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Illustration: Binay Sinha
In the last five years, the mid-and small-cap segments have emerged as standout performers, and have consistently outpaced the large-cap index, delivering impressive returns of 30% and 31% respectively, compared to a 18% CAGR for large caps, according to a study by Mirae Asset.
"The Nifty Midcap 150 index has seen a substantial 207% increase in profit after tax to Rs 2.05 lakh crore from June 2019 to June 2024, while its market capitalisation has grown at 360% to Rs 82.5 lakh crore. This period has also seen significant diversification with over 240 meaningful IPOs, collectively exceeding $1 billion in market capitalisation," noted Mirae Asset.
The mid-cap segment has exhibited exceptional earnings growth, surpassing the large-cap index.
The Nifty Midcap 150 Index has also reported a whopping 138% increase in earnings per share (EPS) over the past four years, from Rs 15 in FY20 to Rs 489 in FY24. This growth trajectory is expected to continue, with an estimated 28% EPS growth projected for FY24 to FY26. In contrast, the Nifty 50 Index is anticipated to grow at a slower pace of 13% during the same period.
This disparity in earnings growth highlights the superior performance of mid-cap companies and their potential for further value creation. While valuations in the mid-cap space have risen, the underlying earnings strength provides a cushion and suggests opportunities for long-term investors, as per Mirae Asset.
This growth is attributed to several factors:
IPO Boom: Over 240 new mid-cap companies have entered the market through IPOs, enhancing market depth and diversity.
Improved Macroeconomic Environment: Strong economic growth, coupled with supportive government policies, has created a favorable climate for mid-cap businesses.
Corporate Governance Enhancements: Improved corporate practices and balance sheets have boosted investor confidence.
These factors collectively have led to a significant re-rating of mid-cap valuations, making it an attractive investment proposition. However, it's essential to note that while valuations have expanded, underlying earnings growth also justifies a portion of this increase.
From trading at a discount to large-caps, mid-caps now command a premium. While a portion of this valuation increase is justified by strong earnings growth, factors like liquidity and investor sentiment have also played a role.
Key Factors Driving Valuation Expansion:
Improved earnings: Mid-cap companies have exhibited robust profit growth, outpacing large-caps. Domestic focus: Mid-caps tend to have a higher exposure to the domestic economy, benefiting from India's growth story. Increased investor interest: Growing mutual fund investments and expanded free-float market capitalization reflect increased investor confidence.As seen in the chart below, typically, Mid-size companies do have higher proportion of revenue coming from domestic demand factors (~58% for Mid-cap Vs 47% for large-cap) This implies that midcap names are more domestic oriented whereas large cap names are more global oriented.
Revenue Composition for FY24 (in %
Another measure of market cap – Free float (FF) market cap which tells value of publicly traded shares, has increased 4 times from June 2019 to June 2024. Moreover, the Mutual Fund’s holding out of the FF market cap has gone up from 22% to 24% in the same time period.
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"Overall earnings outlook continues to remain resilient led by favourable macros coupled with improving micros across various sectors. Good part is earnings growth is broad based rather than being driven by certain sectors which used to be the case in the past. In that context, while valuations continue to remain at a premium vs past, there are enough opportunities available across consumer discretionary, healthcare, financials, Real Estate and ndustrial consumables," noted the study.
Earnings for Nifty Midcap 150 Index has grown by 138% in the last 4 years (₹15 in FY20 to ₹489 in FY24). The same is further estimated to grow by 28% (FY24 to FY26e), in the same time period Nifty 50 Index earnings is estimated to grow by 13%.
Despite rich valuations, the mid-cap space offers growth opportunities across various sectors like consumer discretionary, healthcare, financials, and industrials. While caution is warranted, the long-term growth potential of India's economy supports a positive outlook for mid-caps.
However, it's crucial to adopt a selective approach and focus on quality businesses with strong fundamentals.
