Question

Uses of security-market indexes – Please write a paper about the uses of security-market indexes. How are they constructed and differentiated? How are they used as benchmarks? Why should investors examine numerous security-market indexes to evaluate the performance of their investments? Integrate Leviticus 19:22-25 and Ecclesiastes 11:1-6 into the paper.

Requirements: 500 words minimum

Answer 1

Security-market indexes

There are many uses of security-market indexes. One is to use it as a benchmark to evaluate the performance of professional money managers. Another use of security-market indexes is to create and monitor an index refund. You can also use security-market indexes to measure market rates of return in economic studies or for predicting future market movements by technicians.

A security market index is a means to measure the growth of value of a set of securities. Sometimes, an index is just an arithmetic average, but, usually, it is a ratio where the current index value is divided by the index value of some base year—the base market value. Although this value is usually measured in dollars, the dollars cancel out in the ratio, so such an index is a pure number that is a multiple of the base figure. Some famous indexes are the Dow Jones Industrial Index (DJIA), which is a group of 30 stocks of the largest American corporations, the Standard & Poor's Composite 500 Index (S&P 500), which comprises about 500 stocks, and the NASDAQ Composite Index, started on February 5, 1971 with a base value of 100, comprises most of the stocks on the NASDAQ trading system, and consists of many technology companies.

Some famous international indexes include the DAX (Germany), Hang Seng (Hong Kong), FTSE (U.K.), Nikkei (Japan), and TSX (Canada). Morgan Stanley Capital International (MSCI) constructs many of the leading international indexes.

Most major stock indexes also have sub indexes, which measure the growth of particular sectors. For instance, the NASDAQ Composite consists of the following sub indexes: Bank, Biotechnology, Computer, Industrial, Insurance, Other Finance, Telecommunications, and Transportation.

Let's base this answer in the perspective of S&P 500.

The value of the S&P 500 constantly changes based on the movement of its 500 stocks that it contains.The index is computed with a 'Weighted Average Market Capitalization'.The Market Capitalization is based on multiplying the stock price and the shares outstanding.Each stocks weight is calculated by dividing the market capitalization of each stock by the total market capitalization of S&P 500.Then similar the weights and market capitalization is multiplied and all 500 stocks are added together to create the S&P Index Price.

They are differentiated in terms of the activity of indexes and the market capitalization in terms of companies are enlisted there.

In assessing investments such as stock, investors consider the stock’s valuation, strategy, plans for diversification and appetite for risk. Stocks are evaluated in many ways.The most basic measure of a stock’s worth involves that company’s earnings. When you buy a stock, you’re acquiring a piece of the company, so profitability is an important consideration. Imagine buying a store. Before deciding how much to spend, you want to know how much money that store makes. If it makes a lot, you’ll have to pay more to acquire it. Now imagine dividing the store into a thousand ownership pieces. These pieces are similar to stock shares, in the sense that you are acquiring a piece of the business, rather than the whole thing.The business can pay you for your ownership stake in several ways. It can give you a portion of the profits, which for shareholders comes in the form of a periodic dividend. It can continue to expand the business; reinvesting money earned to increase profitability and raise the overall value of the business. In such cases, a more valuable business makes each piece, or share, of the business more valuable. In such a scenario, the more valuable share merits a higher price, giving the share’s owner capital appreciation, also known as a rising stock price.

Not every company pays a dividend. In fact, many fast-growing companies prefer to reinvest their cash rather than pay a dividend. Large, steadier companies are more likely to pay a dividend than are their smaller, more volatile counterparts.

The most common measure for stocks is the price to earnings ratio, known as the P/E. This measure, available in stock tables, takes the share price and divides it by a company’s annual net income. So a stock trading for $20 and boasting annual net income of $2 a share would have a price/earnings ratio, or P/E, of 10. Market experts disagree about what constitutes a cheap or expensive stock. Historically, stocks have averaged a P/E in the mid-teens, though in recent years, the market P/E has been higher, often nearer to 20. As a general rule of thumb, stocks with P/Es higher than the broader market P/E are considered expensive, while stocks with a below-market P/E are considered cheaper.

But P/Es aren’t a perfect measure. A company that is small and growing fast may have a very high P/E, because it may earn little but has a high stock price. If the company can maintain a strong growth rate and rapidly increase its earnings, a stock that looks expensive on a P/E basis can quickly seem like a bargain. Conversely, a company may have a low P/E because its stock has been slammed in anticipation of poor future earnings. Thus, what looks like a “cheap” stock may be cheap because most people have decided that it’s a bad investment. Such a temptingly low P/E related to a bad company is called a “value trap.”

Other popular measures include the dividend yield, price-to-book and, sometimes, price-to-sales. These are simple ratios that examine the stock price against the second figure, and these measures can also be easily found by studying stock tables.

Investors seeking better value seek out stocks paying higher yields than the overall market, but that’s just one consideration for an investor when deciding whether to purchase a stock.

Picking stocks is much like evaluating any business or company you might consider buying. After all, when you buy a stock, you’re essentially purchasing a stake in a business.