A very interesting article

Below lines are taken from the article published in thehindubusinessline.com, and sharing with you since it’s covering an analysis about small cap stocks between 2004 to present.

Courtesy: The Hindu BusinessLine

Investing in small-cap stocks could be full of thrills but it is fraught with risks too

For Indian investors, small is beautiful. The BSE Small Cap index has delivered 118 per cent return since last September, even as its large-cap counterpart, the Sensex, panted way behind, with a 59 per cent return. That is not all. Investors in stocks such as Symphony, Greenply and Ashoka Buildcon have seen their holdings appreciate manifold since the beginning of 2014.

But does that mean you should rush to buy these stocks? No. Investing in Indian small-cap stocks is a high-risk game. While you have a small probability of making mind-boggling returns, the chances of making losses are much higher. Lack of sufficient information, poor corporate governance and very thin liquidity are some reasons why these are best avoided.

But if you are one of those who revel in adrenaline-pumping activities such as bungee jumping, you might want to put some of your money into these stocks; just for thrills.

Small-caps over the long term

There is a popular misconception that investments in small-cap stocks invariably result in losses over the long term. But that is far from the truth. A BusinessLine analysis of the returns of small-, mid- and large-cap stocks between 2004 and now shows that it is the outliers that give smaller stocks notoriety. For, a small portion of small-cap stocks have delivered mind-boggling returns that large- and mid-caps can never dream of matching. At the same time, the proportion of stocks that have delivered negative returns is also larger in smaller companies.

We considered the returns of 1,648 stocks whose market capitalisation was less than ₹200 crore on April 1, 2004. A chunk of these stocks — or 44 per cent of the universe — recorded a price increase between 1 and 10 times. About 17 per cent gained between 10 and 100 times. The proportion of stocks gaining more than 100 times was miniscule at 1.4 per cent. This creamy layer includes stocks such as Symphony (1,680 times returns), TTK Prestige (231 times) and Cera Sanitaryware (180 times).

In comparison, 63 per cent of the large-cap universe chalked up gains between 1 and 10 times in the past decade. There were 93 stocks with market cap greater than ₹2,000 crore towards the beginning of 2004. This is comparable to the mid-range of the small-cap stock performance. But when it comes to stratospheric returns, only 12 per cent of the large-cap stocks could multiply their prices more than 10 times. Again, while the largest gainers among the small-cap lot notched up gains between 100 and 2,000 times, the best performer among the larger stocks was Kotak Mahindra Bank, which gained 28 times in the last 10 years.

So, what is the risk involved? Around 22 per cent of the smaller stocks witnessed price erosion in the past decade. That is, one in every five stocks was a lemon. Large-cap stocks emerged a clear winner, with just 8 per cent of the stocks seeing price erosion.

Higher volatility in smaller stocks

The small-cap index has recorded much sharper rallies and higher declines. For instance, between April and December 2003, the small-cap index rallied 172 per cent while the Sensex gained 97 per cent. In the 2008 crash, the Sensex lost 56 per cent while the BSE Small-cap Index lost 77 per cent. In general, the declines and rallies in the small-cap index are twice the moves in the Sensex.

The complete article may be accessed here: http://www.thehindubusinessline.com/features/investment-world/smallcaps-sizzle-should-youjump-in/article6627318.ece