Domestic market benchmarks the Sensex and the Nifty 50 hit their fresh record highs of 69,381.31 and 20,849.60 respectively in intraday trade on Tuesday, December 5, on gains led by banking and energy stocks.
The market is witnessing a broad-based rally as the BSE Midcap and Smallcap indices also hit their fresh record highs of 35,216.47 and 41,317.67 during the session today
Experts believe the ongoing rally has more legs as sentiment remains upbeat after the Bharatiya Janata Party’s (BJP) better-than-expected victory in the assembly elections of three big states – Madhya Pradesh, Rajasthan and Chhattisgarh. The market’s expectations of BJP retaining the power and political stability after the Lok Sabha election next year have grown stronger.
The long-term outlook of the market is positive. However, experts suggest investors need to be prudent about their exposure to equities and place their bets in sync with their risk appetite. Most experts say one should buy quality stocks from the large-cap segment while some of them suggest picking stocks from mid and small-cap segments also at this juncture if they have a high-risk appetite and long-term investment horizon.
Large-caps better placed
Vinod Nair, Head of Research at Geojit Financial Services finds conditions suitable for a pre-election rally, which will benefit all three categories with an edge to mid- and small-caps in the short term.
However, he believes that large caps are better equipped for the long because of exuberant earnings growth of +25 PAT (profit after tax) growth in the first half of the financial year (H1FY24), while stock performance is relatively subdued due to FIIs (foreign institutional investors) selling led by a global sell-off strategy in the calendar year 2023 (CY23).
Nair foresees the outperformance of mid-caps to large-caps narrowing over the next one to two quarters as the valuation scenario is aggressive.
“Mid and small-caps exhibit high valuations about 10 to 20 per cent above the long-term average, respectively, while large-caps are around the long-term average, suggesting a better risk/reward ratio on biggies,” Nair said.
Additionally, larger companies are strategically positioned to navigate prevailing global economic challenges, particularly with projections indicating a deceleration in the economies of the US and Europe in CY24. Our preferences lie in sectors such as private banks, FMCG, discretionary consumption, manufacturing, cement, capital goods, and emerging companies,” said Nair.
Shrey Jain, Founder and CEO of SAS Online is also of the view that large-cap stocks as a segment are better priced if we consider long-term averages. He underscored investors should keep an eye on the company fundamentals before investing. Paying a high price for a stock with relatively less earnings visibility should be avoided, especially at this juncture.
Investors are chasing turn-around stories and companies coming out of debt restructuring due to ‘low price’ in absolute terms. Many of these are micro-cap stocks and not all such attempts succeed. While management commentary and company plans may indicate a bright future for a business, always pick stocks of companies or managements that have solid execution track records. Investors need to moderate their return expectations from mid and small-cap stocks now. Traders must respect stop loss,” said Jain.
Jain believes banks, IT and select consumer discretionary large-cap stocks should reward investors.
Manish Chowdhury, Head of Research at StoxBox advises investors to prefer large-caps over mid and small-cap stocks.
We believe that the quality of earnings, strong growth potential and relative valuation comfort make the large-cap space better positioned going forward. Also, a sharp run-up in the mid and small-cap space in the last one year has left these stocks run ahead of their fundamentals, making them prone to sharp downside reaction in the event of minor pullbacks,” said Chowdhury.
Large caps are considered relatively more stable than the mid and small caps. Moreover, at this juncture, their valuation is cheaper in comparison to the mid and small-cap segments. However, some analysts still recommend betting on mid and small-caps.
Nikunj Saraf, Vice-President at Choice Wealth believes one should consider investing in mid and small-caps if he/she has a long-term investment horizon even though the valuations of mid and small-cap stocks are high and they tend to be more unpredictable, especially when their values swing to the extremes.
Right now, a bunch of mid, small-cap stocks are priced on the higher side. For folks who prefer a stable, short-term game, it might be a good idea to move some of their investments away from mid and small-cap stocks, at least for a bit. However, if you are in it for the long haul and can handle a bit of risk, keeping your money in mid and small-cap stocks might be a good move,” said Saraf.
Saraf believes the current upward trend may continue until the next general elections, with an extra boost expected from anticipated interest rate cuts.
He said large-cap stocks will also rise but they might not grow as fast as the mid and small ones.
Instead of being concerned about the valuations of mid and small-caps, investors should focus on quality stocks from the segment because there are still opportunities in the mid and small-cap spaces.
Looking back, in the years 2014, 2017, and 2021, mid-cap stocks saw a bigger jump compared to what we are seeing in 2023. It’s just the way these things go. So, instead of getting worked up about valuations, it might be smarter to focus on the bigger economic picture in India, especially with the upcoming elections in mind,” said Saraf.
An ideal way could be to have exposure in all three categories in proportion to their valuation.
One needs to have diverse exposure to all three categories and focus on quality names that are delivering sustainable earnings and growth. As a thumb rule, the allocation to the large, mid and small-caps can be in proportion to the valuation of these categories (lower the valuation = higher the allocation). In case investors find allocation a tough game, one can invest in flexi cap funds wherein the fund manager takes the necessary allocation,” said Deepak Ramaraju, Senior Fund Manager, Shriram Asset Management Company.