Strategy: Top liquid SMID picks

8 Dec 2023 , 10:31 AM

Analysts at IIFL Capital Services have refrained from imposing liquidity criteria, as the selection often involves choosing among multiple illiquid stocks. They have selected SMID stocks based on the criterion of <$8 billion market capitalization and >$5m 3m average delivered volume. Their previous comparison on 6^th September had suggested that on a growth-adjusted basis, small caps were still cheaper than large caps – but now, SMIDs are expensive. The top liquid SMID names: Federal Bank, Nykaa, Samvardhana Motherson, Indraprastha Gas, Info Edge, Dixon, Cummins, and APL Apollo.

Major themes

Softness in commodities will help drive up margins in commodity-consuming companies. EV penetration is struggling – current electrification rate in 2Ws is around 4.5%; unchanged for a year. In PVs, the rate is 1.7%; down from 2% a few months ago. Yet, gas utilities have got de-rated, providing an entry opportunity. Gradually improving tax/GDP ratio and expected FII bond inflows due to Indian government bonds inclusion in JP Morgan Bond index will contribute to keeping interest rates low − cement, construction and building materials should do well. This, plus the power shortage and green foray, augurs well for Cummins. Dixon has scaled up well in mobile manufacturing in India and even now looks attractive, given the size of the overall consumer EMS space.

Some export / AE focused names as well

Analysts at IIFL Capital Services generally expect stronger economic growth in India than in AEs; hence like the domestic-focused names more. However, exceptions include Info Edge’s IT business within Naukri, which they expect to reach a trough during 2024; internet stocks will thrive as monetary easing happens in 2024. Samvardhana is the other name that should ride on margin normalization, earnings-accretive acquisitions and valuation re-rating potential.

SMID rich – and so is everything else

On a growth and return-adjusted basis, scoring companies led IIFL to believe three months ago that small caps had some O/P room relative to the large caps; and that large caps were not very expensive. Now, both those gaps are closed. Ex-Oil and Financials, Nifty is at 25x 1YF — almost 10% higher than the peak witnessed in October 2021. Global monetary easing may not prevent the lag effect of tightening.