Should you invest in the SBI NIFTY50 Equal Weight Index Fund?

SBI Mutual Fund has launched the SBI Nifty 50 Equal Weight Index Fund, an open-ended scheme replicating the Nifty 50 Equal Weight Total Return Index (TRI). An equal-weighted (EW) index is where an equal amount of money is invested in the stock of each company that makes up the index. Thus, the performance of each company’s stock carries equal importance in determining the total value of the index. Currently, five Asset Management Companies (AMCs) — DSP, HDFC, Aditya Birla, UTI, and ICICI Prudential — offer this product.

The NFO closes on January 29.

Nifty 50 and Nifty 50 EW difference

The Nifty 50 index is a market capitalisation-weighted benchmark comprising the top-50 Indian companies. Consequently, larger companies exert greater influence due to their higher weights in the index. This characteristic makes index funds tied to the Nifty 50 more likely to outperform during phases of market polarisation.

In contrast, the Nifty 50 Equal Weight (EW) index allocates equal weights (2 per cent) to all constituent companies. Index funds tracking the Nifty 50 EW are poised to outperform during broad-based market upswings. So, the EW strategy mitigates momentum bias and predominantly relies on mean reversion within the NIFTY 50 stocks.

But all the weights wouldn’t be the same in any EW index. These weights may temporarily deviate due to market price fluctuations. So, the corrective measure for these deviations is implemented through quarterly rebalancing.

On the sectoral composition front, the Nifty 50 exhibited the highest allocations in Financial Services (35.2 per cent), followed by IT (13.6 per cent), and oil, gas & consumable services (11.4 per cent). In contrast, the sector weights in the Nifty 50 EW index were 19.9 per cent, 11.8 per cent, and 7.9 per cent, respectively. Although the Nifty 50 EW demonstrates lower weight in terms of allocation to the top three sectors, it exhibits an overweight position in Healthcare, Automobile & Auto Components, Metals & Mining, Construction Materials, and Chemicals, as illustrated in the table below.

Although an EW index fund reduces the concentration risk in terms of both constituents and sectors, rebalancing an EW index increases portfolio turnover, leading to higher transaction costs and potentially impacting expense ratios.

Performance

In the last 10 years, the CAGR of Nifty 50 and Nifty 50 EW TRI were fairly similar. Over the three- and five-year periods, the equal-weight variant outperformed the conventional index by 4-7 percentage points. While considering the past 24 calendar years, the Nifty 50 EW outperformed Nifty 50 in 15 out of 24 times.

A closer examination reveals instances such as 2018, where the EW index posted negative returns, while the Nifty 50 remained positive. Similarly, in 2015, the Nifty 50 EW experienced higher negative losses compared with the Nifty 50. These variations can be attributed to market polarisation, where heavyweight stocks such as HDFC Bank, Reliance Industries, and HDFC Ltd (now merged with HDFC Bank) witnessed strong rallies. In a broader context, the Nifty 50’s average calendar year return is 17.3 per cent, which is 313 basis points lower than that of the Nifty 50 EW.

Our take

For risk-averse investors seeking a more diversified portfolio, EW index strategy is a suitable investment. However, do remember that EW strategy, which follows a buy-low-sell-high strategy, may underperform in case of prolonged rallies of few stocks. Additionally, EW index funds can have higher expense ratio compared with the conventional index fund due to frequent portfolio churning. But investors with a long-term perspective who prioritise diversification can park a portion of their capital.

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