Portfolio management services (PMS) schemes remain tilted towards small and mid-caps (SMIDs) despite lofty valuations.
One in two PMS schemes have over 60 per cent of their assets under management in SMIDs, data from PMS Bazaar showed. Fifty nine out of 204 schemes under consideration had over 75 per cent of their assets parked in these categories. Only 23 schemes had a cash holding of more than 10 per cent.
“Such high allocation may be seen as a red flag,” said Amit Goel, Co-Founder & Chief Global Strategist, Pace 360, which runs a multi-asset PMS. “SMIDs are more volatile and sensitive to market corrections compared to large caps. A concentrated exposure can amplify the upside but carry higher risks when markets are overvalued.”
PMS schemes were the most impacted in the aftermath of the crash in SMIDs in 2018, as such stocks went into a free fall.
The Nifty Midcap 100 and Nifty Smallcap 100 indices trade at price to earnings multiples of 39.5x and 25x on a 12-month forward basis compared with 10-year average multiples of 21.8x and 15.9x, respectively.
The extent of ‘richness’ in multiples is accentuated in broader markets, with financials being the only exception, a recent note by Kotak Institutional Equities said.
Vicky Mehta, an investment analyst, believes that it isn’t uncommon for portfolio managers that follow a growth-oriented approach to invest in richly-valued stocks. Such investments can result in the fund experiencing more volatility than a typical peer, he said, particularly if the companies fail to deliver on the lofty growth rates required to justify their valuations.
While large caps offer relatively better valuations, stability and liquidity, it may not be easy for PMS schemes to shift or reposition their portfolios drastically.
“Many schemes mandate a high degree of SMID holdings, making repositioning tricky. Repositioning portfolios after market correction may not work most times as the market declines are already factored into the net asset value,” said Sameer Kamdar, CEO, Smart Money.
Heavily concentrated SMID portfolios are less liquid compared to large caps, and substantial selling to rebalance could potentially exacerbate market declines, according to Goel.
“SMIDs often experience sharper declines during broad market corrections, making it difficult to exit positions without incurring losses. The process may also be constrained by low liquidity of the stocks,” he said.
Manish Bhandari, CIO at Vallum Capital Advisors, feels that PMS schemes should stick to their mandates and should not reposition their portfolios. “If history has to repeat itself, similar to 2009 to 2014, when markets gave muted returns, stock picking will triumph over an index-hugging approach of investing,” he said.
According to Goel, investors should evaluate the historical performance of the PMS schemes and the strategy used by the portfolio managers before investing.
“Understand the liquidity of the underlying assets and the potential impact of large trades on the portfolio. Look for schemes that offer a balanced exposure rather than those with heavy concentration in mid and small-caps,” he said.
Investors’ ability to invest over longer periods of instability and to bear higher risks should be top of mind, added Kamdar: “Returns should not be the sole criterion to invest. Having said that, a longer holding period of at least 3-5 years should be considered while investing in SMIDs.”
- Also read: Most PMS schemes beat Nifty in FY24