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    • Finding Value in Midcap Stocks

    Publish date: 31st August, 2018

    Since the beginning of 2018, midcap shares have witnessed a dramatic underperformance in comparison to large caps. While analysts crunch data and offer reasons, as an investor, you need to get your basics right. Amidst the fall, you may hear that there is an opportunity to buy some solid performing ones. But before you press that ‘buy’ button, hold on and understand the basics of valuation.

    Midcaps are companies that have a market capitalization (total market value of its outstanding shares) between Rs.5,000 crore and Rs.20,000 crore. The potential for today’s mid-caps to grow into future large-caps attracts investors. However, unlike the larger-cap stocks, where a lot of information is available, information is inconsistent on midcaps. As the investor is unable to analyse these stocks, they are not much popular among investors.

    Related Read: Why mid-caps may outperform large-caps

    Mid-cap companies have potential to give handsome returns with 3-5 years investment horizon. Even while relating risk with size, midcaps offer a middle path. There are riskier than small caps and comparatively less risky than the large caps.

    Related Read: Understand stock market risks

    Evaluating a Midcap stock

    • Valuation: The stock value is a function of its stock price and the number of shares. It is advisable to have a higher margin of safety or, to seek value that can ride out volatility. The margin of safety is the difference between the price you pay and the stock’s intrinsic value. Say, if the stock is quoted at Rs. 80 whereas, its intrinsic value is Rs.100, the margin of safety will be 20%. Higher safety margin means, lower risk and higher potential for growth.
    • Related Read: All you need to know about value investing

    • Management quality: For Large-caps, you can find in-depth coverage and research. Thus, you can be sure about the quality of their management. However, mid-cap companies are generally under-researched. Thus, you need to be mindful of whether the company has the management bandwidth to take it further.
    • Related Read: Why Tata Motors can be a ‘value’ buy

    • Value vs Price: Two ratios to be careful about are price-to-earnings (PE) and price-to-book value (PBV). An investor must be careful with the value traps of stocks with low PE or PBV. A high priced mid-cap stock may also be valuable. One must look at the previous profits by the mid-cap companies. While studying the company’s business, one should be sure that the net profits are a product of its business operations.
    • Related Read: Important ratios to use while analysing your portfolio.

    • Potential to Grow: Can you believe that Infosys and Airtel were once lesser-known companies. Today’s mid-cap company can be tomorrow’s large-cap company. To know a company’s growth potential one must focus on its return on equity (ROE), debt-equity ratio, interest coverage ratio (ICR) and, its institutional holdings. Growth potential and strong fundaments are what make the stocks buyable. Read more about return on equity here

    Related Read: 5 takeaways from Infosys annual report

      • Midcaps are up and running: These 10 stocks showing the way   Read more

      • When midcaps burnt, desi fund managers plucked these stocks in hordes    Read here

    • -14%

      Between January-June 2018, though the Nifty50 delivered positive returns, Nifty Midcap 100 fell 14%. More than one-fourth of the midcap stocks held by equity mutual funds crashed over 30% during this period. However, the market price and inflows of investors in equity mutual fund allocation in midcaps rose during the same period.