Your stock trader friend always talks about the rise and fall of nifty every day. Switch on any Indian business news channel and you find Nifty being discussed. What exactly is Nifty 50? Is it a stock? What is an index? Is it safe?
If you are new to stock markets many such questions will come to your mind, in this article we will try to answer most of them.
A stock is part ownership of a company, which is listed with a recognised stock exchange. If there are more buyers than sellers for a particular stock its price rises, and if there are more sellers than buyers, price falls.
An index is formed by a group of top quality stocks. The companies are selected based on certain criteria. Each stock is given a particular weightage in the index and the sum total of the change in the price of individual stocks is equal to the change in the index level.
This is the oldest index in India. It is the flagship index of the Bombay Stock Exchange, which is the oldest stock exchange in India.
This is the flagship index of the National Stock Exchange. This is the most followed index by traders. Nifty derivatives are the most liquid and popular trading instruments in India.
Number of Stocks
As the name suggests, Nifty is made up of 50 top quality stocks traded on the National Stock Exchange. These stocks represent 13 important sectors of the economy.
Stocks are selected based on the following criterion.
1. Liquidity: - A stock selected for Nifty 50 is highly liquid. It should have traded at an average impact cost of 0.5% for a basket size of 2 crores 90% of the times in the last six months.
Impact cost is the slippage during execution of a transaction in comparison to the ideal price. In an illiquid stock, a large transaction size will lead to a large impact cost.
|Buy Quantity||Buy Price||Sell Price||Sell Quantity|
For a buy of 2000 shares
Ideal Price is (6+5)/2 = 5.5.
Actual Buy price for 2000 shares is (1000*6) + (500*6.5) + (500*7)/2000=6.375
Impact cost for 2000 shares is (6.375-5.5)*100/5.5=15.90%
Ideal price is the level at which both the buy and the sell transactions would occur in an ideally liquid market.
Impact cost is the actual transaction cost faced by the trader in reality. The impact cost varies with transaction size. In the above example, the impact cost is 15.9% compared to the ideal price.
2. Floating Stock: - Floating stock is the stock available with public and institutions other than the promoter and their supporting entities. An index stock should have more than 10% floating stock to be eligible for consideration.
1. If a new stock gets listed on the bourses and satisfies both the above-mentioned criteria, it is eligible to be included in the index after a period of three months, instead of six months under normal circumstances.
2. If a company delists then the replacement is selected from the reserve pool of companies which satisfy all the criteria and has the largest free float market capitalization.
3. Once in six months the committee meets to decide if any change is needed in the index. If companies in the reserve list have double the free float market capitalization compared to the index stock which has the least market capitalization, a change is undertaken. An upper limit of 10% every year is kept for changes done by this rule.
The index policy committee is entrusted to review the policy and guidelines for managing the indices. Addition or deletion of companies from the index is decided by the index maintenance sub-committee. The committees meet twice every year to review the index.
The Nifty 50 is the most liquid and fundamentally strong group of stocks in the stock market. It is the most widely followed index by both domestic and foreign investors. Many funds only buy index stocks. A newcomer should start his trading career with index stocks before entering into other stocks.