- The S&P 500 is a broad stock market index consisting of the 500 largest US listed companies.
- The diversity and size of the companies it tracks make the S&P a proxy for the entire stock market.
- You can’t invest in the S&P 500 itself, but you can buy an index fund that duplicates its stocks and performance.
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People often say “The stock market is up” or “The market is down.” But the stock market is an amorphous thing, encompassing thousands of stocks and dozens of stock exchanges. What they actually mean is that a particular stock market index, or a group of listed companies, goes up or down.
And if they are in the US, chances are the index is the Standard & Poor’s 500 or S&P 500.
Named for the number of companies on the list, the S&P 500 is “a broad index that includes the cross-section of economic sectors such as information technology, healthcare and consumer discretionary, as well as large companies in the financial, energy and industrial sectors. , and sustainable consumer sectors, ”said Solomon Tadesse, head of quantitative research on North American stocks at Société Générale.
“As such, the S&P 500 is a good measure of the US stock market and, by implication, of the economy and its short-term trends.”
Understanding the S&P 500 can be important to investors. Here’s everything you need to know about this influential index.
What is the S&P 500?
The S&P 500, developed by Standard & Poor’s (now S&P Global), was launched in 1957. But its status as a proxy for the US stock market was strengthened in 1968, when the S&P 500 became one of the indicators that The Conference Board, corporate membership and research organization, to predict economic trends.
It’s what is known as a weighted index, meaning that companies with a higher market capitalization (the total value of all their shares) have more clout in the calculations so the overall index correlates more closely with the broader market.
The relative level of the index – or the collective value of the shares in it – is expressed in points. In January 2021 it stood at 3,750. So if the S&P 500 goes up, say, 10% in 2021, that would mean a total index gain of 375 points.
What does the S&P 500 consist of?
One of the reasons the S&P 500 is so widely cited is its composition – the 500 largest public companies in the US (although it does in fact hold 505 shares because some companies issue more than one share class). They are organized in 11 industrial sectors.
Individual companies can switch on and off. The S&P Global’s US Index Committee is reconsidering and rebalancing the grid at least quarterly, although this can be done at any time to ensure that “the index remains a representative reflection of the US largecap market,” said an S&P Global blog.
To be eligible for the index, a company must meet these criteria:
- Based in the US (although it may have foreign operations)
- Have a market capitalization of at least $ 9.8 billion
- Be highly liquid, with at least 10% of its shares outstanding in the public market
- Have positive earnings in the most recent quarter and the four previous quarters.
Which companies are in the S&P 500?
The S&P 500 is full of household names, many of them blue chip companies with a strong history of financial achievement. As of December 2020, the 10 largest companies (by market capitalization) in the S&P 500 are:
- Apple Inc. (AAPL)
- Microsoft (MSFT)
- Amazon Inc. (AMZN)
- Class A Shares of Alphabet Inc. (GOOGL)
- Class C Shares of Alphabet Inc. (GOOG)
- Facebook Inc. (FB)
- Tesla (TSLA)
- Berkshire Hathaway (BRK.B)
- Visa (V)
- Johnson & Johnson (JNJ)
What is the average return for the S&P 500?
Over the past 10 years, the S&P 500 has delivered an annualized return of 11.18%. In 2020 it posted a return of 15.15%.
Because the companies in the index are so diverse and together are worth about 80% of the total value of all US stocks, these performance numbers are widely seen as synonymous with the performance of the US stock market in general.
Limitations of the S&P 500
While the S&P 500 is considered generally representative, it’s not perfect.
The S&P 500 is a weighted index, which means that companies with a higher market capitalization have more clout in the calculations. As a result, the index may “disproportionately weight the largest companies,” warns Leyla Z. Morgillo, a certified financial planner with Madison Financial Planning Group. “Those weightings can then distort the performance of the index, resulting in a handful of stocks that determine the overall performance of the index. are sometimes misleading. “
Example: Only two high-tech companies, Apple and Microsoft, together account for more than 11% of the benchmark. “That may cause some anomalies as other relatively smaller relative companies can get lost in the sauce,” said Dan Veru, Chief Investment Officer at Palisade Capital Management.
Even then, in an increasingly globalized economy and stock market, the S&P 500 only includes US-based companies. That means that large (and sometimes market-moving) foreign stocks, such as the Chinese Alibaba Group or the German BioNTech SE, cannot perform in their performance, making them less useful as an indicator of economic trends.
Other major stock indexes
Despite the fame of the S&P ‘500, investors are looking at other indices as well. Among the participants:
- Dow Jones Industrial Average: One of the oldest indexes, the Dow tracks 30 leading US companies. Of course, that’s far fewer than the S&P 500 – too few, say some finance professionals. In addition, the weighting system, which is based on the stock price rather than the total market capitalization, can unfairly penalize a company with a stock split.
- Russell indices: The Russell 3000 considers 3,000 companies headquartered in the US, significantly more than the S&P 500. So do two other indices made up of the Russell 3000: the large-cap Russell 1000 and the small-cap Russell 2000. Many investment fund managers prefer the Russell 3000 and its smaller sisters, although the latter may be more volatile than the S&P 500.
- The Wilshire 5000: This index includes about 3,800 stocks (despite its name), boasting as the widest stock market index – virtually all publicly traded companies in the US. While clearly larger than the S&P 500, and thus arguably more representative, the Wiltshire also ignores overseas markets.
- The Nasdaq-100: This growth-stocks-focused index includes 100 of the largest domestic and international non-financial companies listed on the Nasdaq stock exchange. The index is attractive because of its emphasis on the technology sector, arguably the most influential, fast-growing industry in the US economy. But the bandwidth is even narrower than that of the S&P 500, and tracking it could put investors at risk in the event of an industry downturn.
How to invest in the S&P 500
You can’t invest directly in the S&P 500 – it’s just a list, not a stock itself. But a variety of publicly traded mutual funds and exchange-traded funds (ETFs) buy securities that track the S&P 500, or some group of the companies in it, such as high-dividend or more growth-oriented companies.
All leading brokers and financial services firms offer S&P 500 index funds: companies such as Charles Schwab, Fidelity and Vanguard. That includes most online trading platforms and apps, such as Robinhood and Stash.
S&P 500 index funds are also popular with robo advisers such as Wealthfront and Betterment, who use computer algorithms to invest and track investors’ portfolios.
The financial takeaway
For more than half a century, the S&P 500 has exemplified the overall performance of the stock market. Because it represents the largest publicly traded companies in the US, its performance is seen as a snapshot of the state of corporate America and by extension the US economy.
But this index has some shortcomings. Market capitalization weighting may favor some companies or sectors over others; the bandwidth does not always reflect the entire domestic stock market; and it excludes companies not based in the US.
Yet the returns of individual stocks, equity funds, and other assets are all compared to the S&P 500, so it can also be a good tool for investors to guide their individual investment choices, get a sense of how their choices are performing, and even to be duplicated through S&P 500 index funds.