All that you wanted to know about Nifty IT ETF

We are living in the technology era. In the last 20 – 25 years, technology has been the biggest driver of change in businesses, industries and the global economy. The Top 5 companies by market capitalization in S&P 500 index (the index of the largest 500 companies in the US) are all technology companies e.g. Apple, Microsoft, Amazon, Alphabet (Google) and Facebook. People all over the world use products or applications of these companies in their day to day professional and personal lives. The transformative impact of technology on businesses and industries is going to accelerate in the future. Information technology is emerging stronger from COVID-19. Information technology companies, especially Indian IT companies can benefit from the following key opportunities:-

• Growing and new demand: IT spending is increasing around the world resulting in growing demand for IT services. Further, there is potential for new demand for IT services with advances in Artificial Intelligence, Cloud Computing, Cyber Security, Digital services etc.


• Unaffected delivery models: Technology / software service delivery is unaffected by supply chain disruptions. Many IT companies are using cloud based delivery services and this trend will accelerate in the future.


• Potential for improved margins: COVID has forced IT companies to re-look at their operating models and finding ways to be more agile / efficient. This has resulted in lower travel, facilities and marketing costs; higher operating margins. Also as IT companies grow their share of revenues from new products there is potential of incremental margin improvement.


• Currency upsides: INR depreciation versus USD will benefit IT services exporters.

India has played an important role in the growth of technology globally. India is known as the IT outsourcing capital of the world. Information Technology (IT) contributes around 7 – 8% of our GDP (source: Statista). IT services including IT outsourcing services, business process management and software exports, is a major forex revenue earner for India ($136 billion in FY 2019 as per Statista). IT is the second largest industry in Nifty 50 after banking and financial services.

The outlook for IT sector is bright and one may consider investing in the IT sectors. The top 5 IT companies by market cap are also Nifty 50 constituents and constitute nearly 17% of the Nifty 50 index (Source: NSE as on 31^st March 2021). However, investing in individual stocks require considerable expertise and experience. IT sector is especially difficult because it is constantly evolving and at a rapid pace. It may be difficult for retail investors to keep abreast with latest developments. As such investing in an IT index through IT ETFs may be good investment options for investors. Apart from benefits of diversification in IT ETFs, there are several other advantages which we will discuss later in this post.

Nifty IT Index

The NIFTY IT index captures the performance of the Indian IT companies. The NIFTY IT Index comprises of 10 companies listed on the National Stock Exchange (NSE). The NIFTY IT index captures the performance of the Indian IT companies. Companies in this index are those that have more than 50% of their turnover from IT related activities like IT Infrastructure , IT Education and Software Training, Telecommunication Services and Networking Infrastructure, Software Development, Hardware Manufacturer’s, Vending, Support and Maintenance.The NIFTY IT Index comprises of 10 companies listed on the National Stock Exchange (NSE). The composition of Nifty IT Index is shown in the chart below.

Source: National Stock Exchange, as on 31^st March 2021

Nifty IT Index – Wealth Creator for investors

Investors who have been following stock markets over the years may know that several companies in the Nifty IT Index have been major wealth creators for investors over the past two decades. The chart below shows the growth of Rs 10,000 investment in Nifty IT Total Returns Index (TRI) over the past 20 years (period ending 31^st March 2021). Your investment would have multiplied nearly 20 times in the last 20 years, giving your investments a compounded annual growth rate (CAGR) of more than 16%.

Source: National Stock Exchange, Advisorkhoj Research. Period: 1^st April 2001 to 31^st March 2021. Disclaimer: Past performance may or may not be sustained in the future.

Outperformance of Nifty IT TRI

Many investors think of IT as a defensive sector, which provides cushion to your portfolio in volatile markets, but cannot outperform in the long term. However, historical data shows that they can also outperform in the long term. The chart below shows the growth of Rs 10,000 investment in Nifty IT TRI versus Nifty 50 TRI over the last 20 years (period ending 31^st March 2021). You can see that IT outperformed even in the long term.

Source: National Stock Exchange, Advisorkhoj Research. Period: 1^st April 2001 to 31^st March 2021. Disclaimer: Past performance may or may not be sustained in the future.

Nifty IT ETFs

Exchange Traded Funds or ETFs are passive funds which aim to replicate the performance of a market index like Sensex, Nifty etc. Unlike actively managed funds, ETFs do not aim to beat the market benchmark index. You need to have demat and trading accounts with a stock broker to invest in ETFs. You can buy or sell ETFs in the stock exchange during market hours at prevailing market prices. You can also invest or redeem ETFs with the AMC in lot sizes specified by the AMC for the ETFs. Nifty IT ETFs are passive funds which track the Nifty IT Index.

Why invest in Nifty IT ETFs?

Though there are several actively managed sector funds which invest primarily in IT, investing in IT ETFs has several advantages:-

• Fund managers of actively managed schemes have to be overweight / underweight on some stocks / sectors relative to the benchmark. As a result there is some unsystematic risk (stock or sector specific risk) in addition to market risk in actively managed funds. ETFs, on the other hand, invest in a basket of securities which represent a particular market index. There is no unsystematic risk in ETFs; they are subject only to market risks.


• The NIFTY IT index is computed using free float market capitalization method. ETFs which track market cap weighted indexes automatically have lower weights for underperformers and higher weights for strong performers.


• The biggest advantage of ETFs is low cost. The TER of an ETF can be 1.5 to 2% lower than actively managed funds. On an investment of Rs 10 lakhs you may be gaining as much as Rs 15,000 – 20,000 every year in ETF compared to an actively managed fund (assuming same performance before expenses). Over long investment tenures this can result in considerable difference in returns due to the power of compounding.

Who should invest in Nifty IT ETFs?

Conclusion

Information Technology is one of most important industry sectors in our economy. Indian IT companies are transforming themselves from being the world’s leading IT outsourcing vendors to developing / providing tech products. The percentage of software products in India IT exports has been increasing over the last 10 years (source: Statista, FY 2009 – 2019) and we expect the trend to develop further in the future. IT companies in India are investing in new age technological capabilities like robotics / automation, Artificial Intelligence / Machine Learning, Big Data, cloud computing, advanced analytics etc. We think that the IT sector is well positioned to meet the challenges of the future and capitalize on the opportunities. Investors with long investment horizons can consider investing in IT ETFs to supplement their core portfolio of diversified equity funds. Investors should consult with their financial advisors if IT ETFs are suitable for their investment needs.