A price-weighted index consists of stocks A, B, and C which are priced at $55, $38, and $17 a share, respectively. The current index divisor is 2.75. What will the new index advisor be if stock A undergoes a 5-for-1 stock split?

Question

Quizplus · Accepted Answer

After the 5-for-1 split, stock A will have 5 times the number of shares, but its price per share will be divided by 5. Thus, the new price of stock A will be $11 ($55 divided by 5). To maintain the continuity of the index level after the split, the new index divisor will be adjusted by dividing the old index level by the new index level. The old index level is the sum of the prices of the three stocks, which is $55 + $38 + $17 = $110. The new index level is the sum of the new prices of the three stocks, which is $11 + $38 + $17 = $66. Therefore, the new index divisor will be:

New Divisor = Old Index Level/New Index Level 
= $110/$66 
= 1.66667

Rounding to two decimal places, we get a new index divisor of 1.67, which is closest to choice D (1.65).

A Price-Weighted Index Consists of Stocks A, B, and C