Direct Indexing: A Rising Star in India's Investment Universe?

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Equirus Wealth

24 Jan 2024 4 min read

Investment#Investment

Finance & Investment in India are undergoing a noteworthy evolution, and a novel contender is stepping into the limelight – direct indexing.

Amidst the familiar territory of mutual funds and ETFs, direct indexing is gaining traction, offering investors a personalized approach to building their portfolios. This article delves into the essence of direct indexing, its potential benefits, challenges, and relevance in the Indian investment sphere.

What is Direct Indexing?

Direct indexing is a departure from traditional index investing, wherein investors typically acquire a pre-packaged basket of stocks through an ETF. In direct indexing, investors gain the autonomy to handpick individual stocks that closely replicate their chosen index.

This approach contrasts with the conventional method of buying an ETF replicating a specific index, such as the Nifty 50. Direct indexing allows investors to directly own shares of specific companies, exemplified by holdings like Reliance Industries, HDFC Bank, and Infosys.

The Benefits of Investing in Direct Indexing

  • Tax-efficiency

One of the standout advantages of direct indexing is its ability to unlock the power of tax-loss harvesting. This strategic maneuver involves selling underperforming stocks to offset capital gains from others, thereby reducing the overall tax burden. Traditional funds typically need more flexibility to implement such tax-efficient strategies.

  • Customization

Direct indexing enables investors to customize their portfolios based on personal values. This level of personalization allows for the exclusion of controversial companies or prioritization of those that align with sustainability goals. This departure from one-size-fits-all index funds provides a more tailored investment experience.

  • Increased Control

Direct indexing puts investors in the driver's seat, offering greater transparency and control over their portfolio movements. Unlike traditional funds, where investors are passive participants, direct ownership of individual stocks provides a hands-on approach to managing investments.

Challenges on the Direct Indexing Horizon

However, the journey of direct indexing in the Indian market is not without hurdles.

  • Limited Access

Unlike the well-established direct indexing platforms in the US, India's market is still in its early stages. Currently, only a select few Robo-advisors, such as Groww and Kuvera, cater to this niche. As the market develops, broader accessibility may become a reality.

  • Higher Entry Point

Direct indexing in India comes with a higher entry point, deterring smaller investors. Most platforms have minimum investment requirements ranging from ₹5 lakhs to ₹10 lakhs, making it less accessible to those with more modest portfolios.

  • Regulatory Hurdles

The regulatory framework for fractional ownership of shares in India is still evolving, impacting the flexibility and cost-effectiveness of direct indexing. As regulations adapt, the landscape may become more conducive to the growth of direct indexing.

Is Direct Indexing the Holy Grail?

While direct indexing presents an intriguing option, it is not a one-size-fits-all solution. It holds promise for specific sets of investors:

  • High-net-worth Individuals

Investors with larger portfolios and significant taxable gains can leverage the tax efficiency and customization benefits of direct indexing to the fullest.

  • Savvy Investors

Those comfortable with research, portfolio management, and navigating individual stock movements can handle the complexity of direct indexing.

  • Long-term Investors

Direct indexing's advantages shine over longer horizons, making it less suitable for short-term goals.

A Cautionary Note

For those intrigued by the prospects of direct indexing, a word of caution is in order. Proceed with due diligence – conduct thorough research, compare platforms and fees, and seek professional advice from a financial advisor experienced in direct indexing.

Investing is a marathon, not a sprint, and understanding your risk tolerance and investment goals is paramount.

The Future of Direct Indexing in India

As regulatory hurdles ease and competition intensifies, India's direct indexing landscape is poised for exciting growth.

While it may not be an instant solution for everyone, for those seeking tailor-made investment strategies and tax optimization, direct indexing stands out as a star worth watching in the evolving Indian investment constellation.

As investors navigate this new frontier, a thoughtful and informed approach will be key to unlocking the full potential of direct indexing in the Indian investment universe.

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