Normally, when the Sensex and Nifty break records and reach new milestones, that becomes headline news with widespread celebrations. But when the Sensex and Nifty reached new records of 36825.10 and 11134.30 on 24th July, the response was muted and subdued. Celebrations were conspicuous by their absence. The reasons are not far to seek.
This rally, which took the benchmark indices to record highs, has been a very narrow rally led by a few large-caps – the HDFC twins, TCS, Infosys, Reliance and HUL which together accounts for 42.14 percent weightage in the Sensex and 36.84 percent weightage in the Nifty. The broader market has been heading in the reverse direction. As on 24th July the Sensex and Nifty are up by 8.34 percent and 5.86 percent respectively YTD but the Nifty Mid-cap index is down 12.16 percent and the Nifty Small-cap index is down 19.75 percent during the same period. The broader market did not participate in the rally; worse, it has been moving in the opposite direction.
These trends in the market reflect gradual consolidation and ‘reversion to mean’ after the runaway rally in mid- and small-caps last year. The mid-and small-cap rally was overdone by the excess liquidity that flowed into these segments last year. The reclassification of the mutual fund schemes, completed recently, necessitated large scale rejigging of portfolios. This has resulted in reasonable normalization of valuations across capitalizations. The important fact is that even after this carnage in mid-and small-caps, their valuations continue to be higher than their historical averages and relative to valuations of large-caps. The bright side is that value is emerging in some quality mid and small-caps.
The turnaround in the fortunes of the software companies coupled with their reasonable valuations have led to accumulation and huge delivery buying in this segment. The earnings visibility and high quality in the leading players in the private sector banking and NBFC space have led to accumulation in the quality names in these segments.
It is true that mid-and small-caps have huge potential. But investors should not go over board enamoured by their potential. Reckless and across the board buying in mid-and small-caps can result in huge value destruction. The recent instances of auditor exits from certain companies and crash in their stock prices raise issues of corporate governance. Management quality is hugely important. Identifying good quality mid and small-caps is a difficult task. Therefore, investors have to be choosy while investing in this segment.
Expectations of further monetary tightening by the Fed and sustained FII selling have impacted all EM stock markets this year. In local currency terms, the MSCI Index YTD is positive only for India, Russia and Taiwan with the rest of the EMs awash in red with Argentina leading the pack with a cut of 42 percent. Capital outflow from EMs this year has been a major headwind. In India, the strong domestic appetite for equity is the major supporting factor.
The cover story of this issue of Geojit Insight is ‘Oil Economics and its implications for RBI policy’ written by Dr Rudra Sensarma, Professor of Economics, IIM Kozhikode. Apart from articles from our in-house experts there is an insightful article on Market Outlook by Rupesh Patel, Tata MF. Smart talk is with Amit Ganatra, Invesco M F.