What Is the S&P 500 Index?

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by Tolu Ajiboye · 9 min read
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What Is the S&P 500 Index?

There are several indexes on the stock market which serve different purposes. In this guide, you will find everything one needs to know about S&P 500 index.

Stock market is simply a place where shares from public listed companies are traded. This is a place where individuals or representatives, come to buy and sell shares of companies they are interested in for various reasons. There are several indexes on the stock market and depending on a buyer’s preference, these indexes serve different purposes. One of such is the S&P 500.

What Is Standard and Poor’s (S&P)?

Standard and Poor’s Financial Services LLC is an American firm that renders financial offerings including data analysis and research as well, on market-related assets such as stocks, bonds, and several other commodities as well. The company provides useful information for traders and interested investors regarding market factors including indices and even credit positions of the publicly listed companies.

Poor’s Publishing was a publishing outfit founded back in 1860 by Henry Varnum Poor. In the same year, a book which contained a lot of in-depth information, specifically about railroad companies in the United States and their financial specifics as well as mode of operation, was published. Titled “History of Railroads and Canals in the United States” the book became popular because of how financials and operations were well broken down. Eight years later, “H.V. and H.W. Poor Co.” was formed by Henry Varnum Poor and Henry William Poor, which then published two new guidebooks.

In 1906, The Standard Statistics Company was established and this firm supplied the same impressive financial and operational data, but about non-railroad companies and by 1923, the company had created a weekly updated index of more than 230 companies in the U.S.

These two companies then merged in 1941 and became Standard & Poor’s, increasing the number of companies in the index to more than 400 and by 1957, this had further increased to 500, causing a name change to the S&P 500 we know today.

What Is the S&P 500 Index?

Simply put, the S&P 500 is a wide and comprehensive pool of the 500 largest stocks in the U.S., ranked by market capitalization. This index is regarded as the most trusted and accurate indicator of the position of the entire U.S. stock market and how its fairing. Unlike a few other indexes, the S&P 500 includes stocks that cut across several different sectors, as long as they are in the top 500. The index represents up to 80% percent of the entire U.S. stock market.

There are more than a few requirements that a company must meet for it to be considered worthy of listing on the S&P 500. Even though there are many things considered, some of the following are simply the most basic requirements:

  • U.S. Company. Probably the most basic requirement is that the company must be a U.S. company. There are however other indexes (like Nasdaq), that lists foreign companies.
  • Reported Earnings. The S&P 500 requires that the stock’s most recent four quarters in its fiscal year must have posted positive earnings.
  • Market Capitalization. Because this index is largely centered around market capitalization, a major requirement is that the market cap must be a minimum of $5.3 billion.
  • Market Demand and Share Price. The mere fact that a stock is in the top 500 means that there is active demand for it and this is another requirement. The S&P 500 will not list stocks that have little to no activity in the market. On top of reasonable demand for an active market, the share price is also expected to be just.

The actual listing requires fulfilling demands of a more exhaustive list than the above. However, if a stock doesn’t meet the aforementioned, it cannot be listed. Therefore, the following are the S&P 500’s largest stocks, as at the 19th of September, 2019:

  1. Microsoft Corporation (MSFT)
  2. Apple Inc. (AAPL)
  3. Amazon.com Inc. (AMZN)
  4. Facebook Inc. Class A (FB)
  5. Berkshire Hathaway Inc. Class B (BRK.B)
  6. JPMorgan Chase & Co. (JPM)
  7. Alphabet Inc. Class C (GOOG)
  8. Alphabet Inc. Class A (GOOGL)
  9. Johnson & Johnson (JNJ)
  10. Exxon Mobil Corporation (XOM)

How Is the S&P 500 Index Calculated?

The S&P 500 is based on market-cap weighting. This directly means that each stock on the index is only valued as it relates to the entire market capitalization. Consequently, if a particular company’s stock has a large market capitalization, the fate of the entire index could rest significantly on that company because if it drops, the value of the entire index drops along with it.

The S&P 500 is calculated by adding up the market capitalization of all the 500 stocks it lists and then dividing the result by something called an index divisor. An index divisor is a proprietary number developed by Standard’s & Poor’s, which generally prevents the stock from being swayed from non-economic stimuli. The index divisor is however not static and is usually calculated again and again, based on current market factors such as trading, stock splits, and certain irregular dividends, all of which could easily affect its value.

In Summary, the simple formula for calculating the S&P 500 index is:

Total Sum of All S&P 500 Stocks / Index Divisor

It is often said that S&P pegs the divisor to be somewhere around 8.9 billion.

There is also the weighted average market capitalization for each stock listed on the index. This, in simpler terms, shows how much of an effect one particular stock would have over the entire market and is calculated by dividing the particular stock’s market capitalization by the sum total of the entire index’s market capitalization.

In summary, the formula for weighting would be:

(Market Capitalization of Individual Stock / Total Market Cap of All Stocks) x 100%

For example, MSFT is currently the largest stock on the S&P 500 Index, with a $1.065 trillion market cap and the S&P 500 was last valued at $24.30 trillion. Therefore, MSFT currently has a weighting of 4.4%, meaning that more 4.4% of the entire S&P 500’s value, is currently in the “hands” of Microsoft.

There are however a few other factors considered for listing on the S&P 500. Apart from market cap, others include liquidity, domicile, classification, public float, and financial viability.

S&P 500 vs DIJA

The S&P 500 and the Dow Jones Industrial Average (DIJA) are two of the most popular indexes currently being used by investors and traders in the U.S. However, they both have a few differences. Firstly, the DIJA only lists stocks from the largest 30 shares in the market.

Another major difference between both indexes is how they are weighted. As explained earlier, the S&P 500 is market-weighted, meaning that the stock market capitalization is the major factor taken into consideration. The DIJA, however, is price-weighted. This means that it’s the individual prices of each stock, that the index factors to make its ranking. So, the stocks with the higher share prices are rated above lower-priced stocks, regardless of which one has a higher market capitalization.

S&P 500 vs Russell Indexes

The Russell indexes is another set of stock market indexes from the FTSE Russell – a sort of amalgamation of efforts from subsidiaries of the London Stock Exchange Group (LSEG) including FTSE International Limited and the Frank Russell Company. The Russell Indexes are a bit more specific than the S&P 500 as they track specific global market segments as well as investment styles.

The major difference between both indexes is in how the stocks that make up the respective indexes are chosen. For the S&P 500, all the stocks listed are jointly chosen by a committee convened for that task. The Russell indexes, however, do not use a committee and instead, decide what stocks are listed via a formula.

Other S&P Indices

The S&P 500 is just one index out of about 8, which jointly make up the S&P Global 1200 Index. While the S&P 500 caters to the market in the United States, other regional indexes include the following:

  • S&P/TSX 60 – Canada
  • S&P Latin America 40 Index – Mexico, Brazil, Colombia, Chile, Peru
  • S&P/TOPIX 150 Index – Japan
  • S&P Asia 50 Index – Hong Kong, Korea, Singapore, Taiwan
  • S&P/ASX 50 Index – Australia
  • S&P Europe 350 Index

There are however other S&P indexes such as the S&P Midcap 400 which, as the name suggests, lists mid-cap companies and the S&P SmallCap 600, for small-cap companies. The S&P 400, 500 and 600 all make up a much broader U.S. index called the S&P Composite 1500.

How to Invest in all 500 Stocks?

Since the index contains 500 stocks, investing in every single one by itself would be a little too cumbersome and probably near impossible. The best way to easily get the best of the S&P 500 is to make use of the next best thing, which still guarantees safe exposure to all of the 500 listed stocks. This is called an index fund.

The S&P 500 index funds basically work as a mirror image or mimic of the stocks, as opposed to going through all the individual stocks and spending time figuring out which of the 500 will perform best. It’s a great way to invest in the Standard’s and Poor’s index which also allows traders to get a feel of the entire index without too much exposure to risk. Index funds are available as mutual funds or exchange-traded funds (ETFs).

S&P 500 vs Vanguard 500 Fund

The Vanguard 500 is an index fund that tracks the S&P 500’s price and yield performance and offers results that correspond, especially as regards benchmark index. The Vanguard 500 Index fund (VFINX) seeks to operate with as much correlation as possible. It was first introduced in August 1976 by the Vanguard Equity Investment Group and charges only 0.14% in annual expense ratio.

The VFINX is the most advisable index fund for any traders or investors who are in the market for the long-haul and its low ratio makes it easy for said investors to stay in play for much longer than other indexes.

Investing in the S&P 500 requires considerable research and study, and should not be done without some knowledge of how the U.S. stock market works.

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