Stocks of companies with a market capitalization between Rs 500 Cr. and Rs 7000 Cr. combine certain attractive qualities of both large and small companies. While large-caps offer the advantages of consistency and scale, midcap stocks offer ‘high growth potential’. At the same time they are often not as widely tracked and much like small-caps, are available at cheap valuations.
Such stocks however, tend to be a lot more volatile in comparison to large-caps and rely heavily on industry performance and on the performance of the larger economy. The flipside of this is that, as the economy recovers from a slowdown, they offer the potential of faster growth compared to their large-cap peers. If you have well defined stock selection criteria, it is indeed the best class of equities to focus your research on in a post recession (i.e. recovering) phase of the economy, particularly in an emerging economy like India.
Best midcap stocks in India – what to look for?
- Earnings growth — In the accelerating growth phase of their lifecycle.
- Financial strength — Typically have greater liquidity and capital-raising ability than small caps.
- Information gap — Typically receive less attention from analysts than large caps. Less available research often makes active investors proactively evaluate and capitalize on the market inefficiencies which lead to cheaper valuations in these stocks.
Midcaps are looked upon as ‘wealth creators’ and have the potential to join the group of large caps if their business matures as per plans. In fact, the journey of all large-caps started from being a small company before maturing as a mid-cap and finally graduating to the league of blue chips. Today, one may find it is hard to believe that Infosys was a small unknown company some 15 years ago. Think about it this way – If you invested Rs 1,000 in Infosys in the year 1993, your money would have grown to Rs 53 lacs, and this is without counting the heavy dividends which Infosys paid along the way.
Further, empirical evidence suggest that midcap stocks generate better returns relative to large-caps over a longer period of time. Yet, investors remain cautious about making investment in this part of the equity market segment, mostly because the high risk associated with it. In fact, to add further to the point I made earlier, some of the best midcap stocks in India saw wealth destruction to the extent of 95% in the 2008 crisis. At the same time, certain others generated returns in excess of 1000% since the same time, further proving the point that researching for growing medium sized companies post recession (i.e. in the revival phase of the economy) could lead to massive wealth accumulation. Investing in this segment suits a moderately aggressive investor looking for superior market-returns, who is willing to take somewhat higher level of risk as compared to the passive investors.
Cherry Picking Phase of the Economy
If you have a 3 to 5 years investment horizon you should surely consider buying selectively into this segment over the next few months, until the economy breaks out of its current revival phase and enters a high growth phase.
I have consistently maintained the view that over the next 3-5 years, cherry picking the right midcap stocks will result in Multibagger returns. There are many attractive long term investment stocks available at very attractive prices in this space.
(We regularly screen these stocks in our subscription report here — midcap stocks in India).
Look for the below traits:
- Companies in the growth phase of their life cycle
- Market leaders in emerging industries (or) high growth companies in established businesses
- In the process of establishing their track records
- Financial strength to implement their plans (or bring their product to the market)
- Innovative and entrepreneurial