In 2023, we saw risk being disproportionately rewarded. India’s equity market had a photo finish in the previous calendar year, with the indices hitting all-time levels. In retrospect, the year belonged to the small & mid-cap stocks. The Nifty delivered 20% return during the calendar year and posted its eighth consecutive year of gains while on the Nifty Smallcap rallied 56% and the Nifty Midcap gained 47% during the same time. The rally was broad based, with three sector indices—Nifty Realty, PSE & CPSE —rising more than 50% during the previous calendar year. On the other hand, only a handful of sector indices belonging to the banking and financial services sector underperformed during the same time. The Nifty Private Bank, Nifty Financial Services and Nifty Bank index gained 12–14% in 2023.
Valuations show that large caps are trading close to the 10-year average price to earnings (P/E) multiple whereas small and mid-caps are trading at a premium compared to their 10-year average price to earnings multiple. The P/E ratio is calculated by dividing the market value price per share by the company’s earnings per share.
India’s stock market is expected to grow in the long term albeit with some short-term volatility. The economic growth trajectory is expected to sustain above 6% going forward. The structural reforms, pick up in investments and capex along with political stability are key ingredients for markets to perform well in the long term. India likely to attract more foreign flows on the back of dollar weakness and the domestic economic outlook being relatively better than global economy. Traditionally, we have seen foreign money favouring large-cap companies with proven long-term track records. Also, the volatility across parameters has been on the lower side be it currency, interest rates, or event equity market performance. This could lead to higher premium for India as an investment destination.
For these reasons, the large-cap stocks could be attractive going forward. There are other reasons too. One, the market capitalization share of large cap stocks is at the lower end of the spectrum at 67%. Two, the returns generated by the market over the long term has been more of less near the earnings growth picture. The Nifty earnings has compounded at 20% in the last three years and is expected to grow 15% in financial year 2025, Bloomberg data shows. Finally, more than two thirds of the sector indices outperformed the Nifty in 2023 and 2022. I believe we could see a convergence of the broad outperformance of the last two years.
A large-cap fund is an open-ended equity scheme predominantly investing in large-cap stocks as per the categorization defined by the market regulator, Securities and Exchange Board of India. It is required to invest a minimum 80% of total assets in equity and equity-related instruments of large-cap companies. Further, large-cap companies are those that belong to the top 100 companies in terms of full market capitalization. These are the frontline companies of the country and are known for their proven track record and long-term growth trajectory. Large cap funds invest in such companies with strong fundamentals. Its also offers the fund manager to take limited exposure to mid-cap stocks.
Talking about large-cap fund performance, we have seen the category deliver sustained returns over the years. Also, there are many advantages of investing in large-cap funds such as exposure to a diversified portfolio of frontline companies along with liquidity and easy entry or exit opportunities.
Moreover, the positive factors have been factored in by the market and any negative surprises could lead to a volatile environment for the markets. In such a case, one would be better off with exposure to large-cap names.
In conclusion, taking risks in 2024 may not be as rewarding as 2023.
Mahesh Patil is CIO at Aditya Birla Sun Life AMC Ltd
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Published: 05 Feb 2024, 10:59 PM IST