Stock Market Indexes

Defining an Index

An index is a number that gives you an idea of the qualities that you are trying to measure. For example, let’s say that you want an easy way to gauge how the temperature in your town changes from day to day without having to measure the temperature yourself. One way to do this is to find out the temperature in, say, 10 locations around the boundary of your county and divide by ten. This average would probably be a good approximation of the temperature in your town.

Obviously, to get a more precise number, you would have to measure the temperature in a lot more than 10 locations in your county. The average temperature of these 10 spots is now your indicator or index for your town’s temperature. You can call it anything you want: The Teenvestor Temperature Index, The TTI, or whatever you like. If this index is calculated and published every day by some organization, you can get an approximation on how the temperature in your town changes by looking at the changes in the index alone.

The following sections describe the three important stock market indicators or indexes most stock experts use to tell how stocks are doing: the Dow Jones Industrial Average (the Dow or the DJIA), the Standard & Poor’s 500 (the S&P 500), and the NASDAQ Composite Index (the NASDAQ Composite).

The Dow Jones Industrial Average (Dow Jones)

The most prominent stock market indicator in the United States is the Dow Jones Industrial Average (the Dow). Charles Henry Dow first published the Dow on May 26, 1896. At that time, it included the sum of the prices of just 12 so-called “smoke stack” companies, such as coal and gas companies.

Today, the Dow is made up of 30 stocks of some of the biggest companies in America.

The index is calculated by summing up the “adjusted prices” of the stocks of the companies listed on the table. The adjusted prices are the stock price for each company, adjusted for things such as stock splits (further explained on our website).

You Can't Easily Calculate the Dow on Your Own

You won’t be able to calculate the Dow on your own by averaging all the closing prices of the 30 stocks that make it up, without knowing how to adjust the price of each stock. But Teenvestors shouldn’t really care about how the Dow is calculated. All that should matter to them is whether the index goes up or down, and by how much. 

Day to Day Changes in the Dow

When you hear or read that the Dow went up 20 points, you can think of it as meaning that the average of the stock prices in the Dow went up by $20. Sometimes the change in the Dow is given in percentage terms such as “The Dow was up 15% yesterday.” As long as you know in what terms the change is expressed – whether in points or in percentage – you can gauge the seriousness of the change in the Dow.

Many investors focus on the day-to-day changes in the Dow. As a Teenvestor, you shouldn’t be concerned with daily changes because you are a long-term investor. You are in stocks for the long haul – four, five, seven years and beyond. As long as you’ve done your research on a company and feel good about its long-term prospects, declines or increases in the Dow should not get you overly excited.

The 30 Companies in the Dow

(The Dow Components Most Recently Changed in 2020)

The S&P 500

Another gauge investors use to tell how the market is doing is the Standard & Poor’s 500 (S&P 500) . As the name suggests, there are 500 stocks in this index. These stocks are too numerous to list here, but they include many of the stocks found in the Dow, and they are all among the most widely traded stocks in the United States. The stocks in the S&P 500 are traded on the NYSE and the NASDAQ exchanges.

Since the S&P 500 has more stocks in it and covers many more types of businesses than the Dow, it is considered a better measure of how the stock market is doing. Unlike the Dow, which simply sums adjusted stock prices of the 30 stocks it tracks, the S&P 500 is weighted by the size (gauged by market capitalization) of companies in the index. The size weighting involved in producing the S&P 500 index is generally considered by some to produce a better indication of overall stock price movements than an unweighted stock index such as the Dow.  

As with the Dow, the change in the S&P 500 is at times given in terms of points (dollar amounts) and at times in terms of percentage.

The NASDAQ Composite 

The NASDAQ Composite Index (the NASDAQ) is made up of the thousands of stocks traded on the NASDAQ exchange. In another section of this website, we told you the NASDAQ Exchange is generally where the stocks of smaller, lesser known companies are traded. For this reason, the NASDAQ Composite Index is used to tell how smaller companies are doing.

Of late, the NASDAQ Composite has been doing well because of small, high-technology companies that have had huge run-ups in their stock prices.

Like the Dow, the change in the NASDAQ Composite is given in terms of points (dollar amounts) and percentages. 

The Level of the Dow, the S&P 500, and the NASDAQ

Other Indexes

There are many more indexes that investors use in determining how the stock market is doing in the United States or internationally. Some investors may put their money in specific segments such as Internet-related, oil-related, or transportation-related businesses, so they need indexes that tell them how those businesses are doing in general. 

Such indexes do exist.  We won’t go through all of them here, but when you become a more advanced Teenvestor, you can look them all up if you need them. For now, the three major indexes – the Dow, the S&P 500, and the NASDAQ Composite – are all you need to know if you are primarily interested in tracking the performance of stocks traded on U.S. stock exchanges. 

Some other significant indexes for other countries include the following:

• The FTSE 100 (FTSE): Index associated with the 100 top U.K.-regulated companies on the London Stock Exchange.

• The DAX Index associated with 30 of the largest German companies traded on the Frankfurt Stock Exchange.

• The Nikkei 225 Index (the Nikkei): Index associated with stocks traded on the Tokyo Stock Exchange.

• The Hang Seng Index: Index associated with stocks traded on the Hong Kong Stock Exchange.