Even though there may be nothing fundamentally wrong with a number of small and mid-cap stocks, they continue to be victims of a SEBI norm with regard to restructuring of equity schemes of mutual fund that has killed buying interest in them.

Recent data shows that more than 77 per cent of the total investments by mutual funds and insurance companies is concentrated only in India’s top 50 listed companies (those in the Nifty index).

Mutual funds, insurance companies and other domestic financial institutions (FIs) hold stocks worth more than Rs 20 lakh crore (nearly $300 billion) on the National Stock Exchange (NSE) and Bombay Stock Exchange (BSE), out of which the share of investment that just the top 50 companies receive could be a whooping Rs 15.5 lakh crore, data given to BusinessLine by a leading fund house shows. The same was between 35-38 per cent in 2016 and 2017, and just around 16-18 per cent prior to 2014.

Demand hit

“Between 70-80 per cent of mutual funds and insurance company investments went to the broader markets, making them more liquid. This pool of liquidity dried-up post 2018 for nearly 90 per cent of listed companies in India. It is this reason that you see a bear market-like scenario for broader stocks, even when benchmark index Nifty and Sensex are just 5-7 per cent lower than life-time high levels,” said a fund manager with a leading mutual fund.

Stock market is mainly a demand-and-supply game and if mutual funds, which hold large pool of investable money, are not going to buy into particular stocks, then none of the other players want to buy it too. Effectively, this has killed the overall demand for small and mid-cap stocks, a segment which was otherwise throbbing with volumes, bringing in higher retail participation, brokers say.

Data shows that companies ranking between 50-100 in market-cap got just around 7 per cent of inflows from mutual funds, compared to 14 per cent earlier. Companies ranking between 101 to 200 got 12 per cent compared to more than 20 per cent between 2016 and 2017, and over 32 per cent prior to 2014.

Companies that ranked between 400 to 500 on the bourses based on m-cap got 16 per cent inflows from mutual funds, insurance and FIs, which went into negative 1 per cent after the 2018 SEBI norm.

Following this, foreign portfolio investors (FPIs) too have cut their exposure to small and mid-cap stocks on the lines of mutual funds for the fear to find major buyers later. FPI investment in top 50 companies has gone up to around 63 per cent, from 35 per cent earlier.

SEBI's rule change

In 2018, SEBI directed mutual funds to cut down number of schemes and broadly have only large, small and mid-cap schemes in the category and further sub-category. SEBI’s criteria for re-categorising stocks baffled the street. "The definition was strange and confusing as parameters were vague," brokers say. Over 44 per cent of total mutual fund schemes had to be re-adjusted in three months, which started a wave of sell-off in small- and mid-cap stocks.

Any recovery has lagged so far.

SEBI defined large-caps as first 100 stocks by market-cap, mid-cap from 101 to 250, and small-cap (stocks below 251), which it said will be updated half yearly. Suddenly, the pool became smaller, and mutual funds put curbs on inflows into small- and mid-cap schemes.

Reportedly, funds including DSP BlackRock, Mirae Asset, IDFC, L&T and other large players had even put temporary curbs on inflows in schemes as it became difficult to increase weightage of particular stocks in their portfolio.

Prior to the SEBI move, there were 42 mutual funds with 315 equity schemes, of which 44 per cent (by value) were categorised as large, mid or small-caps. All were impacted by SEBI’s new norm.

Add to this the fact that even Pension Regulatory and Development Authority has allowed Employee Provident Fund (EPF) to be invested mainly in top 50 companies index companies and not in any other index.

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