Know More About Index Funds

Hemant Rustagi
Chief Executive Officer, Wiseinvest Pvt Ltd.

Index funds are passively managed funds that track an index. When you invest in an index fund, your money gets invested in the companies that make up that particular index, which gives you a more diverse portfolio. Besides, these funds are free from any bias a fund manager may have towards a set of sectors or stocks. Moreover, there are a variety of index funds on offer and that makes it possible for you to choose funds with different combinations of sectors and stocks. The flip side is that you forfeit the chances of outperforming the market. 

Passive investing can be followed through index funds as well as exchange traded funds (ETFs). While both are passively managed funds, there is a difference in how you can buy and sell them. Index funds can be bought and sold directly from mutual funds. However, ETFs are traded on the stock exchange like stocks. Hence, you must have a demat account to transact in them. Both index funds and ETFs have lower expense ratio as compared to actively managed funds. However, ETFs have lower costs than index funds.

Index funds can play an important role in the portfolios of both new as well as experienced investors, especially those who may want to build a portfolio that is free from human bias. Index funds offer more transparency as you are aware upfront about which stocks will be a part of the portfolio and in what proportion. Of course, you must be careful while selecting index funds to avoid overlapping as well as to ensure that there is proper understanding of the index that is being tracked by the fund. 

While deciding the extent of indexing the portfolio, you must remember that fund managers have the opportunities to outperform the stock market and create alpha over the longer term. Therefore, a combination of active and passive funds can work better. Let’s understand what a variety of index funds have to offer to you:

■ Nifty 50 Index Funds: These funds track the Nifty 50 index. The Nifty 50 is a 50-stock, float-adjusted market-capitalisation-weighted index for India. It is used for a variety of purposes such as benchmarking fund portfolios, index-based derivatives and index funds.

■ Nifty Next 50 Index Funds: These funds track the Nifty Next 50 index. The Nifty Next 50 index represents 50 companies from Nifty 100 after excluding the Nifty 50 companies. 

■ Nifty 150 Mid-Cap Index Funds: These funds track the Nifty 150 Mid-Cap index which is designed to track the performance of companies with a mid-sized market capitalisation. It consists of 150 companies. 

■ Nifty 50 Equal Weight Index Funds: These funds track the Nifty Equal Weight index that represents an alternative weighting index strategy to its market capitalisation-weighted parent index, the Nifty 50. The index includes the same companies as its parent but are however weighted equally

■ Nifty NV 20 Index Funds: These funds track the Nifty 50 Value 20 index that is designed to reflect the behaviour and performance of a diversified portfolio of value companies forming a part of the Nifty 50 index. It consists of the 20 most liquid value blue chip companies listed on the NSE.

■ Nifty 200 Momentum 30 Index Funds: These funds track the Nifty 200 Momentum 30 index (NM30) that captures the performance of the top 30 companies with high momentum within the Nifty 200 index. The rebalancing exercise is done on a semi-annual basis i.e. some stocks are retained and some are replaced with new picks.

■ Nifty 100 Quality 30 Index Funds: These funds track the Nifty 100 Quality 30 index that includes the top 30 companies from its parent Nifty 100 index, selected on the basis of their ‘quality’ scores. The quality score for each company is determined based on return on equity (ROE), financial leverage (debt to equity ratio) and earning (EPS) growth variability

■ Nifty 100 Low Volatility 30 Index Funds: These funds track the Nifty 100 Low Volatility 30 index that measures performance of the 30 least volatile stocks in the Nifty 100. Volatility is measured as standard deviation of stock returns over a one-year period.