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A Look At The History Of The Stock Market And The Three Main Indices

22 April 2015 in Investing Insights

The stock market has been busily in motion since long before we were born. But just how old is it, and why was it created in the first place? The first stock market emerged on the Amsterdam Exchange at the beginning of the 17th century. Prior to its creation, merchants who desired to significantly expand their businesses often didn’t have enough capital to do so.

In order to raise enough funds, business owners reached out to their communities and offered shares of their businesses in exchange for money to grow their companies. In the process, these investors became co-owners and joint-stock companies were formed. This became common practice for growing corporations and also enabled struggling merchants to survive. In 1602, the Dutch East India Co. was the first company to issue paper shares of stock. Paper was easy to exchange in person and allowed investors to trade their shares with other people. Stock trading was born.

UNDERSTANDING THE THREE MAIN INDICES

When people speak of the stock market today, they often refer to the Dow, NASDAQ, and the S&P 500. Each of these indices represents a unique segment of the overall market and tracks the performance of a basket of securities. Let’s look further at what each of these three primary indices represent.

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Source: Google Finance

The Dow Jones Industrial Average (The Dow)

The Dow Jones Industrial Average originated in 1896 by Charles Dow and Edward Jones. They managed the iconic newspaper The Wall Street Journal. They utilized the WSJ to publish and highlight information about the Dow because they wanted to make it easy for readers to track the average movement of major industrial companies.

Today, the Dow is one of the top indices that people track everyday, but it is no longer solely comprised of industrial companies. Instead, its main purpose is to represent the average movement of the major US based large cap companies in the market. It is comprised of 30 stocks chosen by the Wall Street Journal and is price weighted, so higher priced stocks impact the average more than lower priced ones. The current 30 companies are:

• 3M

• American Express

• Apple

• Boeing

• Caterpillar

• Chevron

• Cisco

• Coca-Cola

• Disney

• E I du Pont de Nemours and Co

• Exxon Mobil

• General Electric

• Goldman Sachs

• Home Depot

• IBM

• Intel

• Johnson & Johnson

• JPMorgan Chase

• McDonald’s

• Merck

• Microsoft

• Nike

• Pfizer

• Procter & Gamble

• Travelers Companies Inc.

• United Technologies

• UnitedHealth

• Verizon

• Visa

• Wal-Mart

NASDAQ Composite Index

The term NASDAQ first originated as an acronym for the National Association of Securities Dealers Automated Quotation systems, commencing in 1971. It was the first electronic exchange where investors could buy and sell stock.

Today, when people mention the NASDAQ, they are generally referring to the NASDAQ Composite Index, which like the Dow, tracks a large number of company stock values. However, instead of tracking large-cap companies as the Dow does, the NASDAQ Composite Index is heavily weighted in approximately 3,000 technology, biotech, and Internet companies that are considered to have high growth potential and are therefore typically more volatile than the average market. It includes both US and non-US companies, and unlike the Dow, the NASDAQ is market cap weighted.

Remember the dot-com boom in the late nineties? The Internet became mainstream and thousands of tech companies appeared out of nowhere. As the early adopter companies began soaking up the online market share, investors were salivating as well. They wanted to capitalize on the growing online market and began buying shares of the new tech companies. This increase in demand boosted share prices, which attracted even more investors until the stocks became wildly overvalued and the tech bubble popped.

Since the NASDAQ Composite Index is largely made up of Internet and tech companies, it followed the wild ride of the tech bubble as well. In the year 2000, the NASDAQ Index reached an amazing peak of 5,132.52 but was soon devastated as many of the tech companies lost a tremendous amount of value and went bankrupt. Today, the NASDAQ Index is still often more volatile than the Dow but has yet to experience another extreme like the dot-com boom.

While there are thousands of companies represented in the NASDAQ Index , here is a small taste of just a few of them that you may recognize:

• Adobe

• Apple

• Amazon

• Facebook

• Intel

• Mercantile Bank Corp

The S&P 500 Composite Index

The S&P 500 Composite Index was launched on a small scale in 1923 and was originally named the Composite Index prior to the merge between Poor’s Publishing and Standard Statistics. The Index started off tracking just a few companies, climbed to 90 in 1926, and by 1957 was made up of 500 different companies and renamed the Standard and Poor’s 500 Composite Index. It still tracks 500 companies today that are selected by an S&B Board.

The S&P 500 is designed to be a leading indicator of US equities and reflects the rewards and risks of the large cap universe. While somewhat similar to the Dow, many people argue that the S&P 500 is a better representation of the US large cap market because of the large volume of companies it tracks in comparison to the Dow’s 30. As a result, it includes more sectors as well. Like the NASDAQ, each stock is given a weighting based on its market value not the actual stock price. A few examples of the current companies in this index are:

• 3M

• AIG

• AMZN

• Coca Cola

• Delta Airlines

You may have noticed the overlap in the three main indices. For example, the Dow has 3M and Coca-Cola in its index, and so does the S&P 500. Shared holdings also exist between the NASDAQ and the S&P 500 such as Amazon. The indices are not mutually exclusive, which is why they often move in sync.

MANY OTHER INDICES TO CHOOSE FROM

Many people may not realize there are many other indices beyond the major three. One of the first indices was actually the Dow Jones Transportation Average, which tracks approximately 20 U.S. traded transportation stocks today. Another somewhat popular index is the Russell 2000, which measures the small-cap performance of the United States. And, have you ever heard of the DJUSAR index? It’s the Dow Jones U.S. Airlines Index and tracks the major airlines of today. There are many indices available which make it easy to track many different industries and companies both in the US and globally as well.

Why are there so many? One reason could be to help compare the performance of mutual funds or hedge funds with specific industry strategies to more relevant benchmarks. Another reason could be for the added convenience for investors to track the health of certain areas within the overall economy. And yet another reason could be simply for the love of data and having more things to analyze and choose from.

Here are a few examples of the many indices available:

• Dow Jones U.S. Aluminum Index (DJUSAL)

• Dow Jones U.S. Real Estate Index (DJUSRE)

• Dow Jones U.S. Oil And Gas Index (DJUSEN)

• Dow Jones U.S. Financials Index (DJUSFN)

• Dow Jones Global Total Stock Market Index (DWG)

• Dow Jones Equal Weight U.S. Issued Corporate Bond Index (DJCBP)

• NYSE ARCA BIOTECH INDEX (BTK)

• The S&P SmallCap 600 Index (SP600)

• Euro STOXX 50 (STOXX50E)

• S&P Asia 50 (SAXCME)

• The Global Dow (GDOW)

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Photo Credit: https://www.flickr.com/photos/nikonvscanon/3448030730

4/21 – Updated to Remove ATT&T with Apple

  1. Ronald Connal
    22 Apr at 3:16 pm

    Hi

    … not sure when this article was written, but AT&T was removed from the Dow 30 in favor of Apple …

    Cheers,

    Ron.

    Reply
    • admin
      22 Apr at 5:30 pm

      Hi Ron –

      Thank you for pointing out that AT&T has been replaced in favor of Apple. The article has been updated.

      Reply
  2. Gary
    10 Feb at 6:06 pm

    RE: S&P 500
    “The S&P 500 Composite Index was launched on a small scale in 1923…… It still tracks 500 companies today that are selected by an S&B Board.”
    What is “..an S&B Board…” ? Who are members?

    Reply

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