Why investors need not fear a commodity meltdown

The Glencore episode has stoked fears of another Lehman-like crisis, this time centring around commodity stocks. But investors do not have to worry too much, as the influence of commodity stocks on the Indian markets has been waning over the past seven years.

Due to continuous underperformance, Indian investors have shifted their preference from commodities to bank and information technology stocks.

This shift is apparent from an analysis of the share in the market capitalisation of various stocks in the Nifty basket. The proportion of commodity stocks in the Nifty basket stands at 12.6 per cent, based on the free-float market cap. This is down sharply from the 19 per cent at the end of June 2014, when the sharp decline in commodity prices began.

If we go back a few more years, to January 2008, the move from commodity stocks is starker. With the presence of a bunch of cement, oil and gas and mining stocks, commodities accounted for around 33.6 per cent of the Nifty’s full market capitalisation then. In fact, the top two stocks in terms of market cap then, ONGC and Reliance Industries, accounted for 20 per cent.

Towards the beginning of the bull market, in 2004, Reliance Industries accounted for the largest portion of Nifty’s market cap at 12 per cent. Other commodity stocks, such as GAIL and SAIL, were among other index heavy-weights then, accounting for a 31 per cent share.

This shift from commodity stocks has helped Indian investors. If we consider the performance of Nifty stocks between June 2014 and now, the worst hit are commodity producers. Vedanta, Tata Steel, Cairn India, Hindalco and ONGC top the losers’ list in this period with losses ranging between 45 and 71 per cent.

This is due to the sharp crash in commodity prices in this period with crude oil prices and metal prices plumbing new depths.

The Indian stock market has, however, been relatively insulated from this crash; the Nifty is up 5 per cent in this period. This is thanks to the increasing weight of non-commodity stocks in the index. IT and banking heavy-weights have the largest share of the free-float market capitalisation of Nifty currently.

With the top two sectors in the Nifty currently being information technology (17.5 per cent) and financials (31.1 per cent), the fortunes of these sectors are likely to have a bigger impact on the Nifty.

If we compare the composition of other global benchmarks, the developed countries’ bellwethers appear less vulnerable due to a lower proportion of commodity stocks in the index.

For instance, commodity stocks have only 9.4 per cent weight in the US benchmark, S&P 500. Japan’s Nikkei index and Germany’s DAX have a larger proportion of chemical makers in their index. In Brazil’s Bovespa and China’s Shanghai Composite Index, commodity stocks account for almost one-fifth of the index weight.

With the expansion of the financial services sector, banks and financial institutions dominate most indices including the Nifty, Jakarta Composite and the DAX. Growing popularity of internet companies in the US has, however, made the IT sector the largest weighted in the S&P 500.

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