Lesson 7 of 12 · All lessons in this module
  1. Money-weighted return
  2. Time-weighted vs money-weighted returnVideo lesson
  3. Which return to report: managers, investors and GIPS
  4. Integrated cases: balance tables, money-weighted and time-weighted returns
  5. What an index is: value, price return and total returnVideo lesson
  6. Index objectives, custom indexes and choosing a version
  7. Building an index: target market, constituents and weighting
  8. Price-weighted and equal-weighted indexesVideo lesson
  9. Market-cap, float-adjusted and fundamental weightingVideo lesson
  10. Rebalancing, reconstitution and what indexes are used for
  11. Rebalancing in shares, weight drift and reconstitution rules
  12. Integrated cases: one market, three weightings and a stock split

This lesson is part of the 2027 curriculum. You are following the 2026 curriculum, where it is not taught in this form. Switch if you are sitting the exam under the 2027 curriculum.

Lesson 7 of 12 · 12 min

Building an index: target market, constituents and weighting

Building an index is like building a portfolio: choose the market to represent, pick the securities, decide how much of each to hold, and then decide when to rebalance and when to review the list.

In short

  • Index providers make five decisions: target market, security selection, weighting, rebalancing frequency and when to re-examine selection and weighting.
  • The target market comes first and can be broad or narrow (asset class, region, exchange, sector, size, style, duration, credit quality). It defines the investment universe.
  • Constituents can be nearly the whole target market or a representative sample; the number can be fixed or allowed to vary.
  • Most indexes select constituents with objective rules; some use a selection committee with more subjective judgement.
  • The four weighting families are price, equal, market-capitalization (usually float-adjusted) and fundamental. The choice changes the index's value and returns.

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