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Ever wondered how stock index points are calculated ?

How is it said that Sensex gained 100 points and CNX Nifty sheds 47 ?

Sounds complex ? Well, it’s pretty easy. Just simple multiplication and division.

There are many indices listed under different stock exchanges.The method we will be discussing is used for calculation of all the indices under BSE and for CNX Nifty under NSE excluding BSE-PSU Index and dollar linked versions of the indices under BSE.

We know from our current knowledge that Sensex lists down shares traded of around 30 companies and Nifty lists down for 50. You can find the names of the companies listed from the link below:

BSE SENSEX

NSE NIFTY

(Live reports are fascinating, do check out the above websites)

The companies are not chosen randomly but there is a procedure for the same. Few of the conditions include – It should be listed under the index for more than one year, it should be traded each day, it should come under top 150 companies listed under average number of trades for past one year or so and the like.

So, for calculating the stock index points we use a method called ‘Free-float Methodology’.

Free-float Methodology refers to an index construction methodology that takes into consideration only the free-float market capitalization of a company for the purpose of index calculation. Free-float market capitalization is defined as that proportion of total shares issued by the company that are readily available for trading in the market. It generally excludes promoters’ holding, government holding, strategic holding and other locked-in shares that will not come to the market for trading in the normal course. In short, it includes all those shares that are currently being traded in the market.

I’ll explain the process with the help of a simple example.

Suppose we are talking about Sensex, and assume that under Sensex we lists only three companies (to make things easier)

Company X- It has total 2000 shares but 200 shares are held by the promoters. This implies 1800 shares are available for the market trading. Assume the current prices to be Rs.10 ; Therefore, Free float market capitalization value would be 1800*10= 18,000

Company Y- It has total 4000 shares but 1000 shares are locked. This implies 3000 shares are available for the market trading. Assume the current prices to be Rs.18 ; Therefore, Free float market capitalization value would be 3000*18= 54,000

Company Z- It has total 2500 shares but 500 shares are held by the promoters. This implies 2000 shares are available for the market trading. Assume the current prices to be Rs.21 ; Therefore, Free float market capitalization value would be 2000*21= 42,000

Free Float Market Capitalisation of the Index = Company X + Company Y + Company Z

= 18,000 + 54,0000+ 42,000

= 1,14,000

Now assume that the base year for the index in question is say 1978-79, and at that time the free float market capitalization value is 30,000. (Stocks at that time might be different, but that does not matter). It is a universal assumption to take the market value equal to the index value ,ie, 100.

So, the value of index today would be = 114,000 * 100 / 30,000

= 380 points

This calculation is done every day, every minute. Suppose the very next minute the value comes out to be 420 points then we will say Sensex jumped 40 points and similarly for the fall.

So, this is how we calculate index values. Under BSE-PSU Index, instead of free float market capitalisation value we use full market capitalisation value , ie, in case of company X it will be 2000 shares instead of 1800 shares, rest is the same. We’ll discuss calculations for the dollar linked versions and other indices under NSE in future posts.

For any queries, feel free to contact me.

Thank you.