Indices are the hypothetical portfolio of asset class, securities, and market segments that are used to determine how the market is performing.
Now there are several ways (Market-Capitalization Weighting, Price Weighting, Equal Weights) to calculate and form the index.
If the index is weighted by Price (Price Weightage), the highest-priced assets will have a greater influence on the index than those with lower values. This method of calculation is followed by Dow Jones Industrial Average
In Market-Capitalization Weightage, changes in the prices of stocks with a large market capitalization have an impact on the component stocks of indexes. This method is more common against the price weightage method across U.S. indices.
S&P 500 uses this technique giving companies with the greatest market capitalizations a larger percentage allocation.
Top US indices
There are nearly 3.3 million stock market indices around the world, according to new research from the Index Industry Association (IIA) out of which there are 5000 indices only in the US which comprises the US equity market.
Among those 5000 3 top Indices are widely followed and give a clear idea of how US markets are performing:
- Dow Jones Industrial Average (DJIA)
- Standard & Poor’s 500 (S&P 500)
- Nasdaq Composite
The S&P 500 is one of the top three indices, introduced in 1957 to track the value of 500 corporations listed on the New York Stock Exchange (NYSE). It began tracking 90 stocks in 1926 and expanded to 500 in 1957.
It comprises firms from 11 different industries with no more than 30% of the total budget given to a single sector and Technology having the biggest bite of the pie with 28% and Healthcare with 14%
When compared to Dow Jones (30 stocks), S&P is believed to be a truer picture of the broader market because it is meant to convey the entire composition of the US economy.
For a company to get listed in S&P 500 it must have:
- $8.2B market cap.
- Stocks must be highly liquid (stock that is easily sold, because there is a large volume of shares traded every day)
- Public float of 50%+ shares
- Positive earnings
- It should be a US company.
- 12 months since IPO.
Top companies in S&P 500:
|Apple Inc. (AAPL)||6.20%|
|Microsoft Corp. (MSFT)||5.90%|
|Amazon.com, Inc. (AMZN)||3.90%|
|Facebook, Inc. (FB)||2.40%|
|Alphabet Inc. Class A (GOOGL)||2.30%|
|Alphabet Inc. Class C (GOOGL)||2.20%|
|Tesla, Inc. (TSLA)||1.50%|
|Nvidia Corp. (NVDA)||1.50%|
|Berkshire Hathaway Inc. (BRK.B)||1.40%|
|JPMorgan Chase & Co. (JPM)||1.30%|
Should you invest in S&P 500?
- Based on FactSet data, the average annual return for the S&P 500 in the 50 years from 1970 to 2020 has been 10.83%.
And, from 2009-2019 S&P 500 gave a return of 14%, whereas Growth Funds gave a whooping return of 40% but involves a much greater risk as compared to S&P 500.
- S&P 500 index is prone to market crashes.
- All we know about the market is there will surely be a bear run after constant Bull runs triggered by Black Swan events (like the Global Financial crisis in 2008, Covid-19 pandemic) which impacts a huge population.
- S&P 500 layout instant diversification
- In market crashes, the best way to survive and grow is to diversify your portfolio by investing in ETFs in indexes like the S&P 500, which includes firms from 11 different industries. The impact on one sector will have no effect on the stocks of firms in the other ten.
- These are low maintenance investment
- People who are new to investing and the stock market may find it challenging to find research data about dozens of stocks that provide a decent return on investment. S&P 500 ETFs may be the ideal option to invest your money if you don’t appreciate watching the financials of hundreds of firms or understanding their company and stakeholders.
- But, you should keep in mind that these funds perform best when they are left alone for a longer period of time. So if you are looking for “invest once and forget it” S&P 500 ETFs could be a smart choice.
There are many options and investment strategies, S&P 500 ETF is one of those but you have to know your investing style. If you are an aggressive investor who is fine with high risk and looking for high returns and you may have to look towards growth funds and momentum investing.
On the other hand, if you have just started investing you might want to have low-maintenance and stable investments depending on your age and risk appetite.