Your Questions Answered: How is the Nifty 500 Index different from Nifty 50? Please elaborate

Q. I am a marketing executive working at a MNC in Thane, my wife is also working in the same company as an accounts executive. We have been investing in the large-cap sector, in mutual funds tracking Nifty 50 and Sensex, we now want to diversify our investment and invest in other index funds. Many of our acquaintances have suggested investing in the Nifty 500 Index, can you please elaborate on it, its pros and cons and how it is different from the Nifty 50?

Sammer Prajapati, Thane, Maharashtra

The Nifty 500 Index is a flagship index on the National Stock Exchange of India (NSE), representing the top 500 companies selected across 72 sectors. It offers a broad-based reflection of the Indian economy through its comprehensive coverage of market capitalization and liquidity. The index is designed to reflect the performance of the large, mid, and small-cap segments of the Indian equity market, making it a unique barometer for investors and market analysts.

Understanding the Nifty 500 Index

The Nifty 500 Index is a free-float market capitalization-weighted index that captures approximately 93% of the free-float market capitalization of the stocks listed on the NSE. This extensive coverage makes it an ideal benchmark for diversified equity funds and a reference point for investors looking to understand market trends.

Eligibility criterion to be part of Nifty 500 Index

To be eligible for inclusion in the Nifty 500 Index, there are several criteria that a company must meet:

Listing: The company must have its equity shares listed on the NSE.

Market capitalization: The company should rank within the top 800 stocks on the NSE based on full market capitalization.

Trading frequency: The stock must have traded for at least 90% of the trading days in the last six months.

Exclusions: Convertible stock, bonds, warrants, rights, and preferred stock that provide a guaranteed fixed return are not eligible for inclusion.

Eligible universe: The company must form part of the eligible universe, which includes all equity shares listed on the NSE.

The Nifty 500 companies are further disaggregated into industry indices known as Nifty Industry Indices. The methodology document for equity indices provides detailed information on the eligibility criteria and selection process for the Nifty 500 Index.

It’s important to note that the index is reconstituted semi-annually, and the eligibility criteria are subject to change based on the index governance committee’s decisions. Investors and companies alike keep a close watch on these criteria, as inclusion in the Nifty 500 Index can significantly affect a stock’s visibility and trading volumes.

Investment and analysis

For investors, the Nifty 500 Index serves as a gateway to India’s diverse stock market. It is used by mutual funds and portfolio managers as a benchmark for performance comparison. The index also aids in the creation of index funds, exchange-traded funds (ETFs), and structured products. Analysts often use the Nifty 500 to gauge the overall health of the economy, as it encompasses a wide range of companies from various industries.

Investing in mutual funds that track the Nifty 500 index can be an attractive option for investors looking to gain broad exposure to the Indian stock market. The Nifty 500 index encompasses a wide array of companies across various sectors, This comprehensive coverage makes it a significant choice for those seeking diversified investment opportunities. However, like any investment, it comes with its own set of advantages and challenges.

Differences between Nifty 50 and Nifty 500

Number of constituents: Nifty 50 includes the top 50 companies by market capitalization on the NSE. Nifty 500 comprises a broader spectrum of 500 companies, including all constituents of the Nifty 50.

Market coverage: Nifty 50 focuses on large-cap stocks, providing insights into the performance of the largest and most influential companies in India. Nifty 500 offers a wider representation of the Indian market, including large, mid, and small-cap stocks

Investor focus: Nifty 50 is suitable for investors focusing on large-cap stocks and seeking stability and consistent dividends. Nifty 500 is ideal for investors looking for diversified market exposure and growth opportunities across various sectors.

Liquidity: Stocks in the Nifty 50 are generally more liquid, facilitating easier buying and selling. The Nifty 500 includes stocks with varying levels of liquidity, requiring more research and understanding due to its extensive nature.

Pros of investing in mutual funds tracking the Nifty 500 Index

Broad market exposure: One of the primary benefits of investing in a mutual fund tracking the Nifty 500 index is the broad market exposure it offers. Investors gain access to a basket of 500 companies, which includes not only well-established firms from the Nifty 50 but also emerging players across different sectors. This diversity helps in spreading the risk and reducing the impact of any single company’s performance on the overall investment.

Diversification: Diversification is a key strategy in managing investment risk. By investing in a mutual fund that tracks the Nifty 500 index, investors can achieve instant diversification. This is because the index covers a vast spectrum of industries and sectors, which can potentially smooth out volatility and provide a more stable investment experience over the long term.

Cost-efficiency: Index funds are known for their low expense ratios compared to actively managed funds. Since the fund simply replicates the index, there is no need for a fund manager to actively select stocks, which reduces management fees. This cost-efficiency can be particularly beneficial for long-term investors.

Cons of investing in mutual funds tracking the Nifty 500 Index

Potential over-diversification: While diversification is generally beneficial, there is such a thing as over-diversification. With 500 companies in the mix, the impact of high-performing stocks may be diluted. Additionally, the inclusion of a large number of stocks could mean that the fund holds positions in companies that do not contribute significantly to returns, potentially limiting the overall growth of the investment.

Taxation

The returns from mutual funds are mainly categorised into two types of income: dividends and capital gains. For mutual funds tracking the Nifty 500 index, which are classified as equity funds, the taxation on capital gains is determined by the holding period of the investment:

Short-Term Capital Gains (STCG): If the units of the mutual fund are sold within one year of purchase, the gains are considered short-term and are taxed at a rate of 15%.

Long-Term Capital Gains (LTCG): For units sold after a holding period of more than one year, the gains are classified as long-term. Investors enjoy an exemption on gains up to ₹1 lakh per financial year, and any gains exceeding this amount are taxed at 10%.

It’s important to note that no tax is payable as long as the units are held and not sold.

In conclusion, mutual funds tracking the Nifty 500 index offer a way to invest in a broad cross-section of the Indian stock market. They provide diversification, broad market exposure, and cost-efficiency, which are attractive features for many investors. However, potential investors should be aware of the challenges, including lower liquidity for some stocks, the need for more comprehensive research, and the possibility of over-diversification.

As with any investment decision, it is crucial to align the choice of index fund with one’s investment goals, risk tolerance, and time horizon. For those who are willing to delve into the intricacies of the Nifty 500 index, the potential for a diversified and representative slice of the Indian market can be a compelling proposition.

Disclaimer: Investing in mutual funds involves risks, including potential loss of principal. Please consult with a financial advisor before making any investment decisions.

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