While foreign funds initially loaded up on blue-chips and moved on to large-cap stocks, the rally has broadened considerably over the past week or so with mid-caps now catching up. The strong performance of mid-caps suggests more investors are now confident of a strong coalition at the Centre led by the Bharatiya Janata Party after the elections, driving up market activity to a two-month high. The average daily turnover in the cash market is at R18,391 crore, the highest since February 2012. The F&O segment too is seeing more action with daily turnovers averaging R1.65 lakh crore in April.
Since mid-February, after the opinion polls started to drive market sentiment, the 30-share Sensex has rallied 12.5% but the BSE Mid-cap index has gained as much 16.3%. As a result, the year-to-date return for the index is 9.3% compared with the 7.3% gain recorded by the Sensex. On Thursday, the BSE Mid-cap index rallied 0.6% to 7,331.28 points, its highest gain since January 2013.
The trend is in line with previous occasions where mid-caps gained more momentum ahead of the elections. Both in 2004 and in 2009, the Mid-cap index had outperformed the Sensex by an average 5% a month ahead of elections.
This time around, a month ahead of elections, the mid-cap index has rallied 6.8% while the benchmark Sensex has put on a more modest 3.9%.
According to Deutshce Bank, mid-cap stocks tend to rally sharply when economic growth is expected to be at an inflection point. In a recent research note, the brokerage said while the jury is still out on the pace of economic recovery, the mid-cap rally is likely to extend further given that growth has bottomed out, currency has stabilised and the twin deficits have shown a marked improvement. These factors should be favourable for an economic recovery, which could be further bolstered by a decisive electoral outcome.
Gautam Chhaochharia, head of India Research at UBS points out that one big difference between now vs 2009 and 2004 is the nature of the money. Domestic institutions which are big holders and drivers of mid-cap companies are net sellers this time around unlike in the previous instances. That is a negative overhang on the space. Good quality smaller companies have done well even in the last two years, especially from the consumer space,he adds.
Some also believe that the latest rally in mid-cap space reaffirms the recovery in broader market as the Street starts factoring in improvement in economic growth and likelihood of a stable government after elections. During every market cycle, as the economy gets back to a higher trajectory, mid-caps deliver higher returns than large-caps, said a fund manager tracking mid-cap stocks.
In the month ahead of the election, as many as 140 companies or 60% of the BSE mid-cap universe have outdone Sensex returns, with stocks like Union bank, IRB Infra, SKS Microfinance, Unitech and Suzlon Energy, rallying 20-32%. HDIL and Ashok Leyland have led the pack by yielding 48% and 35% during this time.
In comparison, only a third of the Sensex constituents have outdone BSE mid-cap returns in the month ahead of the election. These include banking major SBI (16.6%), auto companies Hero Motocorp (11.8%) and Maruti Suzuki (9.7%) andmetal producers Hindalco (10%) and Tata Steel (9.6%). Reliance Industries, Tata power and Coal India also managed healthy gains of 7-9%.
Bloomberg data show that while the trailing 12-month price-to-earnings multiple of the BSE-mid cap universe at 16.24 has converged with its nine-year average on a price to EBITDA or operating profit basis, the index still trades at 15% below historical average of 8.1 times.