Credit: For example, if you want to calculate a price-weighted average of four stocks, with prices $100, $70, $60, $30, you can do so as follows:
For example, if you want to calculate a price-weighted average of four stocks, with prices $100, $70, $60, $30, you can do so as follows:
To illustrate how a price-weighted average or index works, consider three popular stocks: , , and . As of this writing, the share prices of these stocks are:
How it works
To illustrate how a price-weighted average or index works, consider three popular stocks: Apple , Microsoft , and Intel . As of this writing, the share prices of these stocks are:
Using these share prices, we can calculate a price-weighted average of these three stocks as:
Now, let's say that Apple releases some incredibly positive news tomorrow, and its shares jump by 20%, or to $113.62. This would raise the price-weighted average to $64.53, a 10.8% jump.
On the other hand, if Intel stock experienced the same 20% move to $34.56, it would translate to a price-weighted average of $60.14, or a move of just 3.3%. So Apple's 20% move has more than three times the impact of Intel's on our three-stock index.
Of course, this is a simplified example. It's not likely that just one of these stocks would move, and the other two would stay exactly the same, but you get the idea. Plus, there aren't any notable indices made up of just three stocks.
In a more complicated example, the more expensive stocks in the 30-component Dow Jones Industrial Average such as 3M ($156.17) and Goldman Sachs ($144.91) would have a much greater influence over the index than lower-priced components such as Cisco Systems ($26.12) and General Electric ($29.22).
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