The Standard & Poor’s 500, often abbreviated as the S&P 500, or just the S&P, is an American stock market index based on the market capitalizations of 500 large companies having common stock listed on the NYSE or NASDAQ. The S&P 500 index components and their weightings are determined by S&P Dow Jones Indices. It differs from other U.S. stock market indices, such as the Dow Jones Industrial Average or the Nasdaq Composite index, because of its diverse constituency and weighting methodology. It is one of the most commonly followed equity indices, and many consider it one of the best representations of the U.S. stock market, and a bellwether for the U.S. economy. The National Bureau of Economic Research has classified common stocks as a leading indicator of business cycles. The S&P 500 was developed and continues to be maintained by S&P Dow Jones Indices, a joint venture majority-owned by S&P Global.
Standard & Poor’s 500 (S&P 500) is a stock market index in the US that consists of 500 company’s stocks. The stocks included in the list vary according to market size, industry, liquidity and other factors. The S&P 500 stock index is considered to be the benchmark that represents risk and return of the large cap market.
The S&P 500 is regarded as the representative of the overall stock market in the US. At one time the Dow Jones Industrial Average (DJIA) was considered to be the most popular index among investors. However, the number of companies included in DJIA is small that is less than 30. As a result, S&P 500 was formed, and today is considered by most investors to be the definite representation of the US stock market.
How Stocks are Selected for the S&P 500 Index?
S&P 500 is maintained by a joint venture company, S&P Dow Jones Indices, which is owned by McGraw Hill Financial. A team of economists and financial analysts of the S&P Index Committee select stocks for the index based on market value. Every stock’s weight in the index is proportionate to the market value.
S&P index is adjusted regularly to keep it consistent over time. The adjustment is required to capture changes in the market such as issuance of shares or dividends, corporate restructuring such as mergers, acquisitions, and bankruptcy filings. Moreover, the stocks included in the index are changed from time to time to ensure that the list continues to reflect the overall market.
Every change in the market mentioned above results in adjustment of the divisor to ensure that the index remain consistent overtime. The divisor is changed during calculation of the closing value as well after close of trading.
Importance of S&P 500 Index for Investors
The weighting methodology and diverse consistency of the stocks listed in the S&P 500 makes it different from other stock indices such as the Nasdaq Composite index or Dow Jones Industrial Average. Due to the large number of stocks present in the index, it better reflects the market position in the US. And this is the same reason that investors value the index more as compared to other indices.
Investors use the movements in the S&P 500 index to gauge the overall market sentiment. If the index is moving upwards it means that there is a bullish trend in the market, while a downward sloping index indicates a bearish trend.
Additionally, a number of financial companies offer financial products including exchange traded funds (ETFs) and index funds that are linked to S&P 500 index. These products act as if the individual has bought the entire 500 stocks, which is not possible for an individual investor.
Apart from S&P 500, there are other types of S&P indices that include S&P 600 (a stock index of companies having market caps between $300 million and $2 billion), and the S&P 400 (a stock index having market caps between $2 billion and $10 billion).
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- Crashes, volatility, and the equity premium: Lessons from S&P 500 options – www.mitpressjournals.org [PDF]
- Uncovering nonlinear structure in real-time stock-market indexes: the S&P 500, the DAX, the Nikkei 225, and the FTSE-100 – www.tandfonline.com [PDF]