Security Market Indices

Chapter 3
 What is an Index
 In the case of financial markets, an index is an imaginary portfolio
of securities representing a particular market or a portion of it.

 Statistical measure of change in an economy or a securities market.

 Each index has its own calculation methodology and is usually

expressed in terms of a change from a base value. Thus, the
percentage change is more important than the actual numeric value

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 Uses of Security Market Indices
 Security Market Indexes have at least 5 specific uses
» Benchmark
– An aggregate stock or bond market index can be used as a benchmark to
judge the performance of professional money managers
» To develop index portfolio
– Index fund or exchange traded funds
» To examine factors that influence aggregate security price movements
» Technicians use historic price movement to predict future price
movements
» Used as a proxy for the market of risky assets

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 Differentiating Factors in Constructing
Market Indices
 Weighting Sample Members

» Three principal weighting schemes are used for security market

indexes

– A price weighted index

– A market value weighted index

– An un-weighted index or equally weighted index

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 Stock Market Indices
 Price Weighted Index

» It is an arithmetic mean of current prices, which means that index

movements are influenced by the differential prices of the components

– Dow Jones Industrial Average

– Nikkei-Dow Jones Average

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 Stock Market Indices
 Value weighted Index

» It is generated by deriving the initial total market value of all stocks

used in the index
Market Value= Number of Shares outstanding x Current Market Price
» Automatic adjustment of stock split and capital Changes

 Free float adjustments - KSE-100 vs. KSE-30

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 Stock Market Indices
 Un-weighted Index
 Style Index
» Tailored according to the needs of market mangers
» Types of stock
– Growth vs. Value
» These two styles (Size and Type) were combined into six categories
– Small cap growth small cap value
– Mid cap growth mid cap value
– Large cap growth large cap value

 What is Index Reconstitution and rebalancing?

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 KSE-30 vs. KSE - 100
 Free float adjusted index

 Weights
Commercial Bank 27%
Oil & Gas 20%
Fertilizer/ Chemical 20%
Power 12%
Cement 14%
Textile 2%
Telecom 1%
Insurance 1%
Foods 2%
Utilities 1%

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 Bond Market Index
 They are relatively new and not widely published
 It is difficult to create a bond market index
» Universe of bonds is much broader
» The universe of bonds changes constantly
» Bond price volatility
 The 3 types of bond indexes are
» US Investment Grade Bond Indexes
» High Yield Bond Indexes
» Global Government Bond Indexes