Insider Buying Alert: 6 Smallcaps for Your Watchlist 

Dear Viewers

Last year was great for smallcaps.

At the start of 2023, the Smallcap to Sensex ratio was at 0.46 times, as compared to a long-term median of 0.43 times, and previous peak of 0.58 time in January 2018, thus leaving a good runway potential for smallcaps.

As I record this, the ratio is way past that average. At 0.63 times, the Smallcap to Sensex ratio has already breached the previous peak of 0.58 in 2018.

From that peak in 2018, the smallcap index had crashed by more than 50%. It took three years for smallcaps to rebound to the same level.

If I go further in the history of past peaks and corrections, the Smallcap index had peaked in 2008, at a smallcap to Sensex ratio of 0.68 times.

The correction from 2008 peak was 79%,. It took almost nine years post 2008 for smallcap index to come close to those levels.

So what would make the smallcaps correct this time?

For an answer to that, let's see what's fueling the interest in smallcaps.

As per AMFI data, for first 11 months of 2023, the inflow in smallcap funds has been crazy.

Rs 372 bn from the funds have found their way to smallcaps, as compared to an outflow of Rs 27 bn in largecaps and Rs 215 bn inflow in midcaps.

Do note that Im only considering funds that are dedicated to large, mid and smallcaps schemes as individual buckets, and not the ones under multicap or flexicap schemes.

So, what do you think happens when a huge amount of money chases stocks with relatively low marketcap and liquidity?

Well, it's PE or price to earnings ratio expansion. While earnings growth follows its course in line with the business growth, the prices run ahead, leading to gains that are more in the speculative zone.

No wonder then that a PE of 40 or above seems to be more of a norm now for smallcaps.

Smallcaps have limited capacity to absorb this kind of money. Further more, most of the funds are likely to be allocated towards a limited set of well known smallcaps which have enough liquidity to absorb huge money.

This has led to a situation where the valuations of some of the liquid and well-known smallcaps have been pushed in the speculative zone.

The growth prospects for the businesses in this set can barely justify the PEs they are enjoying. Any kind of negative surprise on earnings growth or external event that impacts fund flows is likely to have a disastrous impact on such stocks.

History has shown limited ability of even genius investors to predict such external events.

When the ability to predict is limited, one of the most sensible investment strategies is to be mindful of valuations and have a strong margin of safety in your buy price.

Caution, and not greed should be the dominating sentiment while investing in smallcaps at present.

And here are some more reasons why you should be cautious.

While big investors and institutional money get enough of Indian stocks, the insider activity has an entirely differently tale to tell. And it's not comforting.

In recent months, and for most part of 2023, the insider trades are more skewed towards selling than buying.

The insider selling in 2023 is at a multiyear high.

At Rs 1.1 trillion, it is almost 2x of insider selling in 2020. And almost six times higher than 2018.

While promoters are selling heavily, guess who is lapping it up?

Well, it's the retail and institutional investors.

Any shift in the sentiments or tightening of liquidity could lead to a sharp selloff in markets, especially in smallcaps.

Now I don't want to end this video just on a cautious note without mentioning some positives I see.

You see, even in these markets, when the smallcaps are rallying, there are certain companies with decent financial performance, where insiders are buying the stocks from the open market.

I have included the ones in the slide where the current price is almost at par or at a discount from the average price at which insiders have purchased.

These stocks include Som Distilleries, VIP Industries, Ami Organics, Linc Ltd, RK Forgings and Control Print.

Do note that this is not a recommendation, but something for your watchlist where stocks deserve further attention and due diligence.

With this, I would like to conclude this video.

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Thank you for watching. Goodbye.