Innovation is not a business. It is now a need and a part of everyday’s life. The terms "benchmarks" and "indexes" are often used interchangeably, but they are actually unique terms that describe different things. All indexes are defined by their objectives and methodologies, which together determine their relative strengths and weaknesses. A benchmark is something that serves as a standard by which others are measured or judged; it is a point of reference from which measurements may be made. A good index has a well-defined objective and a methodology that best satisfies that objective. The methodology should be rules based and transparent. In this article I will illustrate the importance of using a correct benchmark for analyzing the various segments of a market for making investments, evaluating them on a daily basis and then comparing the performance against benchmark indexes.
After the debacle of 2008 the global asset class performance (equities, derivative instruments, commodities & currencies) has taken a dramatic change in its behaviors which can be well understood while plotting the returns over a graph. Currency imbalances have given one of the stupendous opportunities for worst performing assets class across geographies to provide backup returns.
While we make our investments across various asset classes we often repeat the same mistake. We compare equity investments returns with Bank Fixed Deposit. Thanks to the valuation of gold that it does not have any near competitor as such for comparison of returns. Today I will present an innovative product where a set of new indexes help to capture the activity in a market segment & measure returns on ones investment.
Technidex, a specialized investment advisory firm, recently launched the Technidex Stock Futures Index, Technidex Underlying Stock Index, Technidex Cost of Carry Indicator & Technidex Delivery Indicator. Technidex Indexes take into account activity in not only the current month future but all active future contacts (current, near & far month contracts) of index components & their underlying stocks. These innovative market tools are the first indexes to be truly representing the futures segment, based on the futures’ open interest and not on the market cap.
For many years cap-weighted indexes have been used as a default option for representative portfolios as well as for efficient benchmarks. Market-cap-weighted indexes obviously provide a fair representation of the stock market for a given segment of the equity universe. On the other hand, it can be argued that they do not necessarily provide a fair representation of the segment in which they are traded, the futures (in the derivatives segment) for example.
Conventionally, while trading in derivatives, market players look at the current month Index future, which has the spot index as the underlying asset. Thus, the Index Future represents the stocks which meet the laid down criteria while incorporating the prevailing Cost of Carry. They do not actually represent the activity in the futures (derivative) segment. Often, the trading / positional activity & interest is in stocks which are not part of the underlying index, thus, their activities don’t get reflected in the index future. Hence, the Index Future may not reflect the true mood & activity in the market. Secondly, with multiple contracts prevalent at any given point of time, it is difficult to gauge what is the overall sentiment.
"We feel that the basket of Technidex Futures Indexes will be extremely popular with all categories of market players, institutional & individual, as they are calculated based on the demand – supply forces in the market and take into account activity in all active futures of index components & the underlying stock simultaneously. Technidex Futures Indexes are based on open interest rather than the traditional system of market capitalization or sector. Market forces decide components’ importance & weight in the index. Greater the trading & positional interest in a stock’s future, higher will be its weight in the index. This allows Technidex to truly represent activity in the overall market”, says Technidex CEO Navin Agrawal.
Foreign & domestic institutional investors will be interested and start relying on these indexes because Technidex’s documented (proprietary) Index Construction & Calculation Methodology makes the procedure extremely transparent. The indexes are based on Open Interest - the single tool reflecting the market players’ present & future outlook on a stock irrespective of its value (market capitalization) or which investor class is buying / selling. Increased activity will automatically reflect in the open interest.
Technidex Cost of Carry (CoC) Indicator provides a continuous & smooth price-line without showing sharp spikes / falls in CoC close to expiry days. Normally, the Index Future does not reflect the overall CoC, as non index stocks with huge Open Interest may be trading at high premium / discount. At times the middle / far month future of an active stock is at a high premium / deep discount. This also does not reflect anywhere. Technidex CoC Indicator resolves such issues.
Technidex Delivery Indicator tracks the delivery% in the underlying stocks. It helps concluding whether the underlying stock is moving into stronger / weaker hands and whether the buying / selling is happening on high / low delivery.
“With a base of 1000 on January 2, 2006, Technidex Futures Indexes have adequate historical data and are an ideal bench-mark for tradable exposure to Indian stock futures & their underlying stocks. Their superior performance makes them ideal for market players. The components of Technidex Indexes represent activity in stock futures & their underlying shares, have a broad sector representation with large, mid & small cap stocks and are quite liquid in both, futures & equity”, says Agrawal.
The future of Technidex Futures Indexes is bright and they should become extremely popular with introduction of ETFs and other by-products like options and futures. Importantly, they will provide a good indication to the direction in which the market is expected to move. Overall, the introduction of the new index seems to be promising for domestic & foreign investors in the current times.
Well, these types of innovative products need to be used so that proper calculation can be achieved to evaluate the performance of an ones investments. One important factor which needs to be kept in mind is that end-user must be educated for using these innovative products. Hence, educating investors, the end-users, is a part of the successful marketing of the product. Automated, real-time market analytic models are the old thoughts but new models of the innovators mind. Innovative products are about to change the Indian financial market.
We cannot measure if we don’t know with whom to measure.
Indraneel Sen Gupta
Master in Economics/MBA in International Business/ICAI (Final)