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What is a 'Market Index'?

A market index is a weighted average of several stocks or other investment vehicles from a section of the stock market, and it is calculated from the price of the selected stocks. Market indexes are intended to represent an entire stock market and track the market's changes over time.

Index values help investors track changes in market values over long periods of time. For example, the widely used Standard and Poor's 500 Index is computed by combining 500 large-cap U.S. stocks into one index value. Investors can track changes in the index's value over time and use it as a benchmark for their own portfolio returns.

BREAKING DOWN 'Market Index'

Market indices measure the value of groups of stocks. If an index goes up one level, or 1%, this means a group of stocks has, correspondingly, increased its value by one level also and become more attractive to investors. The Dow Jones Industrial Average (DJIA), Nasdaq Composite index and the S&P 500 are examples of market indices.

Well-known Market Indices

The DJIA measures 30 stocks traded on the New York Stock Exchange (NYSE) and the NASDAQ. These companies include premier corporations such as Home Depot, the Walt Disney Company, Exxon Mobil Corporation and Microsoft Corporation. The S&P 500 measures 500 stocks. The Nasdaq Composite index goes further and monitors the daily value of the 4,000 stocks traded on the NASDAQ National Market. Most investors prefer the S&P over the other market indices because it is more accurate. Another index, the Wilshire 5000, sometimes called the "total market index," is a lesser-known index composed of all publicly traded companies based in the United States. All four indices measure the daily performance of large companies. The Russell 2000, on the other hand, monitors 2,000 small undifferentiated companies in the market.

The value of the market index is also known as points. When the DJIA is reported to have gone up by 400 points in a day, its value has increased from the previous day's rating to the current day's rating and hiking the value of its composite companies to 400.

Example of How Indices Help Investors

Indices indicate the financial health of an industry in which an investor has invested. If the DJIA drops and continues to decrease over the course of a month, for example, the investor might conclude that some of its companies are performing poorly. If the investor owns some of these stocks, it might prompt the investor to reassess their portfolio and look for other companies in which to invest.

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