All About Sensex and Nifty: Understanding the Details

Sensex full form is the Stock Exchange Sensitive Index. It is the portmanteau of the words Sensitive and Index. It is a benchmark index that lists 30 companies listed within the Bombay Stock Exchange. Launched on January 1, 1986, the Sensex indicates the movement of the Indian stock market. Through Sensex, investors and traders compare the performance of funds and understand the value movement. When the value of Sensex increases, the value of the stocks also increases. Whenever the Sensex value goes down, the value of stocks in general decreases.

Table of Contents

• What is SENSEX?
• How does SENSEX work?
• What Does the Weight of a Company Mean?
• Calculation of SENSEX
• Correlation Between Sensex and Nifty 50  

What is SENSEX?

S&P BSE Sensex is made up of securities that are traded within the stock market. The change in this stock market index reflects the market sentiment as well as the price movement of financial products such as commodities This is a free-float market-weighted stock market index consisting of 30 well-established and financially stable companies that are listed on BSE. These are 30 companies that are the largest and most actively traded stocks representing different industrial sectors of the Indian economy.

How does SENSEX work?

SENSEX is the average of 30 stocks price listed on BSE. When the price of majority of the 30 stocks increases, SENSEX goes up (indicated as an upward green arrow). Similarly, when the prices of the majority of stocks decrease, SENSEX goes down (indicated as a downward red arrow).

Remember, if a company has more weight; it will have more impact on the SENSEX. Now let us again at how SENSEX works:

• Choosing Companies: The SENSEX is based on 30 companies that are listed on the Bombay Stock Exchange. These companies are like the “students” in our classroom analogy mentioned above. They are chosen because they are large, well-established companies that represent various sectors of India’s economy.
• Measuring Stock Prices: Similar to the score of students, each company’s “score” is its stock price. If a company’s stock price goes up, that is similar to a student getting a higher score on a test. If the stock price goes down, that is like a student getting a lower score.
• Calculating the SENSEX: The SENSEX is calculated based on the stock prices of these 30 companies. If most of the companies have their stock prices go up, the SENSEX goes up. If most of the companies have their stock prices go down, the SENSEX goes down.

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What Does the Weight of a Company Mean?

Suppose, Sensex is a bag of different types of candies. Each type of candy represents a different company. The weight of a company is like the amount of a certain type of candy in the bag.

Let us say you have 10 chocolate candies, 20 gummy candies, and 70 jelly beans in the bag. The bag represents the Sensex, and the candies represent the companies. The chocolate candies might be a big company like Reliance Industries, the gummy candies might be a medium-sized company like Tata Motors, and the jelly beans might be smaller companies.

The “weight” of each candy type (or company) is how much space it takes up in the bag. So, in our example, jelly beans have the most weight because there are 70 of them, and they take up most of the space in the bag. The chocolates and gummies have less weight because there are fewer of them in the bag.

So, when we talk about the weight of a company in the Sensex, we’re talking about how much “space” that company takes up in the “bag” of the Sensex. The more “space” it takes up, the more it can change the total value of the candies in the bag. If we add more chocolates to the bag or if each chocolate becomes more valuable (maybe because it’s a special edition chocolate), the total value of the candies in the bag (the Sensex) will go up.

Calculation of SENSEX

SENSEX uses a Free-float Market capitalisation-weighted methodology to assess the impact of constituent companies on SENSEX value. Let us understand this calculation in detail.

So, what is this free-float market capitalization-weighted methodology?

The SENSEX is free-float market-weighted where the index level represents the total market value of stocks relative to the base period.

SENSEX = (Sum of free-float market cap of 30 constituent stocks) / Base value

Here, the free float market cap of a stock is calculated by multiplying the price of a single share of a company by the number of its shares that are available for trading. Free float represents the number of shares that are available for the public to buy and sell in the stock market. 

This base period is 1978-79 since one remarkable event (unrelated to the financial market) took place this year. During this year, systematic monitoring of the total solar irradiance from space was initiated. and the base value was fixed as 100 index points on 1 April 1979. 

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Correlation Between Sensex and Nifty 50

The following table shows the correlation between Sensex and Nifty 50:

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