Outperformance and continued outperformance on the bourses is something that every investor looks for. The financial services sector may possibly offer one such opportunity for investors going forward, based on India’s growth and demographics.
Financial services is essentially the financial services sector (like insurance companies, NBFCs, etc.) excluding banks.
“The Financial Service Sector has been one of the best performing sectors (on the bourses),” says Pankaj Shrestha, Head-Investment Services, Prabhudas Lilladher.
Historically, the Nifty Financial Services index has outperformed the Nifty 50 index over the long term. In the last 10 years, the Nifty Financial Services index has given CAGR (compounded annual growth rate) return of 14.9% versus the Nifty 50 which has given 13.1%. In the last 5 years, Nifty Financial Services & Nifty 50 have given similar CAGR return of 12.7%.
“Investors may want to invest into an ex-bank financial services fund if they wish to gain a targeted exposure to sectors such as credit, life & general insurance, cards & payments, etc.," says Aniruddha Bose, Chief Business Officer, FinEdge, about the merits of this sector to equity investors.
It may be noted that two heavyweight private banks (HDFC and ICICI) dominate the banking index weightage with combined share of nearly 45%, thus overwhelming the performance of other (financial) companies.
The financial services index has outperformed the Bank Nifty as well on a 5 and 10-year basis, according to data sourced from FinEdge.
To be sure, the financial services sector has some advantages over its banking counterpart.
“BFSI (ex-banking) companies tend to be more open to innovation and technology adoption,” says Bose.
Banks, being the bedrock of the financial system of any country, tend to (of necessity) be more tightly regulated and less open to challenging the status quo with new products or distribution models. BFSI (ex-banking) companies are also better equipped to specialize and capture market niches.
“NBFCs (non banking financial services companies) in financial services have more flexibility than banks,” says Rahul Bhutoria, Director and Founder, Valtrust, a multi family office. Incidentally, most of the NBFCs in the financial services ex banks are systematically important NBFCs i.e. their asset size is more than ₹500 crores and they have additional regulatory requirements as per RBI.
Insurance companies are regulated by the Insurance Regulatory and Development Authority and thus a different operating parameters from banks, which in turn translates into different performances on the bourses.
An individual investor may approach the sector from the point of view of investments through different methods like direct investing, MFs, ETFs, etc.
Experts advise on the suitability of each mode.
Analysing companies in the financial services can be complex due to their regulated and complex nature as well as the significant debt in their capital structure. This can make it difficult for individual investors to properly evaluate and invest in individual financial services companies, say experts.
“For those who are not comfortable analysing individual financial services companies, using an ETF (exchange traded funds) for sector exposure can be a good alternative,” says Bhutoria.
ETFs offer a diversified way to invest in the financial services sector, allowing investors to gain exposure to a broad range of companies within the sector without having to analyse each company individually.
It's also worth noting that due to the weightage of financial services in the broader indexes, many mutual funds may also be heavily invested in financial services companies.
This is especially true for index funds, which aim to replicate the performance of a particular index and may therefore have significant exposure to financial services. Investors should be aware of the holdings of their mutual funds and ETFs to ensure they are comfortable with the level of exposure to financial services.
“Mutual funds offer diversification, active management and the tremendous benefit of investing systematically in sync with a goal based financial plan without fixating on short term returns,” says Bose, who also notes that while an investor may make tremendous profits if chancing upon a multi-bagger, the odds are against a new investor making such a decision.
“I strongly urge you (investor) to sit with a financial investor and choose from the options available, and after identifying your financial priorities…,” says Chintan Haria, Head - Investment Strategy, ICICI Prudential AMC, about investing in this sector.
Experts advise putting not more than 10 percent of your investment corpus into financial products, assuming that you have an investment corpus of ₹10 lakhs.
“We generally discourage new investors from investing too much into thematic funds, as they tend to be volatile and cyclical, triggering behaviours that could potentially disrupt their goal based financial plans,” says Bose.
A maximum of 5% of thereabouts of an investor’s long-term (7 year plus), goal based investments could be invested into financial services (ex-banking), preferably in a staggered manner through SIPs (systematic investment plans) or STPs (systematic transfer plans).
“An investor can allocate 10% of total investment in Financial Services category,” says Shreshtha. As in any sector fund, investor who understands financial services sector very well and can monitor the sector on regular basis can have higher tactical allocation.
And this sector will continue to fare well as long as the economy performs steadily.
“The financial services sector is often viewed as a leverage play on the economy, meaning that as the economy grows, the financial sector is likely to benefit and experience higher growth rates,” says Bhutoria.
While the penetration of some financial services, products, and insurance in India has increased significantly in recent years, there is still significant room for growth in many areas, another positive for the financial services sector.
“Historically, Nifty Financial Services index has outperformed Nifty 50 index over long period,” says Shreshtha.
Nifty Financial Services Ex Banks
The Nifty Financial Services index ex-banks is a modified version of the Nifty Financial Services index, which excludes all banking stocks from the index. The purpose of creating this sub-index is to provide investors with an alternative benchmark that focuses solely on non-banking financial services companies, such as insurance companies and other financial institutions.
It was launched on 2nd February, 2022.
As of February 23, 2023, the Nifty Financial Services index ex-banks comprises of the following 10 companies and their corresponding weights in the index:
-Bajaj Finserv Ltd. - 30.51%
-Housing Development Finance Corporation Ltd. - 25.28%
-SBI Life Insurance Company Ltd. - 9.29%
-HDFC Life Insurance Company Ltd. - 7.87%
-ICICI Prudential Life Insurance Company Ltd. - 5.58%
-Power Finance Corporation Ltd. - 5.14%
-Indiabulls Housing Finance Ltd. - 4.55%
-Shriram Transport Finance Company Ltd. - 4.34%
-Cholamandalam Investment and Finance Company Ltd. - 3.85%
-Muthoot Finance Ltd. - 3.70%
It's important to note that the weights of companies in the Nifty Financial Services index ex-banks are reviewed periodically and may change over time based on their market capitalization and other factors.
The taxation on financial services focused mutual funds is exactly as it is for all equity oriented mutual funds or other stocks. There are no specific financial services focused tax-saving funds present at the moment.
“However, most ELSS funds have a 30-40% exposure to the theme, so in effect you’ll end up investing heavily into financial services with a standards ELSS investment!,” says Bose.
Manik Kumar Malakar is a personal finance writer.