The stock market through the lens of indices

SSL in the Money

Sutanya Chedda

Wednesday, June 22, 2011

Talk of "the market" has become popular lingua on Wall Street. While this terminology may be familiar to some, especially those in the financial industry, others may wonder -- what exactly is this market of which we speak? Reference is surely not being made to the public space where vendors hawk their wares, but to the financial market -- an entity in which equities and derivatives are traded. And whilst the market is normally alluded to as one entity, it is important to note that when a general conception is made, it is seen through the lens of the Indices that make up the market.

Charles H Dow, a finance journalist, unveiled the first stock Index in 1896, the Dow Jones Industrial Average (DJIA), more commonly referred to as the "Dow". This widely used benchmark is one of the most well-known Indices, comprising of thirty of the world's largest and most influential blue chip Companies and representing approximately one quarter of the value of the overall US stock market.

As undoubtedly one of the best performing Indices, the Dow has appreciated 15.69 per cent over the past year. It follows therefore that since the Dow is comprised of some of the top performing stocks in the US, ranging from Manufacturing Company Caterpillar Inc (NYSE: CAT) to Oil and Gas Company Exxon Mobil Corp (NYSE: XOM), which have both surged more than 20 per cent over the past year.

A larger and more diverse Index is the Standard & Poor's 500 Index. The S&P 500, as it is more commonly known, traces its roots back to 1860 when Henry Varnum Poor published "History of the Railroads and Canals of the United States." But rather than being a literal history of the railroad, it was the first financial history of all Companies laying track or digging canals in the US. Comprised of 500 of the most widely traded stocks in the US, the S&P 500 now represents approximately 70 per cent of the value of the total US stock market.

The S&P 500 Index includes Companies in a variety of sectors, from Warren Buffett's soundly managed Berkshire Hathaway Inc (NYSE: BRK.B) to iPhone-maker, Apple Inc (NASDAQ: AAPL), both of which climbed over 20 per cent in 2010. The Index has increased 14.84 per cent over the past year, boosted by these performances.

As we experience the incipient shift of the world's focus to technology, shares of the Companies are now on the run and the best Index to track their performance is the Nasdaq Composite Index which was introduced by Nasdaq in 1985. It includes more than 5,000 Companies, including large and small firms as well as many speculative Companies with small market capitalizations unlike the Dow and the S&P 500. Consequently, its movement generally indicates the performance of the technology industry as well as investors' attitudes toward more speculative stocks. Over the years, the Nasdaq grew in power with the popularity of the Internet and is now the third most referred to stock market barometer behind the S&P 500 and Dow. The Index has surged 14.88 per cent over the past year.

While the Dow, the S&P 500 and Nasdaq Indices may be the most popular in the world currently, there are hundreds of others including London's FTSE 100, Brazil's Bovespa, Japan's Nikkei and Hong Kong's Hang Seng just to name a few. Though Indices create a benchmark for investors, they also offer transparency and a better understanding of market forces. In addition, investors can gain exposure to an overall index by purchasing an Exchange Traded Fund (ETF) such as the SPDR S&P 500 ETF (NYSE: SPY) which has appreciated approximately 15 per cent over the past year.

Remember, when reference is made to the market going up or down, showing a strong performance or a weak one, or turning bull or bear, this is as seen through the lens of Indices. And as stock prices continue to cool amid this rampant summer heat, a wealth of investment opportunities arise as the market is expected to recover over the long term.

Sutanya Chedda is a Client Services Officer at Stocks & Securities Ltd. You may contact her at schedda@sslinvest.com.

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The stock market through the lens of indices