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Sunday, July 14, 2019

6 Major Reasons for Decline in Small Cap & Mid Cap Stocks

Dear Reader,

History has taught us that companies with strong businesses survive during tough times. Looking at ongoing crisis in NBFC sector, only the companies who followed conservative lending practices have survived recent crash. During these panic times in broader markets, there are businesses which we believe not only survive this tough environment but also emerge as winners going forward in medium to long run.

Market is giving one of the rare opportunity to get quality stocks at bargain prices. Remember, such opportunities do not last for long! Since beginning of 2018, we have seen severe correction in broader indices. As on date, BSE Small Cap & BSE Mid Cap Index is down by 32% & 21% respectively from their all time high made in January last yearSteep fall in broader indices have hurt sentiments and created panic for many of retail investors who got into market during last couple of years. Its important to know, whether you would be able to hold on your equity investments, think to exit if stock market tanks further or accumulate good companies available at reasonable to attractive valuations after a long time.

Its always wise to be greedy when others are fearful. Fall in stock prices of small and mid cap companies by 50% to 60% from their peaks use to happen during panic times, if a particular company delivers 3x to 5x or even 10x type of returns on your investments in period of 3 to 7 years, it can easily fall by 40% to 60% or even more from its 52 week high during tough times which arises due to profit / loss booking, series of negative events / news flows and severe sell off due to panic across markets. But good companies make a stronger come back once economy cycle starts its upturn. Though it was a combination of issues that affected the broader markets, we can largely peg this mayhem to 6 major reasons:

Reasons for fall in stock prices of Small & Mid Caps

1. SEBI Mutual Fund Re-Categorisation: Nearly everyone can agree that mid and small caps were rallying uncharacteristically and the prices were being built up without actual fundamental backing for most of FY18. However, SEBI’s new rules for mutual funds acted like the trigger point for the bubble to burst. In October 2017, SEBI mandated mutual funds to group their equity schemes under large, mid and small caps based on market cap of the stocks the scheme has invested in. For instance, a large cap scheme should have minimum 80% investment in large caps and a mid cap fund should have at least 65% of its assets in mid caps. This also required managers of large and mid cap funds to stick mainly to the top 250 stocks in the market. This forced active funds to trim their portfolio weights in such stocks.

2. Long Term Capital Gain: In Union Budget 2018-19, Finance Minister Arun Jaitley's announcement to tax LTCG stunned both markets and investors. The Finance Minister proposed to tax LTCG exceeding Rs 1 Lakh at the rate of 10% without allowing the benefit of any indexation. Imposition of Long term capital gains tax while keeping STT intact has resulted in double taxation, this has impacted the overall participation in Indian capital markets, by domestic as well as foreign investors.

3. Corporate Governance Concerns: Adding to the woes of mid and small cap stocks were corporate governance issues coming up in individual stocks. These problems were contained not only to stocks like PC Jewellers, Infibeam and Vakrangee but also to darlings of stock markets like Infosys, ICICI Bank, Yes Bank, DHFL among others. However, mid cap and small cap category of stocks were the worst hit, with investors pulling no stops while selling off their holdings in these stocks. Bad governance in a few stocks definitely destroyed the value of majority of stocks in this category.

4. Additional Surveillance Measures (ASM): SEBI introduced ASM in a bid to safeguard investors from excessive volatility in individual stocks. Under ASM, stock exchanges released a list of 109 stocks on 31st May’18 on which additional trading curbs were imposed. Liquidity in stocks which were put under ASM plunged drastically along with the decline in share prices. Stocks under ASM are subject to 100% upfront margins and 5% circuit limits, these curbs prompted traders to sell their holdings in these stocks due to immediate margin requirement triggering crash in stock prices.
5. ILFS Default & Liquidity Crisis: NBFCs raise short-term loans of between three and six months duration, using Commercial Papers (CPs). On the other hand, the businesses they lend to (home loans, commercial purpose loans, vehicle loans etc.) are long-term ones. This is referred to as asset-liability mismatch. To maintain their funding, NBFCs must keep issuing CPs at regular intervals and roll over earlier loans. However since the IL&FS crisis erupted, banks have been averse to lending to the NBFC sector, which has put them in a tight spot. Amidst all this, there were series of downgrades of NBFCs by credit rating agencies which further dented market sentiments.

6. Companies with Pledged Shares: The fear around companies with high pledged holding began after promoter of Essel Group failed to bring fresh shares as collateral to make up for the slump in prices of the group stocks. Later, the shares of ADAG companies, Suzlon, Jain Irrigation, Cox & Kings witnessed heavy selling as some lenders dumped their stock in open market due to unbearable debt and default on payments. Institutions wish to stay away from companies where the promoter has huge borrowings against the shares as there is fear that these companies are in a vulnerable position. Banking & financial stocks like Yes Bank and DHFL continue to hit new lows on fears of default and contagion risks.

Small Cap Index has not delivered negative returns for 2 consecutive years in past 16 years

We believe this is a blessing in disguise because for the first time in many years, several small companies having robust business fundamentals are available at attractive valuations. Do you know in last 16 years, small cap index have not given negative returns for 2 consecutive years. In 2018, BSE Small Cap Index has given negative returns of -23.4% and since beginning of this year, index is down by another -5%. Below is the table which indicates Small Cap Index returns YoY since 1st April 2003 (the data is available from April 2003 onwards only in BSE).
BSE Small Cap Index
Whenever, Small Cap Index delivered significantly high negative returns in a particular year during last 16 years, it has delivered double digit positive returns the very next year. While Nifty and Sensex which are hovering near their life time high, Small & Mid Cap Index have underperformed by wide margin and is down by 30% and 21respectively from their peak made in Jan 2018. The divergence between Sensex / Nifty and Small & Mid Cap Index will not last for long going forward considering valuations gap emerging between large caps in comparison to mid & small cap stocks.

Its important to understand that long term gains come in equities with such short term pain. We have seen such a severe correction in small and mid cap stocks after 2011. With fall in stock prices during this year,  valuations of many small and mid caps become attractive to reasonable. In fact, many good companies are available at valuations which look very attractive considering the earning growth these companies are expected to deliver over next 2 years. This is not the time to sell in panic, but to accumulate good companies available at discounted valuations. Moreover, we believe broader market has already bottomed out in Feb 2019 post Pulwama attack and is now forming a base, hence we can see renewed buying interest in small & mid caps once sentiments improves. Bad sentiments will not last for ever, its time for long term investors (2-5 years) to start accumulating good quality stocks which after a long time are becoming available at attractive valuations.

“The first rule of investment is ‘buy low and sell high’, but many people fear to buy low because of the fear of the stock dropping even lower. Then you may ask: ‘When is the time to buy low?’ The answer is: When there is maximum pessimism.”
Sir John Templeton

Have patience while investing in equities and add extra power in your portfolio by investing some portion of your savings in fundamentally strong small and mid cap companies - Hidden Gems and Value Picks.

Moreover, if you have invested in stocks and believe that your investments are not performing well, subscribe to our Wealth-Builder service and get your portfolio reviewed by us. We will review fundamentals of the companies you are holding and guide you which stocks to hold and which to exit. We will also review your equity investments across sectors and companies to ensure that your portfolio allocation is right and outperforms major indices giving you better returns in medium to long term.

6 Small Caps to Buy / Accumulate in 2019We reviewed all our past recommendations released under Hidden Gems and Value Picks service in Oct 2018 when we saw severe fall in stock prices like that of this month and short-listed 6 Hidden Gems and 6 Value Picks stocks which not only can survive these tough times but also offer good long term investment opportunity with potential to give excellent returns on your investment during next 2 – 3 years. 

We released our "Special Report - 6 Hidden Gems Stocks to Buy / Accumulate" on 30th Sept 2018 and mailed it to our Hidden Gems members. Similarly, we also released our "Special Report - 6 Value Picks Stocks to Buy / Accumulate" on 02nd Oct 2018 and shared it with our Value Picks members.
6 Mid Caps to Buy / Accumulate in 2019
While short listing 6 stocks under each service i.e. Hidden Gems and Value Picks, we evaluated each company on the basis of I-B-M-V-E-D parameters (Industry, Business, Management, Valuations, Earnings Growth & Debt Management) and rated every parameter using a rating scale – E,V,G,F,P (E=Excellent, V=Very Good, G=Good, F=Fair, P=Poor)

One of the important key to successful investing is to pick the right business at decent valuations. We finalized these 12 stocks with a long term view (2-3 years) and find them superior over other Hidden Gems and Value Picks stocks in terms of valuations, earning visibility, debt management (Loan book growth, NPAs, Capital Adequacy & Other Imp Financial Ratio’s in case of NBFC / HFC) and integrity of promoters towards their business and interest of minority shareholders.

The 6 Hidden Gems stocks which we finalized have a market capital below 600 crores and seen a price correction between 25% to 50% from their 52 week high without any major change in business fundamentals. We believe these stocks will outperform giving much better returns compared to broader indices in medium to long term. Our members can add these stocks in their portfolio with long term view (2 to 3 years). We suggest our members to start investing in these 6 Hidden Gems stocks with initial allocation of 2-3% and increase allocation gradually to 4-5% in staggered way in case stock prices of these companies falls by another 10% to 20% from current levels.
Hidden Gems to buy in 2019

The 6 Value Picks stocks which we finalized have a market capital between 500 crore to 5000 crores and seen a price correction between 40% to 50% from their 52 week high without any major changes in business fundamentals. We believe these stocks will outperform giving much better returns compared to broader indices in medium to long term. Our members can add these stocks in their portfolio with long term view (2 to 3 years). We suggest our members to start investing in these 6 Value Picks stocks with initial allocation of 2-3% and increase allocation gradually to 4-5% in staggered way only in case stock prices of these companies falls by another 10% to 20% or more during ongoing market correction.
Value Picks to Buy in 2019

Important parameters which we looked into while finalizing stocks are as under:

1. Industry – Operating in Industry / sector which is expected to grow > 10% CAGR during next 3 years
2. Business – Leadership position in the business or one of its business segment in certain geography
3. Management – Prudent & trustworthy management keeping interest of minority share holders
4. Valuations – Reasonable / attractive valuations compared to peer group companies
5. Earnings – Consistent past performance & strong earning visibility with planned / recent expansion
6. Debt Management – Company is able to generate cash flows with low or reducing debt on books

If you wish to receive our Special Reports - 6 Hidden Gems Stocks to Buy / Accumulate, you can subscribe to our Hidden Gems service and for our Special Report - 6 Value Picks Stocks to Buy / Accumulate, you can subscribe to our Value Picks service. To get access to both the reports, you need to opt for combo plan of both the services.

Start building your equity portfolio by making educated investment decisions, subscribe to our Hidden GemsValue PicksWealth-Builder annual subscription services. Grab discount upto 30% and valuable freebies on our subscription services under Saral Gyan 9th Anniversary Offer. We suggest our members to consider current situation (post severe correction in small & mid caps over last 18 months) as a buying opportunity and invest in high quality small and mid cap stocks.

Discounts & valuable freebies which make our 9th Anniversary special for all our readers are as under:

1. Maximum discount up to 30% on combo pack subscriptions
2. Hidden Gems Flash Back Report - Released on 30th April 19
3. Value Picks Flash Back Report - To be released in Aug'19
4. 5 Stocks - Potential 5-Baggers in 5 Years Report Update - To be released in Jul'19
5. Existing Portfolio Health Check Up under Wealth-Builder subscription 
6. Saral Gyan eBook - "How to Grow your Savings?" worth Rs. 599 for Free.

Below table indicates subscription services and discounted prices valid up to 31st July'19.
Saral Gyan 9th Anniversary Offer 
Hidden GemsRs. 10,000 9,000
Value PicksRs. 6,000 5,400
Wealth-BuilderRs. 20,000 18,000
Combo 1: HG + VP + WB + 15%Rs. 40,000 28,000
Combo 2: HG + VP + 15%Rs. 20,000 15,000
Combo 3: HG + VPRs. 16,000 13,000
Combo 4: HG + 15%Rs. 14,000 11,500
Combo 5: VP + 15%Rs. 10,000 8,500

Click here to know more about Saral Gyan 9th Anniversary Offer.

Simply choose the subscription service / combo pack you would like to opt and click on SUBSCRIBE! link in above table to make online payment using your debit / credit card or net banking facility. In case if you are not comfortable in subscribing online, you can make the payment through cheque / cash deposit / NEFT transfer in any of our bank and writing back to us sharing transaction details. Click here for bank details.

Best Offer
We also take this as an opportunity to inform our readers that our Combo - 1 (Annual subscription of Hidden Gems, Value Picks, 15% @ 90 Days & Wealth-Builder) is the best selling subscription service at Saral Gyan, we have registered maximum subscription of Combo 1 since beginning of this year followed by Combo 2 subscription. We keep on updating our members on our past recommendations suggesting them whether to hold / buy or sell stocks on the basis of company's performance and future outlook.

Below are the details of our services:

1. Hidden Gems (Unexplored Multibagger Small Cap Stocks): Based on fundamental analysis, our equity analysts release one Hidden Gem research report every month with buy recommendation and share it with all Hidden Gems members. Stock finalized as Hidden Gem belongs to small / micro caps space with market cap of less than 500 Crores, expected returns from Hidden Gems is above 100% in period of 12 - 24 months. Once target is achieved, we inform our members whether they should continue to hold the stock or need to do partial / full profit booking. If fundamentals are intact and valuations are reasonable, we suggest to continue to hold the stock for long term for multibagger returns. Annual subscription charge of Hidden Gems is INR 10,000 9,000 under which you will receive total 12 Hidden Gems research reports (one on monthly basis). Click here to read more about Hidden Gems.

2. Value Picks (Mid Caps with Plenty of Upside Potential): Our equity analysts team consider Warren Buffet approach to short list stocks from mid cap segment as Value Picks. Market cap of Value Pick will range from 1000 crores to 10,000 crores. Holding period of Value Picks is 12 - 24 months and one can expect returns of 40-50%. Annual subscription charge of Value Picks is INR 6,000 5,400 under which you will receive total 12 Value Picks research reports (one on monthly basis). Click here to read more about Value Picks.

3. 15% @ 90 Days (Buy to Sell Stocks for Short Term Gain): Based on technical analysis, our team recommends one stock every month to our members. It’s a short term call under which you can expect returns of 15% within period of 90 Days. Annual subscription charge of 15% @ 90 Days is INR 4,000 under which you will receive 12 stock recommendations. We suggest lower allocation in 15% @ 90 Days stocks and higher allocation in Hidden Gems and Value Picks which are our portfolio stocks based on fundamental analysis.​ 15% @ 90 Days stocks recommendations are based on buy to sell and gain strategy, hence we suggest our members to book complete profits once target is achieved and exit in case target is not achieved or stock has broken its 2nd support level as per report. Click here to read more about 15% @ 90 Days.

4. Wealth-Builder (An Offline Portfolio Management Service): Wealth-Builder is our model portfolio of Rs. 10 lakhs and currently we are holding 16 stocks in our portfolio. We suggest higher allocation in our Wealth-Builder stocks which includes best of our Hidden Gems and Value Picks released during last couple of years. Our team suggest all our Wealth-Builder members to invest in the stocks which are part of our Wealth-Builder portfolio. Every month our team updates our Wealth-Builder members which stocks they need to buy / sell / hold with % allocation of these stocks in their portfolio, the suggested changes need to be replicated in the same proportion. Annual subscription charge of Wealth-Builder is INR 20,000 18,000 under which you will receive total 12-18 portfolio updates. We also review existing equity portfolio of our members and advise them which stocks to hold and which to exit based of fundamental analysis. Moreover, we do look at sector wise / stock wise allocation in the portfolio and advise in case of any corrective measure needs to be taken by increasing or decreasing the stock specific allocation. Our Wealth-Builder service is suitable for those investors who have an existing portfolio of at least 2 to 3 lakhs or planning to invest similar amount or more in equity market. Click here to read more about Wealth-Builder.

Do contact us in case of any queries, we will be delighted to assist you.

Also Read - Multibagger Small / Mid Caps & Long Term Investing Report - Free Download

Wish you happy & safe Investing. 

Team - Saral Gyan