How stock indices work

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U.S. stock index futures were higher on Monday, indicating that Friday's sharp rally could continue as it appeared less likely that the tense situation between Russia and Ukraine would escalate.
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Forbes  Aug 6  Comment 
(Kitco News) - After closing July with a 1.5% loss, the Standard & Poor’s stock index is limping into August with additional weakness.
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At approximately 01:34 PM, Tuesday afternoon, stock indices, which had been down about half of a percent for most of the day, suddenly fell, more than doubling the loss in minutes. As reported by CNBC, traders are citing reports out of Ukraine as...
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Canada’s main stock index dropped for a second straight session on Friday and the U.S. stock market closed out its worst week in two years
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U.S. stock index futures pared losses on Friday, after payrolls data in July fell short of expectations, giving the Federal Reserve room to keep interest rates low for a while. S&P 500 e-mini futures fell ...
The Economic Times  Jul 29  Comment 
Hong Kong's key stock index rose 0.5 per cent to its loftiest level in over 3-1/2 years on optimism that the economy has turned a corner.




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A stock index is generally a portfolio of stocks, bonds or other kinds of investments which are used to represent either segments of an exchange or the whole exchange. One of the most common ways to understand a stock index is to have a look at the composition of the stocks it represents. Generally, the set of rules require the stocks to satisfy certain criteria, such that[1]:

  • All the investments in the index are subject to selection.
  • Includes calculations and rules for weighting of the index components.
  • Provides specific instructions for adjustments to maintain consistency.

How Stock Market Indexes are classified

The benchmark indices of various exchanges not only represent the stocks, but the scenario of the market as a whole. Hence, they are used to depict the overall health of the economy as well. Understanding how the index works, is a good way to begin analysis on various stocks and their importance to the economy. A good way to analyze an index is to understand the composition of the stocks it represents.

A broad based index or composite index is the one which covers almost all stocks on the exchange (or a certain majority percentage of the market capitalization on the exchange). The main purpose of the broad based index is to act as a proxy for the performance of the economic conditions of the entire market, or reveal investor sentiment towards the market.

Based on the definition of a stock index, a global index could include indices which span across exchanges and possibly countries. The Dow Jones Wilshire 5000 Total Stock Market Index spans all publicly traded index in America, excluding foreign stocks and ADRs. The Euronext 100 includes stocks from all over the European Union and the Russell Investment group have something called the Global Index.


References

<Broby, D., "Equity Index Construction", The Journal of Index Investing, Fall 2011, Vol. 2, No. 2: pp. 36-39 />

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