A blip, not a trend: Smallcaps remain the flavour despite recent shift

Smallcap funds, which had seen about  ₹3,300 crore in monthly inflows over the past 15 months, saw a sudden reversal with a March redemption of  ₹94 crore. (Image: Pixabay)
Smallcap funds, which had seen about 3,300 crore in monthly inflows over the past 15 months, saw a sudden reversal with a March redemption of 94 crore. (Image: Pixabay)


  • Regulatory nudge may have tempered smallcap fervour, but market analysts foresee a return to previous trends

MUMBAI : In March, Indian equities experienced an unexpected shift, with investor preferences pivoting from the high-flying smallcaps to the more stable largecaps. Despite this sudden divergence, the change is viewed as a temporary deviation, with smallcaps poised to maintain their status as a favoured asset class.

The shift in March was influenced by the focused efforts of the Securities and Exchange Board of India to temper the fervour in small-cap investment schemes that had been enjoying a steady flow of capital.

As a direct consequence, small-cap funds, which had seen about 3,300 crore in monthly inflows over the past 15 months, faced a sudden reversal with a March redemption of 94 crore, according to a report by Elara Securities dated 18 April. This marked a dramatic pause in the momentum, the first since August 2021, but some market experts say this may have been a blip and a deeper correction owing to geopolitical tensions and escalating crude prices could not be ruled out.

On the other hand, inflows into large-cap schemes, considered less risky than small-cap funds, largely have been steady, with 2,130 crore making their way into these funds over the past 21 months, compared to the average monthly outflow of 115 crore.

“Broadly 70% of smallcap flows seems to have shifted to largecaps in March 2024," Elara said. “Overall MF (mutual fund) liquidity is still buoyant, but (the) shift has begun from small/mid into largecap-oriented funds (including ETFs/index funds)."

In March, the benchmark Nifty 50 index was flat, whereas the Nifty Midcap 100 and Nifty Smallcap 250 indices fell by 1.5% and 5%, respectively.

Restrictions imposed by mutual funds played a key role in redirecting investor capital. Several funds stopped new inflows into small-cap schemes or set limits on SIP (systematic investment plans) amounts and lumpsum investments.

As of March 2024, ICICI Prudential, Kotak Mutual Fund, Nippon India, SBI Mutual Fund, and Tata Mutual Fund have either restricted or halted subscriptions in small-cap schemes, largely a result of Sebi's discomfort with the huge retail investments in small- and mid-cap funds.

Also Read: Why the rise of smids could draw further regulatory glare

“These restrictions have curbed the flows to small-cap and midcap schemes. Because of these restrictions, retail investors have been advised by their distributors to switch to large-cap schemes," explained Sachin Jain, chief investment officer at family office Sukvi Ventures.

Jain, however, believes this shift is temporary and expects it to revert once market valuations normalize.

With some healthy correction in the broader market, valuations are likely to normalize, which could lead to flows normalizing into smallcap schemes, said market experts.

Despite the recent shifts and investment restrictions, the performance trajectory of smallcaps is noteworthy.

Small-cap stocks have lagged largecaps over a 7-10-year period, said Saurabh Rungta, managing director and chief investment officer at Avendus Wealth. However, this trend reversed during the recent market rally, with smallcaps outperforming largecaps across all evaluated time frames in the last few years.

Rungta, however, expressed concerns about potential risks from geopolitical incidents, oil price shocks, the pace of rate cuts, and impending elections in India and the US. He advised keeping an eye on when smallcaps might start underperforming largecaps as a significant market cue.

In case of an unforeseen event, there could be more than just a typical market correction. That said, with liquidity running high, recovery after a correction is likely to be swift, said market experts.

Amid these market dynamics, the focus remains on the performance of specific stocks.

According to PhillipCapital, the most acquired smallcap stocks by mutual funds in March included NLC, Aster DM, Crompton Greaves, Piramal Pharma, and Aditya Birla AMC. Conversely, the most sold were NMDC Steel, Hindustan Copper, Ujjivan SFB, Manappuram Finance, and NBCC.

Meanwhile, as the earnings season for the final quarter of financial year 2023-24 gets underway, all eyes are on how companies will perform, especially those in the smallcap and midcap sectors.

Kranthi Bathini, director of equity strategy at WealthMills Securities, pointed out that stock prices dance to the tune of earnings, which are particularly critical for small and mid-cap companies. This earnings season could be pivotal in determining whether the market sustains its momentum or faces headwinds.

In the ongoing debate between largecaps and smallcaps, the balance of risk and reward remains a key consideration. Bathini highlighted that while largecaps offer stable returns for long-term investors, smallcaps present potential for significant short-term gains but with higher risks. The decisions made now could redefine investment strategies for years to come.

Also Read: Sebi asks MFs if they mis-sold funds

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