The complete guide to Nifty 50 for Indian investors

Nifty 50 is the benchmark index of the National Stock Exchange, which includes 50 actively traded companies as a part of the Nifty’s composition. Read on to know Nifty’s history, to understand what Nifty is, or how to invest in Nifty or the significance of the Nifty movements, and how stock exchanges were born and hence, the Indian stock market was launched.

The Birth of Stock Exchanges:

NYSE is synonymous with trading stocks since many renowned companies from America are listed on the NYSE. Though the NYSE is one of the most powerful stock exchanges in the world, you will be surprised to know that The New York Stock Exchange wasn't the first stock exchange to influence the markets. VOC, The Dutch East India Company was the first-ever company to be listed on an official stock exchange in Amsterdam in 1611.

Robert Shiller, the renowned American economist called the VOC to be "the first real important stock" in the history of world finance. Later, the Dutch pioneered several financial innovations in the 17th and 18th centuries to help build the fundamentals of the modern financial system.

A Brief History of The Indian Stock Market:

Any study on the Indian Stock Market is incomplete without understanding BSE’s rise to glory and its equally illustrious fall.

History of BSE:

BSE was founded by Mr. Premchand Roychand, one of the most influential traders in the 19^th Century who was also known as the Cotton King and the Bullion King. The history of BSE traces back to 1855 when 22 stockbrokers used to gather under a big banyan tree in front of Town Hall, Mumbai.  The location was changed multiple times to fit in an increasing number of stockbrokers. Finally, in 1874, the brokers moved to their permanent location, aptly called Dalal Street. They became an official organisation known as The Native Share & Stockbrokers Association in 1875. Being a monopoly, trading volumes on BSE grew quickly.

In 1957, under the Securities Contract Regulation Act, 1956, India’s Central Government officially accredited BSE as the premier Stock Exchange of India. With around $2.3 trillion of market capitalization and more than 5500 publicly listed companies, BSE was the 10th largest stock exchange board in the world as of 2018. BSE listed companies include some of the biggest names in India including Infosys, Reliance Industries, etc.

History of NSE:

National Stock Exchange or NSE is another of the oldest stock markets in Asia. Founded in 1992, the NSE was the first dematerialized electronic exchange in India. It was established with sophisticated electronic trading systems to allow access to investors across the country. With the beginning of the wholesale debt market and a cash market section in 1994, inspired Indian Investors started making a beeline for it.

In the 18th century, the East India Company used to transact loan securities. In 2015 it gained a position in the world’s top 4 equity trading volume. NSE today, trades in the wholesale debt market along with equity and derivative markets.

The Rise of NSE:

Despite the presence of many regional stock exchanges, BSE was the undisputed leader in stock trading, before NSE’s launch in 1992. It had a huge number of companies listed on it and also higher trading volumes. However, retail investors from far-away towns had to route their buy/sell orders through a chain of sub-brokers to the main broker in Mumbai and ended up getting poor prices.

As William Pollard said, ‘The arrogance of success is to think what you did yesterday will be sufficient for tomorrow’. And that’s what led to the fall of BSE. The BSE broker lobby was against computerisation as it meant transparent prices and less room to fleece clients. Brokers opposed the idea of registering with the newly established market regulator SEBI. BSE also denied membership to financial institutions like UTI.

Finally, S.S. Nadkarni, the Chairman of IDBI asked R.H. Patil, the executive director at IDBI to form a stock exchange run by financial institutions. A firm believer in automation and paperless trading, Patil introduced the electronic order-matching system by linking trading terminals across India using V-SAT technology. This gave NSE a Pan India reach giving NSE its biggest advantage over BSE.

NSE’s advent on the scene radically changed the way stockbroking was conducted in India. Retail investors could now know stock prices in real-time and weren’t at the mercy of their brokers. Brokers could easily get a membership on NSE by paying a refundable deposit. In contrast, BSE continued to operate as an exclusive club. The membership was steeply-priced and not easy to come by.

BSE started expanding, but not soon enough. The head start NSE made quite a difference and it made a mark for itself in many of the smaller towns by the time BSE came calling. In less than a year, NSE overtook BSE in daily traded turnover, stunning veteran brokers who considered BSE invincible.

NSE’s position further strengthened after SEBI launched Derivatives trading in 2000. BSE was slow to react even then and did not move to upgrade its clumsy trading system even after many trader complaints.

What is Nifty?

Nifty is the flagship index of the National Stock Exchange and was launched on April 21, 1996. It is a 50 stock index (51 since the inclusion of Tata Motors DVR in April 2016), based on the float-adjusted market-capitalization-weighted method. It captures ~65% of the free-float market capitalization of the stocks listed on NSE. It represents most major sectors of the Indian economy.

Given its widespread acceptance, it attracts huge trading volumes and liquidity, in turn making in the barometer to measure the movement of the Indian capital market. It can be used for many purposes including as a benchmark for different mutual fund schemes, launching of index funds, ETFs, and other structured products.

It is owned and managed by NSE Indices Ltd. (formerly known as  India Index Services and Products Ltd. (IISL). The company specializes in providing a range of indices-related services & products for Indian capital markets.

Eligibility to be listed in Nifty:

For a company to be listed in Nifty, they are required to satisfy the unique eligibility criteria set by NSE.

These criteria include:

1. Liquidity:

Liquidity refers to how quickly and easily a stock can be bought or sold without affecting its price. Simply put if you are able to get a large quantity of a stock at the currently quoted price then the stock is liquid. NSE measures liquidity in terms of Market impact cost, the costs faced when actually trading an index stock. For a stock to be included in the NIFTY 50, it should have traded at a market impact cost less than or equal to 0.50% during the last six months and for a trade worth minimum Rs. 10 crores.

2. Float adjustment:

Free-float market capitalization is a measure of the market cap of a particular company that is available for trading. It is calculated by multiplying the share price by the number of shares readily available for trade. So it excludes locked-in shares including shares held by promoters. Simply put it is. For inclusion in the Nifty, the float-adjusted market capitalization of the particular company should be at least 1.5 times the average free-float market capitalization of the present smallest index component.

3. Trading frequency:

The Company’s trading frequency should be 100% in the last six months.

4. Listing history:

The Company should have a listing history of at least 6 months. For a recently listed company to be included in Nifty, it should fulfill the remaining criteria for a 3 month period instead of a 6 month period.
5. Company should be allowed to trade in the Futures and Options segment.

How is Nifty 50 calculated?

Nifty is computed using the float adjustment methodology where market capitalization is weighted, and the total market value of the stocks relative to a particular base period is reflected from the level of the index. Below are the formulas which we need to calculate the Nifty Index value of a stock.

Market capitalization = Share Price x Number of shares

Free Float Market Capitalization = Share Price x Shares Outstanding*IWF

Index Value = Current Market Value / Base Index Value

• *IWF or Investible Weight factor = (Shares Outstanding – Locked-in Shares)/ Shares Outstanding
• Base Index Value = Base Market Capital * 1000
• Base Market capital = The average market price of a group of securities at a specific time. Used for the purpose of indexing.

The index value is computed on a real-time basis every day.

What are the current constituents of Nifty and their weightages?

How can you invest in Nifty 50?

You can invest in Nifty through Nifty index funds or the Nifty ETF commonly known as NIFTYBEES. This enables you to invest in all the 50 companies. Nifty Index funds are the currently popular option due to slightly better liquidity and low fees.

You can also do short-term trades in Nifty using the Nifty options and futures contracts.

Nifty Index Funds:

Index Funds are mutual fund schemes designed to mimic a market index performance and composition.

Benefits of investing in NIFTY Index Funds:

• Since Nifty Index Funds entails mimicking the index itself, it requires very little effort on the fund manager’s part. Thus, they usually have a very low fee/expense ratio as compared to other funds.
• It also allows an investor to immediately diversify the portfolio by deploying the investment in multiple companies and sectors thereby reducing risk compared to investing in a single or small set of companies.
• Over time Nifty 50 replaces the underperforming companies at a market level with performing ones.
• Finally, over the long term Index funds have consistently generated inflation-beating returns.

How to choose a Nifty Index Fund?

There are two important factors to look at while choosing an index fund:

• Liquidity, and
• Expense ratio

Choosing a fund with high liquidity, allows you to buy and sell with no impact cost. Choosing a fund with a low expense ratio or fees improves your returns. Currently, the ICICI Nifty Index fund is popular.

Most index funds will give you similar returns. Thus, looking at past returns will be futile.

What is a Nifty ETF?

Similar to an index fund, an ETF (Exchange traded fund) is a basket of securities that tracks the underlying index. However, unlike mutual funds, require a Demat account and are traded like stocks. Thus, a Nifty ETF will track the Nifty index.

Nifty ETFs have become the popular option as compared to index funds due to higher liquidity and lower fees.

Nifty futures and options:

Nifty futures and options are derivative instruments used for direct trading in the Nifty Index. Derivatives are basically financial contracts that derive their worth from another underlying asset. These can be indices, stocks, currencies or commodities, etc.

Nifty futures refer to the contract that allows its buyer or seller to transact (buy or sell) the Nifty 50 index at a predetermined price for future delivery dates.

There are two Nifty options —call and put. The call option gives the buyer the right to buy the index at a preset price up to a specified time period. On the other hand, the put option gives its buyer the right to sell the index at a preset price at any time up to the contract’s expiration date. 

As an example, let’s assume a trader, named ‘A’ thinks Nifty will rise from 10500, A can buy one lot which is equal to 75 shares of Nifty futures by putting a margin at a fraction of the cost of the contract. A’s counterparty trader, named ‘B’ sells Nifty at that level. If Nifty rises to, 10600 ‘A’ has the right to buy the index at 10500 from B and sell it again at 10600, which makes ‘A’ gain Rs 7500 (Rs. 100 per share = 100×75). If the Nifty futures fall to 10400, the counterparty sells the futures to ‘A’ for 10500 even though Nifty trades at 10400, which means ‘A’ now faces a loss of Rs 100/share.

Besides, by paying a small premium (close to Rs 200 per share), A can buy a 10500-call option on Nifty. If the Nifty value jumps up by 100 points at expiry to 10600 the option value will increase by Rs 100. In this case, the seller of the option must fork out the money. However, the call buyer can also have an unknown loss if the Nifty value decreases to a similar extent.

Both futures and options are cash-settled, except where specified for an obligatory delivery by the exchanges.

What do Nifty movements signify?

Nifty is often used as an indicator of the entire market.

1. If the Nifty goes up, it means that most of the stocks on NSE went up during a particular period.
2. If the Nifty goes down, this tells that the value of most of the major stocks on NSE went down.
3. Nifty movement over a period of time also reflects the market sentiment of the country’s economic performance. If it keeps declining, it indicates an economic slow-down or depression.

While the above is largely true, there are times when the Nifty performance can be misleading. Like in 2019, where Nifty’s rally was driven by just 20% of the stocks and almost 80% of the stocks were negative.

Some other popular Nifty Indices include:

1. Nifty Media Index
2. Nifty Metal Index
3. Nifty Pharma Index
4. Nifty Auto Index
5. Nifty Bank Index
6. Nifty Financial Services Index
7. Nifty IT Index
8. Nifty Private Bank Index
9. Nifty PSU Bank Index
10. Nifty Realty Index
11. Nifty Financial Services 25/50 Index
12. Nifty FMCG Index
13. Nifty Consumer Durables Index
14. Nifty Oil and Gas Index

These industry-based indices help investors track the performance of individual sectors in the market.

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• Avoid These 5 Common Investment Mistakes While Investing
• How to invest in equity– A Guide for Beginners in India
• Stock Investing Made Simple – A Complete Step-by-Step Guide

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