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Small-cap stocks have garnered significant investor interest in the last few months. While the Nifty50 index has gained 6.4% so far in 2023, the Small-Cap index has rallied 26% during the same period.

According to AMFI data, net inflows in small-cap funds were 4174 crore in July, accounting 55% of the total inflows.

On the back of heightened interest, aggregate AUM of Small-cap funds in Bharat has grown from Rs.38820 crore as of May 2020, to ₹1.82-lakh crore at the end of July 2023, while the number of folios (individual investors) have also grown from 52 lakhs to 1.16 crore during the same period.

Many small and midcap companies are benefiting from themes such as “Make in India” and “China Plus One”. Government has put restrictions/duty on imports in many industries. It has also introduced PLI (Production Linked Incentive) scheme to nudge the private sector to incur capex and establish our country as a key exporter. Following industries have seen heightened interest considering favourable macros and government initiatives.

Electronics Manufacturing Services: Bharat's electronics production is on the verge of a significant transformation due to an unparalleled policy push and favourable cost economics. Electronics is a key import for Bharat (11% in FY23), which had led the govt to focus on indigenization. In FY22-26e, domestic Electronics market is expected to grow at +18% CAGR to $225bn by FY26e. It is an unmistakable mega-trend that is fostering a robust growth cycle for the Bharatiya Electronics Manufacturing Services (EMS) sector.

Defence: The impact of the Defence import embargo list is becoming evident in the business landscape. In May 2023, an additional 928 items were included in Bharat's list for indigenization in the defence sector, bringing the total to 2,166 items since the initial list was introduced in December 2021. A significant portion of projects involving the refurbishment and upgrading of defence equipment is now earmarked for domestic production in Bharat.

Renewable Energy: Bharat's power sector has long grappled with inadequate investment, but the tide appears to be turning. Bharat has set an ambitious target of achieving 450GW of renewable energy capacity by 2030, with a significant portion derived from solar sources. This entails the addition of 25GW of solar capacity annually, ushering in substantial opportunities throughout the value chain. Notably, India presently relies on imports for 80% of its solar cells and panels, primarily sourced from China. However, the nation is strategically planning to establish 25GW of integrated module capacity, with the aim of achieving self-sufficiency by 2025-26 as these investments come to fruition.

Textiles: Bharat stands poised to reap the rewards, leveraging its advantageous position characterized by ample cotton resources, robust spinning capabilities, and government-backed initiatives, including PLI and duty remission schemes. Companies present in home textiles and garmenting are trying to grab the large export opportunity.

Auto Ancillary: Numerous multinational corporations are actively exploring the prospects of export-oriented production from Bharat. Prominent automotive players such as Suzuki, Denso, ZF Group, Valeo, Behr-Hella, and Continental have expressed their intent to elevate Bharat's status as an export hub. This growth is attributable to 1) global impetus on supply chain diversification, 2) strength of Tier 2 & 3 domestic supplier base, 3) low-cost advantage vs. developed economies and 4) government initiatives on Make in Bharat (PLI, FAME scheme).

Coming to the consumption sector, we have seen moderation in demand, both on discretionary and staples side, on account of high inflation, impact on rural incomes and subdued consumer sentiment. While the demand has been muted, management commentary is incrementally turning positive with the expectation of a demand pickup from the festive season. Rural demand is showing some green shoots and should pick up in the coming year on the back of election spending. GDP growth in Q1FY23 was quite strong at 7.8%. GST collections figures also do not show any signs of weakness. Overall, while the valuations are not cheap after the recent run up in stock prices, the corporate earnings growth cycle may look positive. Although one cannot rule out short term market correction, we believe that investors coming at this juncture with a disciplined asset allocation can do well in the long term.


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