5.1 Fundamentals and areas of application of equity indices

An equity index is a metric that reflects the performance of a selected group of shares. This group is often referred to as the “index basket”. The shares included are selected according to objective criteria, such as the size of the company (market capitalization), the number of freely tradable shares (free float) or the trading volume. 

The purpose of an equity index is to provide the most accurate and comprehensible representation possible of a market or market segment. For example, an index such as the Swiss Market Index (SMI) can be used to track the general performance of the 20 largest and most liquid listed Swiss companies. It is important that an index is always compiled on a rule-based and transparent basis so that it remains comprehensible to investors. 

An index fulfills its function particularly well if it has the following four properties:  

• It is representative of the underlying market segment; 

• It can be replicated efficiently (e.g. in an ETF); 

• It is sufficiently stable (i.e. changes are not too frequent); 

• It is based on clear and publicly accessible rules. 

An equity index has many uses: 

• It serves as a benchmark, i.e. a standard of comparison for investors to assess whether their investment has performed better or worse than the market. 

• It is the basis for financial products, e.g. ETFs or structured products, which replicate the index exactly or with certain deviations. 

• It is used as a market barometer to gauge the economic mood in a country or sector. 

• Companies also use indices as a communication tool, for example to highlight their inclusion in a leading index, such as the SMI. 

Not all indices are the same. There are not only equity indices, but also indices for bonds, commodities and real estate. As the name suggests, equity indices exclusively track the performance of exchange-traded equity securities, i.e. company shares. 

Equity indices also have different focuses: SIX traditionally focuses on the Swiss market and covers all major Swiss companies with the Swiss Performance Index (SPI). 

SIX now calculates the indices for the Spanish stock exchange BME (IBEX 35 index) and provides global and thematically oriented indices, thus extending its offering well beyond the national framework and catching up with other index operators with its expanded product range.  

SIX distinguishes between three index variants with regard to dividend treatment: 

• Price return (PR): This index only considers the performance of the shares it contains. Dividends are not taken into account. 

• Net return (NR): Dividends are taken into account, but with the assumption that tax is deducted at source. This reflects the more realistic net return for international investors. 

• Total return (TR): In this case, it is assumed that all dividends are reinvested in full and without tax deduction. 

This is what it means for investors: The same index can show different returns depending on the calculation. It is therefore important to always know which variant to refer to.