Well, of course, the mid-cap and small-cap has been so heavily discussed and debated in the last 6-8 months and have always remained in news for somehow the bad reason only. When it rises; there is a fear that the price is going beyond fundamentals and when it falls; large-cap lovers will say “mid-caps and small-caps” are always butchered this way.
While we don’t primarily disagree with the thought but we disagree on generalizing all the mid-cap companies and therefore we believe one should be able to differentiate the Mid-Cap and the Mad-Cap. We believe that the story holds good for the Mad-caps is what we believe and a good mid-cap will recover soon and faster than the mad-caps. When we say Mad-cap; we mean a company where the price is not supported by the corresponding fundamentals.
Since last one year, markets have been flushed with liquidity and as it is said: “a rising tide floats all boats” and therefore it becomes very difficult to spot the difference. But as most of the investors look at the price of a stock; probably now it will be easier for an investor to identify the difference.
So, the question arises as to how to spot the difference between a Mid-Cap and a Mad-Cap? We believe some following basic checks might enable you to differentiate.
- Does the company have good fundamentals?
What do you mean by good fundamentals – There are books written on this topic so we can’t describe this in one Para – but surely, one can see if there is real growth in sales and margins which is supporting the prices.
2. Is the management reputable, transparent & investor-friendly?
If the company is generating good profits and has taken some steps like paying a dividend or paying the debts, the management is considered good. Also, to check if the management reputable in the industry and has a strong history of being good on the corporate governance side.
3. Have you heard about some nice growth story being built up?
If you have heard some nice growth story that has recently started to build in the company and floating in the market, then it’s definitely a word of caution before you trust that story. Because the “Smart” management will build up stories when they know the funds are available for investments and will try to get more investors during such times. I mean we all know why maximum IPOs are announced during this time.
4. Is the price rise sustainable?
We all talk about overvaluation and the price rise; the real question one should ask is that is it sustainable. So, we really need to find the reason of price rise – For example, only because all the peers in the segment are growing and therefore it is growing – so once the liquidity is out – the stock price will fizz out.
Once you do these checks, you can easily distinguish between mid-caps and mad-caps.
Why is this important?
The simple reason is protecting one’s capital. Because if you got in at a high price and if the price rise is not supported by fundamentals then it will be slightly difficult that the prices would recover once the market would become stable. Therefore, there is a possibility that in mid-cap the prices may not come back to those levels.
This means that during the bull market, all companies will give good returns. In fact, companies which are fundamentally weak will deliver higher returns due to news flow and short-term mindset of the retail public.
This can be seen from below chart. For example, Tayo Rolls has given better returns (100% returns during a bull run) when compared with Aegis Logistics, JK Paper or IGL but in a bear market it could not sustain the gains as the price rally was not supported by fundamentals (given in below table).
Mid-Cap vs Mad-Cap
So, what now?
Situation has changed now, with merit-based buying to follow and only companies with strong fundamentals will deliver good returns over long-term. Hence, we feel it is right time to churn your portfolio as good companies may be available at attractive prices. Here the focus is “Good Companies” and not attractive prices.
Happy Investing !!
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