Beaten down mid- and small-cap stocks are in the limelight again, as fundamentals turn positive. In the last nine sessions, starting 18 February, the BSE MidCap index has risen 5.13%, while the BSE SmallCap index has gained 6.58%, outpacing the benchmark BSE Sensex.

In the same period, the Sensex was up 1.59%. However, this is only a gradual rise since both indices have fallen 6.06% and 4.93%, respectively, so far this year, while the BSE Sensex was down 0.01%.

Analysts said that as valuations of both mid- and small-cap stocks have cooled off, investors are once again favouring them. Once expensive, valuations of both BSE MidCap and Sensex have become fair or cheaper after a major correction, analysts said.

“Earnings growth may be slower, but valuations of the stocks appear reasonable," said an analyst, requesting anonymity.

In 2018, the BSE MidCap had slipped 13.4% and the BSE SmallCap by 23.5%, after a massive rally of 48% and 60%, respectively, in 2017, which had heated up valuations for such stocks.

According to Rusmik Oza, head of research, Kotak Securities, multiple factors have led to the recent rally in mid- and small-cap stocks. “Valuations of mid-caps have moderated considerably. BSE MidCap index has lost its premium in valuation compared to the Sensex. Also, easing of global trade tension is expected to lift Metal stocks and commodity stocks. Post Pulwama, the prospect of (Prime Minister) Narendra Modi returning to power in 2019 general elections has also got stronger."

Oza said that since only a handful of stocks have contributed to the Sensex rally in the last 6-7 months, investors are now finding attractiveness in beaten-down stocks.

As the BSE MidCap index has seen a sharp fall over the last few months, its valuation premium over a larger set of stocks has shrunk at a rapid pace. From the beginning of the current fiscal year, the premium of BSE MidCap index to Sensex has slipped from 3.79% to -2.2% at current levels.


At current levels, the one-year forward price-to-earnings (PE) ratio of the BSE MidCap index is at 15.47, while the Sensex is available at 17.68, according to Bloomberg.

After a steep correction in valuations of small- and mid-caps in the last one year, valuations have become attractive for some small-caps, said Ambit Capital Pvt. Ltd in a 27 February note.

“A year ago, we turned cautious on small- and mid-caps, given that this section of the market witnessed a sharp re-rating in 2017, with valuations reaching lofty levels. With domestic flows tapering and foreign institutional investors increasingly turning more cautious about Indian equities amid rising geopolitical tensions, the recent market correction has been much more brutal for small/mid-caps than large-caps. Valuations of small-caps fell by 25% in the past one year versus 9% correction for large-caps. Valuations for mid-caps corrected by 16% in the past one year versus 9% for large-caps," it added.

The brokerage said comparing the trailing 12-month revenue, Ebitda and net profit growth for various market-cap buckets, the sharp valuation correction in small- and mid-caps was not accompanied by a similar deterioration in fundamentals.

Ebitda is short for earnings before interest, tax, depreciation and amortization.

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