MUMBAI: From being a niche product to becoming a mainstream investment scheme, index funds have come a long way. The surge in investments in index funds over the past few years reflects the growing trust of investors in these funds.
Figures reveal the rising popularity of index funds in India. According to the Association of Mutual Funds in India (AMFI) data, net inflows in index funds have more than tripled. The total net inflows in index funds were R79,356 crore in 2022 as against R24,858 crore in 2021, showing a surge of 219%.
An index fund is a type of mutual fund that tracks a specific market index, such as the S&P BSE Sensex or the Nifty 50. The fund’s portfolio is designed to match the performance of the index it tracks, making it a low-cost and diversified investment option.
One of the main reasons for the increasing popularity of index funds in India is the realisation that it is difficult for actively managed funds to consistently outperform their benchmark index. According to a study released last year by Morningstar, only 26% of actively managed large-cap funds in India have been able to outperform the S&P BSE 100 index over the past 10 years.
This has led many investors to opt for index funds, which provide returns that are similar to the market without the added risk of underperformance. “Increasing interest in index funds is evident through the steady increase in inflows in such funds and the increasing proportion of index funds as a percentage of overall assets managed by the asset management industry,” Nirav Karkera, Head of Research at Fisdom, a wealth-tech platform told TNIE.
“One reason is the preference for large-cap index funds over actively managed large-cap funds on account of its outperformance at a lower cost. Periods like 2019, 2020 and 2022 showcased large cap indices as a more efficient route to performance versus active counterparts,” he added. “While index investing has been largely associated with equities, the number of innovative indices serving as an underlying to a variety of debt funds are helping investors diversify and allocate to fixed income more strategically and efficiently,” Karkera said.
Diversification is another reason behind the success of index funds. Index funds provide investors exposure to a broad range of stocks, which reduces the risk of investing in a single stock or sector.
This is especially important for retail investors who often tend to invest in individual stocks, which can be risky and subject to market volatility.
Consistent rise in inflows
Official data shows the rise in inflows in index funds is consistent. Whether it is monthly or quarterly data, they all indicate growing trust of investors in these funds. According to AMFI data, total net inflows in such index funds increased to R20,412 crore in the third quarter of financial year 2022-23 from R11,549 crore in the same quarter in 2021-22, reflecting a jump of 77%.
Similar growth is visible in monthly inflows as well. The net inflows in these funds increased to R6,736 crore in December 2022 compared to R4,515 crore in 2021, showing a year-on- year rise of 49%.
As a result of the rise in inflows, the Assets under Management (AuM) have also increased substantially. The net AuM of index funds increased to R1.29 lakh crore as on December 31, 2022 which was at R45,429 crore as on December 31, 2021.
More growth ahead
The future is bright for index funds in India, say experts. “The popularity of index funds is set to rise further among retail investors. They have a lower expense ratio, offer diversification, and are easy to invest which make them ideal for retail investors,” a senior official of an Asset Management Company said.
The choice to invest in a mutual fund depends on investors’ risk tolerance and investment objectives. Index funds are appropriate for risk-averse investors who want predictable returns and are willing to remain invested for the long term.
“As far as investment period is concerned, for any equity-oriented index fund, a time horizon of at least five years should serve as a good starting point with modifications per appetite,” said Karkera.
“Another modification to the horizon could be on the basis of the type of index.
For instance, a thematic or factor-based index may need a longer time horizon to perform across fuller cycles relevant to it. For debt indices, the time horizon should be aligned considering effective maturity of the index constituents in aggregate,” he added.
A shift towards passive funds
Rs 79,356 crore: Net inflows in index funds in 2022
Rs 24,858 crore: Net inflows in index funds in 2021
219%: Change over previous year
Rs 6,736 crore: Net inflows in index funds in December 2022
Rs 4,515 crore: Net inflows in index funds in December 2021
49%: Change over previous year
Rs 1.29 lakh crore: Net Assets Under Management as on December 31, 2022
Rs 45,429 crore: Net Assets Under Management as on December 31, 2021
184%: Change over previous year