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India’s Potential in Passive Investing

In Business
October 08, 2020

With the COVID-19 outbreak, 2020 will be marked in history as having one of the most acute pandemics that the world has had to experience.

The Passive Growth Story
The growth trends of passive investing in global and Indian markets are marking new trajectories. The rise of passive investing is the consequence of shortfalls in active performance, as shared in the S&P Indices versus Active (SPIVA®) scorecards. It is becoming apparent that there is increased difficulty in outperforming the market on a consistent basis both globally and in India. One category that stands out in its potential for passive allocation is the large-cap space, wherein the benchmark, the S&P BSE 100, has witnessed outperformance in most periods.

As of June 2020, global assets in passive products passed USD 6 trillion, with over 7,000 passive products. The U.S., with a market share of 69%, USD 4.3 trillion in assets, and over 2,000 products, is followed by Europe and Japan with market shares of 16% and 6.7%, respectively. The global asset mix is skewed toward equities, leading with a 71% share in assets at USD 4.4 trillion, followed by fixed income with a 20% share at USD 1.2 trillion. The S&P Dow Jones Indices Annual Survey of Indexed Assets shows a surge in S&P 500® indexed assets to USD 4.6 trillion as of December 2019. The growth in assets tracking the S&P 500 dwarfed the growth due to market gains, indicating a substantial increase in flows.

For India, the growth has been encouraging, with total assets under management in passive products at USD 25 billion and 86 passive products. Five years ago, the scenario in India included a mere USD 2 billion in assets and 57 products. A decade back had far less, with USD 1 billion and 26 products in the market. Hence, the progress made by the country has been remarkable, especially in the backdrop of a faster-paced active investing market. Two years ago, the exchange-traded fund market constituted 2.2% of the mutual fund industry, while in the first quarter of 2020 it was at 9.1%.

Diversification and Asset Allocation
Asset allocation models are critical to achieving a portfolio’s investment objective. The core and satellite strategy can be used for a diverse selection of indices as the core that provides the benefits of indexing, complemented by an active strategy as the satellite, thereby using a combination of a strategic and tactical allocation approaches to portfolio construction. A strong core provides stability and can contribute to risk mitigation, ultimately reaching the financial objective of the portfolio. Indexing offers
the benefits of diversification, lower costs, transparency, lack of fund manager bias, flexibility, and a variety of investment categories from which to choose. These options vary from standard market beta to factor-, theme-, or strategy-based indices. Region and asset class can further widen the gamut of options.

Given current uncertainties, diversification is a key risk management tool that ensures risk mitigation. Diversifying to international markets, different strategies, themes, sectors, etc. can help ensure the portfolio has less concentration risk. Furthermore, using indexing adds another layer of diversification.