The market was down this month but not as much as you think. The Dow was way down. The other indexes were flat or only a bit down.
People often say things along the lines of the stock market is up or the stock market is down. The stock market is very large so people who determine the validity of that prior statement look at various stock market indexes as proxies for the whole market. In the United States, there are many indexes that are used for this purpose. The most common are the Dow Jones Industrial Average, S&P 500, Nasdaq-100, and Russell 2000. Each index has their own unique criteria for inclusion. If all the indexes were combined, many US stocks would be included, and would serve as a decent representative sample of the stock market though not a perfect one. However, some people when assessing the stock market make the horrid error of just looking at the Dow Jones Industrial Average, which is a very inadequate sample.
The Dow Jones Industrial Average was created in 1896 and is composed of 30 very large industrial companies. There are multiple issues with using their index as your sole source of stock market assessment. 1. The world has changed a lot since 1896. In 1896, the economy was very much dominated by traditional industrial companies, in 2023 the economy is considerably more varied. Today’s economy is much more dominated by technology companies and service companies. 2. The sample size of the Dow Jones Industrial Average is very small. It is composed of 30 stocks. There are around 6000 stocks listed in the United States stock market. How can 30 accurately represent 6000? The problem with sample size is that one or two stinkers bring down the whole index. Chase down 8% for the quarter. Goldman Sachs down 28%. American Express down 15%. And a few others. Not the whole economy by a long shot, but it makes the Dow index look bad.
The other indexes, in our opinion, are better than the Dow Jones Industrial Average of the purpose of a sole indicator though still inadequate. The S&P 500 was created in 1957 and is composed of the 500 largest companies in the United States stock market. It includes a wide variety of industries, though it by its nature excludes many potentially promising small companies. The Nasdaq-100 was created in 1985 and is composed of equity securities issued by 100 of the largest non-financial companies listed on the Nasdaq stock exchange. The index is very biased towards technology companies. Also, the small number of companies and only using Nasdaq stocks lowers its value as a representative sample. The Russell 2000 was created in 1984 and is composed of the 2000 smallest stocks in the Russell 3000 index. The Russell 3000 is composed of the 3,000 largest publicly held companies incorporated in America. Due to the large number of companies and the wide variety of industries, the Russell 2000, in our opinion, can serve as a somewhat decent representative sample of the stock market. However, we heavily prefer utilizing all the indexes when we assess stock market performance.
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Thank-You
Dan and Eli
As we’re writing these to help our readers, we would be very appreciative of any input in regards to what we should write next. If you want us to write about a particular topic, please contact me. Please contact me if you would like to submit a post to our blog.
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