Stock market index

What is the ‘stock market index’? It is a listing of stocks and a statistic that reflects the composite value of its components. The index represents the characteristics of its component stocks, all of which have some common elements like trading on the same exchange, from the same industry or having similar market capitalization. Many indices are used to benchmark the performance of portfolios such as mutual funds.

Stock market index is this a figure that is calculated to measure the state of the stock market, based on the performance of stocks that meet certain criteria. These criteria’s are set by the stock exchange or other body that calculates the Index like the TSE 300 Composite Index or the TSE, The DOW Jones Industrial Average or the DJIA, The Standard And Poor's 500 or the S&P.

Why stock market indices are necessary

• Acts as Benchmarks: They are frequently used as performance benchmarks or, in other words, as a point of reference by which the relative performance of a particular investment can be determined. Based on the findings investors decide whether to put their money is these stocks or not.
• Determining Trading Trends: They help determine the current trading trends. A stock market index acts as a proxy for the aggregate price changes of all of the stocks, which make up that index. It is thus able to measure the price direction or volatility of the market. The index is updated frequently throughout each trading day so that the market price movement trends can be watched and analyzed. It enables traders to take vital buying and selling decisions.

Broadly, there are 2 main types of stock market indices

• Market Capitalization Unweighted: In this, only the aggregate stock pries are used to calculate the index. No weight is given to a particular stock's relative market value or capitalization.
• Market Capitalization Weighted: The relative market capitalization of each stock in the index is taken into account. Each stock’s weight in the index is proportionate to that stock’s total market value.

The Weighted method is more popular while calculating the index.