SME IPO: A BUBBLE ?

Past told us 86% probability of profits . Does future say the same ?

We’ll begin by looking first at the growth numbers of the SME Index:

This tells us that within 5 years this Index has grown ~6000% (Note that this return is not annualized)

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But this looks as an inorganic growth when it comes to any index, this kind of growth can never or should not be seen in an Index.

This can better be explained with an analogy - When we consider the SmallCap Index of India, we can see that the growth numbers are in the north of 300% growth in 5 years (again, not annualized).

This tells us that there is some or the thing which is affecting it, and it is definitely not the fundamentals of the stocks.

Now we’ll go through the key-factors specific discussion:

Fundamentals

There’s a hardcore truth that one needs to understand. When it comes to the fundamentals of the SME stocks, they are not attractive to justify the 6000% growth in 5 years.

“Don’t consider market returns; consider business results.”

What I mean by that is, look at how businesses are adding value rather than the stock performance.

Then what is different in these stocks that they are growing at this massive rate?

Demand supply problems:

What has happened after the covid pandemic is that there has been a demand supply imbalance in the market.

A lot of market participants are applying for these SME IPOs. Even the HNIs and the QIBs have been applying for these IPOs in big amounts looking at which even the retail category starts to bid without even looking at the basic financials.

Following is just a small example of the subscription data of a company which is a part of SME IPO:

This astounding risk-appetite spins our heads. Don’t they?

Investor Appetite – Snowball Effect

This demand supply imbalance is majorly due to what is called - the snowball effect.

We can also see that in 2024, 128 SME IPOs got listed out of which almost 110 were in profits at the end of the listing day.

So ~86% of the listings were in profits on listing day!

This tells us that there is a probability that if you randomly apply for any SME IPO there is ~86% chance you will make profits.

Looking at this people are more and more getting attracted to this, without even thinking that there is a chance of manipulation by the big players in the market.

When Such a phenomenon happens, it ends up into a growth trap.

When everyone is chasing growth stocks, these stocks become favorite and expensive, and investors tend to ignore the basic parameters of investing, like valuations, earnings and dividends and there will be a time when people won’t even realize that their 3x-4x profits have turned into 70-80% losses.

Herd Mentality

This Herd mentality of people will one day get them into trouble as emotions can get in the way of sound investing and people will have regret aversion bias and invest into fundamentally weak stocks and the big players would manipulate and put the others into losses.

SEBI regulations:

Even the SEBI has taken many initiatives towards SME IPOs by putting a cap on to the listing day gains (at 90%).

These stocks have less regulatory requirements when compared to the main board stocks therefore any company which fulfills certain conditions as per the SEBI can list on the SME board.

To invest in the SME IPOs the minimum lot size is huge, as per SEBI this rule was created so that retail public who does not have the capacity to bear such risk would not enter but due to the demand even the people who cannot bear such risks are entering into the SME IPOs.

Conclusion:

Looking at all the factors listed above, we can say that SME IPO’s are a highly risky bet and there is a high chance this will turn into a bubble and burst in the future. While investing in SME IPO’S one should keep in mind the risk factors as well as study the fundamentals of the company and mitigate the regret aversion bias.