An index is a statistical term that refers to changes in representative data points over a certain time period. The term can be applied in different fields including finance and economics. An index summarizes the change that occurs in different contexts.
How Index is Important for Investors
In the context of finance and economics, an index refers to a change in the statistical measure of a representative group of securities and goods over a particular time period. The representative group can include different sources including a basket of products bought by an average consumer, a list of securities traded in the stock exchange, indexed mutual funds or ETFs, and indexed annuities.
Important economic index that investors should monitor when conducting fundamental analysis include consumer price index, unemployment index, GDP index, consumer confidence index, and purchasing managers index. These indexes will allow investors to gauge the present economic situation in a country and make wise investment decisions.
When it comes to financial stock market, there are a number of stock indexes that represent performance of stocks traded in respective countries. Popular stock indexes include S&P 500, NYSE, DJIA, and NASDAQ (USA), FTSE (England), CAC (France), DAX (Germany), Nikkei (Japan), Hang Seng (Hong Kong), Mumbai Sensex (India), and Shanghai SE Composite Index (China).
Stock indexes represent position of stocks in a particular period as compared to a benchmark period. The benchmark period has an index of 100. Increasing index values represent improved market conditions with rising stock prices. The opposite is the case with decreasing stock values. Every stock index uses its own unique methodology to calculate the base value. Thus, the percentage change in index is more important than the index values.
Most of the stock indexes give weightage to companies based on the market capitalization. For instance, a company that has a market capitalization of $1 million will have a higher weightage as compared to a small cap company. This means that changes in stock values of larger companies have a greater influence on the index as compared to that of small companies. This gives a more accurate representation of the overall stock market performance. Investors can use this information to make decisions such as invest in the stocks, sell them, or hold the stocks until the market turns favorable.
Further Reading
- Study on Finance Condition Index and Asset Price Channel of Monetary Policy in China [J] – en.cnki.com.cn [PDF]
- Author Affiliation Index, finance journal ranking, and the pattern of authorship – www.sciencedirect.com [PDF]
- Implications of measuring VaR using historical simulation; An example of Zagreb Stock Exchange index-CROBEX – www.bib.irb.hr [PDF]
- The Efficiency of Finance Development on Improving Technological Innovation——Based on the Malmquist Index Analysis [J] – en.cnki.com.cn [PDF]
- Poverty traps and climate risk: limitations and opportunities of index-based risk financing – papers.ssrn.com [PDF]
- Neural networks in finance and economics forecasting – www.worldscientific.com [PDF]
- A more predictive index of market sentiment – www.tandfonline.com [PDF]
