The dominance of top stocks in the Nifty-50 index is near an all-time high, with the top five stocks comprising nearly 42 per cent of the index weight and the top-10 forming accounting for more than 62 per cent. The respective weights stood at 37.1 per cent and 56.4 per cent two years ago when polarisation --- a phenomenon where money chases select stocks – began to gain ground.
The weightages for the Nifty 50 components are computed using the free-float market capitalisation
Sector concentration has inched up too, with four sectors -- financial services, oil & gas, information technology, and consumer goods -- comprising nearly 77 per cent of the weight in Nifty 50, exchange data shows.
"Given the risk aversion among investors at this point in time, polarisation may continue going forward till such time the economic recovery gains visibility and investors become confident enough to bet on other names. Lower interest can be a positive catalyst for this change," said Sailesh Raj Bhan, deputy CIO - equity, Nippon India MF.
Stocks like Reliance Industries and HDFC Bank, in fact, have a weight of more than 10 per cent each. While latter has had a weight in excess of 10 per cent for more than a year, RIL had a weight of a 8.77 per cent as on March 23 this year and 7.4 per cent two years ago. The only other time a stock had a weight in excess of 10 per cent was in early 2008, when RIL had breached the threshold, according to experts.
HDFC Bank and Reliance Industries have surged 44 per cent and 105 per cent, respectively since March 23, significantly outperforming the Nifty which gained 41 per cent. The companies contributed 7.3 per cent and 8.6 per cent of the total profit after tax of Nifty 500 companies.
RIL has been in news due to an investment spree in its digital subsidiary Jio Platforms over the past few weeks, which has helped it trim its debt. The company also hit the market with a rights issue of Rs 53,000 crore.
Fund managers can lose out if both these stocks continue their upward trajectory as they cannot buy more than 10 per cent in a single stock according to current regulations. In addition, individual fund houses could have softer limits that prevent buying a stock above certain thresholds, say 5 per cent or 7.5 per cent of the overall scheme holding. An equity scheme typically invests in 45-60 stocks.
"Stocks that have a weightage higher than 10 per cent in the Nifty 50 index could pose a challenge to fund managers owing to the existing regulatory as well as softer limits on exposure to a single stock. For now, this is not a significant set of companies, but some cap in indices on single stock weights will be helpful so that it do not impact performance of large cap schemes," said Neelesh Surana,. CIO, Mirae Asset Global Investment.
Experts believe large cap schemes can be impacted unless the market breadth improves and there are enough number of stocks that can compensate for the underperformance.
The pandemic is expected to tip the scales further in favour of companies with higher market share and well-entrenched businesses. This may exacerbate the problem of polarisation further.
According to Surana, stocks can be bucketed into three categories. The first set comprises large companies that have seen significant inflows and high investor interest. These stocks are still reasonably valued and are unlikely to see a price correction.
The second bucket comprises stocks that are expensive and includes consumer facing businesses which are currently trading at high price to earnings multiples. These may time correct.
The third bucket is made up of beaten down stocks and includes several public sector companies, utilities and metals. Some of these are sound businesses and sector leaders.
"For a market to see a more broad-based rally going forward, the third bucket has to garner more interest. This has already happened with the pharma sector, which was beaten down and saw a smart rally in the last couple of months," he concludes.