How to bring the stock market to the Indian masses
The two most common ways to access the stock market – mutual funds and brokerage accounts – are relatively expensive for ordinary Indians. If the Indian stock market is to be used by the masses, the highly successful construction of the National Pension Scheme appears to be the most likely vehicle that can serve this purpose.
After hitting a Covid-19-induced low in March 2021, the Nifty 50 doubled, driven both by foreign flows (REIT inflows on the Indian stock market amounted to $ 14 billion over the fiscal year 20-21) and national inflows (to the tune of $ 25 billion in fiscal year 20). -21). The continued strength of this bull run has attracted millions of new investors to the Indian stock market. According to SEBI, 14.2 million new investors have gone public in the past 12 months. In fact, before the onset of Covid in March 2020, there were around 11 million active investors in India; in the past 18 months, that number has more than doubled to around 25 million active investors.
This bull run is not a flash in the pan. Over the past decade, the Nifty50 Total Return Index or TRI has compounded at 11% per year and created $ 1 trillion in wealth. The stock market has therefore become a powerful source of sustainable wealth creation in India. It stands to reason, then, that if the wealth created by the stock market spreads throughout the country, it gives free market reforms a degree of mass legitimacy which it has hitherto lacked in India. Moreover, in a country where the Reserve Bank of India claims that barely 5% of household wealth is in the form of financial assets, the stock market can potentially lead to the financialization of wealth.
However, there is good reason to believe that it is not event. In other words, the beneficiaries of the rise in the Indian stock market are a privileged minority of Indian investors. Data from AMFI, the trading body for mutual funds, shows that 84% of mutual fund investors (by asset value) come from the 30 largest cities in India.
Why is this happening? Considering the ease with which demat accounts can be opened and the vast network of mutual fund distributors, why don’t the masses invest in the stock market where the overall household financial savings rate is typically about about 20% of income?
Comparing the cost of investing in mutual funds in India versus the United States provides some interesting insight. In India, the cost of investing in a large-cap equity mutual fund is around 1.8% (which drops to 1.1% if the investor goes âdirectâ, that is, i.e. without distributor) – as shown in the table below. Since these programs struggle to beat the benchmark (see âmedianâ performance in the table), this is an expensive way to access the stock market.
In contrast, the cost of an actively managed mutual fund in the United States is approximately 0.7%, as shown in the following table. In addition, several index funds in India charge a fee greater than 10 basis points while the cost of these funds in the United States is 6 basis points.
A more detailed comparison of the relative cost of investing in the two countries highlights the underlying source of the problem.
The cost of directly investing in large-cap mutual funds in India versus the United States – 1.1% versus 0.5% – can be justified by the colossal scale of the American investment management industry. assets, which is nearly 15 times the size of Indian industry. However, the cost of “distributing” (which is distinct from the cost of “making”) large cap equity mutual funds in India is very high, around 0.6% (see the last two columns of the first above). This distribution cost is pushing the spending of large cap equity mutual funds investing in India into unaffordable territory.
Beyond mutual funds, the other popular way for investors to access the Indian stock market is through online discount brokerage. Here too, we see that the cost of opening a demat account is relatively high despite the rise of discount brokerage. For large online discount brokerage houses in India, brokerage fees for intraday equity transactions range from 0.03% to 0.05% and around Rs.300 for opening and maintaining an account each. , while a discount brokerage like Robinhood in the United States operates with a commission of $ 0 for transactions. and $ 0 for account opening and management fees.
Launched in 2004, the NPS has grown even though the manufacturers of the product have hardly spent any money to promote it. The NPS is a collection of low cost funds (index funds that mimic the benchmark) inside a low cost retirement package with tax breaks for the saver. As a result, it allows everyone, rich and poor, to participate in the rise of the stock market at minimal cost. As of August 2021, Rs 6.3 lakh crore was being managed under the NPS. The cost of running an NPS account is capped by the PFRDA, the pension regulator, on a sliding scale:
The equity allocation under the NPS is capped at 75% for investors up to the age of 50. It gradually and automatically decreases by 2.5% each year until it reaches 50% at the age of 60. The remaining amount is invested in fixed income instruments, real estate investment trusts, alternative investment funds. Therefore, NPS is a savings product that also meets the asset allocation needs of a retail investor.
The widespread adoption of NPS will give India something akin to 401 (K) in the United States, which has resulted in the massification of equity investments there. Over the past 40 years, as equity investments have become the primary form of savings for U.S. households, the corpus invested in 401 (K) has grown from $ 900 billion in 1990 to $ 6.7 trillion in 2020, a CAGR of 6.9% in a country where the nominal GDP growth CAGR was around 4.3%.
Saurabh Mukherjea, Tej Shah, Harsh Shah and Nandita Rajhansa are part of the investment team of Marcellus Investment Managers. Saurabh Mukherjea is the author of ‘Diamonds in the Dust: Consistent Compounding for Extraordinary Wealth Creation’.
The opinions expressed here are those of the authors and do not necessarily represent those of BloombergQuint or its editorial team.