Liam Gill Business Analyst
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Every morning, before markets open, Inside.com shares with you four key figures aimed to summarise the performance of the US Stock Market. The stock market represents the value of all publically traded companies in the United States. A publically traded company is simply a company that has permission from the SEC to offer shares in their business to the general public. This is differentiated from Private companies who are placed under strict limitations as to who can own shares in their business to avoid the general public being defrauded.
The numbers we show are the current figures representing the Dow Jones Industrial Index, The Standard & Poor's 500, The Nasdaq Composite, and the Russell 2000. Each of these is a major index that represents the performance of a specific group of companies. Let's explore in turn how each index is created and what the figures really mean.
At 136 years old, the Dow Jones is one of the oldest indexes. Its prominence comes primarily from the fact that it has been a common index for so long. Its actual value is heavily debated amongst professional investors with many believing it is inherently flawed in providing an overview of the US Stock Market's performance which is its sole purpose.
The index is comprised of only 30 companies all subjectively picked by the editors of the Wall Street Journal. The sum of the share prices of these companies is then added and divided by the Dow Divisor, a figure create and maintained by the Dow Jones. From Wikipedia; here is the formula where p is the price of the stocks in the Dow Jones and d is the Dow Divisor:
The current Dow Divisor is: 0.15188516925198
<aside> 💡 TLDR: The Dow Jones is old, it's subjective and uses a small number of companies to track the entire market. Its longevity gives it credibility but the methodology is questioned by many. It should provide you with an idea of how the overall market is moving but is often weighted towards older more traditional companies and industries
Standard and Poor's 500 Index tracks the performance of the top 500 companies traded on US public markets. It is widely considered the gold standard for tracking the US Stock Market given the specific criteria and stringent mathematical formula used to create the index. American companies can join the S&P 500 only once they have a market cap over $8.2B and have positive earnings for one year (calculated as four consecutive business quarters and not by calendar year). Companies are also removed from the index if they fail to continue meeting the eligibility criteria.
Unlike the Dow Jones, the S&P 500 uses market capitalisation and not market price to determine how companies are weighted within the index. From Wikipedia; here is the formula were Pi is price of the stock and Q is the quantity of shares that each company has available to the public to purchase. These are multiplied for each company to attain the market cap of each of the 500 companies in the index then all market caps are added together and divided by a divisor.