Differences between the indices - Security Analysis and Investment Management

The indices are different from each other to a certain extent. Sometimes the Sensex may move up by 100 points but NSE Nifty may move up only 40 points. The main factors that differentiate one index from the other are given below: The number of the component stocks The composition of the stocks The weights Base year.

The number of the component stocks

The number of stocks in an index influences the behavior of the index. If the number of component stocks were larger, it would be a representative sample capable of reflecting the market movement. The sensex has 30 scrips like the Dow Jones Industrial Average in the US. At the same time BSE-100 (National), BSE-200, the Dollex, the RBI index (338 stocks) and Nifty (50 stocks) are also widely used. Private organizations like CRISIL has constructed its own index and named it as CRISIL-500. From the above examples, it is clear that the number of scrips differs from one index to another and hence their movements vary. BSE National Index is considered more representative than Sensex because it has 100 stocks. Out of 100, 22 are quoted on the BSE and the rest are listed on the BSE and other exchanges.

The composition of the stocks

The composition of the stocks in the index should reflect the market movement as well as the macroeconomic changes. The Center for Monitoring Indian Economy maintains an index. It often changes the composition of the index to reflect the market movements in a better manner. Some of the scrip’s traded volume may fall down and at the same time some other stock may attract the market interest. In such a case the scrip that has lost the market, interest should be dropped and others must be added. Only then, the index would become more representative. In 1993, sensex dropped one company and added another. In August 1996, sensex was thoroughly revamped. Half of the scrips were changed. The composition of the Nifty was changed in April 1996 and 1998. In October 1998, the Nifty Junior Index composition has been changed. Recognizing the importance of the information technology scrips, they are included in the index.

The weights

The weight assigned to each company’s scrip also influences the movement of the index. The indices may be weighted with the price or value. The Dow Jones Industrial Average and Nikkei Stock Average of 225 scrips of Tokyo stock exchange are weighted with the price. A price-weighted index is computed by adding the current prices of the stocks in the stock exchange and dividing the sum by the total number of stocks. The stocks with high price influence the index more than the low priced stock in the sample. The number of stocks is usually adjusted for any stock splits, bonus and right issues.

In the value-weighted index, the total market value of the share is the weight. Most of the indices all over the world and in India except Economic Times Ordinary Share Index are weighted with the value. The scrip influences the index in proportion to its importance in the market. The price changes that occur in scrip with heavy market capitalization dominate the changes that occur in the index. The price changes caused by bonus issue or right of particular scrip are reflected in the index. With the bonus issue or right issue, the number of outstanding shares and their values used to change.

In an unweighted index, all stocks carry equal weights. The price or market volume of the scrip does not affect the index. The movement of the price is based on the percentage change in the average price of the stocks in the particular index. Here it assumes that equal amount of money is invested in each of the stocks in the index, Value Line Average in the US is calculated without weights but geometric mean is used in the computation instead of arithmetic mean.

Base Year

The choice of base year also leads to variations in the index. The base year differs from each other in the various indices. The base year should be free from any unnatural fluctuations in the market. If the base year is close to the current year, the index would be more effective in reflecting the changes in the market movement. At the same time if it is too close, the investor cannot make historical comparison.

Revision of sensex scrips

In 1998, the index committee of the BSE decided to give a wide representation to the four market favorites at its meeting. The need to have a broad-based and liquid index was felt with index futures on its way. The revised index has a representation of 15 industries. It has assigned the food and beverages sector a weight of 12. 75 percent with the market cap at Rs. 21,113 crores. Health care industry has been given a weight of 4. 70 percent, Consumer non-durables: 21. 74 percent, petrochemicals: 7. 92 percent, telecom: 7. 71 percent, power: 1. 98 percent, and hotel: 1. 10 percent.

The sensex has the base year as 1978-79 and the next oldest one is the RBI index of ordinary shares with 1980-81 as base year. The following Table gives the summary of major stock market indices.

Major stock market indices Indian stock market indices

Major stock market indices Indian stock market indices

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