What is a Market Index?

A market index is a brief representative collection of various types of stocks that aim to characterize a particular segment of the stock market. It provides insight into the whole market's performance and trends. The stocks are selected based on predetermined criteria, which include:

• Market capitalization
• Sector representation
• Liquidity

Monitoring a market index lets investors understand how a particular market segment is doing. A good example is the Nifty 50, which includes 50 of the biggest and most liquid companies listed on the NSE, while the Sensex consists of the 30 largest companies listed on the BSE.

 

How Market Index Works

Financial institutions develop market indices according to specific methodologies. Here is how market index works:

• Selection: Companies in an index are included and picked based on market capitalization, sectoral representation and turnover.
• Weightage: Most indices are weighted, either by market capitalization or price. For example, the Sensex is a free-float market capitalization-weighted index. It means that companies with larger market caps have more influence on the movements of the index.
• Updation: Indices are periodically updated to ensure they reflect the prevailing market accurately. Companies that do not qualify are removed from the index.

 

Types of Market Indices

Market indices can be broadly classified into the following categories:

• Broad Market Indices: These comprise stocks from nearly all sectors. The Nifty 50 and Sensex are examples of broad market indices.
• Sectoral Indices: These are divided further into sub-indices, enabling investors to track a given sector's performance. Examples include Nifty IT and Nifty Bank.
• Thematic Indices: These track companies regarding specific themes, such as ESG (Environmental, Social, and Governance) considerations or compliance.
• Market Capitalization-Based Indices: These are further categorized into large, mid, and small-cap indices. An example is Nifty Midcap 100 and Nifty Small-cap 100.
• International Indices: A few indices track international stocks that Indian investors can access via ETFs or mutual funds. Examples include the Nasdaq 100 and S&P 500 ETFs.

 

Examples of Indian Market Indices

Here are some of the top market indices you must have come across as an active investor and trader:

• Sensex: It tracks the top 30 companies on the BSE.
• Nifty 50: It represents the top 50 companies on the NSE.
• Nifty Bank: It focuses on leading banking sector stocks.
• Nifty IT: It captures major players in the Indian IT sector.

 

Conclusion

Market indices are an important aspect of the stock market. Whether you are a seasoned investor or a beginner, the way in which indices work may empower you to function with effectiveness in the dynamic Indian financial landscape. Apart from representing the economic situation, the market index also provides opportunities for long-term wealth creation.