Methodology for building an index
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Table of Contents : The Index of Stock Markets 1. The Index of Stock Markets Overview 2. How the Index can be used in real life |
It is important to understand how the index is put together if you want to get better at trading indexes. As we talked about, the Index is made up of many stocks from different industries that show how the economy is doing. A stock must meet certain requirements in order to be included in the index. As long as it meets the stated requirements, it should continue to be an index stock. If it fails to meet the requirements, the stock is changed with another stock that meets the requirements.
The list of stocks is filled in based on the choosing process. There should be a set amount of weight given to each stock in the index. To put it more simply, weightage tells you how important a stock is in the market compared to the others. For instance, if TCS Ltd makes up 4.1% of the Nifty 50 index, that means that TCS Ltd is responsible for 4.1% of the changes in the Nifty.
How do we give the stocks that make up the Index their weights? This is the obvious question. A free-float market value method is used by the Indian stock exchange to decide how to weight stocks. The weights are given to companies based on their free-float market value. The weight goes up as the market price goes up. The number of shares that are still available on the market times the price of the stock gives you the free float market value.
