Diversion of Flows Expected from Small and Mid-cap Stocks to Large-caps

Diversion of funds is expected from small and mid-caps to large-caps, leading to a sharp reaction in mid and small-cap category where valuations are stretched, Hitesh Suvarna of JM Financial Institutional Securities said in a report.

“But any correction in quality large-caps should be bought into at these levels, the report said.

In addition to rising bond yields, as markets turn wary of further escalation of the war in Israel, riskoff sentiments are now clearly evident. Gold outperformed other asset classes by a wide margin in last one month, the report said.

“Going forward, we expect higher allocation towards quality large-caps while redemption pressure is likely in SMIDs with stretched valuation”, it added.

Rising bond yields and the likelihood of further escalation of Israel conflict led to a renewed transition towards risk-off sentiments, which is evident from the fact that gold outperformed risk assets by a wide margin in last one month. Although Nifty delivered negative returns (-2 per cent), it managed to outperform the EM and DM markets significantly. China’s performance was in deep red (-6.2 per cent). FIIs continued to redeem for second month in a row, heavy selling came in sectors like Power, Oil & Gas and Metals while FIIs preferred Capital goods space in September’23, the report said.

Brent crude has been hovering close to 90/USD levels, exerting pressure on EM currencies. INR has been one of the least volatile currencies among the EM economies thanks to RBI’s Forex intervention. As per our assessment, dollar index moves in tandem with the commodity index, including Brent crude price, but with a lag. We expect brent crude to remain elevated in the near term which would keep US dollar at these levels, the report added.

As per our assessment, dollar index moves in tandem with the commodity index, including Brent crude price, but with a lag of eight months. Considering the recent geo-political conflicts and uncertainty around resolution of these conflicts, we expect markets to factor in risk premium in commodity prices, especially in case of Brent crude prices. Moreover, as current brent crude prices are artificially elevated through supply cuts by OPEC, it is unlikely to normalise in the near term. We expect brent crude prices to remain elevated in the near term, which in turn would add strength to the US dollar. This would exert pressure on INR and other EM currencies, we should expect continued Forex intervention by RBI in the currency markets, to ensure least volatility, the report said.