Security Market Indexes: practice question
Compared with price-weighted and market-capitalization-weighted indexes, an equal-weighted index most likely requires:
- the most frequent rebalancing trades to restore the target weights
- a divisor that must be adjusted each time a constituent stock splits
- weights that automatically drift toward the largest companies
Show answer and explanation
Correct answer: A
Explanation: Equal weights begin to drift apart as soon as prices move differently, so the index provider must periodically sell the winners and buy the losers to restore equal weights. A price-weighted index does not rebalance as prices move (it only adjusts its divisor on splits, which an equal-weighted index does not need), and a cap-weighted index tilts toward large companies precisely because it does no rebalancing trades.
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