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Sensex and Nifty calculation: Behind the numbers

Most investors see Sensex and Nifty numbers and treat them like weather updates. They notice if they're going up or down, but rarely understand what actually makes these numbers move. The truth is, there's a precise mathematical formula behind every point change.

These numbers follow a specific calculation that represents the combined performance of India's most powerful companies. Once you understand how these numbers are calculated, market movements start making much more sense. You'll stop seeing them as mysterious numbers and start understanding what they actually tell you about the companies and economy behind them.

What are Sensex and Nifty?

Sensex and Nifty are market indicators, also called indices. They work like barometers for the stock market because they show how the market as a whole is performing.

Sensex tracks the performance of the top 30 companies listed on the Bombay Stock Exchange (BSE). Nifty tracks the top 50 companies on the National Stock Exchange (NSE).

When Sensex or Nifty goes up, it generally means the market is doing well. When they go down, it signals declining market sentiment. The numbers you see aren't random. They're carefully calculated values based on real company data.

How are Sensex and Nifty calculated?

Both indices use the same formula:

Index value = (Total free float market capitalisation ÷ Base market capitalisation) × Base index value

This might look complicated, but let's break it down step by step. The most important part of this calculation is free float market capitalisation:

Free float market cap = Market capitalisation × Free float factor

Let's understand each term:

Market capitalisation: This is calculated by multiplying the company's share price by the total number of shares the company has issued.

Free float factor: This represents the percentage of shares available for public trading. It excludes shares held by promoters, institutions, and government bodies.

Let's say Reliance Industries has:

  • Share price: ₹1,200
  • Total shares: 1,400 crore

The market capitalisation would be: 1,400 crore shares × ₹1,200 per share = ₹16 lakh crore

Now, if 770 crore shares are held by promoters and not available for public trading, the free float factor would be: (1,400 crore minus 770 crore) ÷ 1,400 crore = 0.45

So Reliance's free float market capitalisation would be: ₹16 lakh crore × 0.45 = ₹7.2 lakh crore

Base market capitalisation and base index value

These are constants set by the stock exchanges:

  • For Nifty: Base market cap is ₹2.06 trillion, base index value is 1,000
  • For Sensex: Base market cap is ₹2,501 crore, base index value is 100

To calculate the final index value, the free float market capitalisation of all companies (30 for Sensex, 50 for Nifty) is added together and plugged into the main formula.

How are companies selected for Sensex and Nifty?

Companies don't just randomly get included in these indices. They need to meet specific criteria:

  • Exchange listing requirement:
    • For Nifty: Must be listed on the NSE
    • For Sensex: Must be listed on the BSE
  • Industry representation: The company must represent the industry in which it operates. For example, TCS represents the technology sector, while HDFC Bank represents the banking sector.
  • Strong financial performance: Companies should have a good financial track record and be among the top performers in their sector.
  • High trading volume: Selected companies need high liquidity, meaning their shares are actively traded in large volumes daily.
  • Clean track record: Companies should have transparency in their operations with no major legal or financial issues.

Why does this matter to you as an investor?

Understanding how these indices work helps you in several ways:

  • Understanding market movements: When you know that indices are based on free float market cap, you'll understand why a stock split or bonus issue doesn't affect the index much, but changes in share prices of large companies like Reliance or TCS can move the entire index significantly.
  • Spotting overreactions: If the index drops heavily but you know it's mainly due to one or two large companies falling, you can assess whether the broader market panic is justified or if it's an overreaction.
  • Evaluating index fund performance: When you invest in index funds or ETFs, you'll understand exactly what you're buying. You'll know that your money is weighted more toward companies with higher free float market caps, not just the companies with the highest share prices.
  • Evaluating portfolio performance correctly: Instead of just comparing your returns to the index number, you'll understand that beating Nifty means you've outperformed a specific set of 50 companies weighted by their free float market cap, giving you a clearer picture of your investment skills.
  • Timing your investments: During market volatility, understanding that index movements reflect the weighted performance of specific companies helps you decide whether to invest more during dips or stay cautious based on the fundamental health of these key companies.

While you don't need to manually calculate Sensex or Nifty values, understanding how they work gives you valuable insight into the market. These indices aren't just numbers that go up and down. They represent the collective performance of India's biggest companies. This knowledge puts you ahead of most investors who simply react to green and red numbers without understanding what's behind them.