Stock Market Indices

Stock market indices?!

Back home we’ve got KOSPI, KOSDAQ, all that. But this book is American, so it’s American everything in here. Whatever — let’s just roll with it.

The Dow Jones Industrial Average. I’ve heard the name a million times. But what is it, actually?

It’s just one of many “indices” computed off a whole pile of stocks.

Index. As in… index. Wait — not the “index” like the exponent on a power. The other index — the one that means to point at something!!

So it’s a number that points at something. Question is: points at what?

Right — what kind of number is it, and how do you cook it up? Because once we know how it’s calculated, we’ll know what it’s pointing at. Yeah?

You take 30 blue-chip, top-shelf companies. Add up~~~ all their stock prices. Divide by 30.

So really, it’s just: pick the top 30, average their prices. That’s the whole game.

(Apparently up until 1928 they did it with 20 companies.)

And — you can invest in this thing too. Index goes up, you win money. Index goes down, you lose money.

(Trading’s easy, the prediction is simple, so individual investors apparently pile into this a lot;;)

Quick example. ABC Mart starts at $25, ends at $30. XYZ Mart starts at $100, ends at $90.

Start: $(25 + 100)/2 = 62.5$

End: $(30 + 90)/2 = 60$

% change: $-2.5/62.5 = -0.04 = -4\%$

OK but with only 30 companies, it’s a stretch to say “yeah, this is what the whole market is doing.” Doesn’t really capture it.

So somebody went: “fine — let’s do it with 500.”

Boom. Standard & Poor’s 500.

And one more thing!! It’s not just that they bumped 30 → 500. The average itself isn’t a plain average either. It’s a weighted average.

Weighted average — you know how when you compute the atomic weight of an element, you take into account the natural abundance of each isotope to get the average atomic weight? Like that.

With atomic weight: bigger abundance → bigger contribution to the weighted sum. With S&P 500: bigger market cap → bigger weight. Same idea.

Apparently Korea’s KOSPI is computed exactly the same way.

And — yep — you can invest in this one too. The Exchange-traded fund, the ETF: that’s basically you buying the index.

Hmm~ so really you’re just betting on up vs. down and trying to win money.

(Am I being too cynical about this…? T_T But what can I do, it just looks like that to me T_T)

There’s also an index from the New York Stock Exchange (NYSE) — yeah, the one in New York.

This one takes the market cap of every stock listed on the NYSE and runs a weighted average over the lot.

They also publish subindexes — industrials, utilities, transportation, financials.

So this one’s built on more information than the S&P 500. But honestly it’s hard to say one is “better” than the other. It’s just info — whoever needs it uses it however they want.

There’s also this guy:

The National Association of Security Dealers (NASD). They publish an index built from the 3,000+ stocks trading on the NASDAQ market.

And then there’s the Wilshire 5000. This one’s meant to cover everything listed on the NYSE and AMEX (American Stock Exchange), and apparently it usually ends up scooping in around 6,000 stocks~~~

Until ‘08, all these indices apparently moved pretty similarly — basically in lockstep. But between 1999 and 2002, their paths diverged like crazy.

So… does that mean a gap had opened up between the top-tier companies and the smaller ones? Hmm.

Originally written in Korean on my Naver blog (2016-03). Translated to English for gdpark.blog.