We all know Nifty 50 index constituents are regularly updated (once every 6 months, see details here). Over a period of time, these small occasional changes have led to a big change in Nifty. So the Nifty50 of the year 2000 is a very different animal to that in the year 2021.
I found a useful comparison here. Here is the summary below:
As you can see:
- In the year 2000, the IT sector had the highest weight of 25%.
- In the year 2004, the Oil & Gas sector had the highest weight of 21%.
- In the year 2008, the Oil & Gas sector once again had the highest weight of 19%.
- But from the year 2012 onwards (i.e. in 2012, 2016, 2020, and 2021), it is the BFSI sector or (Banking & Financial Services Industry) that has gradually climbed up the top of sector charts. It currently stands at close to 37-38%.
It’s pretty clear that over the years, there has been a sort of Financialization of the Nifty50 index. The weight of the BFSI sector has risen steadily. That also means that if on any day the banking and financial sector has a very bad day, then the entire Nifty50 index will have a poor day too. At times, this has led to some of the biggest crashes in Nifty.
The major contributors in the increase of weightage of the BFSI sector in the index have been the private sector banks and NBFCs (like HDFC Bank, ICICI Bank, Axis Bank, Kotak Bank, Bajaj Finance, etc.) and not PSU banks, which have surely lost the favor of investors over the years.
You can check the latest month-end sector weights of Nifty50 here. Below is the latest snapshot as of May 2021:
Another issue I have highlighted earlier is the concentration risk in Nifty 50. At one time in late 2020, the Top-3 stocks in Nifty50 accounted for 32%, Top-5 for 44, and the Top-10 for 62%. So Nifty isn’t as diversified as it seems. It’s a pretty top-heavy index.
This company-level concentration risk is in addition to the sectoral heaviness at the top. In today’s case, it’s BFSI.
In fact, this change in sectoral weightages isn’t just an optical one. It has other repercussions as well.
As I had explained in detail in the post Nifty P/E Ratio: Few Important Facts, even a casual look at the index composition will tell you how different the index is today (in 2021) than it was in the year 2000 or 2005. The index composition is now managed very actively and regularly (link) and hence, the weightage of sectors/industries in the index changes over time. Now all sectors aren’t the same. And these different sectors/industries have different PE ratio ranges that are considered normal for that industry or sector. Due to their very nature, some industries will have higher PE than normal while others will have lower PEs than normal. So if the index is made up of a large number of companies that have low PE in general, then the PE of the index will also be low accordingly. While if the share of high-PE companies increases in the index, then so will be the impact on index PE as well, i.e. it too will tend to remain high comparatively. Isn’t it? As a hypothetical example, assume the index is made up of 5 companies equally. In year 1, these companies are from low-PE industries and hence, have PE of 11, 12, 13, 14 & 15 during normal (fair value) years. The index PE is 13. Now in a bull market, the PE of these companies rises to 17, 18, 19, 20 & 21. The index PE also rises to 19. Now after about 10+ years, the index constituents have changed. The companies primarily belong to high-PE industries and hence, have PE of 21, 22, 23, 24 & 25 during normal (fair value) years. The index PE is 23. Now in a bear market, the PE of these companies falls to 17, 18, 19, 20 & 21. The index PE comes down to 19. As you can see, the index PE is 19 in both cases. But if you compare it with their inherent normals, the first_PE of 19 shows overvaluation, while second_PE of 19 shows undervaluation. And that is what needs to be kept in mind when comparing index PEs across years. That due to the nature of the companies in the index, it’s possible that the definition of fair, under, and overvaluation will change to some extent. So the optical Nifty PE levels can remain elevated for long periods of time. But that doesn’t mean that they are necessarily overvalued. It might also mean that the constituent companies are such that the new normal has shifted.
Note – PE ratio is used correctly and with situational awareness, can help one see the correlation between Nifty Returns Vs PE Ratio. But this is just one factor to consider among many others when taking investment calls. Also, the Nifty 50 PE until March 2021 used standalone numbers. Since April 2021, the PE considers consolidated earnings and hence, has reduced substantially as consolidated earnings are higher than standalone earnings.
So that was about the changes in weights of different sectors of Nifty 50 over the last 20+ years.