Correction in Mid and Small Caps: A Blessing in Disguise

By Antu Eapen Thomas

The continuous fall in mid and small caps may not sustain for long as this provides an opportunity for value buying which will be rewarding when the turnaround happens. Mid and small caps under performed by 13% and 20% from their respective 52week highs.  Weakening domestic macros, outflow of foreign funds and selling by mutual funds resulted in increased volatility in the market.Premium valuations, rising interest rate and falling rupee also had a negative impact on mid-caps. However, on the valuation front, the gap between large caps, and mid and small capsh as narrowed.Mid and small caps are risky as compared to large caps but rewarding too(especially for high quality stocks) due to their flexibility and scale up potential. Any further correction may be used as an opportunity to buy and accumulate quality mid and small caps.

Historically, we have seen many scenarios that have resulted in correction in mid and small caps. When one looks at last year specifically, if demonetisation was a bolt from the blue, GST implementation was a planned action, and all these had an initial negative impact on mid and small caps resulting in investors losing their faith in the segment. But these initiatives are slowly strengthening the fundamentals of the economy and have the potential to boost earnings, going forward.

Presently we are seeing some respite in the market led by good economic numbers for Q4FY18 GDP, IIP and proactive decision by RBI. The carnage in mid and small caps are likely to see a respite as a large part of the downgrade in earnings is over. Additionally, the consumption story is getting better led by GDP growth, improvement in rural market and a good start to the monsoon. We are likely to see a bounce in the market in the near future given attractive pricing and decline in valuation for mid and small caps.