As compared to five year average the Nifty small cap 250 trades at a premium of 46% compared to Nifty 100 five year average. Resultantly the 251st company market cap has increased from Rs90bn in FY19 to Rs158bn in FY23 and Rs256bn in Nov’23.
Exhibit 1: Nifty 250 has delivered return of 43% in the last nine months vs 38% for Nifty 100
Exhibit 2: Nifty small cap 250 FY25 PE is at 27.4x vs five year average of 23.6x
Exhibit 3: Nifty 100 FY25 PE is 20.7x vs 16.1x five year average
Exhibit 4: Market cap of 251st company in Dec’19 was at Rs82bn which has crossed Rs250bn as on Dec’23
RESULTANTLY THERE IS A LOT OF FEAR AMIDST INVESTORS IN SMALL CAP INVESTING
Our interactions with our investors which includes channel partners, IFAs, investors suggests that there is a lot of fear post the rally in small caps. Several of them were of the view that we should reduce exposure to small caps. We also understand that a lot of mutual Funds and PMS houses have also stopped taking new money into the funds sighting rich valuations. More importantly there is empirical evidence that suggests that after 3 years of rally in small caps the index has corrected meaningfully in the 4th year and returns in the 4th to 6th year have been flattish. Now that we are already in the third year there is a high possibility of drawdown in small caps.
Exhibit 5: Small cap returns in 3 years (>35%) weighs over forward returns
Exhibit 6: Several funds have stopped accepting lump-sum flows into the small cap funds
Another point that came across from our interactions is whether the small cap rally is led purely by the significant liquidity that small caps attracted during the last 24 months. If we look at data as of FY24TD, we note that small cap and mid cap funds have seen 32% and 17%, respectively, of overall flows whereas large caps have seen 5% outflows.
Exhibit 7: Small cap fund make for 32% of net flows
OUR VIEW IS THAT SMALL CAP SEASON SHOULD CONTINUE
Our view is small cap season should continue if we take cognizance of the fundamental changes that have happened in small cap companies especially in the last 3 years
Strong FCF generation has led to significant balance sheet deleveraging for small cap companies over FY20-23: Small cap companies have seen significant growth in free cash flow generation (FCF). FCF over FY20-23 CAGR was at 51% vs -16% during FY17-20. Resultantly the leverage for small cap companies has significantly reduced from 1.4x net debt: equity in FY17 to 0.2x in FY23. Whilst bears might argue that this is a COVID led phenomena our interaction with a few small cap companies which have done debt repayment suggests that they may not take the debt levels back to the earlier times especially given their channel partners are also now accustomed to operating at lower credit cycles.
Exhibit 8: FCF generation for small cap companies has been very strong during FY20-23 period…
Exhibit 9: …and this led to significant deleveraging in balance sheets of small cap companies
Deleveraged balance sheet should trigger capex spree across small cap companies: COVID led to deceleration in capex spending amidst small cap companies; CAGR of gross block + CWIP for small cap companies was at 9% during FY20-23 vs 12% during FY17-20. We anticipate a surge in capex across small cap companies given the revenue CAGR over FY20-23 was much higher at 16% vs capex CAGR of only 9%. The higher capex over FY23-26 should also aid in long term revenue visibility.
Exhibit 10: Nifty small cap 250 companies revenue CAGR for FY20-23 has been higher than capex CAGR
Capex deceleration is also witnessed across large cap sectors. Whilst the headline banking credit growth data at ~14% CAGR over FY20-23 looks impressive, it is led by retail growth which was at 17% vs 9% non-retail credit growth implying lower capex intensity post COVID.
Exhibit 11: Banking credit growth over FY20-23 has been led by retail credit growth (figs represent % YoY growth)…
Exhibit 12: …resultantly the share of retail credit has increased to 30% in FY23 vs 28% in FY20 in overall lending
EPS CAGR and ROE for small cap companies has been higher than Nifty 100:
EPS CAGR for small cap companies has been higher at 20.4% over FY20-23 vs 12.6% for Nifty 100; average ROE over FY20-23 is similar at 9.1% vs 9.3% for Nifty 100 companies. We believe that market does like growth especially when the same is accompanied with growth in FCF as well. Hence we believe that the higher PE for small caps relative to large caps is justified and the same is likely to sustain till the time the growth continues to remain high.
Exhibit 13: EPS CAGR for small cap companies has been higher than Nifty 100 across cycles since FY19
Promoter holdings in small cap companies is significantly higher than Nifty 100; alignment of interest with minority: Higher the promoter holding in a small company higher is the skin in the game. The reason why we say so is that several promoter of small cap companies have significant wealth in their shareholding unlike large cap companies where there are many companies where there are no promoters – L&T, Infosys etc. Average promoter holding in small cap companies has increased to 52.4% in FY24YTD and this increased as compared to 41.6% in FY19. On the other hand promoter holding in Nifty 100 companies has fallen from 5.2% in FY19 to 2.7% in FY23.
Exhibit 14: Average promoter holding in Nifty small cap 250 companies has increased over time
Exhibit 15: Average promoter holding in Nifty 100 companies has fallen over time
Several sub-sectors in small caps are oligopolistic in nature: There are several sectors like luggage, bearings, rating agencies, entertainment parks, opal-ware, technical textiles, amines, APIs, glass reactor equipment suppliers, specialty chemicals where in 2-3 companies control large part of the organized market share. This is on the back of (a) cost leadership led by advantage of scale, (b) strong distribution network (important given India is a large country) and diversified product portfolio (many of these sectors have large number of SKUs).
Exhibit 16: Several companies in small cap sectors are oligopolistic in nature
As a small-caps investor, you can enjoy a lot of diversity when you invest across multiple sub-sectors: Small caps allow you higher diversity; top 5 sectors in Nifty 100 have a weightage of 63% vs 45% in Nifty small cap 250. Also if we look at the weightage of top 10 sectors in Nifty 100 it is at 83% vs 64% in Nifty small cap 250. Higher diversity reduces the risk of cyclicality and this when combined with oligopolistic nature of several companies in the small cap universe allows you higher revenue and earnings visibility.
Exhibit 17: Small cap allows you option to invest in multiple sectors which is not the case in Nifty 100 companies
Exhibit 18: Small cap allows you option to invest in multiple sectors which is not the case in Nifty 50 companies
IN THE EVENT OF ANY DRAWDOWN QUALITY COMPANIES WILL OUTSHINE.
Over time periods quality companies deliver alpha. If we look at the performance of emerging giant companies since inception the return CAGR has been 17.0% (since Dec’17) vs 12.6% for Nifty 250 companies. Notably, the drawdown has been much lower at -27.4% vs -55.7% for Nifty small cap 250.
Exhibit 19: Emerging giant performance has been better than Nifty 250 Index since inception
*BSE 500 TRI is the selected benchmark for the Ambit Emerging Giants SmallCap Portfolio. The same is reported to SEBI. In addition to the same, we have included Nifty Small Cap 250 for information purposes only. The same should not be relied upon for performance benchmarking in any manner
Exhibit 20: Emerging giant portfolio saw lower drawdown during times when small cap index saw significant decline
One of the main reason for this is the quality of stocks that we own in our portfolio. The EPS growth/ROE for the portfolio for FY24 was at 19.5%/19.6% and this in FY25 should improve to 26%/20.7%. Whilst relative to Nifty 250 the EPS growth for FY25 looks marginally higher at 28.5% for Nifty Small cap vs 26% for EG, we note that RoE is far inferior at 15.8% for Nifty Small cap vs 20.7% for EG. Alongside this the standard deviation is also lower as compared to the index and Sharpe ratio higher as compared to the index.
Exhibit 21: EPS growth/ROE for emerging giant companies for FY25 is higher as compared to FY24
Lastly, if we see SIP returns in small caps we note that starting a SIP at market highs augurs well from a return perspective because of 3 reasons:
1. Whenever markets fall from peaks you start to accumulate more units (falling NAVs).
2. These higher units will get the benefit of rising NAVs when market rises again.
3. Wealth = more units x higher NAV
Exhibit 22: Small & midcap stocks show low forward returns after a short period of high trailing returns
Exhibit 20: Median 10 year SIP Returns
AMBIT COFFEE CAN PORTFOLIO
At Coffee Can Portfolio, we do not attempt to time commodity/investment cycles or political outcomes and prefer resilient franchises in the retail and consumption-oriented sectors. The Coffee Can philosophy has an unwavering commitment to companies that have consistently sustained their competitive advantages in core businesses despite being faced with disruptions at regular intervals. As the industry evolves or is faced with disruptions, these competitive advantages enable such companies to grow their market shares and deliver long-term earnings growth.
Exhibit 24: Ambit’s Coffee Can Portfolio point-to-point performance
Source: Ambit; Portfolio inception date is March 6, 2017; Returns as of December 31st 2023; All returns are post fees and expenses; Returns above 1 year are annualized; Note: Returns prior to Apr’19 are returns of all the Pool accounts excluding non-aligned portfolio, and returns post Apr’19 is based on TWRR returns of all the pool accounts. * Nifty 50 TRI is the selected benchmark for the Ambit Coffee Can Portfolio and the same is reported to SEBI.
Exhibit 25: Ambit’s Coffee Can Portfolio calendar year performance
Source: Ambit; Portfolio inception date is March 6, 2017; Returns as of December 31st 2023; All returns are post fees and expenses. Note: Returns prior to Apr’19 are returns of all the Pool accounts excluding non-aligned portfolio, and returns post Apr’19 is based on TWRR returns of all the pool accounts. * Nifty 50 TRI is the selected benchmark for the Ambit Coffee Can Portfolio and the same is reported to SEBI.
AMBIT GOOD & CLEAN MIDCAP PORTFOLIO
Ambit's Good & Clean strategy provides long-only equity exposure to Indian businesses that have an impeccable track record of clean accounting, good governance, and efficient capital allocation. Ambit’s proprietary ‘forensic accounting’ framework helps weed out firms with poor quality accounts, while our proprietary ‘greatness’ framework helps identify efficient capital allocators with a holistic approach for consistent growth. Our focus has been to deliver superior risk-adjusted returns with as much focus on lower portfolio drawdown as on return generation. Some salient features of the Good & Clean strategy are as follows:
- Process-oriented approach to investing: Typically starting at the largest 500 Indian companies, Ambit's proprietary frameworks for assessing accounting quality and efficacy of capital allocation help narrow down the investible universe to a much smaller subset. This shorter universe is then evaluated on bottom-up fundamentals to create a concentrated portfolio of no more than 20 companies at any time.
- Long-term horizon and low churn: Our holding horizons for investee companies are 3-5 years and even longer with annual churn not exceeding 15-20% in a year. The long-term orientation essentially means investing in companies that have the potential to sustainably compound earnings, with these compounding earnings acting as the primary driver of investment returns over long periods.
- Low drawdowns: The focus on clean accounting and governance, prudent capital allocation, and structural earnings compounding allow participation in long-term return generation while also ensuring low drawdowns in periods of equity market declines.
Exhibit 26: Ambit’s Good & Clean Midcap Portfolio point-to-point performance
Source: Ambit; Portfolio inception date is March 12, 2015; Returns as of December 31st 2023; All returns above 1 year are annualized. Returns are net of all fees and expenses. *BSE 500 TRI is the selected benchmark for the Ambit Good & Clean Midcap strategy and the same is reported to SEBI.
Exhibit 27: Ambit’s Good & Clean Midcap Portfolio calendar year performance
Source: Ambit; Portfolio inception date is March 12, 2015; Returns as of December 31st 2023. Returns are net of all fees and expenses. *BSE 500 TRI is the selected benchmark for the Ambit Good & Clean Midcap strategy and the same is reported to SEBI.
AMBIT EMERGING GIANTS PORTFOLIO
Small caps with secular growth, superior return ratios and no leverage – Ambit's Emerging Giants portfolio aims to invest in small-cap companies with market-dominating franchises and a track record of clean accounting, governance and capital allocation. The fund typically invests in companies with market caps less than Rs4,000cr. These companies have excellent financial track records, superior underlying fundamentals (high RoCE, low debt), and the ability to deliver healthy earnings growth over long periods of time. However, given their smaller sizes, these companies are not well discovered, owing to lower institutional holdings and lower analyst coverage. Rigorous framework-based screening coupled with extensive bottom-up due diligence led us to a concentrated portfolio of 15-16 emerging giants.
Exhibit 28: Ambit Emerging Giants Small Cap Portfolio point-to-point performance
Source: Ambit; Portfolio inception date is December 1, 2017; Returns as of December 31st 2023; All returns above 1 year are annualized. Returns are net of all fees and expenses. *BSE 500 TRI is the selected benchmark for the Ambit Emerging Giants strategy and the same is reported to SEBI.
Exhibit 29: Ambit Emerging Giants Small Cap Portfolio calendar year performance
Source: Ambit; Portfolio inception date is December 1, 2017; Returns as of November 30th 2023. Returns are net of all fees and expenses. *BSE 500 TRI is the selected benchmark for the Ambit Emerging Giants strategy and the same is reported to SEBI..
AMBIT TENX PORTFOLIO
Ambit TenX Portfolio gives investors an opportunity to participate in the India growth story as the Indian GDP heads towards a US$10tn mark over the next 12-15 years. Mid and Small corporates are expected to be the key beneficiaries of this growth. The portfolio intends to capitalize on this opportunity by identifying and investing in primarily mid & small cap companies that can grow their earnings 10x over the same period implying 18-21% CAGR. Key features of this portfolio would be as follows:
- Longer-term approach with a concentrated portfolio: Ideal investment duration of >5 years with 15-20 stocks.
- Key driving factors: Low penetration, strong leadership, light balance sheet
- Forward-looking approach: Relying less on historical performance and more on future potential while not deviating away from the Good & Clean philosophy.
- No Key-man risk: Process is the Fund Manager
Exhibit 30: Ambit TenX Portfolio point-to-point performance
Source: Ambit; Portfolio inception date is December 13, 2021; Returns as of December 31st 2023; Returns are net of all fees and expenses *BSE 500 TRI is the selected benchmark for the Ambit TenX Portfolio and the same is reported to SEBI.
Exhibit 31: Ambit TenX Portfolio calendar year performance
Source: Ambit; Portfolio inception date is December 13, 2021; Returns as of December 31st 2023. Returns are net of all fees and expenses *BSE 500 TRI is the selected benchmark for the Ambit TenX Portfolio and the same is reported to SEBI.
For any queries, please contact:
Umang Shah - Phone: +91 22 6623 3281, Email - aiapms@ambit.co | Registered Address: Ambit Investment Advisors Private Limited - Ambit House, 449, Senapati Bapat Marg, Lower Parel, Mumbai - 400 013 | Corporate Address: Ambit Investment Advisors Private Limited - 2103/2104, 21st Floor, One Lodha Place, Senapati Bapat Marg, Lower Parel, Mumbai - 400 013
Risk Disclosure & Disclaimer
Ambit Investment Advisors Private Limited (“Ambit”), is a registered Portfolio Manager with Securities and Exchange Board of India vide registration number INP000005059. The performance of the Portfolio Manager has not been approved or recommended by SEBI nor SEBI certifies the accuracy or adequacy of the performance related information contained therein. Returns are calculated using TWRR method as prescribed under revised SEBI (Portfolio Managers) Regulations, 2020. Performance is net of all fees and expenses. Past performance is not a reliable indicator of future results. Please note that performance of your portfolio may vary from that of other investors and that generated by the Investment Approach across all investors because of 1) the timing of inflows and outflows of funds; and 2) differences in the portfolio composition because of restrictions and other constraints. For comparative Performance relative to other Portfolio Managers within the selected Strategy, please visit: bit.ly/APMI_PMS This presentation / newsletter / report is strictly for information and illustrative purposes only and should not be considered to be an offer, or solicitation of an offer, to buy or sell any securities or to enter into any Portfolio Management agreements. This presentation / newsletter / report is prepared by Ambit strictly for the specified audience and is not intended for distribution to public and is not to be disseminated or circulated to any other party outside of the intended purpose. This presentation / newsletter / report may contain confidential or proprietary information and no part of this presentation / newsletter / report may be reproduced in any form without its prior written consent to Ambit. All opinions, figures, charts/ graphs, estimates and data included in this presentation / newsletter / report is subject to change without notice. This document is not for public distribution and if you receive a copy of this presentation / newsletter / report and you are not the intended recipient, you should destroy this immediately. Any dissemination, copying or circulation of this communication in any form is strictly prohibited. This material should not be circulated in countries where restrictions exist on soliciting business from potential clients residing in such countries. Recipients of this material should inform themselves about and observe any such restrictions. Recipients shall be solely liable for any liability incurred by them in this regard and will indemnify Ambit for any liability it may incur in this respect. Neither Ambit nor any of their respective affiliates or representatives make any express or implied representation or warranty as to the adequacy or accuracy of the statistical data or factual statement concerning India or its economy or make any representation as to the accuracy, completeness, reasonableness or sufficiency of any of the information contained in the presentation / newsletter / report herein, or in the case of projections, as to their attainability or the accuracy or completeness of the assumptions from which they are derived, and it is expected each prospective investor will pursue its own independent due diligence. In preparing this presentation / newsletter / report, Ambit has relied upon and assumed, without independent verification, the accuracy and completeness of information available from public sources. Accordingly, neither Ambit nor any of its affiliates, shareholders, directors, employees, agents or advisors shall be liable for any loss or damage (direct or indirect) suffered as a result of reliance upon any statements contained in, or any omission from this presentation / newsletter / report and any such liability is expressly disclaimed. Further, the information contained in this presentation / newsletter / report has not been verified by SEBI. You are expected to take into consideration all the risk factors including financial conditions, risk-return profile, tax consequences, etc. You understand that the past performance or name of the portfolio or any similar product do not in any manner indicate surety of performance of such product or portfolio in future. You further understand that all such products are subject to various market risks, settlement risks, economical risks, political risks, business risks, and financial risks etc. and there is no assurance or guarantee that the objectives of any of the strategies of such product or portfolio will be achieved. You are expected to thoroughly go through the terms of the arrangements / agreements and understand in detail the risk-return profile of any security or product of Ambit or any other service provider before making any investment. You should also take professional / legal /tax advice before making any decision of investing or disinvesting. The investment relating to any products of Ambit may not be suited to all categories of investors. Ambit or Ambit associates may have financial or other business interests that may adversely affect the objectivity of the views contained in this presentation / newsletter / report. Ambit does not guarantee the future performance or any level of performance relating to any products of Ambit or any other third party service provider. Investment in any product including mutual fund or in the product of third party service provider does not provide any assurance or guarantee that the objectives of the product are specifically achieved. Ambit shall not be liable for any losses that you may suffer on account of any investment or disinvestment decision based on the communication or information or recommendation received from Ambit on any product. Further Ambit shall not be liable for any loss which may have arisen by wrong or misleading instructions given by you whether orally or in writing. The name of the product does not in any manner indicate their prospects or return. The product ‘Ambit Coffee Can Portfolio’ has been migrated from Ambit Capital Private Limited to Ambit Investments Advisors Private Limited. Hence some of the information in this presentation may belong to the period when this product was managed by Ambit Capital Private Limited. The performance data for coffee can product between 6th march 2017 - 19th June 2017 represents model portfolio returns. First client was onboarded on 20th June 2017. The performance data for G&C product between 1st June 2016 to 1st April 2018 also includes returns for funds managed for an advisory offshore client. Returns are calculated using TWRR method as prescribed under revised SEBI (Portfolio Managers) Regulations, 2020 You may contact your Relationship Manager for any queries.
