Investing in small and midcap seems to be very easy like one does in large cap, but the practical is different from the thinking. Normally in a large cap, an investor starts investing- The company he is investing – in would be a known company by name itself- also the significant part of ownership is owned by Institutions like DIIs, and FIIs, also covering analysis reports by Brokerages will be a lot.
On the other hand, the availability of information w.r.t to the Small and midcap especially on the Small cap- is next to zero. But one should remember, many of the large-cap companies of today, once it was small-cap, also when you refer to history the major wealth has been created for investing from investing in small caps.
For a 10-year performance in small cap (Apr 2014 to Apr 2024), the return stands at 19.6%, whereas investing in Sensex is at 12.82%. Otherwards investing in a small cap index of Rs.1 Crore in Apr 2014 could have fetched Rs.5,98,84,137/-, the same in Sensex could have fetched Rs.3,34,08,805. There is a meaningful difference between these. Seems to be a cakewalk of return from the investor EYEs, but it is not that easy to make a return from a small cap. It requires a lot of research skills, risk-taking ability more importantly patience. Small-cap investing tests both Timing in the market and timing the market. Yes, you have read it- This investment may not fetch return years together, it will happen some year.
The velocity of risk of a small cap is always higher, it has to be viewed as a good opportunity in the prevailing situation, an investor should take guard like a batsman does in a cricket game before scoring a run once has to protect his wicket (Capital). Once the market gives opportunities like delivering loose balls like the full toss, over the pitch (Like the COVID situation, Demonetization, Russia- Ukraine war etc), he has to hit very hard, it is time to accelerate the investment, unlike normal times.
Once the valuation started de rating, and earnings started inching up with a strong look by the companies could have been a good opportunity, an investor should know unlike large cap, investing in small cap you have to travel with zero or negative returns for years., the dividends also won’t be meaningful, as the small companies require cash flow to grow organically to bring scale. Like in Private equity or VC Space, where the first round of money is called seed money and requires incubation, the small also requires the same. The opportunity lies in the small cap from de-rating of valuation to rerating of valuation. As we know, the growth rate of EPS of small-cap companies is higher, but one should remember it can’t be linear., the BSE SmallCap index is up 17.1 per cent from Rs 1,203 to Rs 1,409.7 now. In contrast, the Sensex underlying EPS is up just 8.5 per cent in the period from Rs 2,697 at the end of April last year to Rs 2,927 on Wednesday. Apparently, faster earnings growth for smaller companies came from a low base and on the back of poor profitability compared to their large-cap peers.
On the other side, as many companies do not offer free float (Major small-cap companies have promoters who will have more, HNIs, and a little retail), the investor to pressured to buy or sell on a desired quantity.