A Brief study…
Both of these are ‘Indices’, they represent a group of top companies averaged out in a single number.
If the Sensex is up, you can say that on average, most stocks are gaining and the true is opposite if the Index falls.
There are two main exchanges in India – The National Stock Exchange (NSE) & The Bombay Stock Exchange (BSE).
Sensex and NIFTY are two such prominent market indices that function within the Indian stock market. These two market indexes represent the stocks for BSE (Bombay Stock Exchange) and NSE (National Stock Exchange) respectively. Specifically, Sensex represents 30 companies under BSE while Nifty represents 50 companies under NSE.
What is NSE and BSE?
Both National Stock Exchange and Bombay Stock Exchange are located in Mumbai. The objective of these stock exchanges is to facilitate trading of all types of securities like equity or capital markets, derivatives like future and options, IPOs (Initial Public offerings), debt instruments, mutual funds etc.
The major difference between these two stock exchanges is the date of establishment; NSE was established in 1992 while BSE in 1875, making it the oldest stock exchange in India. In addition, BSE is also the world’s 11th largest stock exchange in terms of market capitalization (Market capitalization is the combined worth of all the stocks of different companies within the stock exchange. In terms of stocks of a company, the market cap is segregated into Large cap, mid-cap and small-cap stocks).
How is stock market index calculated?
To interpret and analyze the performance of a market index like Sensex or Nifty, a basic understanding of how the index is calculated, is useful.
Let’s consider that a market index needs to be designed based on the market cap of 40 companies. An index committee studies and analyzes different companies and then compiles a list of 40 companies based on their respective “free-float market cap” on the basis of liquidity and high market capitalization.
Free float market cap is deduced from stocks that are available for trading in the stock market and not held by Government or company personnel.
After that, the market cap of these 40 companies is added and made relative to the base year that is used for the construction of the market index. Generally, the value of the base year is set at 100 for the ease of calculating percentage changes of the index.
Importance of market indices : SENSEX and NIFTY
The primary purpose of a market index is to be an indicator of how the stock market will perform.
Financial research analysts use market indices in economic research for facilitating better regulatory measures to increase the market cap as well the performance of the stock market.
Market indices play a significant role in passively managed Index Mutual Funds. They are also used as benchmarks to measure the performance of Fund Managers handling mutual funds.
Analysis of market indices allows individuals to use index-based derivatives to offset risk through hedging. In that regard, market indices have a big part in the risk management practices within the global economy.