1. Index Investing: Introduction
  2. Index Investing: What Is An Index?
  3. Index Investing: The Dow Jones Industrial Average
  4. Index Investing: The Standard & Poor's 500 Index
  5. Index Investing: The Nasdaq Composite Index
  6. Index Investing: The Wilshire 5000 Total Market Index
  7. Index Investing: The Russell 2000 Index
  8. Index Investing: Other Indexes
  9. Index Investing: Index Funds
  10. Index Investing: Conclusion


An index is a statistical measure of the changes in a portfolio of stocks representing a portion of the overall market.

It would be too difficult to track every single security trading in the country. To get around this, we take a smaller sample of the market that is representative of the whole. Thus, just as pollsters use political surveys to gauge the sentiment of the population, investors use indexes to track the performance of the stock market. Ideally, a change in the price of an index represents an exactly proportional change in the stocks included in the index.

Mr. Charles Dow created the first and, consequently, most widely known index back in May of 1896. At that time, the Dow index contained 12 of the largest public companies in the U.S. Today, the Dow Jones Industrial Average (DJIA) contains 30 of the largest and most influential companies in the U.S.

Before the digital age, calculating the price of a stock market index had to be kept as simple as possible. The original DJIA was calculated by adding up the prices of the 12 companies and then dividing that number by 12. These calculations made the index truly nothing more than an average, but it served its purpose.

Today, the DJIA uses a slightly different methodology, called price-based weighting. In this system, the weight of each security is the stock's price relative to the sum of all the stock prices. The problem with price-based weighting is that a stock split changes the weight of a company in the index, even though there is no fundamental change in the business. For this reason, not too many indexes are weighted on price.

Most indexes weigh companies based on market capitalization. If a company's market cap is $1,000,000 and the value of all stocks in the index is $100,000,000, then the company would be worth 1% of the index. These types of systems are made possible by computers - most are calculated to the minute, so they are very accurate reflections of the market.



It's important to note that an index is nothing more than a list of stocks; anybody can create one. This was especially true during the dotcom bull market, when practically every publication created an index representing a section of new economy stocks. What sets the big indexes apart from the small ones is the reputation of the company that puts out the index. For example, the DJIA is owned by Dow Jones & Company, the same people who publish The Wall Street Journal.

Now that we've covered what an index is, let's take a look at some of the most popular stock indexes.

Index Investing: The Dow Jones Industrial Average

Related Articles
  1. Investing

    The Pros and Cons of Indexes

    Learn about the advantages and disadvantages of stock indexes and passive index funds. Discover how there is an opportunity cost to using index funds.
  2. Insights

    An Introduction to Stock Market Indices

    Investopedia explains the five most talked about indices and what makes them all different.
  3. Investing

    What is an Index?

    An index is a statistical means of calculating a change in an economy or market.
  4. Investing

    How Now, Dow? What Moves The DJIA?

    Find out how this index tracks market movements and where it falls short.
  5. Insights

    The ABCs Of Stock Indexes

    Indexes can track market trends, but they're not always reliable. Can you trust them?
  6. Investing

    How Stock Market Indexes Changed Investing

    Find out how the first market averages were calculated and what they mean for investors today.
  7. Investing

    Understanding And Playing The Dow Jones Industrial Average

    Learn strategies for investing in this price-weighted index and how to interpret its movements.
  8. Insights

    What's a Market Index?

    A market index combines several stocks to create one aggregate value that’s used to measure a market’s or sector’s performance.
  9. Investing

    The Top 3 ETFs to Track the Dow Jones Industrial Average for 2016

    Learn about exchange-traded funds that track the Dow Jones Industrial Average. Read how compounding impacts the results of inverse and leveraged ETFs.
  10. Investing

    3 Types Of Indexing For ETF Success

    ETF success relies on the index with which it's paired. Discover three index genres for tracking average market performance.
Trading Center