Domestic equities may brace up for a volatile March as selling is likely to persist in the broader market and as year-end redemption pressures could see domestic mutual funds liquidating positions.

Midcap and smallcap stocks had a stupendous run in the last two-three months, but concerns raised by market regulator SEBI over the non-stop rally and the unprecedented inflows that these funds saw in the recent months, triggered a sharp sell-off this week.

More than 200 smallcap stocks saw a double-digit fall in February, and experts believe that the selling pressure will prevail for some more time.

The S&P BSE Smallcap index lost 1.6% in February following a 24% rally in the preceding three months. In the last one year, the index has rallied more than 58%, and this has been backed by improved fundamentals such as easing cost pressures and strong earnings growth.

“We have seen consistent earnings upgrades which points to a decent earnings growth cycle in India. While earnings growth might continue, our major concern is valuations, particularly in the broader market,” Christy Mathai, fund manager – equity at Quantum AMC told ETMarkets.

Smallcaps are trading at about 50-60% premium to their long term averages.In the backdrop of the stellar rally, it’s difficult to find opportunities to deploy money in the smallcap space, Mathai said, adding that he would wait for some more correction in this space which may help in removing the froth.

Historical Trend

If one looks at how markets have historically performed in the month of March, then Nifty 50 has given positive returns on seven occasions in the last 12 years.

Nifty 50 gave the highest return of nearly 11% in March 2016, followed by 8% returns in 2019.

Whether history repeats this time and see bulls outpacing bears is something that will hinge upon the global factors and the overall investment behaviour of foreign and domestic investors.

“Events and news related to government policy, especially those involving regulatory changes or fiscal stimulus plans, may have an effect on capital flows and market sentiment,” said Ashish Kumar, smallcase manager and founder of Stoxbazar.

Flow Picture

In the last two months, foreign portfolio investors were net sellers of equities, but the strong buying by domestic investors restrained the downside for the market.

In the first two months of 2024, DIIs have poured in Rs 52,354 crore into equities, whereas FIIs have sold stocks worth Rs 31,827 crore during the same period, according to data on StockEdge.

However, as the financial year draws to a close, dometic mutual funds are likely to face redemption pressures, and this could see them liquidating positions.

In case of FIIs, crucial factors such as the geopolitical situation, movement in the US bond yields, dollar, and cues around US Federal’s future policy action will determine the inflows in the near term, said experts.

“The macro conditions globally will determine FII flows in the near term. If you’re looking at US bond yields hovering around 3-3.8-4.0% levels, then the appetite for Indian assets reduces,” Mathai said.

If we look at the historical trends of FII and DII inflows in the month of March, then DIIs were net sellers of shares on six occasions in the last 12 years. Meanwhile, FIIs have been net buyers on 10 occasions.

Trading Strategy

The current trend of Nifty 50 looks negative and analysts are closing watching 21950 level on the downside, because a fall below this level could exert further selling pressure and take the index towards 21800 level.

Given that general elections are round the corner and global uncertainties prevail, experts recommend investors to approach the market with caution.

“It is crucial to implement a flexible and cautious trading strategy ahead of general elections. As investors respond to political developments and project future policy changes in the event of alternative electoral outcomes, market volatility is likely to rise,” Kumar said.

A diversified portfolio and the use of risk management strategies, such stop-loss orders, may be helpful in navigating unpredictable market circumstances in the lead-up to the elections, he added.

(Disclaimer: Recommendations, suggestions, views and opinions given by the experts are their own. These do not represent the views of The Economic Times)