Weekly Musings – NFO Pick (DSP Nifty Bank Index Fund)

14 May 2024 , 08:54 AM

UNDERSTANDING PASSIVE BANKING INVESTMENTS

The DSP Nifty Bank Index Fund NFO is an opportunity for investors to allocate their money to a passive index fund that is benchmarked to the Bank Nifty. The Bank Nifty is a collection of India’s top listed banks, which is dominated by HDFC Bank and ICICI Bank in terms of weightage; followed by SBI, Axis Bank and Kotak Bank at the next level. The Bank Nifty is still dominated by the private banking stocks as they are the ones that have created most of the stock market value for the banking sector. By buying into the DSP Nifty Bank Index Fund NFO, the investor can passively participate in banking stocks, without fund manager bias.

The DSP Nifty Bank Index Fund NFO, despite being a passive fund, will still be a high risk fund due to the intense exposure to banking stocks. Due to this concentrated portfolio, the fund will continue to rank high on the risk scale. While the fund does not have to worry about unsystematic risk or about fund manager bias, it is still exposed to the fluctuations of the banking sector as well as the existence of tracking error. Hence, the DSP Nifty Bank Index Fund NFO would be best suited for investors with a time frame of 5-7 years and willing the assume the concentration risk of being overexposed to the banking sector.

WHY IS THE DSP NIFTY BANK INDEX FUND NFO TIMED NOW?

There are several reasons for launching the DSP Nifty Bank Index Fund NFO at this juncture.

• The current underperformance of the Nifty Bank index has lasted for 1,085 days and is the longest such phase in the last 24 years. Previous bouts of underperformance lasted on an average between 80 days and 200 days.
• The average Price / Book (P/B) ratio is very close to the average of the last 10 years and the last 5 years. Compared to other major sectors, the banks have the lowest premium to the 10-year average P/BV of 5%. Only FMCG has a lower premium of 1%.
• The banking sector has seen a sharp revival in the last 5 years. In this period, the ROE is up from a low of 5.2% to the current level of 14.5%. Similarly, the return on assets (ROA) has also spiked in the last 5 years from 0.45% to 1.40%.
• In terms of capital adequacy, the private banks are having average capital adequacy ratio of 18.0% while PSU banks have an average capital adequacy of 15.2%. Both are at the highest level in the last 10 years.
• NPAs are at multi-year lows. The gross NPAs of the banking sector overall currently stands at 3.9% while the net NPAs stand at 0.9%. While gross NPAs are at the lowest level in the last 10 years, net NPAs are at their lowest in the last 25 years.

To sum up, there appears to be a case building up for the revival of the banking sector performance, due to mean reversion and due to better financial performance.

NUANCES OF THE NIFTY BANK INDEX

Since, the DSP Nifty Bank Index Fund will be a passive fund benchmarked to the Nifty Bank TRI index, it would be useful to look at the nuances of the Bank Nifty index.

• While HDFC Bank and ICICI account for 52.8% of the Bank Nifty weight, Axis Bank, SBI, Kotak Bank, and IndusInd Bank jointly account for another 33.7% of the Nifty Bank.
• There are only 12 stocks in the Nifty Bank index and hence that would be the universe of stocks that the fund will invest in.
• Over the last 24 years, the Nifty Bank has grown 67-fold; giving 18.9% CAGR returns. This is better than Nifty which is up 21-fold in the same period, with CAGR returns of 13.4%.
• Median rolling returns for different rolling periods have been consistently better for the Bank Nifty as compared to the Nifty 50.

The fund is best suited to the investor looking to a passive approach to wealth creation, with the added risks of a concentrated portfolio. It is a bet on Indian banking as a macro proxy.

PERFORMANCE OF PASSIVE NIFTY BANK FUNDS IN INDIA

Here is a quick look at how Nifty Bank and similar funds in India have performed in India over different time frames like 1-year, and since inception. We have considered the regular returns in all the cases to include the impact of the total expense ratios (TER) as these are passive funds. We have not considered 3 year and 5 year returns as the data was not fully available for majority of the funds. Ranking of the table below is on 1-year returns.

Scheme Name	Return (%) 1-Year	Returns (%) Launch	AUM (₹ in Crore)
ICICI Prudential Nifty PSU Bank ETF	79.40	77.96	55.27
Kotak Nifty PSU Bank ETF	79.00	6.09	1,591.67
Nippon India ETF Nifty PSU Bank BEES	78.89	6.91	2,704.78
Motilal Oswal S&P BSE Financials ex Bank 30	34.20	18.91	11.92
ICICI Prudential Nifty FinServ Ex-Bank ETF	32.71	22.65	75.15
DSP Nifty Bank ETF	10.65	8.48	228.56
UTI Nifty Bank ETF	10.65	21.58	3,146.42
ICICI Prudential Nifty Bank ETF	10.63	9.68	3,135.43
Aditya Birla Sun Life Nifty Bank ETF	10.61	11.63	2,655.19
Nippon India ETF Nifty Bank BEES	10.61	16.47	6,225.40
Mirae Asset Nifty Financial Services ETF	10.60	10.11	262.17
SBI Nifty Bank ETF	10.59	11.32	4,147.65
HDFC NIFTY Bank ETF	10.57	22.98	2,346.05
Kotak Nifty Bank ETF	10.55	10.80	5,225.87
Axis NIFTY Bank ETF	10.54	17.47	193.50
ICICI Prudential Nifty Bank Index Fund	9.72	13.92	389.49
Motilal Oswal Nifty Bank Index Fund	9.66	11.81	546.84
Navi Nifty Bank Index Fund	9.56	9.00	515.55
ICICI Prudential Nifty Private Bank ETF	8.11	9.25	2,283.43
HDFC NIFTY Private Bank ETF	8.07	6.47	310.48
SBI Nifty Private Bank ETF	8.07	17.03	165.36
Tata Nifty Private Bank ETF	8.00	10.19	8.35

Data Source: AMFI

At the outset, the DSP Nifty Bank Index Fund NFO performance may not be entirely reflected by the averages we are talking about here. That is because, we are covering all passive funds, which include PSU banking funds, private banking funds, general banking funds and financial services funds. However, it will give a rough idea of how this particular segment has performed. There are a total of 22 similar funds in India managing a total AUM of ₹36,225 Crore, and DSP Nifty Bank Index Fund NFO comes at a time when fund houses have been generally cautious about banking funds due to the recent underperformance of banks. Here are how the returns and the return dispersions worked across time frames.

• The return dispersion is relatively high in this case and that is largely because there are many subsets in the passive Bank Nifty funds, which include overall banking funds, financial services funds, PSU banking funds, Private Banking funds etc. On a 1-year returns basis, passive Bank Nifty funds in India generated maximum returns of 79.40% and minimum returns of 8.00%, showing wide variations in performance. The average returns over a 1 year period are 21.43%, which is impressive; but dispersion could be a challenge. However, this comes in a year when the banks have not been the best of performers.
• How do these Bank Nifty related funds rank on returns since inception? Bank Nifty related funds in India generated maximum returns of 77.96% and minimum returns of 6.09%, showing a rather wide dispersion and low returns in a worst-case scenario. The average returns since inception were 15.94%, which is impressive; but not necessarily reflective. However, it must be remembered here that the year FY24 was not the best of years for banks. While the PSU banks did fare well, the pressure on the private banks was quite palpable. With the private banks accounting for bulk of the weightage in the Bank Nifty, the returns obviously gravitated towards the private banking returns.

The bet is not on what has happened in the last one year, but the fact that banks as a segment are available at salivating valuations. That is the big story that the fund appears to be tapping into.

GLANCE AT THE DSP NIFTY BANK INDEX FUND NFO

Here are some details of the DSP Nifty Bank Index Fund NFO you must know to decide on investing in the fund.

a. The NFO of DSP Nifty Bank Index Fund opens for subscription on May 15, 2024 and will close on May 27, 2024. Being an open-ended index fund scheme replicating the Bank Nifty, the fund will offer buy and sale at NAV linked prices and will reopen for sale and repurchase within 10 days of NFO closure. While the fund has no lock-in period, it is best to hold such Bank Nifty index funds for a period of 5 years or more to get full benefits of the revival in the private banking cycle in India.

b. On the Standard SEBI Risk-O-Meter, the DSP Nifty Bank Index Fund will be ranked as a Very High Risk Fund. The high risk is due to the predominant exposure to equities that the DSP Nifty Bank Index Fund will have. In addition, there is also the risk of entering into the fund when the market is at all-time high levels. Above all, the focus of the fund will be predominantly on the banking theme. Above all, being an index funds, there is also the risk of tracking error, which is the probability that the fund returns do not reflect the underlying index returns.

c. The DSP Nifty Bank Index Fund is about long term capital appreciation with a focus only on the Bank Nifty Index. This theme has been observed to outperform the Nifty in India over longer time frames. However, one risk to be conscious of is that the last one year has not been too positive for the private banks and the situation is likely to get challenging due to rising deposit costs leading to thinning net interest margins (NIMs).

d. Investors can invest in the NFO of DSP Nifty Bank Index Fund in minimum size of ₹100 and in multiples thereof. This also applies to switch-ins during the NFO while additional purchases can be of a lower amount. There will be no exit load of on the fund, irrespective of the date of redemption. However, investors are advised to hold such funds for a minimum period of 5-7 years to get full benefits of the passive theme.

e. The DSP Nifty Bank Index Fund does not give any guarantee on returns, being a passive fund pegged to the Bank Nifty, the fund will maintain 80-100% exposure to equities, with predominant exposure to Bank Nifty portfolio. The focus of the fund manager would be more to ensure that tracking error is reduced to the bare minimum.

f. The DSP Nifty Bank Index Fund NFO will offer only the growth option in the fund. It will offer the facility to invest via the Regular Plan or through the Direct plan. The NAVs on redemption will be different for regular plans and direct plans based on the TER imputed to the fund.

g. The fund is best suited for investors with a higher risk appetite and ability to stay invested for 5-7 years in the banking theme. Investors in DSP Nifty Bank Index Fund NFO must be prepared for the additional concentration risk of banking cycles in the fund. Bank Nifty has outperformed Nifty over different time frames on a rolling returns basis. Such data may not be indicative of future performance of DSP Nifty Bank Index Fund.

h. The performance of the DSP Nifty Bank Index Fund will be benchmarked to the underlying Nifty Bank TRI. The TRI (total returns index) is more reflective as it includes the impact of dividends and capital movement. This benchmarking will evaluate how the fund is performing vis-à-vis the underlying benchmark. The fund managers for the DSP Nifty Bank Index Fund are Anil Ghelani and Dipesh Shah.

i. The DSP Nifty Bank Index Fund will be classified as an equity fund for tax purposes; with its equity exposure decisively above 65%. The short term capital gains (held for less 1 year) will be taxed at 15% while long term capital gains (held for over 1 year), will be taxed at a flat rate of 10% beyond a minimum threshold exemption of ₹1 Lakh per financial year.

The DSP Nifty Bank Index Fund NFO is an opportunity for investors to participate in the banking index with minimal risk of fund manager bias and tracking error being the principal risk. Investors can look at this NFO, not only to add alpha to their satellite portfolio, but also as a means of asset reallocation based on equity exposures.