Smallcap stocks slip further into bear grip as sell off continues

Despite a 23% drop from the peak, valuations still above long-term averages

Smallcap stocks slipped further into bear market territory on Tuesday, driven by relentless selling by foreign portfolio investors (FPIs), worries over expensive valuations and tepid corporate earnings outlook.

 

The Sensex and Nifty traded moderately lower and the Nifty Smallcap index dropped 1.6 per cent.

 

Since its peak on December 12, the Nifty Small Cap 100 has declined by 23 per cent but valuations are still above long-term averages. A stock or index is considered to have entered bear market territory when it falls more than 20 per cent from its peak.

 

The sell off has led to sharp declines among many constituents of the Smallcap index. Some of the top losers on a year-to-date basis include Kaynes Technology (down 45 per cent), Sterling and Wilson (42.4 per cent), KEC International (39.12 pre cent) and Jupiter Wagons (38.7 per cent).

 

Since October, markets have been under pressure due to disappointing corporate earnings for the September and December quarters.

 

Analysts attribute the earnings slowdown to India's deteriorating macroeconomic position, driven by a continued fall in consumption demand, a slowdown in government capex, and a weakening rupee.

 

“December quarter earnings season was disappointing, with single-digit profit growth for the Nifty and BSE 500. This triggered another round of downgrades, though less severe than in October 2024. We expect the market to stay under pressure through this quarter,” said Emkay in a note to investors.

 

The aggressive selling by FPIs, initially in response to stimulus measures in China and later due to the attractiveness of the US market amid concerns about policy shifts, has further exacerbated the sell off in smallcaps.

 

Although FPI exposure to smallcaps is low, the selling has elevated market volatility and dented investor sentiment.

 

Barring one month, FPIs have been net sellers since October. In 2025, FPIs have pulled out ~1.06 trillion from domestic equities. The effect of the selling could have been more severe if not for the buying by domestic investors. FPI selling is likely to continue in the near term.

 

“FPIs are likely to maintain their cautious stance, given the challenging global investment environment for emerging markets (EMs),” said Kotak Institutional Equities.

 

“The Indian market may remain lacklustre, weighed down by rich valuations across sectors and stocks, potential earnings downgrades, and higher-for-longer global interest rates,” added the Kotak note.

 

Market experts anticipate that the sell off in smallcaps will likely continue and advise investors to trade with caution.

 

“Unless they have a deep understanding of the company, it is better for investors to stay away from smallcaps at this juncture. The valuation in smallcaps should be lower than that of largecaps. Until that moderation happens, the selling pressure is likely to persist,” said UR Bhat, co-founder of Alphaniti Fintech.

 

Despite the decline, the Nifty Small Cap 100 valuation remains above its long-term average and trades at a premium to largecaps.

 

The Nifty Small Cap 100 is currently trading at a one-year forward price-to-earnings (P/E) ratio of 20.4x, compared to its 10-year average of 18.5x. The Sensex and Nifty are trading at one-year forward earnings of 19.5x and 19x, respectively, below their long-term averages.