When beginning your investment journey in the share market, you might have heard about the stock market index, which acts as a barometer of the stock market. Right? But what does stock market index indicate and why is it important for investors and traders?
In Physics, we learned about various units of measurements that help us in evaluating and comparing similar things. For example, we can measure the temperature and humidity of the day in advance using different instruments and units. Knowing these values helps us in planning our day in advance.
Similarly in the stock market, there is the stock market index that evaluates the market condition and helps in understanding the market condition that eventually helping traders and investors to plan their next move in the market.
Importance of Stock Market Index
There are multiple indices in the Indian share market that help in analyzing the sector and market conditions. Among them, the two major indices are the Nifty50 and Sensex where the top performing 50 and 30 companies of NSE and BSE are listed, respectively.
Now depending upon the weightage, these sectors and companies are responsible for driving these indices upward and downwards.
Apart from this, there are many more benefits and roles of these indices. So, let’s have a look at what does stock market index indicate:
- Reflection of investor sentiment: If you are investing in equity markets, knowing investors’ sentiment becomes an important point. Investor sentiment is a very important factor in stock market movement. That means, if the index value is high, the demand for the stock will increase and this will lead to a rise in the prices of shares. Thus the stock market index helps to gauge investors’ sentiment.
- Stock Market Prediction: One of the major roles of indices in the stock market, is it helps in predicting the next move thus helping investors to plan long-term investments, and derivatives traders (F&O traders) to take a long and short position in a particular contract.
- Sorting: There are thousands of companies listed on the stock market. So it really becomes hard to choose which company one should invest in. Here comes the market index in the picture. There are some key characteristics like the size of the company and the stock market sectors it belongs to, etc, used to arrive at the index value of share and company. So you can pick a share of your preference by looking at these characteristics.
- Passive Investment: Some investors like to invest in a portfolio of securities that resembles an index. This is called passive investment. This index portfolio helps investors to cut down the cost of research and stock selection as they can rely on the index for stock selection. As a result, the return on the portfolio will match that of the index portfolio.
- Representation: Market indices act as a representative of the entire market or a particular segment like banking or auto. In India BSE Sensex and the NSE Nifty are used as the benchmark indices. That means they represent the overall performance of the market. In the same manner, an index formed by bundling of, say tech shares represents the overall presence of the tech sector.
- Helps to minimize investors’ loss::Investing in index stocks is a sure shot way to gain from the money you invested in the stock market. Index stocks help an investor by diversifying their investment portfolio. Traders can invest their money in a bundle of stocks by looking at their performance in indices. That helps them to minimize their loss and maximize gains from the stock market.
- Comparison: Every investor wants to know whether a particular stock is worth the money he is investing in. That is where a market index comes in handy. By comparing with the underlying index, an investor can easily judge the performance of a stock. That means if the stock gives higher returns than the index, it’s said to have outperformed the index and the opposite of this reflects the underperformance of the stock against an index.
There are many sectors in the stock market and each sector holds a weightage in percentage to create the long list of Nifty and Sensex indices.
Outperformance or underperformance of any of the major sectors helps in evaluating the index performance which further helps in providing an overview of the market condition to traders and investors.
So, if you are a beginner and want to take the investment move in the right direction then understand the meaning and importance of the stock market index in detail before beginning.
You can gain detailed information on the same by registering yourself in the stock market courses available online.
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