Asia

Edhec-Risk Institute study highlights inefficiency of Asian stock market indices

In a study entitled “Assessing the Quality of Asian Stock Market Indices”, researchers at Edhec-Risk Institute have found that all 10 indices surveyed display a pronounced lack of efficiency in terms of risk-reward trade-off.

For all of them, an equal-weighted index constructed from the same components outperforms the corresponding cap-weighted market index. The levels of inefficiency of Asian market indices were found to be quite comparable to those of European and US indices.

The standard Asian indices are heavily concentrated in a few large-cap stocks. Most indices allocate as much as 60 per cent of the index weight to only one-fifth of the stocks in the universe. For investors who are interested in holding well-diversified equity portfolios, one can see these results as a motivation to explore whether more appropriate alternatives can be developed.

Asian equity indices show severe fluctuations in style and sector exposures. For example, the weight of telecom services stocks in the Hang Seng index fluctuated between less than 10 per cent and 27 per cent over the period analysed. The weight of consumer staples stocks in the Indian Nifty Index fluctuated between three per cent and 27 per cent. Market indices in more developed countries (Hong Kong, Japan, Singapore, South Korea and Taiwan) demonstrate relatively more stability, whereas market indices in less developed countries (China and India) display higher variability over time in terms of sector allocation.

The research shows that investors who want to capture the Asian market premium will do so in a better way if they use indices designed with an efficient weighting scheme. In addition to carefully considering their geographic exposure, investors clearly need to consider the weighting scheme that will allow them to extract the equity risk premium for a given geography in the best possible way.

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