What is the S&P 500 Index?

Key Points

• The s&p 500 index is one of the three major indices reflecting the overall situation of the usa stock market.

• The characteristics of the s&p 500 index are: diversified enough, market cap weighted, and dynamically updated.

• From its establishment in 1957 to the end of 2020, the historical annualized return of the s&p 500 index exceeded 12%.

Concept Explanation

The simplest way to quickly understand the trend of a stock market is to look at its stock index. The s&p 500 index, one of the three major indices reflecting the situation of the usa stock market, was compiled by Standard & Poor's in 1957 and is a stock index that tracks the performance of 500 publicly traded companies in the usa, abbreviated as the s&p 500 index.

All the companies covered by the s&p 500 index are listed on major exchanges in the usa, such as the New York Stock Exchange and the Nasdaq Stock Exchange, and the component stocks it includes are almost the 500 most actively traded stocks in the usa. Industrial stocks like Boeing and General Electric, consumer stocks like coca-cola and procter & gamble, technology stocks like apple and google, are all included.

Index Characteristics

S&P 500 index contains more companies and more diverse industries compared to the Dow Jones Industrial Average, therefore the risk is more diversified, reflecting a more comprehensive market trend.

Using market capitalization weighting: the larger the market value of the index component stocks, the greater the impact on the index, thus better reflecting the actual position of the company's stocks in the market.

Dynamic updates: The components of the S&P 500 index are not fixed, but dynamically updated. The situations where component stocks need to be updated mainly include:

Merger: After a company merger, the merged company naturally needs to be removed.

Bankruptcy: A company declares bankruptcy.

Transformation: After a company undergoes transformation, it loses its relevance in the original industry category.

Lack of representativeness: Replaced by other more outstanding companies in the same industry.

Index Performance

Since its inception in 1957 until the end of 2020, the average annual growth rate of the s&p 500 index has exceeded 12%, far surpassing the returns of most financial products we are familiar with. Buffett once said, for most people, the best investment method is to invest in the s&p 500 index.

The s&p 500 index has been hitting all-time highs, which means that, as Buffett said, investing in the s&p 500 index would have been profitable at any time before the end of 2020. However, this does not mean that such investments are risk-free. Because the index experienced a 38% drawdown during the 2008 financial crisis and consecutive drawdowns of 40% during the 2000-2003 network technology bubble period. There is a risk of loss if bought at high points in these phases and not held long term.