From our childhood, we are used to use certain indicators to see or measure the performance of things. We use Celsius or Fahrenheit for measuring temperature of things, Barometer for measuring air pressure, so on and so forth. But there is some significant difference between measurement and an index. Usually, a measurement does not depend on any other parameter and it is taken directly from the object under observation. But usually for an index, there are a few or many parameters used and these parameters are basic measures. So in this sense, an index is made using several measurements and the value of the index is changed due to the changes of the measurements.

When it comes to stock market indices, the story is the same. Some indices take measurements from the entire stock market and some only measure a limited number of companies in the market for their performance. Therefore one market can have few indices focusing on different numbers of companies, different industries etc. One good example is Australian Stock Exchange (ASX). ASX has two indices as ASX100 and ASX200. There are 100 companies monitored under ASX100 and 200 companies for ASX200. But, all of the stock markets would have indices called “ALL share index” (a broad-based) and all the trading that take place in the stock market is subjected to this index.

There are many ways to determine the index price and indices can be classified on the method used for deriving the price. In a price-weighted index, the stock value of the subject stock is the only parameter for determining the index value. Dow Jones Industrial Average and NYSE ARCA Tech 100 Index are two examples of price-weighted indices. Price-weighted indices are very sensitive to the price changes of stock and even a small price-change of stock can make a significant difference in the overall index value. There are other three basic methods used for indices: market-value weighted, capitalization weighted and market-share weighted. In the first two methods, the size of the companies is the governing factor when it comes to the index value. When it comes to market-share weighted method, index value is weighted relative to the number of shares, rather than the value of shares.