Environmental & Water Sector Index: List of Stocks 0 comments

In coming up with a water index, I realised it made sense along the way to classify it under environmental engineering as the umbrella theme; water treatment, waste management and pollution control are services sought by the same group of municipal and industrial customers with the purpose of purification for industrial/residential use or to lower effluent pollutant levels to a minimal acceptable level before discharge. Environmental engineering is increasingly important as governments realise the importance of development for the long-term (case in point: China).

The list of stocks totals 11, and there are only two main factors that guide inclusion/exclusion:
1. Market cap
2. Trading liquidity

This rules out about 5-6 plays like Pan-Asian, Eco Water which are too small and/or too thinly traded to be considered.

The index will be weighted by market cap, as per normal. The main problem of weighting by market cap (known as value-weighted) is that big-cap stocks have a big impact, and in this case I found Hyflux and Biotreat, both billion-dollar market-cap stocks, would have too big an influence. At the same time, I didn't want to use an equal-weighted approach (ie. each stock has equal weight) both for consistency purposes as well as accuracy of representation. So, the adjusting index factor is used again to scale down market caps for the largest-cap stocks, in this case Hyflux and Biotreat.

I chose a scale factor of 0.5 to scale down these two stocks' market caps to bring them closer to the rest of the stocks. In a sense, my approach is a combination of the value-weighted approach and the equal-weighted approach. At the same time, due to Boustead being only a partial water play (it has other subsidiaries), it is also given a weighting of 0.5.

As before, I have backdated the index such that it starts on the same base as my China Stocks Index and Energy Sector Index ie. on Jun 9 2006. Hence there is a ready curve from Jun 9 till today. At last count (25 Aug) the index stands at 114.1, which means on average the environmental & water index component stocks have risen nearly 15% over the last two months.

As before, placements, delistings, rights issues of the index stocks will adjust the base market cap. So far I've had no chance to (rights issues for Dayen and Asia Environment have gone ex, but not considered as proper shares until warrants are exercised). The maths as follows:

1. Rights Issue
Adjusted Base AMV = Old Base AMV x (Old Current AMV + Payment for Rights)/(Old Current AMV)

2. New Listing
Adjusted Base AMV = Old Base AMV x (New Current AMV including New Listing)/(New Current AMV excluding New Listing)

3. Delisting
Adjusted Base AMV = Old Base AMV x (Old Current AMV excluding Delisting)/(Old Current AMV including Delisting)