BSE building.
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In 2008, Warren Buffett challenged the hedge fund industry, criticising their high fees and lackluster performance. One hedge fund accepted the bet. In 2017, the hedge fund conceded defeat. Buffett’s argument was that an S&P 500 index fund is a broad index that will have all types of companies and as a company grows, so does its weight in the index.
Also, with lower fees and limited churn by design, the index would outperform a selected portfolio of hedge funds over 10 years. Despite being proven wrong at the start, over the full decade, Buffett proved to be right.
This public bet opened a lot of discussion on various aspects of investing for investors. For example, should investors choose active funds or passive funds? Should we choose a broad index or a specialised index?
Active and passive investing represent two primary strategies for managing investment portfolios, each with its distinct approach and benefits. While active investing is about stock picking and making sector bets, passive investing is rule based investing that aims to replicate the performance of a specific market index over the long term. This method involves minimal trading and is cost effective. The key advantage of passive investing is its simplicity. When investing passively through an index fund or exchange-traded funds (ETFs), one has to choose the underlying index wisely. If the index performs well, the investor will generate wealth. This straightforward approach is a major draw for many investors.
For Indian investors, one of the broad market indices worth considering is the S&P BSE 500 Index. The index offers a broad exposure to a diverse array of stocks, spanning various market capitalisations, from large-cap to mid-cap and small-cap companies, providing investors with a comprehensive overview of the Indian stock market.
Understanding the index
The S&P BSE 500 Index, is a unique index that represents nearly 93% of the total market capitalisation on the Bombay Stock Exchange (BSE). The index is created by selecting companies based on criteria such as market capitalisation, liquidity, and trading volume. It tracks the performance of the top 500 companies listed on the BSE, providing a comprehensive view of the market.
Covering 20 major sectors of the Indian economy, the S&P BSE 500 is highly representative of the market and is known for its high liquidity, ensuring easy buy and sell transactions for investors. This index is calculated based on the free-float market capitalisation of its constituent companies, a method that provides a more accurate representation of a company’s market value. Periodic reviews ensure the index accurately reflects current market conditions. These unique features make S&P BSE 500 Index an attractive investment proposition for passive investors.
Investing in the S&P BSE 500 offers several advantages, such as broad market representation and diversification across 500 companies, reducing the risk associated with individual stock investments. It has evolved into a critical benchmark for investors and traders, widely followed for its comprehensive coverage of the Indian equity market. Its total market capitalisation is around Rs 387 lakh crore, and free-flow market capitalisation stands at Rs 177 lakh crore.
Who should invest?
Investing in an index like the S&P BSE 500 is ideal for those seeking diversification across various sectors and themes. It requires low capital, enabling investors to start with limited financial resources while earning potential returns. Additionally, the index spans large, mid, and small-cap companies, offering comprehensive market exposure. It also includes a mix of defensive and cyclical industries, providing sustained growth opportunities. Then, it also offers exposure to conglomerates and companies, broadening market opportunities. Transparency is a key feature, with data available daily on the website, ensuring clear and informed investing. Investors can participate through an ETF or a fund of funds that invests in such an ETF, thereby making it accessible and flexible for all types of investors.
(The writer is Principal- Investment Strategy, ICICI Prudential AMC)