buy rating.
PNC Infratech: Rating: Buy | CMP: Rs 137 | Target Price: Rs 158 | Return: 15%
PNC Infratech Ltd (PNC) is an Infrastructure construction, development and management company; expertise in execution of projects including highways, bridges, flyovers, airport runways, industrial areas and transmission lines.
Strong execution of big ticket order book supported a revenue growth of 54 percent YoY in Q3FY19. While 9MFY19 revenue growth remain strong at 86 percent YoY to Rs 2,021 crore.
PNC has received financial closure for all seven projects and four of these projects achieved appointed date & execution is currently in progress. Order book remains robust at Rs 12,478 crore which is 4.5x TTM revenue which provides improved visibility in the coming years. Pick up in execution with a strong balance sheet and likely monetisation of four BOT projects will support valuation.
Suven Life Sciences: Rating: Buy | CMP: Rs 252 | Target Price: Rs 260 | Return: 3%
Suven Life Sciences is a pharmaceutical research expert that is in the business of Contract Research And Manufacturing Services (CRAMS).
Suven Life Sciences with its high emphasis on R&D, steady CRAMS business and a promising NCE (New Chemical Entity) pipeline of 13 molecules offers an attractive investment opportunity. Suven is also moving ahead with the plan to demerge its CRAMS business which will maximize their ability to mobilize funds.
We therefore expect PAT to grow at a CAGR of 17 percent (FY19-21E) and EBITDA margin to remain stable around 32-35 percent given improving product mix and a healthy balance sheet.
The author is Head of Research at Geojit Financial Services
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