Market pundits believe that the market rally this year is likely to be less concentrated and that polarisation — where a handful of stocks outperform the index — will become less pronounced in 2021.
The top five stocks contributed 42.4 per cent to the Nifty50 index, compared with 42.66 per cent in November. The top four sectors — financial services, information technology, oil and gas, and consumer goods — formed 79.1 per cent of index weight as of December.
Stocks such as Reliance Industries (RIL) and HDFC Bank now have a weight of 10.66 per cent and 10.37 per cent, respectively, compared with 11.17 and 11.21 per cent, respectively, in November. A few months ago, RIL had touched a weighting of 15 per cent.
RIL shares have slid 19 per cent from the 52-week high of Rs 2,368 it hit in September. The stock had more than doubled from its March lows and quadrupled since December 2016, with a weighting of 14 per cent on the Nifty50 index as of July 31. RIL had a weighting of 8.77 per cent as of March 23 and nudged past 10 per cent in June.
RIL was in the news in the last few months due to an investment spree in its digital subsidiary Jio Platforms. The company also hit the market with a rights issue of Rs 53,000 crore.
RIL shares have surged 117 per cent since March 23, outperforming the Nifty50, which gained 90 per cent. HDFC Bank shares have risen 91 per cent. The weighting for the Nifty50 components are computed using free-float market cap.
The steep run-up in RIL and its weighting had posed a challenge for fund managers as active funds aren’t permitted to hold more than 10 per cent in a single stock in a particular scheme. In addition, individual fund houses have softer limits that prevent buying a stock above certain thresholds, say 5 per cent or 7.5 per cent of the overall scheme holding. This means that fund managers do not get to participate in the stock’s outperformance if its weighting exceeds 10 per cent.
“The outperformance of a few stocks can pose a challenge for fund managers as they won’t be able to participate in the uptick owing to risk diversification parameters and softer single-stock limits. A lower stock weighting will make it easier for fund managers to beat the benchmark, and narrow the performance band among managers,” said Jaideep Bhattacharya, co-founder and director, DEEPTAM Advisors.
Typically, fund managers can generate alpha by taking exposure to outperforming stocks that are not index heavyweights. But in a narrow market, this becomes a challenge, particularly for large-cap schemes, which largely focus their investments in the top 100 stocks in terms of market value.
These schemes might underperform the indices unless market breadth improves and a sizeable number of stocks start to rally. A diversified equity scheme typically invests in 45-60 stocks.
The pandemic is expected to tip the scales further in favour of companies with higher market share and well-entrenched businesses. It remains to be seen whether this will lead to further polarisation.