India’s Stock Market: An Introduction
Why am I writing about India’s stock market? Mainly, I am curious about the stock market of the largest democracy in the world and the fifth largest economy in the world (by nominal GDP). India’s two major stock market exchanges are the BSE (Bombay Stock Exchange) and NSE (National Stock Exchange). BSE is ranked 10th and NSE is ranked 11th in the world according to 2019 data.
Let’s dig in.
Bit of History: India’s Stock Exchanges
The stocks in India are traded in two primary indexes; the BSE (Bombay Stock Exchange) and NSE (National Stock Exchange).
The BSE, established in 1875, is one of oldest stock exchanges in Asia. However, the BSE was not recognized by Indian Government until August 31, 1957 under the Securities Contracts Regulation Act. In 1986, the S&P BSE SENSEX was developed to measure the overall performance of the exchange. Although its base value was set at 100 in 1978-79. S&P BSE SENSEX is the most tracked index in India and around the world. The index contains the 30 largest and financially sound companies across key sectors of India’s economy. The BSE exchange market cap is $2.1 trillion as of March 2019.
The NSE, the first electronic exchange in India, was established in 1992. It was recognized as a stock exchange in 1993 under the Securities Contracts Regulation Act. “Nifty 50” is one of the widely used indexes in India and around the world. It was launched in 1996. The index is composed of 50 of the largest and financially sound companies across key sectors of India’s economy. The NSE exchange market cap is $2.27 trillion as of April 2018.
Both BSE and NSE indexes are weighted by “float adjusted” market capitalization.
Float You Say!
Majority of stock market capitalization-weighted indices are float-adjusted. What do you mean by “float-adjusted”? Float-adjusted means that the index only counts “widely held” stocks (stocks available to the public). It excludes stocks held by governments or other companies or closely held stocks (i.e. stocks held by an owner or by controlling stockholders). While 97% of stocks in the S&P 500 in the United States is in public float, only 67% of stocks in the Nifty 50 index and 61% of stocks in the BSE SENSEX in India is in public float.
Stock Market Is NOT Representation of India’s Economy
The weightage of top 10 companies in BSE SENSEX 30 and Nifty 50 is approximately 70% as of August 2020, compared to 28% weightage of top 10 companies in S&P 500 index in the United States. So very few companies drive both the BSE SENSEX and Nifty 50 index. Thus neither indexes represent the entire economy of India.
According to Dr. Vaidyanathan, Professor of Finance and Control at the Indian Institute of Management (IIM) Bangalore, the corporate sector in India accounts for 12% to 14% of the National GDP compared to almost 70% of National GDP is derived from large corporations in the United States. The Indian economy derives a large percentage of income from the “unorganized” sector and household spending.
Low Equity Investment from Household Savings
Only a few percentage of household savings are invested in the equity market in India. According to the Handbook of Statistics On The Indian Economy Report by the Reserve Bank of India (2018-2019), investment in shares and debentures represent mere 2.5% of the incremental financial assets of the household sector in 2016-2017, while more than 50% of the financial savings are in bank deposits. It has been consistently low over the last two decades per RBI’s Handbooks of Statistics data. Furthermore, the report indicates that the majority, almost 60%, of the incremental financial assets of the household sector savings, is in physical assets (i.e. real estate, gold, vehicles).
Many articles report that 2% to 3% of India’s population invests in the stock market. In comparison, approximately 52% have invested in the stock market, mainly in the form of retirement accounts, in the United States according to this Pew Research Center report, and the stock market participation rate is approximately 15% in Japan and 7% in China.
There could be multiple reasons for the low percentage of household sector savings in equity investment such as lack of trust, lack of understanding of the equity market, and past experiences.
What About The Return!
I saved the best for the last! The annualized return of BSE SENSEX from its basis set at 100 in 1979 to 2019 is 15.8%, doubling your money every 4.6 years (based on rule of 72). The annualized return from 1990 to 2019 is approximately 13.0%, doubling your money every 5.5 years. Similarly, the annualized return of BSE SENSEX in the 21st century (2000 to 2019) is 12.4%, doubling your money every 5.8 years. And, this does not even include dividends. For example, if an investor in India had invested 10,000 INR (Indian Rupees) in 1979, 1990 and 2000, the table below shows its final value in 2019. In addition, based on data from any of these three periods, the stock markets returns in India are much higher than that of gold or bank deposits.
| Years Invested | Rupees (INR) | Annualized Return | 2019 Value (INR) |
|---|---|---|---|
| 1979 | 10,000 | 15.8% | 4,125,400 |
| 1990 | 10,000 | 13.0% | 393,645 |
| 2000 | 10,000 | 12.4% | 103,862 |
BSE SENSES Rolling Returns
If you look deeper, since 1979, there are several ten year periods with less than 10% annualized return. One of the “lost” decades, 1993 to 2002, the BSE SENSEX return was -2.1%. The returns are based on the March closing value of the index. Out of 32 rolling periods, 1 of 32 resulted in negative return. So this means there is 3% probability of negative return.
What about 20 years?
Any twenty years period since 1979, the annualized return of BSE SENSEX was more than 10%, except for three periods 2012, 2014, and 2020 where annualized return was 7.3%, 9.3% and 9.3%, respectively. The returns are based on the March closing value of the index. Out of 22 rolling periods, none resulted in negative return. So this means there is zero probability of negative return. The data indicates that increasing our investment time horizon would reduce probability of loss in the market.
Even with less than 3% of households assets represented in the equity market, less than 15% representation from the corporate sector in GDP, and a high degree of volatility, the annualized return over a long period of time (20+ years) is more than 10% not including dividend reinvestment.
Conclusion
So there you have it, a synopsis of India’s stock market.
Can you rely on the past performance of a relatively short stock market history, 41 years for BSE SENSEX since 1979? Nobody knows for sure. Although past performance is not a guarantee of future results, investors in India should consider investing a portion of their savings in “risky” investments such as equity to mitigate the risk of inflation.
According to World Bank data, the average inflation rate was approximately 8% from 1979 to 2019 in India. Since investment in gold and silver or bank deposits accounts may not be able to beat inflation, you should consider investing in the equity market to mitigate inflation risk. Sure, other investments such as real estate may be able to beat inflation as well. But for average investors, the equity market offers low barriers to entry and lower capital commitment compared to physical real estate.
What about diversification into the International market? Even though India is the fifth largest economy in the world, it’s share in the global economy based on nominal GDP is 3.3% according to International Monetary Fund (IMF) data. Investors in India should consider diversifying by investing in foreign markets under RBI’s Liberalized Remittance Scheme. Of course, you should consider currency risk and taxation before investing in foreign markets.
From 1979 to 2019, the annualized return of S&P 500 in the United States is approximately 8.8% without reinvesting dividends, compared to India’s BSE SENSES return of 15.8% for the same period.
Should US investors consider investing in India? This is the topic for a future post.
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