Thanks a lot for the response. I have made changes to my xsl and now it is as follows:
<?xml version="1.0" encoding="UTF-8"?>
<xsl:stylesheet version="1.0" xmlns:xsl="http://www.w3.org/1999/XSL/Transform">
<xsl:output method="xml" indent="yes"/>
  <xsl:template match="Response">
    <Response>
      <xsl:apply-templates select="address"/>
    </Response>
  </xsl:template>
  <xsl:template match="address">
    <address sequenceNbr="{position()}">
    <xsl:apply-templates/>
    </address>
  </xsl:template>
</xsl:stylesheet>

The input xml is:

<?xml version="1.0" encoding="UTF-8"?>
<?xml-stylesheet href="address-position.xsl" type="text/xsl"?>
<Response>
 <address>1237896</address>
 <address>342500</address>
</Response>

The output i am getting is :
1237896
342500

This is just the content in the input xml. The xml tags that i have created through xsl are not coming here. I have checked this using XMLSpy tool. I am using <xsl:output type="xml"/>. So why the tag names are not coming here?

When I use your stylesheet and XML input with Saxon 6.5 from the command line then the result is as follows:
So that stylesheet is working fine I think. I don't use XML Spy so I can't help with that tool.

Another reason not to use IE is that if you do View->Source you only see the original XML file, and not the transformed XML file.

Like we said, there is nothing wrong with your XSLT, just the tools you are using to view the result.

/- Sam Judson : Wrox Technical Editor -/

There's nothing wrong with your stylesheet. There must be something wrong with either (a) the way you are running it, or (b) the way you are viewing the output.

Michael Kay
http://www.saxonica.com/
Author, XSLT Programmer's Reference and XPath 2.0 Programmer's Reference

Thanks a lot to all of you for your responses.