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Small and Mid-Caps Stocks Surge in 2024: A Repetition of 2018 Scenario?

Submitted by admin on March 20th, 2024

Small and mid-cap stocks have registered extraordinary returns in the last 1 year – a phenomenon manifested through soaring Nifty Smallcap and Nifty Midcap by around 50 percent. In contrast, the benchmark Nifty spilled over 29 percent during the period. Corrections in both the broader market indices since February last year have not gone unnoticed.

“From a premium of 24 percent and 29 percent for Mid and Small Caps over Nifty in early February 2024, which sharply corrected to 14 percent for both. Partly on account of relative strength in Large Caps and sharp correction in Small Cap Index of 12 percent from February 2024 peak,” Motilal Oswal stated in a recent note.

The brokerage highlighted further that midcaps have settled in a premium brand and small caps are following the footprints. Large Caps have started to strengthen and are reasonably valued at 22.70 on TTM PE.

In early January 2018, the Indian equity markets enjoyed exceptionally exorbitant valuations across all segments. The Nifty 50 trailing 12-month price-to-earnings ratio started at nearly 28. The trend indicated that it had climbed the peak, aggravated by SMID (Small and Medium Enterprises) that traded at unsustainable premiums crossing beyond 100 percent over Nifty valuations.

Markets maintaining themselves at such unsustainable levels will embrace rationalism and wait for a stimulating event, noted MOSL. It further claimed that the trigger took place when the entire MF (Mutual Fund) industry was forced to restore its portfolio balance out of small and midcaps. Regulatory mandates necessitated the shift to redefine standard market cap definitions and suggest new scheme characteristics.

As a result, a large part of the MF industry got busy with rebalancing activities and effectively withdrew support from the market’s SMID segment. With the availability of limited counterbalancing flow, the SMID segment registered a period of weakness at a stretch, according to the brokerage.

Furthermore, other factors influenced passive sentiments towards SMID stocks. The crisis within the NBFC sector (Non-Banking Financial Companies), paired with the expectations of the imminent 2019 elections and consequent imposition of capital gains tax on equity, added to market complexities and anxieties, intensifying the prevalent weak perceptions about SMID stocks.

These factors collectively built a challenging condition for SMID stocks, manifested through higher valuations, negative market conditions, and regulatory pressure, eventually resulting in an unremitting period of weakness in this specific market segment.

However, 2024 is not the same as 2018

The brokerage states that the SMID segment showed a significant swell in the market momentum from April 2023 onwards, steered by multiple factors such as more domestic investment in small and mid-cap stocks and cut-price valuations for small caps. The resurgence caused a significant surge in premium valuations over Nifty, pushing concerns by early 2024 regarding the impending overvaluation.

Furthermore, identifying the risk of extreme market enthusiasm, regulatory intervention emerged in the form of warning measures focused on the SMID segment. The regulatory body embraced a proactive stand by involving asset management companies and asking for stress testing for their constant exposure to SMID stocks. Moreover, some asset managers stopped fresh hefty investments, further influencing the market sentiment.

Regulatory bodies monitoring banking and non-banking financial segments interfered to handle the concerns in payment business and NBFCs, further strengthening market stability.