How to Read Stock Market Indices? - thomaskralow.com (2024)

Stock market indices help analysts measure specific sectors of the financial market. The indices often contain hundreds of investments which paint the picture of how well a certain part of the economy is doing.

You may have heard of the term “stock market indexes” in the past and are wondering what the difference is between that and indices.

There isn’t one.

According to Nasdaq, “indices” is an older, Latin term. In contrast, “indexes” is a modern-day spelling of the same word. So, you’ll see financial analysts using these words interchangeably.

With that under our belts, let’s talk about how to read stock market indices.

Examples of Stock Market Indices

To read stock market indices, we first need to identify the types of indices available for you to assess.

Here’s some good news: You don’t need to have a degree in finance to recognize the names of the United States’ three most popular stock market indices. They include:

• Dow Jones Industrial Average
• Standard & Poor 500
• National Association of Securities Dealers Automated Quotations (NASDAQ) Composite Index

Although stock market indices typically have a narrower focus, the Wilshire 5000 deviates from this rule because it contains all American stocks.

Of course, the United States isn’t the only country with stocks. Yahoo Finance offers a list of some of the world’s most popular stock market indices for traders wanting to diversify their investments in other countries.

Points vs. Dollars

When you hear people talking about stock market indices, you’ve likely heard them throw around the term “points.”

Although learning how to read stock market indices comes with its learning curve, this part is easy: Points have the same value as dollars.

So, if you hear someone say that the S&P 500 rose 34 points today, it means that it rose 34 dollars. Likewise, if the NASDAQ decreased 18 points, it dropped in value by 18 dollars.

Let’s face it—everyone will understand you if you use the word “dollars” instead of “points.”

But if you’re serious about reading stock market indices, you might as well adopt the lingo to sound like a savvy investor.

How to Read Stock Market Indices

Not every stock market index works the same, but there are universal methods to reading them that will help you compare their performance.

You might want to jot down some notes for this part, for we could be introducing you to some new vocab.

Step 1: Get an Index Quote

A quick Google search with the term “DJIA,” “S&P 500,” or “NASDAQ” will reveal the current quote of these indices.

While there shouldn’t be fluctuation in an index’s quote between different outlets, you may find it helpful to select a company and stick with it for checking all index quotes. That way, you can get a feel for the layout of the webpage, learning where to look for specific information.

Examples of companies offering index quotes include:

• Ameritrade
• E*Trade Financial
• Yahoo! Finance

Step 2: Identify Important Data

The exact information that you seek from reading stock market indices can vary depending on your goal. But as a general rule, the items below are the most common items to focus on:

Price: If you’re checking during trading hours, the price will fluctuate on the spot. After trading hours, you can see where the previous price closed and market fluctuations since closing.

Opening price: The price that the index opened at. If it’s an American index, the opening time is 9:30 am Eastern time, Monday through Friday.

High: The highest price of the period you’re looking at.

Low: The lowest price of the period you’re looking at.

Previous close price: The price of the most recent index close. The American stock market closes at 4:00 pm Eastern time Monday through Friday.

Volume: The number of shares that people bought and sold.

52-week price range: The highest and lowest price in the last year.

Step 3: Change Your Viewing Range

Regardless of the company you use to read stock market indices, they’ll offer you the option to expand or contract your viewing range.

That’s a critical aspect of reading these indices since it offers a better picture of how the market is performing in the longer term.

Some of the most common settings for reading stock market indices include:

• 1 day
• 5 days
• 1 month
• 6 months
• Year to date (YTD)
• 1 year
• 5 years
• Max

By choosing “max,” you can see how the index performed since the day it started.

Just be aware that the data we covered in point number two may stay the same when you change the viewing time. However, the chart will continually change.

Step 4: Check Individual Stocks

Often, the assets in stock market indices share the same general trend.

But that’s not always the case.

Therefore, you can use the information you gathered in the steps above to pick and choose stocks within the index you’re looking at to analyze them further.

Doing so can help you identify a stock that’s outperforming or underperforming others in an index. So, it’s a valuable process for choosing individual stocks to invest in or to stay away from.

It’s also a good idea to compare indices against each other. The news often does this for you, giving you a quick snapshot of how many points the DJIA, S&P 500, and NASDAQ rose or decreased.

However, doing a deeper dive into these indices is smart for understanding whether certain market sectors are currently outperforming others.

Calculations for Stock Market Indices

You can read stock market indices without understanding the calculations that go into them to show their numbers. However, knowing the differences and the purpose of each index is helpful.

Let’s look at the top three indices.

Dow Jones Industrial Average

The DJIA is unique because it only comprises 30 stocks. That’s an over 50% increase from when it began in the 1880s with only 12 assets.

Learning how to read the DJIA is a good fit for people looking to invest in blue-chip companies that lean on paying out dividends.

When reading the DJIA, the first thing to know is that it’s a price-weighted index, meaning that it weighs the share price of its 30 assets so that they’re proportional.

If you think that means it’s as easy as adding up the share price and dividing it by 30, that unfortunately isn’t the case anymore. That’s because the DJIA has had to make adjustments over the years to the divisor, given the prevalence of events like stock splits.

So, the divisor has changed from 30 to under 0.2. What a difference!

When reading the DJIA, keep in mind that a $1 change has the same impact on a higher value stock as a lower value stock.

What does that mean for the overall index?

Price fluctuations of the larger companies have a higher impact on how the DJIA fluctuates than smaller companies.

S&P 500

The S&P 500 is a broader index than the DJIA, as it comprises 500 companies based on capitalization and liquidity, among other items.

As a market-weighted index, the S&P determines the performance of its 500 stocks based on their individual market caps.

So, if you read the S&P 500 market index and see that it increased 3% that day, that means the average market capitalization of all 500 stocks increased by 3%.

Remember that this is an average—the market cap of some stocks may have risen significantly over 3% while others may have landed in the negatives.

NASDAQ

The NASDAQ is a stock market index primarily for the technology sector. Although it’s a US-based index, it comprises some stocks located outside of the U.S.

It also contains some stocks that deviate a bit from traditional technology, such as biotech and semiconductors.

Like the S&P 500, NASDAQ uses market capitalization weighting.

So, you’re getting as equal of a market cap playing field as possible when assessing the NASDAQ’s point increase or decrease for the day.

Benefits of Stock Market Indices

Whether you’re an active trader or a set-it-and-forget-it type of investor, there are several reasons why stock market indices are crucial to the financial space. They include:

• Helps investors determine how to allocate and rebalance their funds
• Sets the stage for exchange-traded funds (ETFs) to mimic an index’s move, thus making it a safer, more passive investment method
• Allows investment managers to showcase how their portfolios perform against major indices
• Gives the media a benchmark for sharing how an event impacts the financial market

A Final Note

Now that you know how to read stock market indices, you might be eager to begin purchasing some stocks. While that’s possible, what you can’t do is buy an index.

Instead, if you like the less volatile nature of stock market indices compared to holding individual stocks, you can buy an ETF that follows an index.

Companies like Vanguard and Fidelity offer economical ETFs that can benefit investors looking for a hands-off approach.