Article

SENSEX: The Richter scale of Indian Stock Market

date 25  April,  2023
time 4 mins read

If you are living in India, you would have heard the term ‘Sensex’ a couple of times. India is one of the largest growing economies in the world, and the stock market contributes a large part to the country’s economic growth. Suppose we want to establish a relationship between the economy and the stock market. In that case, we can add a proportionality sign between both but with some decay value in the economy as the stock market has grown more than our economy. The Sensex is one of the two indices of the Indian stock market, representing the performance of the country’s top 30 companies listed on the Bombay Stock Exchange (BSE). Each of the 30 stocks is highly influential and represents India’s major industry/sector. The BSE Sensex value increases or decreases depending on how the stock prices of these 30 companies fluctuate with time. In this article, we will briefly tour the history, composition, and importance of Sensex in the Indian economy.

History of Sensex

The Bombay Stock Exchange, or BSE, was established in 1875. It is the oldest stock exchange in Asia. However, it took a long time to introduce the index in the BSE. In 1986, the BSE introduced the Sensex, as the word indicates it combines ‘sensitive’ and ‘index’. Initially, it only comprised the top 30 companies listed on the exchange, but the composition has not been uniform over the past years. It has been revised multiple times by including new companies and excluding existing ones.

Composition

As of April 2023, Sensex comprises 30 companies representing 12 sectors of the Indian economy, such as banking, energy, healthcare, information technology, and consumer goods. The companies included in the index are chosen based on different factors such as their market capitalisation, sector ranking, and past performance.

There’s a criterion for how these 30 stocks are picked for the index, which is as follows:

  • All the stocks must be listed on the BSE to be eligible. But the minimum time for their listing has to be at least six months.
  • The stock should have higher liquidity so that trading will be easier.
  • The company should be considered mid-sized or large according to market capitalisation or simply belong in the top 75 companies based on the total market cap.
  • Lastly, the company should have a well-balanced sector weight. The larger the cap size of the company, the bigger its weight is in the index.

Here is the list of companies and their respective sectors that are currently part of Sensex as of April 2023:

SectorCompany
BanksHDFC Bank, ICICI Bank, Kotak Mahindra Bank
EnergyReliance Industries
PharmaceuticalsSun Pharmaceuticals, Dr. Reddy’s Laboratories
AutomobilesMaruti Suzuki India, Mahindra & Mahindra
Information TechnologyInfosys, Tata Consultancy Services, Wipro, HCL Technologies
Consumer GoodsHindustan Unilever, ITC Limited, Nestle India
MetalsTata Steel, Jindal Steel

Calculation of Sensex

BSE Sensex is calculated using a method called free-float market capitalisation. To better understand this, let’s break down the whole term into two key components:

  1. Free float: Floating shares refer to the number of a company’s outstanding shares open to trade publicly.
  2. Market capitalisation: Market cap is a company’s aggregate value calculated based on its number of outstanding shares and its current share price. For example, if a company has 10,000 outstanding shares priced at Rs 50 each, it will have a market cap of Rs 5,00,000.

So, how does this information help in calculating the Sensex value?

As the method only involves free-float shares, it excludes the company’s privately-owned shares or those owned by the government and promoters. This is why the company’s free-float market cap value is less than its actual market cap value.

Example:

Let’s assume A and B are two companies listed on BSE with outstanding shares of 10,000 and 15,000, respectively. Each share is priced at Rs. 100, and the Sensex is at 50,000 points at the moment.

  • Free float market cap of A = (10,000 x 100) = Rs 10,00,000
  • Free float market cap of B = (15,000 X 100) = Rs 15,00,000
  • Total market cap = Rs 25,00,000

The next day, A’s share price drops to 90 while B’s share price increases to 120. What will happen?

  • The new total market cap = Rs 27,00,000
  • As a result, the market cap of BSE will rise by 8%, and the new Sensex value will increase by 3240 points.

Importance of Sensex

As we know, an indicator is necessary to represent the whole sentiment and valuation of a large entity. In the same way, the Sensex is essential to provide a calculated sentiment of the entire Bombay Stock Exchange. If you see the Sensex moved from its initial value (100) to a large value now (60,392), this proportionally means that the whole stock market and our economy also grew the same way. By just watching the Sensex, we can tell whether the market is bullish or bearish.

The Sensex is also used as a reference point for various types of funds like index funds, ETFs, and future and option contracts. These products are an indirect way to invest in the stock market without directly investing in stocks.

As Sensex consists of companies from different sectors, it also provides an outlook for every sector, and we can conclude on that basis which sector is best to invest in at the current position. The Sensex is an essential tool to gauge the overall condition of the Indian stock market and the Indian economy too. By keeping track of the performance of the top 30 companies across diverse sectors, Sensex offers valuable insights into market trends and growth. Furthermore, it is a reference point for various investment products such as index funds, ETFs, and future and option contracts.

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