What is a market index?

There are different market indexes used all over the world and in this article we discuss the different market indexes used in different stocks markets and we also examine why a market index is used.

Definition

A market index reflects a portfolio of securities to represent a certain sector of the stock market.

Reasons why market indexes are used

Market indexes can be used as a benchmark so when a fund manager or adviser is managing money, they can refer to a benchmark such as a market index. Many ETF providers also offer market indexes ETFs so they offer investors exposure of the various indexes globally.

Examples of Market indexes:

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Dow Jones

This is an index which tracks the stock price movements of 30 large publicly owned US companies. These 30 companies are chosen by the Wall St Journal and they consider these companies to be the leaders of the US economy. The limitations of this index is that it doesn’t represent the whole market. It only tracks the 30 selected companies. It is a price weighted index which means the index is the sum of the stock prices divided by the Dow Divisor. This method of price weighing also means higher priced companies affect the index more than lower priced companies.

S&P 500

This is an index which comprises 500 large companies listed on the NYSE or NASDAQ based on market capitalisation. This means the share price is multiplied by the number of shares outstanding. The companies within this index are selected by a US Index committee maintaining the S&P 500. The market cap must be greater or equal to $6.1 billion USD. This index is considered a better representation of the US market as it is made up of more companies than the Dow Jones.

Nasdaq Composite Index

Before explaining what the Nasdaq composite entails it worth noting there are two major stock exchanges in the US, the New York Stock Exchange (NYSE) and the Nasdaq. The NYSE is the largest stock exchange in the US. This exchange differs from the NASDAQ as there are brokers physically trading on the New York Stock Exchange floor. It is similar to a house auction where brokers need to match a buyer with a seller.  This exchange also facilitates 50% of the trades now electronically. NYSE consist of bigger, blue chip firms which are more established.  The National Association of Securities Dealers Automated Quotation System (Nasdaq) exchange operates purely electronically where buyers and sellers are matched. It consists of stocks that are more volatile as they are less established than blue chip companies. Predominately high-tech companies in the internet or electronics area. The listing fee is lower than the NYSE so many younger companies choose to list on the NASDAQ due to the lower entry fee.

The Nasdaq Composite index measures the market capitalization-weight index of all equities listed on the NASDAQ which is approximately 3000 stocks.

Euro Stoxx 50

This index represents 50 stocks from 11 countries in Europe which as Austria, Belgium, Finland, France German, Ireland, Italy, Luxembourg and the Netherlands. The STOXX aims to track 50 of the largest and most liquid stocks in the Eurozone.

FTSE

This index is nicknamed the “Footsie” and represents the top 100 companies listed on the London Stock Exchange based on market capitalisation. The index represents 81% of the entire market capitalisation of the London Stock Exchange. Companies selected for this index must comply with nationality, free float and liquidity requirements.

Nikkei

This is also named the Nikkei 225 which is a stock market index for the Tokyo stock exchange. It tracks the top 225 blue chip companies traded on the Tokyo Stock Exchange. It a price weight index which means the value is calculated by summing up the prices of the stocks in the index and dividing them by the total number of stocks. It excludes the number of shares outstanding for the stock. The total number of stocks listed on the Tokyo stock exchange is 2,200 companies.

Shanghai A Share Stock Price Index

This is a capitalization weighted index which aims to represents all listed China A stocks on the Shanghai Stock Exchange. There are two types of stocks on the Shanghai Stock Exchange which include China A shares and China B shares. China A are shares where only domestic investors and qualified foreign institutional investors can trade. Whereas China B shares are available to domestic and foreign investors. China A shares are priced in the local Renminbi Yuan currency and B shares are priced in US dollars.

S&P/ASX 200

This is a market capitalization index representing the 200 largest stocks listed on the Australian Securities Exchange. The index is rebalanced every quarter by Standard and Poors and only companies which pass requirements in market capitalisation and liquidity will be included in the index.

NZX 50

This index represents the largest 50 stocks by market capitalisation on the New Zealand Stock market. There are a total of 174 companies listed on the NZX.

Lauren Hua is a private client adviser at Fairmont Equities.

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