When you hear news about “the market” being up or down, you’re usually hearing about a market index—a number that tracks the performance of a group of stocks. But what exactly is an equity market index, how are they built, and what do the differences mean for investors? Let’s break it down.
What is an Equity Market Index?
An equity market index is a tool used to measure the performance of a selected group of stocks. Think of it like a thermometer for the share market—it helps track whether the market (or a specific part of it) is rising or falling over time.
Popular examples include:
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ASX 200 – Tracks the top 200 companies listed on the Australian Securities Exchange.
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S&P 500 – Tracks 500 large companies listed in the U.S.
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MSCI World Index – Includes large and mid-sized companies from 23 developed countries.
These indexes help investors understand how markets or sectors are performing and are also used as benchmarks to compare investment returns.
How Are Indexes Constructed?
Not all indexes are created the same. The construction of an index depends on choices such as:
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Which companies are included?
Some indexes include only the largest companies (like the ASX 50), while others might track smaller companies or specific sectors (like technology or healthcare). -
What market is being measured?
An index might track a single country (e.g. Australia), a region (e.g. Asia-Pacific), or the entire world. -
How is each stock weighted?
This determines how much influence each company has on the index’s performance.
These choices affect how the index behaves and what it represents.
Common Weighting Methods
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Market Capitalisation Weighted
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Companies are weighted based on their total market value (share price × number of shares).
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Example: S&P/ASX 200.
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Issue: Larger companies dominate, even if their growth slows.
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Equal Weighted
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Every company has the same weight in the index, regardless of size.
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Advantage: Smaller companies have more influence.
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Risk: Can lead to more volatility.
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Price Weighted
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Companies are weighted based on their share price.
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Example: Dow Jones Industrial Average.
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Issue: High-priced shares have more influence, even if the company is relatively small.
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Fundamentally Weighted
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Weightings are based on factors like earnings, sales, or dividends.
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Goal: Reflect companies’ economic value rather than share price.
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Types of Equity Indexes
Here are some of the main categories of equity indexes:
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Broad Market Indexes
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Cover a large portion of the market.
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E.g. MSCI World, Russell 3000, ASX All Ordinaries.
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Large-Cap, Mid-Cap, and Small-Cap Indexes
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Focus on companies of different sizes (market capitalisation).
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E.g. S&P 100 (large-cap), S&P MidCap 400, S&P SmallCap 600.
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Sector or Industry Indexes
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Track specific sectors like technology, healthcare, or energy.
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Useful if you want exposure to a particular part of the economy.
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Regional or Country-Specific Indexes
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E.g. Nikkei 225 (Japan), FTSE 100 (UK), Euro Stoxx 50 (Europe).
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Thematic Indexes
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Focus on specific investment themes like sustainability, clean energy, or AI.
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Why Does This Matter for You?
Understanding indexes helps you make better investment decisions. For example:
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If you invest in an ETF tracking the ASX 200, you’re mostly exposed to big Australian companies like the big banks and miners.
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An equal-weighted index might offer better diversification.
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A global index fund can give you exposure beyond Australia, reducing country-specific risk.
Your portfolio’s long-term success depends on being clear about what you’re invested in—and indexes play a big part in shaping that.
In Summary:
Equity market indexes are essential tools in investing. They help you track performance, compare investments, and access diversified exposure to different markets. But it’s worth understanding what’s under the hood—how they’re constructed, what they measure, and how that aligns with your financial goals.
Equity market indexes are essential tools in investing. They help you track performance, compare investments, and access diversified exposure to different markets. But it’s worth understanding what’s under the hood—how they’re constructed, what they measure, and how that aligns with your financial goals.
If you are unsure whether your portfolio is properly diversified or aligned with the right indexes, we’re always here to help.
