A stock market index is a method of measuring a section of the stock market A stock market or equity market is a public market for the trading of company stock and derivatives at an agreed price; these are securities listed on a stock exchange as well as those only traded privately. Many indices are cited by news or financial services firms and are used as benchmarks Benchmarking is the process of comparing one's business processes and performance metrics to industry bests and/or best practices from other industries. Dimensions typically measured are quality, time, and cost. Improvements from learning mean doing things better, faster, and cheaper, to measure the performance of portfolios Holding a portfolio is a part of an investment and risk-limiting strategy called diversification. By owning several assets, certain types of risk can be reduced. The assets in the portfolio could include stocks, bonds, options, warrants, gold certificates, real estate, futures contracts, production facilities, or any other item that is expected to such as mutual funds A mutual fund is a professionally managed type of collective investment scheme that pools money from many investors and invests typically in investment securities . The mutual fund will have a fund manager that trades (buys and sells) the fund's investments in accordance with the fund's investment objective. In the U.S., a fund registered with the.

Types of indices

Stock market indices may be classed in many ways. A 'world' or 'global' stock market index includes (typically large) companies without regard for where they are domiciled or traded. Two examples are MSCI World The MSCI World is a stock market index of 1500 'world' stocks. It is maintained by MSCI Inc., formerly Morgan Stanley Capital International and is often used as a common benchmark for 'world' or 'global' stock funds and S&P Global 100 The S&P Global 100 Index is a stock market index of global stocks from Standard & Poor's.

A national index represents the performance of the stock market of a given nation—and by proxy, reflects investor sentiment on the state of its economy. The most regularly quoted market indices are national indices composed of the stocks of large companies listed on a nation's largest stock exchanges, such as the American S&P 500 The S&P 500 is a free-float capitalization-weighted index published since 1957 of the prices of 500 large-cap common stocks actively traded in the United States. The stocks included in the S&P 500 are those of large publicly held companies that trade on either of the two largest American stock market companies; the NYSE Euronext and the, the Japanese Nikkei 225 Nikkei 225 is a stock market index for the Tokyo Stock Exchange (TSE). It has been calculated daily by the Nihon Keizai Shimbun (Nikkei) newspaper since 1950. It is a price-weighted average (the unit is yen), and the components are reviewed once a year. Currently, the Nikkei is the most widely quoted average of Japanese equities, similar to the, and the British FTSE 100 The FTSE 100 Index — also called FTSE 100, FTSE, or, informally, the 'footsie' — is a share index of the 100 most highly capitalised UK companies listed on the London Stock Exchange. The initials stand for 'Financial Times Stock Exchange'. The index began on 3 January 1984 with a base level of 1000; the highest value reached to date is 6950.6,.

The concept may be extended well beyond an exchange. The Dow Jones Total Stock Market Index, as its name implies, represents the stocks of nearly every publicly traded company in the United States ^ b. English is the de facto language of American government and the sole language spoken at home by 80% of Americans age five and older. Spanish is the second most commonly spoken language, including all U.S. stocks traded on the New York Stock Exchange The New York Stock Exchange is a stock exchange located at 11 Wall Street in lower Manhattan, New York City, USA. It is the world's largest stock exchange by market capitalization of its listed companies at US$12.25 trillion as of May 2010. Average daily trading value was approximately US$153 billion in 2008 (but not ADRs An American Depositary Receipt represents ownership in the shares of a non-U.S. company and trades in U.S. financial markets. The stock of many non-US companies trade on US stock exchanges through the use of ADRs. ADRs enable U.S. investors to buy shares in foreign companies without the hazards or inconveniences of cross-border & cross-) and most traded on the NASDAQ The NASDAQ Stock Market, also known as the NASDAQ, is an American stock exchange. "NASDAQ" originally stood for "National Association of Securities Dealers Automated Quotations," but the exchange's official stance is that the acronym is obsolete. It is the largest electronic screen-based equity securities trading market in the and American Stock Exchange NYSE Amex Equities, formerly known as the American Stock Exchange is an American stock exchange situated in New York. AMEX was a mutual organization, owned by its members. Until 1953 it was known as the New York Curb Exchange. On January 17, 2008 NYSE Euronext announced it would acquire the American Stock Exchange for $260 million in stock. On. Russell Investment Group Russell Investments is a subsidiary of Northwestern Mutual and is headquartered in Tacoma, Wash., U.S.A. The firm provides investment products and services to individuals and institutions in 47 countries. Founded in 1936, Russell is considered a pioneer in multi-manager investing, and the creator of Russell Indexes. Russell manages more than US$151 added to the family of indices by launching the Russell Global Index.

More specialised indices exist tracking the performance of specific sectors of the market. The Morgan Stanley Biotech Index, for example, consists of 36 American ^ b. English is the de facto language of American government and the sole language spoken at home by 80% of Americans age five and older. Spanish is the second most commonly spoken language firms in the biotechnology Biotechnology is a field of applied biology that involves the use of living things in engineering, technology, medicine, and other useful applications. Modern use similar term includes genetic engineering as well as cell- and tissue culture technologies. The concept encompasses a wide range of procedures for modifying living organisms according to industry. Other indices may track companies of a certain size, a certain type of management, or even more specialized criteria — one index published by Linux Weekly News LWN.net is a computing news site with an emphasis on free software and software for Unix-like operating systems. It consists of a weekly issue, separate stories which are published most days, and threaded discussion attached to every story. Some stories are merely summaries of articles published elsewhere, whereas others are original content tracks stocks of companies that sell products and services based on the Linux Linux refers to the family of Unix-like computer operating systems using the Linux kernel. Linux can be installed on a wide variety of computer hardware, ranging from mobile phones, tablet computers and video game consoles, to mainframes and supercomputers. Linux is predominantly known for its use in servers; in 2009 it held a server market share operating environment.

Index versions

Some indices, such as the S&P 500 The S&P 500 is a free-float capitalization-weighted index published since 1957 of the prices of 500 large-cap common stocks actively traded in the United States. The stocks included in the S&P 500 are those of large publicly held companies that trade on either of the two largest American stock market companies; the NYSE Euronext and the, have multiple versions.^[1] These versions can differ based on how the index components are weighted A weight function is a mathematical device used when performing a sum, integral, or average in order to give some elements more "weight" or influence on the result than other elements in the same set. They occur frequently in statistics and analysis, and are closely related to the concept of a measure. Weight functions can be employed in and on how dividends Dividends are payments made by a corporation to its shareholder members. It is the portion of corporate profits paid out to stockholders. When a corporation earns a profit or surplus, that money can be put to two uses: it can either be re-invested in the business , or it can be paid to the shareholders as a dividend. Many corporations retain a are accounted for. For example, there are three versions of the S&P 500 The S&P 500 is a free-float capitalization-weighted index published since 1957 of the prices of 500 large-cap common stocks actively traded in the United States. The stocks included in the S&P 500 are those of large publicly held companies that trade on either of the two largest American stock market companies; the NYSE Euronext and the index: price return, which only considers the price of the components, total return, which accounts for dividend reinvestment, and net total return, which accounts for dividend reinvestment after the deduction of a withholding tax.^[2] As another example, the Wilshire 4500 The Wilshire 4500 Completion Index, more commonly the Wilshire 4500, is a market capitalization-weighted index of all stocks actively traded in the United States with the exception of the stocks included in the S&P 500 index and Wilshire 5000 The Wilshire 5000 Total Market Index, or more simply the Wilshire 5000, is a market-capitalization-weighted index of the market value of all stocks actively traded in the United States. Currently, the index contains over 6,307 components. The index is intended to measure the performance of most publicly traded companies headquartered in the United indices have five versions each: full capitalization total return, full capitalization price, float-adjusted total return, float-adjusted price, and equal weight. The difference between the full capitalization, float-adjusted, and equal weight versions is in how index components are weighted.^[3][4]

Weighting

An index may also be classified according to the method used to determine its price. In a price-weighted A price-weighted index is a stock market index where each constituent makes up a fraction of the index that is proportional to its price. For a stock market index this implies that stocks are included in proportions based on their quoted prices. A stock trading at $100 will thus be making up 10 times more of the total index compared to a stock index such as the Dow Jones Industrial Average The Dow Jones Industrial Average, also referred to as the Industrial Average, the Dow Jones, the Dow 30, or simply the Dow, is one of several stock market indices created by Wall Street Journal editor and Dow Jones & Company co-founder Charles Dow. The average is named after Dow and one of his business associates, statistician Edward Jones. It, Amex Major Market Index AMEX Major Market Index or NYSE Arca Major Market Index or XMI is the American Stock Exchange's price-weighted average of 20 Blue Chip industrial stocks representative of major U.S. Corporations; several of the stocks are components of the Dow Jones Industrial Average . The index was established with a base value of 200.00 as of April 29, 1983, and the NYSE ARCA Tech 100 Index The NYSE Arca Tech 100 Index is a price-weighted index composed of common stocks and ADRs of technology-related companies listed on US stock exchanges. The index is maintained by the New York Stock Exchange, but includes stocks that trade on exchanges other than the NYSE. Companies from different industries that produce or deploy innovative, the price of each component stock is the only consideration when determining the value of the index. Thus, price movement of even a single security will heavily influence the value of the index even though the dollar shift is less significant in a relatively highly valued issue, and moreover ignoring the relative size of the company as a whole. In contrast, a market-value weighted A capitalization-weighted index is an index whose components are weighted according to the total market value of their outstanding shares. Also called a market-value-weighted index. The impact of a component's price change is proportional to the issue's overall market value, which is the share price times the number of shares outstanding or capitalization-weighted A capitalization-weighted index is an index whose components are weighted according to the total market value of their outstanding shares. Also called a market-value-weighted index. The impact of a component's price change is proportional to the issue's overall market value, which is the share price times the number of shares outstanding index such as the Hang Seng Index HSI was started on November 24, 1969, and is currently compiled and maintained by HSI Services Limited, which is a wholly owned subsidiary of Hang Seng Bank, the largest bank registered and listed in Hong Kong in terms of market capitalisation. It is responsible for compiling, publishing and managing the Hang Seng Index and a range of other stock factors in the size of the company. Thus, a relatively small shift in the price of a large company will heavily influence the value of the index. In a market-share weighted index, price is weighted relative to the number of shares, rather than their total value.

Traditionally, capitalization- or share-weighted indices all had a full weighting, i.e. all outstanding shares were included. Recently, many of them have changed to a float In finance, the free float of a company is defined as those shares that are readily available for trading. The concept of free float is particularly important for assigning a weight to a listed company in the calculation of an index-adjusted weighting which helps indexing An index fund or index tracker is a collective investment scheme that aims to replicate the movements of an index of a specific financial market, or a set of rules of ownership that are held constant, regardless of market conditions.

A modified market cap. weighted index is a hybrid between equal-weighting and capitalization-weighting. It is similar to a general market cap. with one main difference: the largest stocks are capped to a percent of the weight of the total stock index and the excess weight will be redistributed equally amongst the stocks under that cap. Moreover, in 2005, Standard & Poor's introduced the S&P Pure Growth Style Index and S&P Pure Value Style Index which was attribute-weighted. That is, a stock's weight in the index is decided by the score it gets relative to the value attributes that define the criteria of a specific index, the same measure used to select the stocks in the first place. For these two stocks, a score is calculated for every stock, be it their growth score or the value score (a stock can't be both) and accordingly they are weighted for the index.^[5]

Criticism of capitalization-weighting

The use of capitalization-weighted indices is often justified by the central conclusion of modern portfolio theory Modern portfolio theory is a theory of investment which tries to maximize return and minimize risk by carefully choosing different assets. Although MPT is widely used in practice in the financial industry and several of its creators won a Nobel prize for the theory, in recent years the basic assumptions of MPT have been widely challenged by fields that the optimal investment strategy for any investor is to hold the market portfolio, the capitalization-weighted portfolio of all assets. However, empirical tests conclude that market indices are not efficient.^{[citation needed]} This can be explained by the fact that these indices do not include all assets or by the fact that the theory does not hold. The practical conclusion is that using capitalization-weighted portfolios is not necessarily the optimal method.

As a consequence, capitalization-weighting has been subject to severe criticism (see e.g. Haugen and Baker 1991, Amenc, Goltz, and Le Sourd 2006, or Hsu 2006), pointing out that the mechanics of capitalization-weighting lead to trend-following strategies that provide an inefficient risk-return trade-off.

Also, while capitalization-weighting is the standard in equity index construction, different weighting schemes exist. First, while most indices use capitalization-weighting, additional criteria are often taken into account, such as sales/revenue and net income (see the “Guide to the Dow Jones Global Titan 50 Index”, January 2006). Second, as an answer to the critiques of capitalization-weighting, equity indices with different weighting schemes have emerged, such as "wealth"-weighted (Morris, 1996), “fundamental”-weighted Fundamentally based indexes are indices in which stocks are weighted by a fundamental factor or composite of fundamental factors. The Fundamental factors can be book value, revenue, cash flow, profits, price/sales ratio and even the number of employees. This stands in direct contrast to capitalization weighted indices. Fundamentally based indexes (Arnott Robert D. Arnott is an American entrepreneur, investor, editor and writer who focuses on articles about quantitative investing. He edited the CFA Institute's Financial Analysts Journal, as well as three other books on equity and asset allocation management, Hsu and Moore 2005), “diversity”-weighted (Fernholz, Garvy, and Hannon 1998) or equal-weighted indices.

Indices and passive investment management

There has been an accelerating trend in recent decades to create passively managed Passive management is a financial strategy in which a fund manager makes as few portfolio decisions as possible, in order to minimize transaction costs, including the incidence of capital gains tax. One popular method is to mimic the performance of an externally specified index—called 'index funds'. The ethos of an index fund is aptly summed up mutual funds A mutual fund is a professionally managed type of collective investment scheme that pools money from many investors and invests typically in investment securities . The mutual fund will have a fund manager that trades (buys and sells) the fund's investments in accordance with the fund's investment objective. In the U.S., a fund registered with the that are based on market indices, known as index funds An index fund or index tracker is a collective investment scheme that aims to replicate the movements of an index of a specific financial market, or a set of rules of ownership that are held constant, regardless of market conditions. Advocates claim that index funds routinely beat a large majority of actively managed Active management refers to a portfolio management strategy where the manager makes specific investments with the goal of outperforming an investment benchmark index. Investors or mutual funds that do not aspire to create a return in excess of a benchmark index will often invest in an index fund that replicates as closely as possible the mutual funds; one study^{[citation needed]} claimed that over time, the average actively managed fund has returned 1.8% less than the S&P 500 The S&P 500 is a free-float capitalization-weighted index published since 1957 of the prices of 500 large-cap common stocks actively traded in the United States. The stocks included in the S&P 500 are those of large publicly held companies that trade on either of the two largest American stock market companies; the NYSE Euronext and the index - a result nearly equal to the average expense ratio of mutual funds (fund expenses are a drag on the funds' return by exactly that ratio). Since index funds attempt to replicate the holdings of an index, they obviate the need for — and thus many costs of — the research entailed in active management, and have a lower "churn" rate (the turnover of securities which lose fund managers' favor and are sold, with the attendant cost of commissions and capital gains taxes).

Indices are also a common basis for a related type of investment, the exchange-traded fund An exchange-traded fund (also known as Exchange-Traded Product (ETP)) is an investment fund traded on stock exchanges, much like stocks. An ETF holds assets such as stocks or bonds and trades at approximately the same price as the net asset value of its underlying assets over the course of the trading day. Most ETFs track an index, such as the S& or ETF. Unlike an index fund, which is priced daily, an ETF is priced continuously, is optionable, and can be sold short.

Ethical stock market indices

A notable specialised index type is those for ethical investing Socially responsible investing, also known as sustainable investing, socially-conscious or ethical investing, describes an investment strategy which seeks to maximize both financial return and social good indices that include only those companies satisfying ecological or social criteria, e.g. those of The Calvert Group, KLD KLD’s Domini 400 Social Index is a market-cap-weighted stock index of 400 publicly traded American companies that have met certain standards of social and environmental excellence. Potential candidates for this index will have positive records on issues such as employee and human relations, product safety, environmental safety, and corporate, FTSE4Good Index, Dow Jones Sustainability Index and Wilderhill Clean Energy Index.

Another important trend is strict mechanical criteria for inclusion and exclusion to prevent market manipulation, e.g. in Canada when Nortel Nortel Networks Corporation , formerly known as Northern Telecom Limited and sometimes known simply as Nortel, is a multinational telecommunications equipment manufacturer headquartered in Toronto, Ontario, Canada. On January 14, 2009, Nortel filed for protection from creditors in the United States, Canada, and the United Kingdom, in order to was permitted to rise to over 30% of the TSE 300 index value. Ethical indices have a particular interest in mechanical criteria, seeking to avoid accusations of ideological bias in selection, and have pioneered techniques for inclusion and exclusion of stocks based on complex criteria. Another means of mechanical selection is mark-to-future methods that exploit scenarios produced by multiple analysts weighted according to probability, to determine which stocks have become too risky to hold in the index of concern.

Critics of such initiatives argue that many firms satisfy mechanical "ethical criteria", e.g. regarding board composition or hiring practices, but fail to perform ethically with respect to shareholders, e.g. Enron Enron Corporation was an American energy company based in the Enron Complex in Downtown Houston, Texas. Before its bankruptcy in late 2001, Enron employed approximately 22,000 staff and was one of the world's leading electricity, natural gas, communications and pulp and paper companies, with claimed revenues of nearly $101 billion in 2000. Fortune. Indeed, the seeming "seal of approval" of an ethical index may put investors more at ease, enabling scams. One response to these criticisms is that trust in the corporate management, index criteria, fund or index manager, and securities regulator, can never be replaced by mechanical means, so "market transparency There are two types of price transparency: 1) I know what price will be charged to me, and 2) I know what price will be charged to you. The two types of price transparency have different implications for differential pricing" and "disclosure" are the only long-term-effective paths to fair markets.

Environmental stock market indices

An environmental stock market index aims to provide a quantitative measure of the environmental damage caused by the companies in an index. Indices of this nature face much of the same criticism as Ethical indices do — that the 'score' given is partially subjective.

However, whereas 'ethical' issues (for example, does a company use a sweatshop Sweatshop is a working environment considered to be unacceptably difficult or dangerous — particularly by industrialized nations with high standards of living. However sweatshops may exist in any country. Sweatshop workers often work long hours for unusually low pay, regardless of laws mandating overtime pay or a minimum wage. Child labour laws) are largely subjective and difficult to score, an environmental impact is often quantifiable through scientific methods. So it is broadly possible to assign a 'score' to (say) the damage caused by a tonne of mercury Mercury , also quicksilver (/ˈkwɪksɪlvər/) or hydrargyrum (/haɪˈdrɑrdʒɨrəm/ hye-DRAR-ji-rəm), is a chemical element with the symbol Hg (Latinized Greek: hydrargyrum, from "hydr-" meaning watery or runny and "argyros" meaning silver) and atomic number 80. A heavy, silvery d-block metal, mercury is one of six chemical dumped into a local river. It is harder to develop a scoring method that can compare different types of pollutant — for example does one hundred tonnes of carbon dioxide emitted to the air cause more or less damage (via climate change) than one tonne of mercury dumped in a river (and poisoning all the fish).

Generally, most environmental economists attempting to create an environmental index would attempt to quantify damage in monetary terms. So one tonne of carbon dioxide might cause $100 worth of damage, whereas one tonne of mercury might cause $50,000 (as it is highly toxic). Companies can therefore be given an 'environmental impact' score, based on the cost they impose on the environment. Quantification of damage in this nature is extremely difficult, as pollutants tend to be market externalities and so have no easily measurable cost by definition.

Innovations Awards to Stock Indices

The William F. Sharpe Indexing Achievement Awards are presented annually in order to recognize the most important contributions to the indexing industry over the preceding year.

• Most Innovative Benchmark Index
  • 2004 — CBOE S&P 500 BuyWrite Index (BXM) ^[6]
  • 2005 — FTSE/RAFI Fundamental Index Series
  • 2006 — Standard and Poor’s Case-Shiller House Prices Indices
  • 2007 - CBOE S&P 500 PutWrite Index (PUT) ^[7]
• Most Innovative ETF
  • 2004 — iShares MSCI EAFE (EFA) and Emerging Markets
  • 2005 — EasyETF GSCI Commodities ETF
  • 2006 — PowerShares DB Commodity Index Tracking Fund (DBC) and PowerShares G10 Currency Harvest Fund (DBV)
  • 2007 - SPDR DJ Wilshire International Real Estate ETF
• Most Innovative Index Product
  • 2004 — CBOE Volatility Index (VIX) Futures
  • 2005 — Options on Vanguard VIPERS at the CBOE
  • 2006 — Chicago Board Options Exchange Options on the CBOE Volatility Index (VIX)
  • 2007 - iPath ETNs
  • 2009 - Thomson Reuters Realized Volatility Index
• Best Index-related Research Paper
  • 2004 — Steven Schoenfeld
  • 2005 — Rob Arnott
  • 2006 — Eugene F. Fama and Kenneth R. French
  • 2007 - Benchmarking Benchmarks: Measuring Characteristic Selectivity, By Kingsley Fong, David R. Gallagher, Adrian Lee, University of New South Wales
• Lifetime Achievement Award
  • 2004 — Tim Harbert
  • 2005 — William Sharpe and Nathan Most
  • 2006 — Burton G. Malkiel and Ronald J. Ryan
  • 2007 - John C. Bogle, Paul A. Samuelson, Patricia C. Dunn, William L. Fouse and John A. Prestbo

Lists

• Index of accounting articles
• Index of economics articles
• Index of management articles
• List of stock exchanges
• List of stock market indices
• Outline of finance
• Outline of marketing

See also

• Exchange-traded fund
• Index (economics)
• Index fund
• Passive management

References

1. ^ "S&P - Indices > Equity Indices - S&P 500 - Index Table". http://www2.standardandpoors.com/portal/site/sp/en/us/page.topic/indices_500/2,3,2,2,11,31,2007,0,0,1,1,0,0,0,0,0.html.
2. ^ . .
3. ^ "Wilshire: Index Calculator Result". http://www.wilshire.com/Indexes/calculator/.
4. ^ "Dow Jones Wilshire > DJ Wilshire 5000/4500 Indexes > Methodology". http://www.djindexes.com/wilshire/us/5000-4500/index.cfm?go=methodology.
5. ^ S&P methodology via Wikinvest
6. ^ CBOE - Micro Site
7. ^ CBOE - Micro Site

• Amenc, N., F. Goltz, and V. Le Sourd, 2006, “Assessing the Quality of Stock Market Indices”, EDHEC Publication
• Arnott, R.D., J. Hsu, and P. Moore, 2005, “Fundamental Indexation”, Financial Analysts Journal 60(2), 83–99.
• Broby, D.P., 2007 "A Guide to Equity Index Construction", Risk Books.
• Fernholz, R., R. Garvy, and J. Hannon, 1998, “Diversity-Weighted Indexing”, Journal of Portfolio Management, 24(2), 74–82
• Haugen, R.A., and N.L. Baker, 1991, “The Efficient Market Inefficiency of Capitalization-Weighted Stock Portfolios”, Journal of Portfolio Management
• Hsu, Jason, 2006, “Cap-Weighted Portfolios are Sub-optimal Portfolios”, Journal of Investment Management, 4(3), 1–10

External links

• Stock Index Profile at Wikinvest

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