With the recent introduction of the globally accepted stock market index S&P Sri Lanka 20 to the Colombo Bourse, the Colombo Stock Exchange (CSE) is likely to gradually phase out the existing Milanka Price Index (MPI), which tracks the performance of 25 most liquid stocks of the CSE, the Nation Gain reliably learns.
“There will be a phasing out at some point depending on the direction of the market in the future,” a top official from CSE said on the condition of anonymity.
Of late, the selection of firms to the composition of the MPI has been questioned by market analysts as several stocks which did not have strong fundamentals have been included in the list, whilst the more sound and larger capitalized firms have been left out.
Analysts criticize that the main criteria used for the selection of the companies to the index, which is liquidity, is not itself foolproof, and could be distorted as the selection criteria is based on past data which may not be representative of future trading.
“Sometimes, one or two large trades can completely distort the averages. One doesn’t know if the formula being used for selection avoids such one-off trades or whether these trades are being used. Liquidity for certain companies recently included in the Milanka Index has also arisen through Directors trading in their own company’s shares with related parties, and such trades should be excluded,” an analyst argued.
A fund manager mentioned that they do not use the MPI to track performance against their funds given the inclusion of many fundamentally weak stocks, and said the MPI has lost credibility. He pointed out that the current composition of the MPI was, however, a reflection on recent trading patterns on the CSE, with many fundamentally strong stocks being ignored by local traders who were more concerned with trying to make quick returns on highly speculative shares.
When asked for a response to this from CSE manager research, Nishantha Hewawithana, he admitted that companies have been selected into the MPI depending on overall performance in the previous four quarters and this did not exclude exceptional trades.
“As you said, this can be a drawback in identifying the correct composition,” Hewawithana acknowledged. The CSE presently reviews and revises the companies to be included in the MPI biannually with the criteria taken into account in its construction are size and liquidity.
According to Hewawithana, size is measured by the average of market capitalization of companies as at end of the immediately preceding 4 quarters of the date of evaluation whilst liquidity is measured by number of trades excluding odd lot trades executed over the one full year period immediately preceding the date of evaluation.
The MPI, which was introduced in 1999, is calculated by dividing the market capitalization of the 25 Milanka companies with its base market capitalization of the same companies.