The National Stock Exchange (NSE) has decided to adopt the free float methodology to compute its benchmark indices from June 2009; currently the NSE uses the market capitalization method. The weight-age of key companies and sectors would undergo significant changes, as a result of this shift.
What is the new free float methodology?
The NSE currently follows the full market capitalization weight-age methodology for computing its key indices; the primary difference being the proposed free float method would include only the floating stock available for trading in the market.
Free-float market capitalization takes into consideration only those shares issued by the company that are readily available for trading in the market. It generally excludes promoters’ holding, government holding, strategic holding and other locked-in shares that will not come to the market for trading in the normal course.
In other words, the market capitalization of each company in a free-float index is reduced to the extent of its readily available shares in the market. The free-float methodology is aimed at improving index flexibility in terms of including any stock from the universe of listed stocks. This may help in improving the market coverage and sector coverage of the index.
With the adoption of the free-float methodology the Nifty index would also be joining major global index providers like MSCI, FTSE, S&P and STOXX, which have adopted the same.
As a result, our calculations show that heavyweight stocks that have a low floating stock would be negatively impacted by the adoption of the free-float methodology.
On a stock specific basis ITC, Infosys, HDFC, ICICI Bank and L&T would be beneficiaries with their representative weights going by 251-457bps in the benchmark indices.
NTPC, ONGC, Bharti Airtel, PGCIL and SAIL on the other hand are likely to lose out with their weights seeing a contraction in the range of 140-590bps.
Mirroring the changes across stocks, within sectors FMCG and Banking are likely to gain whereas Power and Oil & Gas sectors likely see a lower weight-age.
What is the new free float methodology?
The NSE currently follows the full market capitalization weight-age methodology for computing its key indices; the primary difference being the proposed free float method would include only the floating stock available for trading in the market.
Free-float market capitalization takes into consideration only those shares issued by the company that are readily available for trading in the market. It generally excludes promoters’ holding, government holding, strategic holding and other locked-in shares that will not come to the market for trading in the normal course.
In other words, the market capitalization of each company in a free-float index is reduced to the extent of its readily available shares in the market. The free-float methodology is aimed at improving index flexibility in terms of including any stock from the universe of listed stocks. This may help in improving the market coverage and sector coverage of the index.
With the adoption of the free-float methodology the Nifty index would also be joining major global index providers like MSCI, FTSE, S&P and STOXX, which have adopted the same.
As a result, our calculations show that heavyweight stocks that have a low floating stock would be negatively impacted by the adoption of the free-float methodology.
On a stock specific basis ITC, Infosys, HDFC, ICICI Bank and L&T would be beneficiaries with their representative weights going by 251-457bps in the benchmark indices.
NTPC, ONGC, Bharti Airtel, PGCIL and SAIL on the other hand are likely to lose out with their weights seeing a contraction in the range of 140-590bps.
Mirroring the changes across stocks, within sectors FMCG and Banking are likely to gain whereas Power and Oil & Gas sectors likely see a lower weight-age.
