On December 10, the NSE announced that it had received approval from the SEBI for launch of derivative products on the Nifty Financial Services Index. The exchange will officially launch trading on this index from the 11 January 2020. For traders it gives one more opportunity to take a broad index based view on a sector or theme while for the hedgers it gives an opportunity to hedge their portfolio risk in a more acute manner. This is more for portfolios that are substantially invested in financial services stocks or in the case of thematic mutual funds predominantly in financial services. Let us first look at the highlights of the index product launch.
Key highlights of the Financial Services Index derivatives launch
NSE has announced the launch of Index derivatives on Nifty Financial Services Index with effect from January 11, 2021. Here are the key things to note.
This will be the third index on which index derivatives are now permitted by SEBI. NSE will now offer futures and options for trading on the Nifty Financial Services Index. As of now, the NSE only offers index derivative products like futures and options on the Nifty-50 Index and the Bank Nifty index.
To begin with, the stock exchange will offer futures and options trading in a total of 7 serial weekly contracts, excluding the monthly expiry contracts. In addition to the weekly contracts, the standard near month, mid month and far month contracts expiring on the last Thursday of every month will continue to be there.
This is also special because this is the first that the NSE will enable weekly futures on an index. Currently, the Nifty and Bank Nifty only offer weekly options. This could lead to more institutional interest also.
Needless to say, like in the case of all index-related derivatives, the derivatives on the NSE Financial Services Index will also be cash-settled. The expiry day will be the last Thursday of every expiry month for the monthly contracts and each Thursday of the expiring week will apply for weekly expiry contracts; both options and futures.
Like applicable to all the existing stock and index options, the option contracts on the Nifty Financial Services Index will also be European styled Call Option (CE) and Put Option (PE). The strike scheme will be on the 30-1-30 model and the strike price interval will be set by the exchange at 100.
Significance of the launch of derivatives on Nifty Financial Services Index
We have already seen two key significance of this launch. Firstly, it is the first time we shall have futures also in weekly contracts as till now we only had weekly options on Nifty and Bank Nifty. Secondly, this will be the third index to have its own equity derivatives after the Nifty Bank and Nifty-50. Here is the added statistical significance of this launch.
It may be instructive to note that the Nifty Financial Services sector assumes special significance as it accounts for 33.5% of the weightage in the Nifty 500 index. This used to be as high as 41% prior to the pandemic but it is still high by any standards.
Nifty Financial Services Index comprises of 20 stocks in all and it is more broad-based compared to the Bank Nifty. It reflects the behavior and performance of the Indian financial services segment including banks, financial institutions, housing finance, insurance companies and even asset management companies.
Let us also understand why this specific index is significant from an institutional investment perspective. As per latest data put out by custodians and the NSDL, close to 48% of new investments by foreign portfolio investors (FPIs) have actually flowed into the financial services sector. That is quite substantial in terms of hedging potential.
Leave the flow part aside. Even if you look at the current stock, the financial services sector currently accounts for 35% of the assets under the custody of foreign portfolio investors or FPIs. This includes dedicated financial services funds operated by global ETFs and also by domestic mutual funds and even PMS schemes.
Finally, let us also see from diversification perspective. According to data put out by Nifty Indices, Nifty Financial Services index has 94% correlation with the Nifty-20 with a beta value of 1.2. That makes it a diversifier and also an aggressive play. Remember, the index has given average CAGR returns of 15% in last five years; making it an extremely attractive positioning proposition for traders and for investors too.
With all these unique features, this Index is expected to be received well by the traders. Let’s just wait and watch!