Indices & ETFs

Indices are an important part of investing. They provide insight into the general health of a conglomerate of stocks. The larger indices can even be an indicator of the health of a whole sector, or, in rare cases, the entire market. While they cannot be traded directly, trading ETFs (exchange traded funds) can be quite lucrative, as well as being simpler to trade than stocks. This is because indices are a collection of stocks, replacing the need to do research on multiple stocks with a summarization of all of them. Besides streamlining     the investing process, because buying indices gives you ownership of shares of all the companies in the index, they can buffer losses. If one company drops, you will lose less money if you had invested in an index than if you had invested in the company directly. Also, if you cannot obtain accurate or conclusive information on a single company (which creates a risk of losing money due to the stock failing), ETFs are a better option due in a future post, but ETFs are basically less risky than stocks due to the invested money being spread out compared to stocks. They are good for sectors whose stocks are not very dispersed (meaning that the chance for growth, and therefore profit, is lower), and when you cannot obtain accurate information on a stock and want to minimize the risk of losing money.

Basically, an index is an average of multiple data points. In our case, these data points are stock prices. Indices provide a quick way to observe the performance of multiple stocks, and can be used as a barometer to measure the health of entire sectors and markets. Indices are the average of multiple stocks, so one stock will not have a large, overall effect on the index. There will only be a large change in an index when multiple stocks move in a similar fashion, indicating that there is a large event occurring. Stocks can be affected by isolated events such as earning reports for a company, but indices usually only change substantially when there is a large, far-reaching event, such as a shortage of a certain material or trade embargo. 

Indices can be distinguished by whether or not they are weighted. Some indices, such as the Dow Jones Industrial Average, are weighted. That means that different companies have a smaller or larger effect on the index. For example, if IBM (which is weighted at around 10%, making it the heaviest company in the index), fell 5%, it would have a much larger effect than if Alcoa (0.41%), moved down by the same amount, Some indices are unweighted, which means that every company, regardless of size, has an equal share of the index. This is an important fact to consider when looking at indices and ETFs.

There are countless indices, ranging from ones that track a small group of stocks to massive ones that are cornerstones of the entire global market. Some examples are listed below

Dow Jones Industrial Average - Comprised of 30 leading stocks, this index is one of the most important. This index includes giants like Microsoft, IBM, Pfizer, etc. that are important in the global economy. As a result, this index is very closely watched. (Symbol: DJI)

Nasdaq Composite - An index comprised of all the stocks listed on the Nasdaq market. With over 3,000 companies included, this is one of the largest, and most important, indices. (Symbol: IXIC)

S&P 500 - An index comprised of the 500 leading U.S companies, based on market capitalization.  It is considered to be a very accurate representation of the U.S economy. (Symbol: GSPC)

Russell 3000 - A massive index comprised of the leading 3,000 U.S companies based on market capitalization. This index represents 98% of the investible U.S market. There are several alternative indices that include sections of this index, such as the Russell 2000 (one of the most commonly watched). 

(Symbol: RUA) (Symbol for Russell 2000: RUT).

Indices are a valuable indicator of the market's performance, and can bring profit through ETFs. Learning to use them to your advantage is an important investing skill.

Disclaimer: Trading stocks has extremely high risks, and should not be taken to lightly without a thorough understanding. This is written from a purely commentary point of view and is not meant to suggest buying, selling, or holding a stock. All traders must do their own research prior to investing. We (StockQuests) are unaffiliated with all of the companies that are mentioned on this blog, and can't be held responsible for any losses that may occur. Invest at your own risk.