Even though small- and mid-cap themes have had negative returns over the last few years, Abhay Agarwal of Piper Serica Advisors sees more value in that space with the potential to outperform the large caps.
"Because of the muted returns from the small and mid caps over the last couple of years, investor interest is low, and I think that gives us the opportunity to buy into some of these mid and small caps," Agarwal, who is the founder and fund manager at Piper Serica, told BQ Prime.
There are a whole lot of companies that have been neglected by the market but will grow at a 20–25% CAGR over the next three, if not five, years, he said. These companies are trading at 15–20 times their cyclically low multiples, he said.
Calling the mid- and small-cap companies "life with risks", Agarwal said, "If you get those calls right, there is a high probability that mid and small caps will beat or outperform the large caps over a period of time."
Liquidity Challenges A Risk
Agarwal suggests looking at small and mid caps as long-term buy-and-hold opportunities rather than trading opportunities.
The reason behind this, the fund manager said, is that when the market capitalisation of a company increases, the liquidity also increases. Citing the example of Apollo Hospitals Enterprise Ltd., which has been in Piper Serica's portfolio for 10 years, Agarwal said that the company first started as a small cap then a mid cap to a large cap, and finally it is now part of the Nifty 50 benchmark index.
However, he cautioned that a lack of liquidity in the short term is definitly a risk.
The risk mitigation strategy for this situation, according to Agarwal, is "we track their weekly delivered volumes, and we do not want our positions to be more than two weeks of delivered volumes." In this way, he said, one should be able to exit the company after two weeks of trading without incurring significant impact costs.
The alpha return for investors will not come by investing in overpriced large caps but by making these bets, he added.
Top Themes
Financials
Banks have been growing rapidly on the back of management changes, Agarwal said. "The trigger here is a management change, someone from outside coming in and reorienting the culture, reorienting the aggressiveness of client acquisition and growth."
Agarwal sees smaller players creating more returns than the larger players in the financial segment. Also, a lot of M&A activity will take place in this segment, which will drive value for the smaller banks, the fund manager said.
Consumption
While the unorganised players that sell for cheap but have lower quality will always be present, there is a tilt towards organised players, Agarwal said.
Customers are willing to pay a slight premium for a brand, Agarwal said. There is no slowdown in demand for consumption. There is a similar demand for PVC pipes and PVC fittings, especially in rural areas, which bodes well for Apollo Pipes Ltd., which the investment management firm has included in its portfolio, he said.
Capital Markets
Agarwal is also optimistic about the area of capital market infrastructure, which includes companies like Computer Age Management Services Ltd., Central Depository Services Ltd., and Angel One Ltd.
"We believe that as the market cap goes from $3 trillion to $6 trillion and investors come in, these companies are already in a leadership position in their space, and it's almost a monopoly with very high margins and a cash-generating business, giving back a lot of cash."
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