UNDERSTANDING THE INDEX NUMBER IN STOCK MARKET

UNDERSTANDING THE INDEX NUMBER

An index is a number which measures the change in a set of values over a period of time. A stock index represents the change in value of a set of stocks which constitute the index. More specifically, a stock index number is the current relative value of a weighted average of the prices of a pre-defined group of equities. It is a relative value because it is expressed relative to the weighted average of prices at some arbitrarily chosen starting date or base period.

The starting value or base of the index is usually set to a number such as 100 or 1000. For example, the base value of the Nifty was set to 1000 on the start date of November 3, 1995. A good stock market index is one which captures the behaviour of the overall equity market. It should represent the market, it should be well diversified and yet highly liquid. Movements of the index should represent the returns obtained by "typical" portfolios in the country.

A market index is very important for its use

• as a barometer for market behaviour,
• as a benchmark portfolio performance,
• as an underlying in derivative instruments like index futures, and
• in passive fund management by index funds