kotak equities: Irrational exuberance! Last lot of new favorite mid, smallcap stocks in dubious category: Kotak Equities

With midcap and smallcap indices hitting fresh peaks every day, domestic brokerage firm Kotak Institutional Equities today dropped its list of recommended midcap portfolio saying the primary driver of the rally appears to be irrational exuberance among investors.

“The last lot of the new favorite mid-and-small-cap. stocks fall in the dubious category of ‘turnaround’ stories. Many of these companies have been through serious operational and financial challenges (including bankruptcy) in the recent past, but the market has high hopes of these companies doing well in the future,” said Kotak’s Sanjeev Prasad.

Most of the non-BFSI stocks in its portfolio are trading above at around 12-month fair values or target prices.

“We are dropping our recommended mid-cap. portfolio since we cannot find too many stocks beyond the BFSI space that offer decent potential upside to our 12-month fair value,” Prasad said, adding that the valuations of stocks in capital goods, healthcare, QSR and real estate sectors discount growth for the next few years and leave absolutely no room for any disappointment.

Prasad and his team changed the portfolio frequently in the past few months to keep up with rampant stock prices, but have largely run out of options now.

Market sentiment is quite exuberant based on steep increase in the prices of many midcap and smallcap stocks, large inflows into midcap and smallcap mutual funds, and huge number of new retail participants in the midcap and smallcap funds, Kotak said.

While the Nifty has rallied 7.5% in the last 3 months, the midcap index is up 21% and smallcap has shot up by over 24%. In August, when the Nifty dropped 2.5% due to a slowdown in FPI investment and rising US bond yields, mid and smallcaps stole the spotlight by surging 3.9% and 5%, respectively.

Kotak said there is a limited point in trying to find fundamental reasons behind the steep increase in stock prices of several mid-caps and small-cap stocks.

There is no meaningful change in the fundamentals of most companies; in fact, they have worsened in many cases, the analysts said.

Most of the traditional favorite midcap stocks of institutional investors in the broader ‘consumption’ sector have been large laggards in the ongoing midcap rally, given weak consumption demand in general.

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