Which index would be better for investment - Nifty 50 or Nifty 500?

Which index would be better for long-term investment - Nifty 50, or Nifty 500?

For me, NIFTY 500 is the preferred index to invest in. But it entirely depends on an individual’s risk profile and investment horizon.

NIFTY 50: Flagship Indian stock market index that represents the weighted average of the top 50 largest Indian companies listed on the National Stock Exchange (NSE).

NIFTY 500: It represents the top 500 Indian companies from the universe of around 2000 companies listed on the NSE. This index intends to measure the performance of the broader Indian market.

✓ Per NSE data, among 2000 companies listed on NSE, The NIFTY 50 Index represents about 66.8% of the free-float market capitalization vis-à-vis NIFTY 500 Index represents about 96.1% of the free-float market capitalization.

✓ Per NSE data, the total traded value of NIFTY 50 index constituents for the last six months ending March 2019 is approximately 53.4% of the traded value of all stocks on the NSE vis-à-vis 96.5% for NIFTY 500.

Before you choose which index funds to invest in let us ask ourselves which category of active funds you feel most comfortable investing in - Large Cap MFs or Flexi Cap MFs?

➢ If you are risk-averse and have traditionally invested in Large Cap Funds then NIFTY 50 or NIFTY 100 are good options for you in the passive space.

➢ However, if you like to take a slight risk in want of generating a slightly better return, or wish to invest beyond Blue chips, in emerging companies where growth opportunities are higher or if you have traditionally invested into Flexi Caps/ Multi Funds, etc., then NIFTY 500 index fund is a better option in passive space.

§ Comparison of constituents: NIFTY 50 vs NIFTY 100 vs NIFTY 500

	NIFTY 50	NIFTY 100	NIFTY 500
Giant (%)	87.93	77.20	59.15
Large (%)	12.07	21.40	19.52
Mid (%)	-	1.40	17.87
Small (%)	-	-	3.45
Tiny (%)	-	-	-

Source: As seen in Value Research Online on 09-Jun-2023 

So grossly speaking, NIFTY500 is 75% identical to what NIFTY 50 is. If invested into NIFTY 500, the extra 25% exposure into Next 50, Midcap, and Smallcap companies absent in NIFTY50 could generate a slight extra return at the expense of slightly higher volatility during the holding period.

Similar tactics of adding some mid-caps and small-Caps in the portfolio are often used by fund houses while constructing portfolios of diversified long-term equity portfolios e.g. Flexi-cap MFs vis-à-vis Large-cap MFs. To establish the analogy of investing in Large-cap Active MFs and Flexi-cap Active MFs, I would like to showcase the below table. Please notice the higher exposure in Mid-caps and Small-caps that the same fund house has taken in their Flexi-cap MFs in comparison with their Large-cap MFs presumably in the hope of slightly better return. 

	ABSL Frontline Equity (Large-cap)	ABSL Flexi-cap	Franklin Blue-chip (Large-cap)	Franklin Flexi-cap	SBI Blue-chip (Large-cap)	SBI Flexi-cap
Giant (%)	66.71	51.38	72.44	52.24	59.74	54.19
Large (%)	21.71	21.17	21.70	23.08	27.58	21.08
Mid (%)	11.58	23.31	5.86	16.89	12.68	21.81
Small (%)	-	4.13	-	7.78	-	2.93
Tiny (%)	-	0.01	-	-	-	-

Source: As seen in Value Research Online on 09-Jun-2023 

And indeed better return expectations were met by Flexi-caps in long time horizons (please see picture-A below). It is to be noticed, that for 3-year and 5-year trailing returns, the Flexi-cap MF of a respective fund house has not been able to consistently beat the Large-cap MF of that same house, but when invested for a decade, all three fund houses' Flexicaps have beaten Largecaps of the same fund house consistently.

I have randomly selected three old fund houses that have decade-long performance history. The point is, despite having the same equity research team inputs and market outlook of the same fund house, the Flexi-caps beat the Large-caps by taking slight Mid-cap and Small-cap exposures when invested for the long term.  

Picture A: Traling return comparison of 3 years, 5 years, and 10 years for Flexicaps vs Largecaps. 

Does it mean that NIFTY500 index funds will always outperform their peer of NIFTY50 index funds? 

Unfortunately, there is no such guarantee. 

§ Comparison of Returns: NIFTY 50 vs NIFTY 500

o If we take a long-term view like that of a decade, we find most of the time the NIFTY 500 is beating the NIFTY 50 fair and square. (please see picture B)

Picture B: Nifty 50 vs Nifty 500 Chart between 2013 and 2023 - 10 year performance comparison. (As seen in Yahoo Finance on 09-Jun-2023)

o However, if we check the rolling returns of time windows even 5 years long, we might find times when NIFTY 50 has produced better returns. (please see picture B)

Picture C: Nifty 50 vs Nifty 500 Chart between 2018 and 2023 - 5 year performance comparison. (As seen in Yahoo Finance on 09-Jun-2023)

The stock market is all about market cycles, so if we do a point-in-time analysis for a short period of time ( ~ 5 years), it is basically anybody’s game and it is impossible to predict which one will give a better return in the short term. Generally during Bull Runs, the broader market will outperform hence NIFTY 500 will do better. And during the period of consolidations, NIFTY 50 will do better.

👉 NOTE: We should not blindly equate volatility i.e. numeric std. deviation to Risk. NIFTY 500 is more diversified than NIFTY 50, hence less risky from a diversification point of view. But practically speaking, the risk is more or less similar for both. Please notice the pattern and close correlation of NIFTY 50 and NIFTY 500 charts so the emotional experience will be more or less identical.

If we try to think of 15/ 20 years ahead in the future and if we are ready to stomach some interim volatility, it makes sense to invest in NIFTY 500. Just like most Flexi-cap funds, investing in NIFTY 500 is mostly investing in Large-cap stocks with marginal exposure to Mid-cap stocks and Small-cap stocks in strict moderation.

The first and only NIFTY 500 index fund was launched by Motilal Oswal recently in Sep 2019. There are two BSE S&P 500 index funds as well but they were launched even after Sep 2019. With limited historical performance data available, there is no point in comparing returns of say UTI Nifty Index Fund vs these funds. We have to compare their performances after 10 years.

At the end of the day, index investing is nothing but investing in the future of the country’s economy (as we eliminate the selection risk of active funds). Many experts feel that the fifty biggest companies are a really narrow universe to represent the full vibrancy and churn in the Indian economy. A broad market-based index like the NIFTY 500 is a much better and closer reflection.