Small Cap ETFs Tumble Most On Indian Sell-Off

After hitting record highs in Tuesday’s session, the Indian stock market crashed on massive profit booking activity and lack of optimism in the Modi-led NDA government's first Railway budget. Both BSE Sensex and National Stock Exchange index (NIFTY) suffered the worst single-day fall of 1.98% and 2.11%, respectively, in over 10 months.

The railway budget raised concerns that the government could cut spending in the upcoming Union Budget 2014-15. Small cap stocks led the decline with more than 4% drop, followed by a 3.63% drop in mid caps.

In his maiden rail budget, the railway minister Sadananda Gowda offered a total plan outlay of 654.45 billion rupees for 2014-15, higher from the interim’s budget estimate of 643.05 billion rupees but lower than market expectations.

Gowda proposed private and foreign direct investment (FDI) for improving rail infrastructure, private-public partnership to boost the finances of the cash-strapped railways, periodic revision in passenger fare and freight rates, and launch of bullet and high speed trains in major metros and growing cities. The budget also put emphasis on the development of rail network in the Northeast.

The sell-off was broad based with all the 12 sectors in the red at the close. Capital goods, metal, consumer durables, oil and gas, auto, banking, realty, IT and healthcare sectors led the way. Notably, the rail stocks were hit hard by the unsatisfactory railway budget. Texmaco Rail & Engineering plunged 20%, while Kalindee Rail Nirman Engineers, Titagarh Wagons and BEML dropped 5% each.

ETF Impact

The terrible trading in the stock world also sent the ETFs space into deep red on the day, with small cap funds suffering the most. In particular, Market Vectors India Small-Cap Fund (NYSE:SCIF), EGShares Indxx India Small Cap Fund (NYSE:SCIN) and EGShares India Infrastructure Index Fund (NYSE:INXX) tumbled more than mid single digits on a single trading day.

SCIF in Focus

This fund tracks the Market Vectors India Small-Cap Index, holding 94 securities in its basket. The product is well spread out across each component as single security makes up for less than 4.4% of assets. From a sector look, financials and consumer discretionary take the top two spots with 27.5% and 22.6% share, respectively, while industrials and information technology make up for the next two spots.

The fund has so far amassed $430.9 million in its asset base while charging 93 bps in annual fees. SCIF fell nearly 7% on the day and saw trading volume of more than 2 times than the normal average daily volume.

SCIN in Focus

This fund follows the Indxx India Small Cap Index, and is unpopular and illiquid with $34.3 million in AUM. It has an expense ratio of 0.85%. Holding 56 securities, the ETF is pretty spread across individual securities with less than 5.7% share allotted to each. The product is heavy on financials with more than one-third share, while consumer goods and industrials also get double-digit allocation in the basket.  

The fund dropped about 6.4% on Tuesday session with a volume of nearly three times than normal.

INXX in Focus

This is not a small cap centric fund but provides exposure to the growing infrastructure corner of the broad Indian market by tracking the Indxx India Infrastructure Index. Holding 31 stocks in its basket, the fund is somewhat concentrated on it top 10 holdings at 44.3% of EGShares India Infrastructure (NYSE:INXX). From a sector look, industrials take the top spot with 45.3%, followed by utilities (20.9%), basic materials (11.2%) and telecom (10.6%).

The fund has accumulated $67 million in its asset base while charges 85 bps in fees per year from investors. The ETF was down about nearly 6% on elevated volumes.

Long-term Outlook

Despite this slide, the outlook for the country is quite promising. India and its related funds are clearly outpacing the global market index and the fund from the year-to-date look. In fact, India is the top performer in the emerging market space this year.

This trend is likely to continue this year thanks to improving fundamentals, such as narrowing current account deficit, modest decline in inflation, stabilization of rupee and incredible foreign capital inflows. Further, the credit rating agency, Fitch, raised the country’s economic growth outlook from 4.7% in 2013 to 5.5% in 2014 and 6.5% in 2015 and 2016 each thanks to optimism surrounding the pro-reform Narendra Modi government. Moreover, the three products detailed above have a favorable Zacks Rank of 2 or 3.

However, the union budget (scheduled for tomorrow) could keep the stocks volatile or even push them down in the next few days if these fail to inspire investors’ confidence and boost growth in Asia’s third-largest economy. The market is speculating a fiscally prudent and reform-laden budget, which seeks to raise revenue while keeping spending under control. As such, investors should keep a close eye on the developments in the budget and wait for an attractive entry point.

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