Small-cap stocks are positioned to lead the next phase of India's market rally, with technical analysts identifying a significant breakout pattern. Manav Chopra, Executive Director at Nuvama Institutional Equities, believes the ratio of small-cap stocks to the broader market has broken out of a five-year consolidation pattern. Speaking to NDTV Profit, Chopra argues that Indian equities are emerging from what he describes as a "transition phase" rather than entering a prolonged bear market. According to market history, bull markets are often followed by six to seven quarters of consolidation before the next leg higher begins, with the current cycle appearing to fit this pattern after the strong rally seen between 2020 and 2024.
Since the outbreak of the US-Iran conflict in late February, India's small-cap stocks have emerged as clear market leaders while large-caps have lagged. Since 27 February, the benchmark Nifty50 has fallen 4.7%, while the Nifty Midcap 150 has gained 3.8% and the Nifty Smallcap 250 has surged 9.4%, with both indices hitting fresh highs in May. As per Yes Securities, the combined share of mid- and small-caps in the Nifty 500's market capitalization rose to a record 35.8% as of 14 June. The shift in capital away from blue-chip stocks underscores a growing appetite for risk as investors pursue companies with stronger earnings growth prospects, with mid- and small-cap share in NSE cash turnover increasing to 28.19% and 22.92% respectively in FY26.
In the second half of FY26, mid- and small-cap companies benefited from goods and services tax (GST) cuts and benign liquidity conditions, while large-caps grappled with softer global demand. Among BSE 500 companies, excluding oil marketing firms, mid-caps posted the strongest profit growth at 21% in FY26, up from 15% a year earlier, followed by small-caps at 11%, compared with 2% in FY25, while large-cap profit growth remained subdued at 7%, according to Nuvama Research. The June quarter (Q1FY27) is expected to be challenging across market-cap segments as companies contend with cost inflation despite price hikes, though easing crude oil prices could provide some relief.
Despite the impressive rally, valuations remain a concern for small-cap stocks. The Nifty Midcap 150 and Nifty Smallcap 250 trade at one-year forward price-to-earnings multiples of 24x and 20x respectively, compared with 16x for the Nifty50, according to Bloomberg data. While both segments trade below their five-year average valuations, they are far from cheap. To justify current multiples, companies will need to deliver on consensus expectations of more than 20% earnings growth in FY27. Any adverse impact from an El Nino-led disruption to rural incomes and consumption could put that optimism to the test.
Despite India's macroeconomic challenges including fiscal pressures with subsidies rising 52% and interest payments increasing 18% in April, demand remains robust. Chopra believes the market has already formed a very strong low in April, with more or less the worst of 2026 behind investors. He identifies tyre manufacturers as one of the most attractive themes for the next six to 12 months, citing easing raw material pressures and favourable technical setups. Infrastructure and capital expenditure-linked stocks, particularly power-related companies and engineering plays, remain among his preferred bets, while shipping and shipbuilding companies offer opportunities with relatively low ownership levels despite improving fundamentals.
