There are around 5,000 companies listed in the Bombay Stock Exchange and around 2,000 companies listed in the National Stock Exchange. It would be difficult to check each company whether they are up or down for the day. You would just check few important companies in that particular industrial sector. If majority of the companies in that particular sector are moving up you would say market is going up however, if the majority of those companies are down then you would say market is going down. For the understanding of performance of different industrial sectors market index has been formed.
There are two major market indices in India S&P BSE Sensex (Bombay Stock Exchange) and CNX Nifty (National Stock Exchange). An index gives investors tick by tick reading of the market participants perceiving about the future. The market participants change their view about market by looking at the index behavior.
Formation of Stock Market Index
The Index is a collection of stocks from various different sectors. There is certain criterion for a stock to be considered in the index. If the stock is unable to fulfill that criterion then the stock would be replaced by another stock in the index. Each stock in the index has a certain weightage in the index. Like Reliance Industries Ltd has 6.37% weightage in the Nifty index in refinery sector. The calculation is done on the free float market capitalization in Indian stock exchanges. The free float market capitalization is calculated by multiplying number of outstanding stocks in the market by the stock price. Suppose a stock has 1000 outstanding stocks and the stock price is 100 then the free float market capitalization would be 1000*100= 10000.
Uses of the Indices
The stock market indices give idea of market behavior in a whole also the stock market index shows country’s economic performance at a point of time. The index is also used as a benchmark to calculate return of the market. For example investors calculate return broadly by calculating the return of index of the particular exchange. One needs the benchmark to see whether he has outperformed the market or under perform the market. The investors and traders use stock market index to trade. Majority of the trading happens in the index. The trading in index happens by looking at the view of economy as a whole. Investors also use index in hedging of their portfolio of securities. As the stock are typically held for long term investment. If any sudden downsides come in the stock market then the investors can hedge their risk by selling the index.
Sector Specific Indices
There are also other sector specific indices like Bank Nifty, CNX IT, Pharma Index etc. The sector specific indices give indication of performance of that particular sector. Bank Nifty is also traded heavily in Indian stock market. It shows the performance of banking shares in the index. The sector specific indices are present in both Bombay Stock Exchange (BSE) and National Stock Exchange (NSE).
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