Weighted index

An index whose constituents do not count equally. The weighting scheme states the measure that decides influence, and the published rulebook of the index provider is where it lives. Capitalisation weighting uses the market value of each company, almost always adjusted for free float so that shares which are not available to trade do not count. Price weighting uses the share price alone, so a company with a high share price dominates regardless of its size. Equal weighting gives every member the same share and is restored to that state at each rebalance. Fundamental and factor schemes weight by revenue, dividends, volatility or a similar measure instead.

The level itself is a sum divided by a divisor. Each constituent's price is multiplied by its weighting factor, the products are added, and the total is divided by a number the provider maintains. That divisor is the machinery that makes an index level comparable over years: when a member is replaced, when new shares are issued, or when a share splits, the divisor is adjusted so the published level does not jump on an event in which no price moved. Between scheduled rebalances the weights drift on their own, because a member whose price has risen is by definition a larger share of the total than it was.

Concentration is the thing most often missed. A capitalisation weighted index can be dominated by a handful of its members, so a sentence reporting that the index rose can describe a few large companies rising while most of the list fell, and an equal weighted version of the same list can move the other way on the same day. Price weighting misleads in a different direction, since a share price is not a measure of size at all and a split changes a company's influence without changing anything about the company. Which scheme represents a market most fairly is a genuine and unresolved argument among index providers and academics: the providers answer it by publishing their rules rather than by settling it, which is why two indices on what sounds like the same market are not interchangeable.