What is a Stock Market Index?

-    Stock market indices basically convey the mood of the market and act as the market’s messengers
-    Indices represent different clusters of stocks/industries and the rise and fall in these indices’ values is a close representation of the market’s view on the stocks that make these indices.  Hence, stock market news is cumulatively reflected in the movement of the index
-    Simply put, an index represents the composite value of shares of different companies traded on a particular stock of exchange
-    Till late 1980s, there was no index for India’s stock markets, till the Bombay Stock Exchange (BSE) introduced the ‘Sensex’ in 1986 (which represents composite share value of 30 selected companies trading in BSE).
-    Later in the 1990s, the National Stock Exchange (NSE) introduced another index, popularly known as the Nifty (which represents composite share value of 50 selected companies trading on NSE)
Stock market indices provide us with a common measurement tool for the raise and fall in prices of shares that are traded on the index

First list of companies in BSE Sensex as on 01st January 1978

Companies in the BSE Sensex      
Asian Cables    Indian Organic      
Ballarpur Industries Limited    Indian Rayon      
Bombay Burmah    ITC      
Ceat Limited    Kirloskar Cummins      
Century Textiles    L&T      
Crompton Greaves    Mahindra & Mahindra      
Glaxo Smithkline Pharma    Mukand Iron      
Grasim    Nestle      
GSFC    RIL      
Hindalco    Scindia Shipping [4]      
Hindustan Motors    Siemens      
HLL    Tata Motors      
Indian Hotels Company    Tata Power      
Indian Organic    Tata Steel      
Indian Rayon    Zenith   

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Latest List* of companies in BSE sensex today

Latest List* of companies in BSE sensex today       

Company     Sector      
ACC*    Housing Related      
BHEL    Capital Goods      
Bharti Airel    Telecom      
DLF Universal Limited    Housing Related      
Grasim Industries*    Diversified      
HDFC    Finance      
HDFC Bank    Finance      
Hindalco Industries*    Metal, Metal Products & Mining      
Hindustan Lever Limited*    FMCG      
ICICI Bank    Finance      
Infosys    Information Technology      
ITC Limited    FMCG      
Jaiprakash Associates    Housing Related      
Larsen & Toubro    Capital Goods      
Mahindra & Mahindra Limited    Transport Equipments   
 
Maruti Suzki    Transport Equipments      
NTPC    Power      
ONGC    Oil & Gas      
Ranbaxy Laboratories    Healthcare      
Reliance Communications    Telecom      
Reliance Industries*    Oil & Gas      
Reliance Infrastructure    Power      
State Bank of India    Finance      
Sterlite Industries    Metal, Metal Products, and Mining      
Sun Pharmaceutical Industries    Healthcare      
Tata Consultancy Services    Information Technology      
Tata Motors*    Transport Equipments      
Tata Power    Power      
Tata Steel*    Metal, Metal Products, and Mining      
Wipro    Information Technology   

*ACC, Grasim, Hindalco, HLL, ITC, RIL, Tata Motors and Tata Steel are the only eight companies that have been a part of the Sensex since its inception

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How is an Index Constructed?

-Three basic ingredients have to be judged:
1.    Base year for measurement
2.    Number of companies to be included
3.    Base value (For eg: 10/100/1000)

-For BSE Sensex:
-    Base year: 1978-79
-    Number of companies: 30
-    Base value: 100
-    Date of launch: January 1, 1986 (baseline to 1978-79)
-    Index calculated every 15 seconds

No written rule which specifies number of companies to be included or base value to be consider (Sensex considered 100 as it was neither too large nor too small a value)


On what basis are companies chosen to be part of an Index?
-    Composition of the companies in an index can keep changing periodically
-    Some factors on which the decision to include a company depends on:
o    Size of free float market capitalization
o    Frequency of trading
o    Listed history and track record
o    Industry representation
-    When the BSE Sensex was originally formed, it used the weigh of market capitalization of companies, but from September 2003 onwards, it shifted to the free-float market capitalization method.

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Selection Criteria For BSE Sensex

-    Listed History: The scrip should have a listing history of at least 3 months at BSE. Exception may be considered if full market capitalization of a newly listed company ranks among top 10 in the list of BSE universe.  In case, a company is listed on account of merger / de-merger / amalgamation, minimum listing history would not be required.
-    Trading Frequency: The scrip should have been traded on each and every trading day in the last three months at BSE.  Exceptions can be made for extreme reasons like scrip suspension etc.
-    Final Rank: The scrip should figure in the top 100 companies listed by final rank.  The final rank is arrived by assigning 75% weight age to the rank on the basis of three-month average full market capitalization and 25% weight age to the liquidity rank based on three-month average daily turnover & three-month average impact cost.
-    Market Capitalization weight age: The weight age of each scrip in SENSEX based on three-month average free-float market capitalization should be least 0.5% of the Index.
-    Industry / Sector Representation: Scrip selection would generally take into account a balanced representation of the listed companies in the universal of BSE
-    Track Record: In the opinion of the BSE Index Committee, the company should have an acceptable track record.

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What is P / E Multiple

Introduction to the P / E Multiple

-    The P / E Multiple (or ratio) is one of the most common indicators to judge the worth of a company’s shares
-    Most people generally watch the movements of stock market indices like Sensex, Nifty et., to understand if the market is falling or rising.  However, the movement of only these numbers does not reveal the full story.
-    Investing in shares of a particular company required investors to look at some numbers which give an indication of the true earnings prospects of the company
-    The P / E multiple is one important measure to understand whether a rise or fall is justified by the earnings prospects of the company
-    The multiple basically tells investors what is the price to be paid per share for one rupee of earning generated by that company

P / E multiple : (Price per share / Earnings per Share)

Price : Current Market Price of a single shares of the company

EPS: Net Income of a company in the most recent 12 month period / No. of shares outstanding

-    For eg: If the current shares price of a particular company ‘X’ is 275, and the New Earnings of the company Rs.10 lakh, with total outstanding shares numbers 1 lakh
-    EPS = Rs.10,00,000 / 1,00,000 or Rs.10 per share
-    P/E multiple = 275/10 or 27.5

Higher P/E ratio means that investors are playing more for each unit of income, indicating that the stock is more expensive compared to one with a lower P/E ration all other parameters being equal

What does this multiple mean?

-    From our previous example, P/E multiple = 275/10 or 27.5
-    This means for purchasing a share that earns Rs.10 every year, the share is available at a price which is 27.5 times the earnings of the company
-    Purchaser of stock ‘X’ is paying Rs.27.5 for every RE of earning
-    One can study similar companies in the peer group of company ‘X’, to figure out how favorably the P/E of 27.5 compares against other companies
-    Stocks with higher forecast earnings growth will usually have a higher P/E, and those expected to have lower earnings growth will in most cases have a lower P/E.
-    It is usually not enough to look at the P/E ratio of one company and determine its status.  Usually, one should look at a company’s P/E ratio compared to the industry the company is in, the sector the company is in, the indices it could be benchmarked against, as well as the overall market.

Applications of the P / E Multiple
-    Investors can use the P/E ratio to compare the value of stocks: if stock ‘X’ has a P/E twice that of stock ‘Y’, all things being equal (especially the earnings growth rate), ‘X’ is less attractive than ‘Y’ as one has to pay double the amount to get the same Re1 of earning.
-    By comparing price and earnings per share for a company, one can analyze the market’s valuation of a company’s future earning potential.
-    Companies are rarely equal, however, comparisons between industries, companies, and time periods may be misleading.
-    Another way to look at this ratio is that, it indicates the number of years required to pay back the current purchase price of the shares (ignoring the time value of money)

Higher P/E Multiples may indicate overvaluation while Low P/E Multiples, under valuation
Examples of P/E analysis
-    Normally, stocks with high earnings growth potential are traded at high P/E
-    For example, lets assume share price of high growth stock ‘Y’=Rs300
o    Current EPS = Rs10 per share
o    Hence P/E=Rs300 / 20 or 15
-    Next year’s expected earnings per share = Rs20 per share
o    Hence forward P/E=Rs300 / 20 or 15

-    This means purchases of this stock is paying lesser now than in the previous year, making the stock more attractive for purchase

Conclusion
-    The P/E multiple shows how much investors re willing to pay per rupee of earnings.
o    If a company were currently trading at a multiple (P/E) or 20, interpretation is that an investor is willing to pay Rs.20 for Re 1 current earnings.
-    A higher P/E ratio suggests that investors are expecting higher earnings growth in the future compared to companies with a lower P/E. However, a higher P/E may also indicate overvaluation
-    Hence, this multiple doesn’t tell us the whole story by itself.  It’s usually more useful to compare the P/E ratios of one company to other companies in the same industry, to the market in general or against the company’s own historical P/E to come to a reasonable conclusion about the attractiveness of the stock

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