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Suresh Krishnamurthy

While large-cap stocks have done as well as mid-caps in the past three months, it is too early to suggest that this will emerge as a longer-term trend. Over the long term, mid-cap stocks may still be best placed to deliver higher returns.

BETWEEN SBI and Andhra Bank, which would you pick? If Tata Engineering and Ashok Leyland were the choices, which would you have zeroed in on? And in a toss-up between Grasim and Madras Cements, which would you have plumped for?

Had you consistently picked the large-cap stock in each case — SBI, Tata Engineering and Grasim — you would not have lost at all. In fact, large-cap stocks have kept pace with mid-cap stocks in recent times.

In any bull run, it is customary to expect mid-cap stocks to outperform the large-caps. In the present bull-run too, that was the case initially. However, in recent times, the staid large-caps have been able to match the mid-caps, stride for stride.

In fact, funds focused on large-cap stocks have had an as good as or better run than other funds in the past three months. However, it may be too early to write off mid-caps or funds that invest more in mid-caps. The story over the longer term may not change, and mid-cap stocks and mid-cap focussed funds may be the right place if investors are looking for more returns.

Packs a punch: From end-December to now, the Junior Nifty index has been the best performer among indices. It has indeed packed a strong punch, gaining 87 per cent. This is higher than the 78 per cent recorded by CNX Midcap 200 Index.

The composition of Junior Nifty index is interesting. It has stocks such as Corporation Bank, Punjab National Bank, IDBI, Bharti Televentures, Bharat Electronics, TVS Motor, Container Corporation, I-Flex and UTI Bank. These are by no means mid-cap stocks.

The market capitalisation of these stocks ranges between Rs 1,500 crore and Rs 14,000 crore. And the contribution of these stocks to the performance of the index has been considerable. Importantly, in the period since the end of June 2003, Nifty itself has perked up by 37 per cent, which is just about the returns managed by CNX Midcap 200 during that period. Some of the large-cap stocks, such as ONGC, Grasim and SBI, have delivered exceptionally strong performances. In other words, large-cap stocks have enjoyed as much success as the mid-caps in the last few months.

In fact, the run-up in the prices of large-cap stocks has had its echo in the performance of mutual funds too. In terms of performance, over the last three months, funds such as HSBC Equity, Duetsche Alpha Equity and Templeton India Growth fund have not lagged mid-cap funds such as Sundaram Select Mid-cap and Reliance Vision.

In fact, they have outperformed broad-based funds such as HDFC Top 200, Alliance Frontline and DSP ML Top 100 equity fund.

Betting on revival: Will the outperformance continue? If the economy does revive, the earnings growth of large-cap stocks may be better than that of the mid-cap stocks. In many industries, larger companies have used their muscle to capture market shares, outperforming the smaller companies.

As such, the near-term earnings growth outlook for the large companies is as rosy as it is for mid-size companies. And so the trend might continue for the next six months, as growth gathers momentum.

This poses a dilemma for the investor. Should you now invest more in large-cap stocks or funds focussed on large-cap stocks? You may need to if the next six months is your investment horizon.

However, the valuation of these large-cap stocks already appears stretched. They may struggle to deliver as much returns as the mid-caps over a longer time-frame.

Over a longer-time frame, funds focussed on large-cap stocks are likely to deliver returns in line with their less risky profile.

In other words, chasing performance by over-weighting your portfolio with large-cap stocks may not be a bright idea.

Inclusion of funds such as HDFC Top 200 and Franklin India Prima, which invest more in mid-cap stocks, in your portfolio still holds the potential to add to returns that large-cap focussed funds such as Templeton India Growth and HDFC India Equity can generate for you.

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