Dec 15, 2010|
Are smallcaps attractive now?
Just over a month ago, the BSE-Smallcap Index's stood at 11,244 points. As of yesterday's closing, it stood at 9,283 points. In a matter of a month, the index is down by more than 21%. This is a sharp decline when compared to just a 5% decline in the BSE-Sensex.
Data Source: CMIE Prowess
A large part of the panic in smallcaps over the past month has been driven by the SEBI's crackdown on insider trading practices by the promoters of lesser known companies.
Below is a list of some of the worst hit stocks from the smallcap space over the last month.
Here are some other alarming facts:
All said and done, investors have punished the companies and their promoters who have done wrong.
- Out of a total of 550 stocks that are part of the BSE-Sensex, nearly 30% of the stocks underperformed (dropped by more than 21%) the BSE-Smallcap Index.
- Thirteen stocks dropped by more than 50% during this period.
- Forty seven stocks fell by more than 30% but less than 50% during this period.
But here's one important question that may be doing the round - "Is it a good time to buy smallcap stocks?"
In the rest of this article, we will try to bring some clarity on this question.
The BSE-Sensex is usually taken as a benchmark index for any comparison, be it returns or valuations. These comparisons can be made to a performance of a particular stock over a time frame as also for comparing valuations. In this article, we have compared the P/E ratios of the two indices - the BSE-Sensex and the BSE-Smallcap Index.
We would like to mention here that we have taken data only after 2008 as information for the prior period was not available.
What we have done is that we have compared the price to earnings ratio (P/E) ratios of the BSE-Smallcap Index with the P/E of the BSE-Sensex. For example, on 14th December 2010 i.e., yesterday, the BSE-Sensex was valued at 22.8 times earnings, while the BSE-Smallcap Index was trading at a valuation of about 14.7 times. Therefore, the ratio is about 0.6 times (14.7/22.8).
This calculation is effectively done to try and figure out the difference between the valuations that the BSE-Sensex commands in comparison to that of the BSE-Smallcap Index. In other words, one can know how the BSE-Smallcap Index is valued as compared to the benchmark index, the BSE-Sensex, over a period of time.
The higher the ratio, the narrower is the difference between the P/E ratios of the two-indices.
The chart below will explain things in a better manner.
|Data Source: CMIE Prowess
As of yesterday, the BSE-Smallcap Index's P/E ratio was 0.64 times that of the BSE-Sensex's P/E ratio. A month ago, when the BSE-Smallcap Index touched its 52-week high figure of 11,244 points, the difference between the ratios was 0.79 times.
As such, one can say that in a period of one month, the BSE-Smallcap Index's valuation relative to that of the BSE-Sensex's has dropped by about 19%.
Quite a sharp fall indeed!
"But does that mean we can start investing in smallcaps now?" you may be wondering.
If we take the average of this ratio (PE of BSE-Smallcap / PE of BSE-Sensex) over this three year period, it stands at 0.68 times.
So yes! Purely in terms of valuations of the index as a whole, it is attractive. But at the same time investors must realise that the BSE-Sensex itself is not trading at an attractive valuation. As mentioned above, the BSE-Sensex traded at a price to earnings multiple of about 22.8 times as of yesterday's closing price.
What the sharp decline in the BSE-Smallcap Index has shown us is that management integrity is a very important factor when it comes to investing. To most investors, investing in mid and small cap stocks comes with the lure of making lots of money. That too very quickly! But unfortunately, for most retail investors, this objective remains a distant dream. Every rally in mid and smallcap stocks ends with some retail investors burning their fingers. Being relatively less transparent as compared to bluechips, smallcap stocks do entail much higher level of risk taking. However, the risks could be reduced to an extent if an investor has done his homework properly.
More Views on News
Jun 10, 2017
Forty Indian investing gurus, as worthy of imitation as the legendary Peter Lynch, can help you get rich in the stock market.
Aug 19, 2017
Ever heard of Lindy Effect? Find out how you can use it to pick timeless stocks.
Aug 18, 2017
Buying the index now will hardly help make money in stocks even in ten years.
Aug 18, 2017
Donald J Trump, a wrasslin' fan, took a 'Holy Sh*t!' blow on Tuesday.
Aug 17, 2017
PersonalFN simplifies the mutual fund account statement for you.
More Views on News
Aug 7, 2017
The data tells us quite a different story from the one the government is trying to project.
Aug 10, 2017
Don't miss these proxy bets on growing companies or in a few years you will be looking back with regret.
Aug 8, 2017
Bharat-22 is one of the most diverse ETFs offered so far by the Government. Know here if you should invest...
Aug 12, 2017
The India VIX is up 36% in the last week. Fear has gone up but is still low by historical standards.
Aug 7, 2017
Raksha Bandhan signifies the brother-sister bond. Here are 7 thoughtful financial gifts for sisters...
Copyright © Equitymaster Agora Research Private Limited. All rights reserved.
Any act of copying, reproducing or distributing this newsletter whether wholly or in part, for any purpose without the permission of Equitymaster is strictly prohibited and shall be deemed to be copyright infringement. LEGAL DISCLAIMER:
Equitymaster Agora Research Private Limited (hereinafter referred as 'Equitymaster') is an independent equity research Company. Equitymaster is not an Investment Adviser. Information herein should be regarded as a resource only and should be used at one's own risk. This is not an offer to sell or solicitation to buy any securities and Equitymaster will not be liable for any losses incurred or investment(s) made or decisions taken/or not taken based on the information provided herein. Information contained herein does not constitute investment advice or a personal recommendation or take into account the particular investment objectives, financial situations, or needs of individual subscribers. Before acting on any recommendation, subscribers should consider whether it is suitable for their particular circumstances and, if necessary, seek an independent professional advice. This is not directed for access or use by anyone in a country, especially, USA or Canada, where such use or access is unlawful or which may subject Equitymaster or its affiliates to any registration or licensing requirement. All content and information is provided on an 'As Is' basis by Equitymaster. Information herein is believed to be reliable but Equitymaster does not warrant its completeness or accuracy and expressly disclaims all warranties and conditions of any kind, whether express or implied. Equitymaster may hold shares in the company/ies discussed herein. As a condition to accessing Equitymaster content and website, you agree to our Terms and Conditions of Use, available here
. The performance data quoted represents past performance and does not guarantee future results.SEBI (Research Analysts) Regulations 2014, Registration No. INH000000537.
Equitymaster Agora Research Private Limited. 103, Regent Chambers, Above Status Restaurant, Nariman Point, Mumbai - 400 021. India.
Telephone: +91-22-61434055. Fax: +91-22-22028550. Email: firstname.lastname@example.org. Website: www.equitymaster.com. CIN:U74999MH2007PTC175407