Sensex Fundamentals: Calculation, Significance, and Economic Role

Plummeting market stocks, RPG Group Chairman Harshad Goenka shared a humorous video snippet on Twitter from the popular Kishore Kumar song - Yeh Lal Rang Kab Mujhe Chhodega - to lighten the mood of serious investors. It was a funny dig at the red-coloured charts of the stock market, which indicated revenue losses. 

Almost every day, we encounter the term Sensex in news channels and learn about rising stocks, high-paid shares, and market crashes. Surprisingly, most of us remain ignorant about what it means.

Sensex: The Meaning

The term Sensex stands for Stock Exchange Sensitive Index for novice investors. Simply put, it is the combined value of stocks of 30 specific companies listed under the Bombay Stock Exchange. These are actively traded stocks representing big corporations, but the BSE can revise these 30 listed stocks from time to time. 

When the Sensex fluctuates, it impacts the economy of the entire country. If the Sensex goes up, the investors will prefer to buy stocks since it indicates a growing economy. If the Sensex falls, people lose confidence in stocks and hold off on their investments. 

Sensex is also the benchmark index of the Bombay Stock Exchange, a popular stock exchange in India. It is reviewed biannually in June and December. It is calculated in INR or Indian rupees and US dollars. Market research analysts track the Sensex movement to understand the Nation’s stock market trends and assess overall growth and industry-specific developments. Sensex, like Nifty, is a vital stock market index.

Today's Sensex looks something like this👇

What is the Bombay Stock Exchange or BSE?

The BSE, or Bombay Stock Exchange, is the largest securities market in India. It was established in 1875 as the Native Share and Stock Broker’s Association. Now based in Mumbai, it lists approximately 6000 companies and is Asia’s first and largest stock exchange.

BSE has helped in the crucial development of the country’s capital market, propelling the growth of the retail debt market and the Indian corporate sector. BSE enables people to trade in mutual funds, equities, debt instruments, currencies, and derivatives. Further, it diversifies other capital market services like risk management, clearing, settlement, and investor education. 

Sensex: Its History

Sensex is a combination of the two words - Sensitive and Index, first coined by the stock market expert Deepak Mohini. It was launched on January 1, 1986, and serves as the oldest stock market index worldwide. It provides data series from 1979 BSE, the Bombay Stock Exchange.

The Sensex is a bellwether (a massive measure of economic trend) and an investible index utilised for tracking the performance of India’s 30 most powerful and financially sound companies.   

The BSE Sensex saw the worst fall during the early 1990s when a stockbroker named Harshad Mehta went from rags to riches by illegally using receipts from public sector banks to manipulate stock market price estimations. He facilitated transactions of ready-forward deals among the Indian banks by acting as an intermediary.

In this process, he raised funds from banks and invested them in BSE-listed stocks to artificially inflate prices. When the scam was exposed in around August 1992, the markets crashed by 72% and stayed the same for nearly two years.

The index has grown tremendously since 1991, when India opened its economy to the World. By 2002-2003, the BSE Sensex had shifted to a free-float market as the SEBI regulated unrequired stock market volatility.

In 2014, BSE achieved the market capitalisation landmark of ₹100 lakh crores, while the SME index crossed the mark of ₹10 thousand crores. In 2021, the BSE Sensex scaled multiple highs, from 50,000 in January to 62,245 in October. 

At other times, global crises like the Russia-Ukraine war and the pandemic caused investors to suffer losses. In the post-COVID scenario, the market is witnessing another sea of investments, with retail investors gaining back their confidence as the recovery continues with ebbs and flows.

See for it yourself👇

The middle class also contributes significantly to the economy’s growth because it is a vital driver of consumer demand in our country.

How Does the Sensex Work?

People colloquially refer to both the BSE and S&P indexes as Sensex or the Sensex Index. These are the benchmark indices of India’s 30 largest and financially strong companies, which are also the most liquid public companies.

The companies making up the Sensex are drawn from the Bombay Stock Exchange, one of India's oldest and largest stock exchanges. For most global and national investors, the Sensex functions as a robust indicator for the overall Indian economy, which has risen over the last decades.

Sensex and its Objective

While the market now follows a different method of calculation, the objectives of the BSE Sensex have not changed over time:  

• Companies should be listed under India’s Bombay Stock Exchange index
• The constituents should be either a large or mega-cap company
• The company stocks should be liquid
• Core company activities should generate revenue
• The sector should be well-balanced and in check with the Equity Market of India

How is Sensex Calculated?

The BSE Sensex value calculation was done using the weighted market capitalisation method. Here, the companies share the index's total market capitalisation.

However, since 1 September 2003, the free float capitalisation technique has been used. It considers the shares that can be freely traded, as opposed to those restricted or held by company insiders.

The free-float methodology is a widely accepted means of calculating the market capitalisation of the stock market index and its underlying companies. The market cap is calculated by multiplying the equity's price by the shares available in the market.

Contrast it with the Full Market Capitalization method, which considers active and inactive shares. The free float factor signifies the percentage of the total share that a company issues. However, it excludes locked shares held by the insiders, government, or promoters & those that the public cannot trade. 

At any time, the index value indicates the free float market value of the 30 BSE stocks it comprises concerning a base period. The formula in play is -  

Free Float Market Capitalization = Market Capitalization * Free Float Factor.  

Under the Free Float Capitalization method, market capitalisation represents a company's estimated market value. The calculation is done as follows - 

Market capitalisation = Share price per share * Number of shares issued by the company

After accurately determining the free float market capitalisation, the formula below is used to calculate the BSE Sensex value. 

• Value of Sensex = (Total free-float market capitalization/Base market capitalization) * Base period index value.
• The base period (year) for Sensex calculation is 1978-79, while the Base value index is 100.

So, while most people were completely unaware of how Sensex is calculated, this explanation gives a clear and comprehensive overview of the process.

What is Market Capital?

Let's consider an example. You have Company X in the market. The company's share price is ₹100, and the total number of shares held by the company is 500.

The market capital of Company X will be The Price of the Single Share multiplied by the Total Number of Shares.

Market Capital = Price of share x Total no. of available shares 

Thus, Company X’s market capital is 100 x 500 = ₹50,000.  

Market Capital is also known as Market Cap, and the investor’s community uses it to determine the size of the company instead of its asset figures or sales. It, therefore, refers to the worth of a company as determined by the stock market.

A company with increased market capital is considered a safer investment, as it includes all established companies with a massive presence in the business. Under Sensex, we do not calculate the market cap, but we calculate the Free Floating Market Capital.

Overall, market capitalisation is a great way to estimate the value of a given company by extrapolating whether the market thinks it is worthy for publicly traded companies.

What is Free Float Market Capital?

Free Float Market Capital is the number of shares left after subtracting the shares held by the company owner. 

Free Float Market Capital = (Total no. of shares - Shares of Company Owner) x Price of One Share

Let’s take another similar example. Company X has 500 shares in total. Of these, 200 are owned by the company owner. We also know the price of each share is Rs.100.

Now, the Free Float Market Capital will be = (500 - 200) x 100 = ₹30,000 

The companies listed under BSE Sensex have high Free Float Market Capital. In India, the financial services sector, like Banks or NBFCs, holds the highest weightage in Sensex.

Next are the IT companies, followed by other sectors. The Sensex fluctuates depending on how the companies perform on a particular day.

Types of Market Indices

• Benchmark Indices like Sensex
• Broad Market Indices like Sensex, comprising the 30 biggest financially strong companies 
• Market Capitalization Indices like BSE midcap
• Sector or Industry Based Indices like CNX IT, NIFTY FMCG Index, NIFTY Pharma Index, and NIFTY Financial Services Index.

List of 30 Stocks Comprising the BSE Sensex

The BSE Sensex tracks the behaviour and performance of the top 30 companies according to the free float market cap as registered on the Bombay Stock Exchange. These companies are selected based on the free-float capitalisation method. The companies form different sectors, thus representing large, liquid companies.

List of 30 Stocks Comprising the BSE Sensex - Insider by Finology

COMPANY	INDUSTRY
Asian Paints	Paints
Axis Bank	Banking
Bajaj Finserv	Finance
Bharti Airtel	Telecom
Dr Reddy’s Lab	Pharm
HCL Technologies	Software
HDFC	Financial Institution
HDFC Bank	Banking
HUL	FMCG
ICICI Bank	Banking
IndusInd Bank	Banking
Infosys	Software
ITC	FMCG
Kotak Mahindra Bank	Banking
L&T	Engineering
M&M	Auto
Maruti Suzuki	Auto
Nestle	Food & Beverage
NTPC	Power
Power Grid	Power
Reliance LTD.	Energy
SBI	Banking
Sun Pharma	Pharma
Tata Steel	Steel
TCS	Software
Tech Mahindra	Software
Titan	Consumer Durables
Ultratech Cement	Cement
Wipro	Software

Sensex and its Milestones

We can witness the global rise and fall of the Sensex through the dynamic history of the Indian stock market. Since the unification, the Sensex touched 1000 on 25th July 1990 and finally closed at 1001.

Initiating various liberal economic policies in 1991 led the Sensex index to cross 2000 for the first time in 1992. The following Harshad Mehta scam in 1992 caused the markets to crash quickly and led to the unabated selling of Sensex shares. Again, in 1999, the index crossed 5000 points, gradually ushering into a new era of growth and prosperity.

● Starting of the 21st Century to the mid-2000s

The onset of the 21st century brought a boom to the market, thanks to the IT sectors. The index hit 6000 points. The record hit a consistent four-year mark until 2nd January 2004, when the share points hit 6026.59. 

In 2005, the Sensex crossed 5000 points owing to the Ambani family settlement and the invincible gains for Reliance Group of Companies. Finally, in 2005, from June to December, the index touched 9000 points due to brisk purchasing from foreign institutional investors & domestic funds. 

● The Mid 2000s to end

During the mid-session, on 7 February 2006, the index touched a high of 10,003 points. Between 2006 and 2007, the Sensex saw another leap due to aggressive fund purchases. In December 2007, it jumped from 10,000 to 20,000 points.

Again, between 2008 and 2010, the stock market crashed and eventually recovered. On 5th November 2010, it closed at 210094 points and crossed 21000 points. 

● 2013-2015

In October 2013, Sensex India closed at 21,003.97 points. In 2014, its closing stocks were higher than the Hang Seng Index, thus making it Asia’s highest-valued stock market index. Following this, the index rapidly increased from 21,000 points to 28,000 points, breaking the 600-point record in 2007.

On 23 January 2015, the share index closed at 29,287 points, becoming another new high. Finally, due to the RBI's repo rate cuts, the index crossed 30,000 points for the first time. 

● 2017-2019

Between 2017 and 2018, the index grew steadily, crossing 38,000 points. On 23rd May 2019, the Sensex breached the 40000 mark for the first time, in the early 90s, toward the end of the 20th century.

How to Trade in Sensex?

The first and foremost task before buying and selling securities on BSE is to open a demat or trading account. The Demat account holds all the shares in an electronic format. It also acts similarly to a bank account, where all securities are debited or credited based on the number of transactions.

We can open a Demat account with a DP or Depository Participant registered with CSDL—Central Securities Depositories Limited—NSDL or National Securities Depositories Limited. The trading account will facilitate the sale and purchase of online securities. The next step is registering with a brokerage or broker's platform to purchase securities directly via a stock exchange.

Stockbrokers are investment mediators who link the trader and the stock exchange. To trade on the BSE, we should also have a bank account and PAN card. Most companies offer Demat and trading accounts. Investors can then use these services to trade on the BSE.

Some top stocks that are trading in the BSE Index👇

There are two types of BSE trading -

Intraday trading is where we square off or close the transaction on the same day. Here, we are allowed to use margins. These refer to the funding provided by the broking firm to increase exposure. The facility permits buying or selling a large number of stocks that would otherwise require more funds to invest. 

In delivery trading, we can hold the stocks for more than a day and take the delivery. There is no margin concept here.

Significance of the Sensex in the Indian Stock Market

Let's understand the significance of the market index or Sensex. Imagine there is a basket full of vegetables, including potatoes, tomatoes, cabbage, cauliflower, and brinjals.

These constituents are traded daily in the market, and their prices fluctuate due to the demand-supply imbalance. Hence, the total value of the vegetable market is the sum of the weight of every single constituent multiplied by its price.  

Now, replace the vegetable basket with stocks. The basket value will be the average weighted value of all the stocks. The rise and fall of the index reflect the composite performance of the companies, which in turn signifies the whole market. 

Hence, the Sensex is the barometer of the country’s economy. Investors and economists study the patterns of the stock market using this index.

The other prominent significances of the Sensex include - 

1. Informative for Beginners

Equity markets are volatile, so we should proceed cautiously before investing. While beginners are not fully aware of the market dynamics, market indexes like the Sensex can be referred to trustfully. It gives a clear overview of the market performance. Ideally, we can follow it to level up our investments. 

2. Helps in Stock Picking

With several companies listed in the stock market, investors need to narrow down their options. Also, without a benchmark index, one cannot differentiate between two stocks. Here is where the Sensex comes in handy. It segregates stocks based on their industry, size, and financial impact. Investors can now compare the multiple stocks comprising the index and choose the best option.  

3. Uphold the Investor Sentiments

Sensex is an exciting market index for analysing investor sentiments. For example, reform announcements often create pressure on stocks. In other words, investors expect a positive change due to the reforms, although it might impact the overall nation’s economy. Based on this exploration, we can buy or sell the stocks. This analysis is vital to comprehend the overall impact of the trend.

4. Passive Option for Investment

Most investors find a shortcut for investing in the best stocks. They do this by investing in funds with the same composition as an index. This method is called passive investing since we do not have to do much research regarding stock selections or individual investments. A single click can help us invest in index funds, a replica of the benchmark index - Sensex.

The Bottom Line

The Sensex is a credible measuring mark of the Indian market and global economy. Investors buy or sell shares depending on the economic state or how it is predicted to progress in the coming days. Investing in the stock markets is a wise decision, especially in the long run, but we should constructively settle that thought. 

The goal is to plan better for investments and invest online through genuine websites. We should also increase our knowledge about the Sensex and stock market before going into share trading. Be careful, and do not be impatient. 

Read the article for more information & details about the Sensex and BSE Stock Market. Or visit Finology for in-depth and updated Sensex numbers. Happy investing!