An index doesn’t just happen. It’s created by an index provider to meet one or more objectives, such as providing a benchmark, serving as the basis of a financial product, or both. Having identified the
index’s purpose and determined that it can be calculated, the provider can begin to develop its methodology, which involves: Defining the index’s focus and scope. Identifying the securities that will form its portfolio. Determining how the index will be weighted. Setting the criteria for changing the components of the index, how those changes will be made and deciding how it will be calculated. If you’re investing in an index-based product, you need to know how the underlying index is weighted and what impact that weighting system is likely to have on performance. Most equity indexes are market-cap weighted. These indexes are sometimes described as providing the most accurate reading of what the market is doing. That’s because the largest companies with the most shareholders tend to have a greater impact on market return than smaller companies that are less widely held. However, there can be a disconnect between index results and the economy if the robust performance of a few large companies drives the index up   Read more…