Have you noticed that smallcaps have been on the rise and they've been skyrocketing! The smallcap stocks on the whole have outperformed the mid caps and large caps in a big way. In the chart below, showing equity returns since April 2020, smallcap index has almost given a 150% return.
What is the reason for this rise?
Smaller stocks are considered to be more in sync with the economy, when there is growth in the economy small caps rise at a rapid pace. If you look at the historical trends in the Indian markets, during bull phases, small caps have outperformed larger stocks.
Here are charts from the two recent bull markets,
- The 2014 to 2018 bull market
- Post 2008 crash, till 2010
It's easy to notice that smallcaps outperform larger stocks in bull markets!
Why are smallcaps outperforming now?
- We are in a long term cyclical growth phase of the economic cycle, even though we have suffered a slight setback due to covid second wave and as expected smallcaps are skyrocketing at this time.
- The liquidity that is present in the market has found its way to the smallcaps which were undervalued compared to large caps.
- The second wave spooked the market for some time and the focus shifted from smallcaps which are cyclical to defensive stocks but as the vaccination drive is picking pace and COVID is subsiding and the recovery is taking place, mid and smallcaps are recovering faster as compared to large caps.
Risks associated with Smallcaps
Small-cap companies tend to be riskier investments than large-cap companies. If you pick an emerging stock there is greater growth potential and it would tend to offer better returns over the long-term, but these stocks do not have the resources of large-cap companies, making them more vulnerable to negative events and bearish sentiments. Smallcaps have higher volatility and are awarded with higher returns due to their nimbleness but during economic contractions, they suffer more than large caps.
What's next for smallcaps?
The growth story of small caps is linked to the economic growth story. We are expecting a period of growth in the equity markets for the next 2-3 years at least, with high GDP projections & policy environment promoting growth, this would be a good growth environment for smallcaps and we expect the trend to continue in the near future.
Easy way to invest in smallcaps
To pick up a smallcap winner one needs to pick up emerging companies that have a big growth potential and also have a sense of momentum & volatility in the markets. We at Wright Research offer "Wright ❤️ Smallcap" portfolio that uses a mix of fundamental and technical factors to pick winners for the smallcap rally.
This portfolio has given amazing returns in the period of 8 months when it has been live and historical analysis show that this has a great outperformance potential. It is also closely managed for risk with systematic deallocation procedure in place and can be a good way for people to get a flavour of the juicy smallcap returns.
You can checkout Wright Research’s very own smallcap smallcase here: