Equity markets have been on a bull run. Even the mid cap indices have delivered over 60% returns in the past one year. What will be the key triggers and risks for the mid cap segment?
Over the longer term, the returns generated by any index are dependent on the performance of their underlying constituents. How the businesses are growing and expect to grow in future has a far larger impact on the performance of indices than any other factor. We remain very constructive on the growth story of our country in the coming years and its corresponding impact on corporate earnings growth. We believe we are at the cusp of an economic upcycle and midcaps of today are very well positioned to take advantage of this growth opportunity. The current consensus estimate point towards the same and are building in strong growth in midcap earnings over the next two years.
How comfortable are you with the valuations in the mid cap space?
While we remain cognizant of valuations, we don’t believe they are a cause of any worry at the moment. One needs to look at valuations in conjunction with the growth a business is witnessing. Corporate earnings have grown at a single digit growth rate annually over the last decade and the valuations over the last decade were based on this relatively low growth rate scenario. However, the current consensus estimates point to a strong earnings growth for midcap companies. In addition, the cost of capital currently is close to a decadal low. The current valuation in the market reflects this higher growth expectation and low cost of capital scenario. We don’t believe looking at valuation in isolation is the best way to look at the attractiveness of the market but rather one should look at them from the prism of growth and low cost of capital scenario we are in. Keeping those factors in mind, we don’t believe there is a big cause of concern as far as valuations are concerned.
What is your five year view on mid cap market?
We remain very constructive on the midcap part of the market. As discussed earlier, midcap earnings are expected to grow at a strong pace in the coming years. This current upcycle will open up many opportunities for companies and we believe many of midcaps of today have the ability to take advantage of the same. As their earnings grow, stock returns should follow. We remain constructive on the midcaps with a medium to long term horizon.
What is the rationale for launching HSBC Mid Cap Fund?
After getting battered by covid, the Indian economy has recovered sharply. GDP growth which dipped to ~-25% during the first quarter of last fiscal has recovered from there and we are back in a positive growth phase since the third quarter of the last financial year. We believe it is just the beginning and we are at a cusp of a multi-year growth cycle.
Supported by strong global growth, expansionary economic policies of the government and decadal low cost of capital, the Indian economy should witness strong growth in the next few years. As it happens in any economic upcycle, corporate earning grows at a rapid pace as the economy grows. The current consensus forecast for NIFTY EPS for the next two years stands at ~25%, a significant improvement to the last 10 years’ growth rate of ~8% CAGR.
Mid cap companies typically outperform their larger peers in growth at the time of economic expansion. We saw that happening in the FY02-08 period when the economy was growing strongly and midcaps far outperformed their larger peers in growth. This is what we are likely to witness this time around too. We expect midcaps to grow their earnings at rapid pace in the coming years and as the earnings grow, stock returns should follow. We are launching HSBC Mid Cap Fund to participate and gain from this strong growth cycle that we are likely to witness.
How is HSBC Mid Cap Fund different from the existing mid cap funds? What are the key features that investors must look out for in HSBC Mid Cap NFO?
We believe we are at a start of an economic upcycle. And building a fresh portfolio at the start of a cycle puts us in a pole position to take advantage of the opportunities that are there in front of us as we don’t have to go through the churn like others. This coupled with our focus on building a quality portfolio would allow us to generate alpha in our opinion.
HSBC Mid Cap Fund will also invest in small cap stocks. What is the reason for this?
Many small caps of today have the ability and the opportunity to participate in the growth which as an economy we are likely to witness. We intend to invest in select small cap companies that we believe are executing well and have a large runway of growth in front of them. The scheme has the flexibility to invest anywhere between 65% to 100% in mid cap stocks and up to 35% in debt & money market instruments and stocks other than mid cap stocks i.e. small and large cap stocks. Also, the scheme has a provision to invest up to 10% in units issued by REITs and InvITs. We will invest in small cap stocks within these limits at all point of time.
Which sectors are you currently bullish on, and why?
As the economy is growing, there are opportunities available in multiple segments which we intend to take advantage of. However, export is a key segment where we are seeing strong growth and investment opportunities. Global growth has picked up strongly, partially supported by lower interest rates and expansionary economic policies in most countries. This coupled with market share gains for Indian companies is leading to strong growth in exports from India.
Export opportunity is not only limited to IT as was the case in the previous decade. We are seeing strong growth trends emerging in specialty chemicals, textile and many other export driven sectors.
In addition, public market for the first time is getting the opportunity to invest into many novel and disrupting businesses which till now were mostly invested into by private equity funds. Many of these companies are coming with their IPOs and are raising money from public markets. The fund is very positive on many of these new age businesses and will look to invest in the upcoming opportunities these listings will provide. Given many of these companies will be midcaps when they come for listing, our midcap fund be at pole position to take advantage of this opportunity.
Next, we are very positive on domestic manufacturing which we believe will continue to grow strongly as the economy goes through a strong growth cycle. The Government of India is supporting domestic manufacturing by providing incentives with its PLI (Production-Linked Incentive) schemes. Given the focus of the government, and suitable incentives, this segment can continue to grow at a fast pace over the next few years leading to our positive stance. So these are a few of the key themes which we are positive on and intend to take advantage of.
Currently, the mid cap indices have exposure to 19 sectors. Does this make the segment too diversified?
That is actually another advantage of investing in midcaps. The midcap universe consists of stocks that are 101st to 250th in terms of the total market capitalization and they may or may not be part of the mid cap indices. But this universe of 101st to 250th stocks also is not dominated by one sector and the space is far more diversified which provide us opportunities across the spectrum while at the same time reduce concentration risk. We don’t see it as a handicap but it rather expands our investment horizon.
Why should distributors consider recommending midcap funds to their clients at this point?
As we have mentioned earlier, we are likely to witness a significant improvement in the economic growth rate in the coming years. Midcap companies tend to grow rapidly in any economic upcycle. As their earning grows, we believe stock returns would follow making it a very attractive opportunity for an investor to get into at this time.
