Price-Weighted Indexes Explained

A price-weighted index is a type of stock market index in which each constituent stock contributes to the index value proportionally to its price per share rather than its market capitalisation. Higher-priced stocks have a greater influence on the index’s movement compared to lower-priced stocks, regardless of the company’s size. Price-weighted indexes are used in certain global markets to track the movement of a defined group of stocks based on their prices.

Example: In a hypothetical index with three stocks priced at ₹100, ₹50, and ₹25, the ₹100 stock will impact the index more than the others despite representing a smaller company by market value.

Note: Price-weighted indexes are less common than market-cap-weighted indexes in modern Indian markets, where indices such as the Nifty 50 and BSE Sensex primarily use market-cap weighting.

In a price-weighted index, the stock prices of the constituent companies are summed, and the total is then divided by a divisor to calculate the index value. The divisor is adjusted for stock splits, special dividends, or changes in index composition to maintain continuity in the index value. Stocks with higher prices have a larger effect on the index's overall movement.

Example: If a stock is priced at ₹500 and another at ₹100, the ₹500 stock will move the index more significantly than the ₹100 stock.

The formula for calculating a price-weighted index is:

Price-Weighted Index = (Sum of Stock Prices) ÷ Divisor

Where:

• Sum of Stock Prices: The total of all stock prices in the index.

• Divisor: A number adjusted for corporate actions like stock splits or changes in index composition to maintain consistency.

This price-weighted index formula is used for price-weighted index calculation, where the total of all constituent share prices is divided by a divisor that accounts for corporate actions.

Example: For an index with three stocks priced at ₹100, ₹50, and ₹25, the sum of the stock prices is ₹175. Dividing by a divisor of 3 results in an index value of ₹58.33.

In a price-weighted index, the influence of each stock is determined solely by its market price relative to the total of all stock prices in the index. Unlike market-capitalisation-based indices, there is no role played by the company’s size or number of shares outstanding in this calculation.

The weight of a stock is calculated using the following relationship:

Stock Weight = Stock Price ÷ Sum of Prices of All Index Constituents

This means that a stock’s contribution to the index is its price divided by the combined prices of all the stocks included in the index.

Example

Assume a price-weighted index contains three stocks:

• Stock A: ₹300

• Stock B: ₹150

• Stock C: ₹50

Total of stock prices = ₹300 + ₹150 + ₹50 = ₹500

The weights would be:

• Stock A: 300 ÷ 500 = 60%

• Stock B: 150 ÷ 500 = 30%

• Stock C: 50 ÷ 500 = 10%

This shows that Stock A, because of its higher price, accounts for a larger share of the index’s movement, even if it represents a smaller company by market value.

When stock splits or similar corporate actions change a stock’s price, the index divisor is adjusted so that the calculated weights and the overall index value remain consistent over time. This allows the index to reflect price movements rather than mechanical changes caused by share restructuring.

The value of a price-weighted index is derived from the share prices of its constituent stocks rather than their market capitalisation. Each stock contributes in proportion to its trading price, and the index level reflects the combined movement of all included prices.

To arrive at the index value, the prices of all component stocks are first added together. This total is then divided by a figure known as the divisor, which is used to maintain continuity when corporate actions such as stock splits, stock consolidations, or changes in index constituents occur.

The calculation is represented as:

Price-Weighted Index Value = (Sum of component stock prices) ÷ Divisor

Illustration

Assume an index contains three stocks trading at ₹120, ₹80, and ₹50.
The total of the prices is ₹250.
If the divisor is 3, the index value is:

₹250 ÷ 3 = 83.33

If one of the stocks undergoes a stock split, its price would change even though its underlying value remains the same. In such cases, the divisor is adjusted so that the index level does not change purely because of the corporate action. This adjustment preserves the continuity of the index over time.

Through this method, a price-weighted index reflects changes in the trading prices of its constituent stocks while using the divisor to neutralise mechanical price changes caused by corporate events.

Price-weighted indexes reflect changes in market activity through movements in the share prices of their constituent stocks. Because the index value is derived from the sum of component prices divided by a maintained divisor, stocks with higher nominal prices contribute more to index fluctuations than lower-priced ones.

This structure means that when a high-priced stock moves sharply—whether up or down—it can produce a visible change in the overall index even if lower-priced stocks remain relatively stable. As a result, short-term movements in a price-weighted index often mirror the behaviour of a small set of higher-priced constituents rather than the combined market value of all included companies.

Price-weighted indexes therefore tend to highlight price momentum in selected stocks rather than broad market capitalisation shifts. This makes their trend patterns different from market-capitalisation-weighted indices, where changes are driven by the largest companies by total value rather than by per-share price levels.

Price-weighted indexes represent one of several ways in which stock market indices are constructed. Other commonly used index structures include market-capitalisation-weighted and equal-weighted indexes, each of which reflects stock price movements differently.

In a price-weighted index, each constituent stock influences the index in proportion to its share price. A stock trading at ₹1,000 contributes more to index movement than one trading at ₹100, regardless of the companies’ market sizes.

In a market-capitalisation-weighted index, such as the Nifty 50 or BSE Sensex, a company’s weight depends on its total market value, calculated as share price multiplied by shares outstanding. Larger companies therefore have a greater effect on index movement, even if their share prices are lower than those of smaller firms.

An equal-weighted index assigns the same weight to every stock in the index. Each constituent contributes equally to index changes, so price movements in smaller companies affect the index to the same extent as those in larger companies.

These three structures lead to different index behaviours. Price-weighted indexes are more sensitive to changes in high-priced stocks, market-capitalisation-weighted indexes are driven by changes in the largest companies, and equal-weighted indexes reflect the average movement of all constituents without size-based weighting.

Price-weighted indexes have certain structural characteristics:

• Simple arithmetic structure
  The index is based on the sum of stock prices divided by a divisor, making the calculation method straightforward.
  

• Direct linkage to share prices
  Changes in individual stock prices are directly reflected in index movements.
  

• Continuity through divisor adjustment
  The index level is maintained during events such as stock splits by adjusting the divisor rather than changing past values.
  

• Focused representation of selected stocks
  The index reflects price movements of the specific stocks included in its composition.

Example: If Stock A is priced at ₹200 and Stock B at ₹50, a ₹10 change in Stock A will have a larger effect on the index than the same change in Stock B.

Price-weighted indexes also have structural constraints:

• High-price bias
  Stocks with higher share prices have a larger influence on the index, regardless of company size.
  

• Lack of market-capitalisation weighting
  The index does not account for how large or small a company is in economic terms.
  

• Distorted representation across price ranges
  A stock with a very high price can dominate index movement even if its market value is relatively low.

Example: A stock priced at ₹2,000 can influence the index more than a ₹100 stock, even if the ₹100 stock represents a larger company by market capitalisation.

Price-weighted indexes track the performance of a selected group of stocks based on their share prices, giving greater influence to higher-priced securities. They are calculated using a simple price-and-divisor method and are adjusted for corporate actions such as stock splits. While this structure makes index movements sensitive to price changes in high-priced stocks, it also differs from market-capitalisation-based measures that reflect company size.

This content is for informational purposes only and the same should not be construed as investment advice. Bajaj Finserv Direct Limited shall not be liable or responsible for any investment decision that you may take based on this content.