Abstract: In this article we are going to

Abstract:

In this article we are going to be talking
about the stock market in general and stock indices in particular, first we are
going to define both concepts and understanding them as well as showing what
fluctuations in stock value mean for individuals and for the economy as a
whole, and mentioning the usefulness of the stock indices then giving a brief
example to better understand the concept as a whole.

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STOCK
EXCHANGE

 The stock exchange can be defined as a unified market for buying
and selling stocks where the price is determined by supply and demand.

Stock
exchange market is a place where stocks and bonds are
traded.

In
stock exchanges, nonstop trading in securities takes place and the trade occurs
at different prices. even on a single day, the prices of securities may vary.

On
any trading day, four prices can be easily identified, opening price, closing
price, highest price of the day and the lowest price of the day. Normally
prices move in a recurring fashion, showing increasing and decreasing changes. The
short term and long term fluctuations in prices are signs of the deviations in
the economic variables.

A
stock market index is a method of measuring a segment of the stock market. Several
indices are named by financial facilities and organizations to be used as standards,
to measure the performance of mutual funds. On the other hand, an index may
also be considered as an instrument which derives its worth from other indices.
The index may be unfair to reflect the market capitalization of its constituents,
or may be a simple index which represents the gross change in the prices of the
underlying asset. Publicly quoted stock market indices are weighted.

Stock
market indices are useful in understanding the prices and the trend of the
price movements of the market. A stock market index is calculated by choosing a
group of stocks that are able to represent the whole market or a detailed
sector or segment of the market. The change in the prices of this group of
securities is measured to a base period. There is usually a provision for
giving weights to different stocks on the basis of their prominence in the
economy. A stock market index acts as a sign of the performance of the economy.

 

 

 

 

 

 

THEIR HELPFULNESS:

·        
Indices help identify wide-ranging
trends in the market.

·        
The stockholder can use the
indices to allocate the funds reasonably amongst the stocks.

·        
Technical analysts practice these
indices to forecast the future market.

·        
Indices act as a report on the
general economy.

 

 

CRITERIA FOR
SELECTING STOCKS TO CALCULATE INDEX

Listing
history: The Company should have listing history on BSE for at least one year.

Track
record: The Company should have listing history.

Market
capitalization: Company should have one among 100 market capitalizations of
BSE, and each company should have more than0.5% of total market capitalization
of BSE INDEX.

 Frequency of trading: Company stocks should be
traded on each and every trading day for the last one year.

Industrial
representation: Company should be a leader in the industry it represents.

 

The Dow
Jones Industrial Average

The Dow Jones Industrial Average (DJIA)

·        
Is the first and best known stock
market index.

·        
Is based on the stock prices of
30 of the largest companies in the U.S.

·        
Measures the value of purchasing
a single share of each of the stocks in the index.

The percentage change in the DJIA over time
is the percentage change in the sum of the 30 prices.

The DJIA is a Price-Weighted Index (or
Price-Weighted Average) which is an index in which the member companies are
weighted in proportion to their price per share, rather than by number of
shares outstanding, market capitalization or other factors. It gives greater
weight to shares with higher prices.

The behavior of higher priced stocks
dominates the movement of a Price-Weighted Index.

 

 

The Standard
and Poor’s 500 Index

 

The
Standard and Poor’s 500 Index (the S&P 500) is constructed from the prices
of many more stocks than the DJIA.

It
is based on the value of 500 largest firms in the U.S. economy.

It
tracks the total value of owing the entirety of those firms.

It
uses a Value-Weighted Index where larger firms carry more weight.

Value-Weighted
Index seeks not only to avoid the losses due to the inefficiencies of
market-cap weighting, but to add performance by buying more of stocks when they
are available at specific prices. It is continually rebalanced to weight most
heavily those stocks that are priced at the largest discount to various
measures of value.

If
a firm is priced at $100 and has 10 million shares outstanding, its total
market value or market capitalization, is worth $1 billion.

A
Price Weighted Index gives more importance to stocks that have high prices.

A
Value Weighted Index gives more importance to companies with a high market
value.

Changes
in a Price-Weighted Index tell us the change in the price of a typical stock.

Changes
in the Value-Weighted Index accurately mirror changes in the economy’s overall
wealth.