IRRATIONAL EXUBERANCE

Steep rise in small cap stocks, signs of price manipulation, warrant closer scrutiny

STOCK MARKETS IN India have been experiencing heightened volatility. On Wednesday, the BSE Sensex fell 906 points or 1.23 per cent, ending the day at 72,762. The pain was felt across the wider market. The BSE Smallcap index fell 5.1 per cent, while the BSE Midcap index dropped 4.2 per cent. Markets recovered partially on Thursday — the Sensex was up 335 points or 0.46 per cent, while the mid and small cap indices were up 2.28 per cent and 3.11 per cent respectively. However, concerns over valuations, especially in the small and mid cap segments, persist.

Over the past year, small and mid cap stocks have seen a stunning rise. The BSE Smallcap index is up 54.2 per cent, while the Midcap index is up almost 60 per cent. The BSE Sensex is up 27 per cent. There have been huge capital flows into small and midcap funds — data from AMFI shows that between August 2023 and January 2024 net inflows into small and mid cap funds were to the tune of Rs 22,252.14 crore and Rs 13,042.1 crore respectively. The Smallcap index is currently trading at a price-earnings ratio of 28.83 while the Midcap index is currently trading at 26.24, even after the recent correction in both indices. The SEBI, the stock market regulator, has also raised concerns over valuations. On Monday, SEBI chief Madhabi Puri Buch had spoken about “irrational exuberance” and “froth” in some segments of the market. She also indicated that there were signs of actual price manipulation in the SME segment “at the IPO (initial public offering) level and the trading level”. Both the Nifty Smallcap 100 and the Midcap 100 indices had fallen following these comments.

Alongside,mutualfundhousesaresettodisclosetheirstress-testresultsofmidandsmall cap schemes on March 15. These tests would provide an indication of the capacity of these schemes to fulfill their redemption obligations in cases of markets turning unfavourable. Somemutualfundshaveinfactalreadyrestrictedflowsintotheirsmallandmidcapschemes — as per reports, ICICI Prudential Mutual Fund will not be accepting lumpsum subscriptions in its mid and small cap schemes from March 14. A few others have reportedly restricted flows into small cap schemes. These could help curb irrational exuberance.