How Indexes of Stock Markets are calculated

 Stock market indexes are statistical measures that reflect the performance of a specific group of stocks, providing insights into the overall market or a particular sector's trends. The calculation of these indexes varies based on their weighting methodologies. The primary methods include:

1. Price-Weighted Index:

   • Calculation: The index value is derived by summing the prices of all constituent stocks and then dividing by a divisor, which is adjusted for stock splits and other corporate actions.
   • Example: The Dow Jones Industrial Average (DJIA) is a notable price-weighted index. In the DJIA, higher-priced stocks have a more significant impact on the index's movements.
     wsj.com

2. Capitalization-Weighted Index (Market-Value Weighted):

   • Calculation: Each stock's weight in the index is proportional to its total market capitalization, calculated by multiplying the stock's current price by its outstanding shares. The index value is the total market capitalization of all constituents divided by a divisor.
   • Example: The S&P 500 is a widely recognized capitalization-weighted index. In such indexes, larger companies exert more influence on the index's performance.
     marketwatch.com

3. Free-Float Adjusted Index:

   • Calculation: Similar to the capitalization-weighted method, but only the shares available for public trading (excluding restricted shares) are considered. This adjustment provides a more accurate reflection of market dynamics.
   • Example: The S&P 500 employs free-float adjustments to account for shares readily available in the market.

4. Fundamentally Weighted Index:

   • Calculation: Stocks are weighted based on fundamental metrics such as sales, earnings, or book value, rather than market capitalization or price.
   • Example: Some indexes use this methodology to emphasize companies with strong fundamental attributes, offering an alternative perspective to traditional weighting schemes.

Each weighting method offers a unique perspective on market performance, catering to different investment strategies and analytical needs.