It is also important to note that not all large companies are public companies. Private companies also have shares but as these are not listed they do not form part of any index.

There are different ways of compiling stockmarket indices. The two main areas of difference are:

  • Weighting methodology

  • Return Calculation methodology

    The most common weighting method is to attach a higher weighting to the larger companies. Typically the share prices of the companies in the index are weighted according to the market capitalisation of the companies. This means that movements in the share prices of the largest companies affect the index much more than movements in the share prices of the smaller companies. The FTSE100 index uses this method whereas the Nikkei225 index of Japanese companies weights each company's share price equally.

    Most common indices such as the FTSE100 just use the share prices of each company in calculating the index level. In some cases however the total return on each share is used i.e. including the dividend income generated by each share. Such a method is used by the DAX 30 index of German shares.

    Since most structured products are linked to indices it is important to know how each index is calculated in order to understand how it might perform.