Friday, March 25, 2011

Sensex (Sensitivity Index) calculation

Hello!!!!! my dear lovely friends.......
I am very glad to see you all again after a long long time. Pardon me for this much of gap. But this time i am really back with a good journal. It is about how a Sensex value is calculated. We everyone see the stock market rises and stock market fall but most of us doesn't know what is it and for what that value indicates. So to clear this i am making an attempt to explain. So here we go................

First we have to know what is a share and why it is needed.
Share: A unit of ownership interest in a corporation or financial asset. While owning shares in a business does not mean that the shareholder has direct control over the business's day-to-day operations, being a shareholder does entitle the possessor to an equal distribution in any profits, if any are declared in the form of dividends. The two main types of shares are common shares and preferred shares.

Now we have come to know what is share...
Now let me try to explain what is share market.
A stock market / share market is a public market (a loose network of economic transactions not a physical facility or discrete entity) for the trading of company stock and derivatives at an agreed price; these are securities listed on a stock exchange as well as those only traded privately.

Now we are clear with what is a share and what is share market. After this we will know how many share markets are there in India.
There are 22 stock exchanges are there in India. They are located in Ahmadabad, Mumbai, Culcutta, Bengaluru ......and in other cities.
Famous stock exchanges in India are BSE and NIFTY.

Now let us we know about BSE stock exchange.

Bombay Stock Exchange(BSE):

As the first stock exchange in India, the Bombay Stock Exchange is considered to have played a very important role in the development of the country's capital markets. The Bombay Stock Exchange is the largest of 22 exchanges in India, with over 6,000 listed companies. It is also the fifth largest exchange in the world, with market capitalization of $466 billion.

The Bombay Stock Exchange uses the BSE Sensex, an index of 30 large, developed BSE stocks. This index gives a measure of the overall performance of the Bombay Stock Exchange, and is closely followed around the world. Based on the Sensex, the BSE equity market has grown significantly since 1990.
In addition to individual stocks, the BSE also has a market in derivatives, which was the first to be established in India. Listed derivatives on the exchange include stock futures and options, index futures and options, and weekly options.

The Bombay Stock Exchange is also actively involved with the development of the retail debt market. The debt market in India is considered extremely important, as the country continues to develop and depends on this type of investment for growth. Until recently, the debt market in India was limited to a wholesale market, with banks and financial institutions as the only participants. The Bombay Stock Exchange believes that a retail market will bring great opportunities to individual investors through better diversification.

We can read the whole history in BSE.

Now we are clear with the BSE but you may get doubt that the article is about Sensex but why he wrote about. To clear this read the below lines.....
BSE Index = SENSitivity indEX = SENSEX

The Sensex has a very important function. The Sensex is supposed to be an indicator of the stocks in the BSE. It is supposed to show whether the stocks are generally going up, or generally going down.

To show this accurately, the Sensex is calculated taking into consideration stock prices of 30 different BSE listed companies. It is calculated using the “free-float market capitalization” method. This is a world wide accepted method as one of the best methods for calculating a stock market index.

Please note: The method used for calculating the Sensex and the 30 companies that are taken into consideration are changed from time to time. This is done to make the Sensex an accurate index and so that it represents the BSE stocks properly.

Method of calculating SENSEX:
To really understand how the Sensex is calculated, you simply need to understand what the term “free-float market capitalization” means. But, before we understand what “free-float market capitalization” means, you first need to understand what “market capitalization” means.

You probably think that you have never heard of the term “market capitalization” before. You have! When you are talking about “mid-cap”, “small-cap” and “large-cap” stocks, you are talking about market capitalization!

Market cap or market capitalization is simply the worth of a company in terms of it’s shares! To put it in a simple way, if you were to buy all the shares of a particular company, what is the amount you would have to pay? That amount is called the “market capitalization”!

To calculate the market cap of a particular company, simply multiply the “current share price” by the “number of shares issued by the company”! Just to give you an idea, ONGC, has a market cap of "Rs.235,832.09 mill". 

Depending on the value of the market cap, the company will either be a “mid-cap” or “large-cap” or “small-cap” company! Now the question is, how do YOU calculate the market cap of a particular company? 
Now here is the formula Market cap = (number of outstanding shares) x (current stock price)
Example: Company X possesses 200,000,000 shares of common stock outstanding. The current market price for one share is $40. So, company X's market cap is $8.0 billion (200,000,000 x $40 = $8.0 billion). 

$300 million and below ............... Micro Cap
$1 billion and below ................... Small Cap
$1 billion to $8 billion ................. Mid Cap
$8 billion to $100 billion .............. Large Cap
Above $100 billion ..................... Mega Cap

Having seen what market cap is and how to find out the market cap of a particular company, let us try to understand the concept of “free-float market cap”
Many different types of investors hold the shares of a company! The Govt. may hold some of the shares. Some of the shares may be held by the “founders” or “directors” of the company. Some of the shares may be held by the FDI’s etc. etc!

Now, only the “open market” shares that are free for trading by anyone, are called the “free-float” shares. When we are calculating the Sensex, we are interested in these “free-float” shares!

A particular company, may have certain shares in the open market and certain shares that are not available for trading in the open market.

According the BSE, any shares that DO NOT fall under the following criteria, can be considered to be open market shares:

    * Holdings by founders/directors/ acquirers which has control element
    * Holdings by persons/ bodies with "controlling interest"
    * Government holding as promoter/acquirer
    * Holdings through the FDI Route
    * Strategic stakes by private corporate bodies/ individuals
    * Equity held by associate/group companies (cross-holdings)
    * Equity held by employee welfare trusts
    * Locked-in shares and shares which would not be sold in the open market in normal course.

A company has to submit a complete report about “who has how many of the company’s shares” to the BSE. On the basis of this, the BSE will decide the “free-float factor” of the company. The “free-float factor” is a very valuable number! If you multiply the "free-float factor" with the “market cap” of that company, you will get the “free-float market cap” which is the value of the shares of the company in the open market!

A simple way to understand the “free-float market cap” would be, the total cost of buying all the shares in the open market!

So, having understood what the “free float market cap” is, now what? How do you find out the value of the Sensex at a particular point? Well, it’s pretty simple….

First: Find out the “free-float market cap” of all the 30 companies that make up the Sensex!

Second: Add all the “free-float market cap’s” of all the 30 companies!

Third: Make all this relative to the Sensex base. The value you get is the Sensex value!

The “third” step probably confused you. To understand it, you will need to understand “ratios and proportions” from 5th standard mathematics. Think of it this way:

Suppose, for a “free-float market cap” of Rs.100,000 Cr... the Sensex value is 4000…

Then, for a “free-float market cap” of Rs.150,000 Cr... the Sensex value will be..

Sensex calculation!
So, the Sensex value will be 6000 if the “free-float market cap” comes to Rs.150,000 Cr!

Please Note: Every time one of the 30 companies has a “stock split” or a "bonus" etc. appropriate changes are made in the “market cap” calculations.

Now, there is only one question left to be answered, which 30 companies, why those 30 companies, why no other companies?

The 30 companies that make up the Sensex are selected and reviewed from time to time by an “index committee”. This “index committee” is made up of academicians, mutual fund managers, finance journalists, independent governing board members and other participants in the financial markets.

The main criteria for selecting the 30 stocks is as follows:

Market capitalization: The company should have a market capitalization in the Top 100 market capitalization’s of the BSE. Also the market capitalization of each company should be more than 0.5% of the total market capitalization of the Index.

Trading frequency: The company to be included should have been traded on each and every trading day for the last one year. Exceptions can be made for extreme reasons like share suspension etc.

Number of trades: The scrip should be among the top 150 companies listed by average number of trades per day for the last one year.

Industry representation: The companies should be leaders in their industry group.

Listed history: The companies should have a listing history of at least one year on BSE.

Track record: In the opinion of the index committee, the company should have an acceptable track record.

Having understood all this, you now know how the Sensex is calculated.

After knowing all these method of calculation, we are required to know the 30 compaines listed in BSE. The listed companies are 

Company Name Industry Last Price Change %Chg Mkt Cap (Rs cr) Weight
Bajaj Auto Auto - 2 & 3 Wheelers 1,380.65 27.35 2.02 39,951.46 1.40
Bharti Airtel Telecommunications - Service 339.10 6.20 1.86 128,774.25 4.52
BHEL Engineering - Heavy 2,089.55 38.95 1.90 102,287.65 3.59
Cipla Pharmaceuticals 307.70 2.05 0.67 24,705.89 0.87
DLF Construction & Contracting - Real Estate 248.60 14.45 6.17 42,198.15 1.48
HDFC Finance - Housing 662.90 19.35 3.01 97,193.58 3.41
HDFC Bank Banks - Private Sector 2,261.80 70.30 3.21 105,022.15 3.69
Hero Honda Auto - 2 & 3 Wheelers 1,490.50 14.80 1.00 29,763.42 1.05
Hindalco Aluminium 206.25 1.50 0.73 39,483.35 1.39
HUL Personal Care 271.00 2.20 0.82 59,140.87 2.08
ICICI Bank Banks - Private Sector 1,090.85 38.00 3.61 125,602.89 4.41
Infosys Computers - Software 3,162.00 157.10 5.23 181,539.81 6.37
ITC Cigarettes 177.25 4.40 2.55 137,143.67 4.82
Jaiprakash Asso Construction & Contracting - Civil 90.35 0.95 1.06 19,212.32 0.67
Jindal Steel Steel - Sponge Iron 665.00 5.20 0.79 62,128.89 2.18
Larsen Engineering - Heavy 1,598.30 49.30 3.18 97,145.47 3.41
Mah and Mah Auto - Cars & Jeeps 672.75 8.40 1.26 40,135.40 1.41
Maruti Suzuki Auto - Cars & Jeeps 1,181.80 13.20 1.13 34,143.39 1.20
NTPC Power - Generation/Distribution 182.25 6.70 3.82 150,273.59 5.28
ONGC Oil Drilling And Exploration 275.65 3.20 1.17 235,832.09 8.28
Reliance Refineries 1,026.05 15.95 1.58 335,826.17 11.79
Reliance Comm Telecommunications - Service 106.80 2.10 2.01 22,043.81 0.77
Reliance Infra Power - Generation/Distribution 650.65 14.95 2.35 17,399.70 0.61
SBI Banks - Public Sector 2,709.45 57.75 2.18 172,049.56 6.04
Sterlite Ind Metals - Non Ferrous 168.55 0.40 0.24 56,659.80 1.99
Tata Motors Auto - LCVs/HCVs 1,181.85 26.30 2.28 74,824.11 2.63
Tata Power Power - Generation/Distribution 1,315.00 46.50 3.67 31,205.90 1.10
Tata Steel Steel - Large 613.60 2.85 0.47 55,359.86 1.94
TCS Computers - Software 1,118.20 24.75 2.26 218,856.45 7.69
Wipro Computers - Software 455.85 16.20 3.68 111,842.80 3.93

So friends with this i end the post. I hope i tried my best to give details about the  SENSEX calculation. Thanks for visiting my blog friends......

Have a nice time ahead. Bye..... Its your lovely friend likes person who comment on my post.....