You have a value-weighted index made up of two companies. One company, we will call A, has a stock price of $25 per share and there are 10,000 shares outstanding. The other company, we will call B, has a stock price of $100 per share and has 1000 shares outstanding. What will be the percentage change in the index from a 10% increase in the share price of company A? What will be the percentage change in the index from a 10% increase in the share price of company B?
What will be an ideal response?
The value of company A is $250,000, which we obtain by taking the share price of $25 and multiplying that by 10,000 shares outstanding. The value of company B is $100,000, which we obtain by taking the share price of $1000 and multiplying by 1000 shares outstanding. A 10% increase in the share price of A results in a market value of $275,000, which is a 10% increase. The index however is constructed from the value of both companies, and the total value increases from $350,000 to $375,000, or 7.14%. When the share price of B increases by 10%, the new market value of the entire company is $110,000, ($110 × 1000), this increases the value of the index to $360,000 from $350,000, or 2.86%.
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What will be an ideal response?
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