Explained: Why large caps, SIP focus make sense in times of war and volatility

The markets have drawn comfort from the results of the Assembly elections on Thursday, which are seen as having placed the BJP in pole position for Lok Sabha 2024. Market participants feel the prospect of long-term political stability will encourage the Centre to take tough decisions that may benefit the economy in the long term.

However, investors should not take needless risks, experts caution. Also, they should look out for opportunities in good large cap companies or mutual fund schemes investing in them, as they have undergone bigger corrections on account of foreign portfolio investors (FPIs) pulling out.

Fall in indices

In the seven trading sessions between February 24 and March 7, while the Sensex fell 7.7%, the BSE mid-cap and small-cap indices fell 6.2% and 4.7% respectively.

Whenever markets fall sharply, mid and small caps generally fall more than the blue chip index, as smaller companies are more vulnerable to market volatility, and their ability to absorb input costs and higher interest rate pressures is limited. During the first Covid wave, between February 20 and March 23, 2020, the Sensex fell 36.9%, and the mid and small cap indices fell more: by 38% and 40%.

This time, however, the large-cap index took the biggest hit. According to market participants, this was because of the sharp outflow of FPI funds after the war broke out. FPIs have big exposure across large caps, and it is easier to exit. In 10 trading days from February 24 to March 10, FPIs sold Indian equities worth Rs 55,127 crore. Since January 1, they have sold net holdings worth Rs 110,063 crore.

The fall, the recovery

Fragile recovery

Over the last four trading sessions, the Sensex has gained 5.1%, while mid- and small -cap indices have risen 5.4% and 5.7%. The recovery has ridden on hope that the war would remain limited to Russia and Ukraine and comfort from the beginning of talks.

The turnaround coincided with the exit polls of March 7. “The results of the elections, especially UP, has given a sense to the markets that there is going to be long-term political stability, and that the BJP remains the voters’ first choice despite Covid, inflation, and unemployment. The market feels the government will be emboldened to take some strong decisions that are good for the economy,” the head of a financial services firm said.

Investor options

As the impact of the war plays out in the higher oil import bill and rising inflation, market experts say investors must act judiciously, without getting too excited by the recovery of the past few days. If the war drags on, markets will remain under pressure, and could decline from current levels.

Volatile times call for more alert investment behaviour, and investors should stay away from small and mid cap companies as they may be more vulnerable in a scenario of rising input costs and weak consumption demand in case of a prolonged war, experts say. “We are advising investors to not invest with a six-month investment horizon. They should only come if they can stay invested for at least three years. We are also telling them to invest through the SIP route,” CJ George, MD, Geojit Financial Services, said.

A fund manager with a leading mutual fund said, “In times of war, no one knows where the bottom lies and in such a scenario investors would be wise to adopt the SIP mode of investment. Investors need to stay away from mid and small cap companies, they should go aggressively for the SIP route for equity investment over the next 12-18 months.”

Large caps have declined significantly and several well run companies are available at attractive valuations, and investors should go for blue chip firms instead of fishing for mid and small cap companies, he said.

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