How to trade major stock indices?

What are stocks indices?

An index is an indicator that measures the price evolution of a group of stocks on an exchange. For example, the Nasdaq 100 Index tracks 100 technology companies with significant market capitalization on the New York Stock Exchange. A trading index allows you to contact the entire economy or industry at once, and only need to open a position.

The stock indices is part of the market shares. Investors use it to compare the returns of different assets, keep track of the overall economy, or as an investment tool. The most common types of indices include global indices, regional indices, and country indices.

Stock indices represent the value of a group of underlying companies that are publicly traded. A stock index tracks a group of stocks to measure the overall performance of the market.

Traders can speculate on the price of rising or falling indices without holding the underlying asset through a CFD. The index is a highly liquid trading market. Compared with most other markets, the trading time is longer and you can get a longer exposure to potential opportunities.

Advantages of trading major stock indices

The stock indices market trend is based on the stock market price trend. Stock market price movements tend to move in a certain direction. During the period of economic growth, stock prices continue to rise, which means that the stock index tracking these stock prices will also continue to rise and show an upward trend. In the foreign exchange market, the trend of the currency market may not be obvious because the market fluctuates on the stock index.

 is different from foreign exchange currencies that can consolidate for a long time and generate many false signals. Stock indexes rarely consolidate for a long time, and stock indexes will show a specific trend direction at any given time, whether it is rising or falling.

This means that there will be fewer false positives when trading stock indexes, and all traders know that fewer false positives equal better profit opportunities. Another advantage of indexes is that 1 point of stock index changes is equal to $0.1, instead of $10 in currency transactions. This means that when trading stock indexes, the average profit per 1 point is lower, so traders can implement better money management in stock indexes because the minimum price of 1 point does not change much. At the same time, since the average volatility of the stock index is 500 to 2,000 points on average, even if 1 point volatility is equal to $0.14,444, traders can still get a good profit.

How are stock indices calculated?

Most stock indices are calculated based on the market value of the companies that comprise them. This method gives more weight to large-cap companies, which means that their performance will have a greater impact on the value of the index than small-market capitalization companies. However, some popular indices, including the Dow Jones Industrial Average (DJIA), are weighted by price. This method gives more weight to companies with higher stock prices, which means that changes in their value will have a greater impact on the current price of the index.

There are many ways to calculate the value of a stock index, but the most popular method is:

• Market value weighting method, which uses the market value of individual companies to weight the stocks in the index. The largest company in an index by market capitalization usually produces the most changes in the index. The S&P 500 Index is an example of a market capitalization-weighted index.
• price weighting method, that is, the shares in the index are weighted according to the price of the share. This can cause companies with lower market capitalization but higher share prices to have a greater impact on the overall index. The Dow is a weighted index using the price weighting method.
• Equal Weight Method, that is, calculate the performance of each share in the index, then add and divide by the number of shares in the index.
• Basic weighting method, which uses basics such as price-earnings ratio, earnings, and book value to build an index.

What are the most traded stock indices?

• U.S S&P 500 is based on the market value of the 500 largest companies listed on the New York Stock Exchange or Nasdaq. Due to its diversity, the index is one of the stock indexes with the largest trading volume. His actions have received widespread attention. Investors consider the Standard & Poor’s 500 Index to be one of the best indicators of the US economy. Therefore, the S&P 500 Index can set trends for many other indexes around the world. You may not trade it, but you need to understand it.
• Nasdaq 100 is a growth-oriented stock market made up of young companies that want to go public on recognized exchanges. It has many tech giants like Facebook, Amazon, Apple and Google Alphabet. Nasdaq stock created two popular indices: the Nasdaq Composite Index and the Nasdaq 100. The latter is a bit more volatile because it has fewer components. But volatility is seen as a good thing because it provides more opportunities. On the Nasdaq 100 Index, there is a publicly-traded fund called QQQ (Cube). The ETF can sometimes be more popular than the underlying index.

• The Dow Jones Industrial Average is one of the oldest indices (1896). There are 30 stocks that make it up, mostly made up of industrial companies, which were once a major part of the American economy. The Dow Jones index was the main barometer of the American stock market in the first half of the 20th century. After World War II, its importance was surpassed by the Standard & Poor’s 500 index due to its narrow compositional range (only 30 stocks). But due to its history, it is still an important indicator. Many people use the Dow to refer to the performance of the US stock market for more than a century.

• The Financial Times Stock Exchange 100 Index (FTSE 100) tracks the top 100 companies listed on the London Stock Exchange. The index is weighted by market capitalization, so it is comprised of many large and well-known companies such as Unilever, BP, and HSBC. Due to its representativeness and liquidity, the FTSE 100 is the most popular stock index in the UK.
• Deutscher Aktienindex, or DAX, is the German stock market index. Its value comes from the top 30 stocks on the Frankfurt Stock Exchange and is considered a broad indicator of the German economy. Due to its small number of components, DAX can be more volatile compared to the FTSE 100 or S&P 500 index. Dax is a relatively young index. It started in 1987.
• The CAC (Cotation Assistée en Continu) 40 index is the benchmark index for the French stock market. It has about 40 components and has famous names like LVMH and AXA. The international nature of its component stocks means that many index returns come from outside of France and are therefore welcomed by international investors. By the way, Forbes calculated that the owner of LVMH, Bernard Arnault (Bernard Arnault), is the second richest person in the world with a net worth of more than $ 100 billion.
• When it comes to Asia, Japan is one of the most active stock markets there. The most famous Japanese stock index is called the “Nikkei Index”. The index is comprised of the top 225 stocks (calculated by market capitalization) listed on the Tokyo Stock Exchange. The index originated after WWII and has a bumpy business history in Japan’s boom cycle. It reached a peak of 38,000 points in 1989 and just 7,000 points in 2009.
• Outside of Japan, the most famous stock index has to be Hong Kong’s Hang Seng Index (HSI). The index has about 50 components, involving a large number of companies such as Industrial and Commercial Bank of China and Bank of China. The index was extremely unstable in the early years. Today, the market is still experiencing manic buying (2007) and panic selling. Many investors like to invest in this index as an indicator of the Chinese economy.

What influences the stock indices movement?

Understanding these indices is only the first step to achieving profitable trading. In addition to calculations, the most important thing about these stock indices is understanding what influences their movements

1. Historical trend index: knowing what happened in the past. For example, in Japan, earthquakes (95) and tsunamis can have a huge but temporary impact on the stock market. The 2020 Coronavirus pandemic is one of the unforeseen factors that has had a major impact on the global stock indexes. In the United States, prices can plummet by 20% in one day (87). These are all unpredictable factors. In Hong Kong, Chinese politics can sometimes have a huge impact on its market.
2. Index data: Company earnings, dividends and fleets. What is the performance of the index component? And the market valuation? The trading dynamics of high-value stock markets may be different from that of low-value stock markets.
3. Index component: Which companies are the biggest? Which industries are they in? The general rule of thumb is the larger the company, the greater its impact on the index, especially when the index has less than 50 components.
4. Economic Events: Investor sentiment, central bank announcements, jobs reports, or other economic events can affect potential volatility, leading to index price fluctuations.

Indices trading time

Indices can be traded using underlying cash futures or indices. Futures trade nearly 24/5, while the underlying cash index trading time depends on the broker. The table below shows the top market trading hours for the popular spot index markets provided by Scope Markets. In fact, these indices are traded outside of prime market hours, but spreads have widened due to a lack of liquidity.

Conclusion

A market index is a hypothetical portfolio of investment stocks that represents a part of the financial market. The index value is calculated from the price of the relevant stock. Some indexes have values ​​based on market capitalization weights, income weights, floating weights, and fundamental weights. Weighting is a method of adjusting the individual impact of items in the index.

LULAMA MSUNGWA

Research & Markets Analyst

Scope Markets