Summary
The Indian stock market cycles show small- and mid-cap (SMID) stocks often outperform large caps during bull markets, but they also face steeper losses in downturns. With SMID stocks currently holding a large alpha over large caps, investors may benefit from shifting focus to the relative stability of large caps.
The Indian stock market moves in cycles. During each upcycle, relatively small firms from the small- and mid-cap (SMID) space exhibit stellar performance. As can be seen in the chart below, SMID stocks have significantly outperformed large caps (LCs) in every upcycle bull market so far.
Source: Bloomberg, BSE, DSP. Data as of Aug 2024.
What the above chart also reveals is that during each downcycle, SMID stocks lose almost all the alpha (i.e. outperformance) generated during the previous upcycle. This is consistent with the typical volatility that SMID stocks exhibit: their relatively higher volatility results in larger drawdowns during bear markets compared to the relatively shallow declines seen among large caps.
What does this mean for investors? Capturing the extra alpha that SMID stocks can deliver requires investors to focus on the margin of safety (i.e. the gap between a stock’s market price and its intrinsic value) rather than relying on recent outperformance.
In fact, it makes a lot of sense to have an aggressive attitude towards SMID stocks when their alpha over large caps is low. Currently, SMID stocks have a large alpha over large caps, so investors might be better served by focusing more on large caps.
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Disclaimer
This blog is for information purposes only. The recipient of this material should consult an investment /tax advisor before making an investment decision. In this material DSP Asset Managers Pvt. Ltd. (the AMC) has used information that is publicly available, including information developed in-house and is believed to be from reliable sources. The AMC nor any person connected does not warrant the completeness or accuracy of the information and disclaims all liabilities, losses and damages arising out of the use of this information. Data provided is as of July 2024 (unless otherwise specified) and are subject to change without notice. Past performance may or may not be sustained in the future and should not be used as a basis for comparison with other investments. These figures pertain to performance of the index and do not in any manner indicate the returns/performance of this scheme.
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