The big three.
Turn on a financial TV show and you’ll notice tickers streaming across the stream, highlighting the movements of the main three stock market indexes. The Nasdaq Composite is our tech-focused index, but the S&P 500 and the Dow Jones Industrial Average (aka “the Dow”) round out the other two — And there are a few key differences.
Different number of companies: Each index includes a different number of public companies.
- The Dow is a 30-member club of big, well-known public companies selected to represent the diverse US economy.
- The S&P 500 is 500 of the largest public companies in the US.
- The Nasdaq Composite is over 3,000 companies, with a focus on tech.
Different focus: When investors want to know “how’s the market doing,” they don’t typically turn to the tech-limited Nasdaq — They look at the S&P 500 and the Dow.
- The Dow is an elite club of well-known “blue chip” public companies for the purpose of reflecting a diverse, though limited, snapshot of the market.
- The S&P 500 is often considered a better snapshot of the US stock market than the Dow because it includes more diversity and a bigger set of companies.
- The Nasdaq Composite shows how the broader technology market is doing by including a large and diverse group of companies from the technology sector — But it’s not as helpful a measurement of the broader market since it’s not well represented by other industries like food or fashion.
Different calculations: To take a bunch of companies of different valuations and different stock prices and turn them into a single index number requires a formula.
Each formula is different. That’s why, as of May 2019, the Dow stood at around 25,000 points, the S&P 500 at 2,800 points, and the Nasdaq Composite at 7,500 points.
-The Dow’s a super exclusive club and is weighted by stock price.
So the company with the highest dollar stock price carries the most weight in the index and will therefore influence the Dow’s number the most.
- The S&P 500 and Nasdaq are both weighted by market capitalization, which makes more sense as an effective reflection of what the index measures.
That’s because a company’s value by market capitalization accounts for both the stock price and the number of shares outstanding in the market.
Different movements: Since all three indexes have a different number of companies, areas of focus, and even calculations, you’ll notice they experience different movements. Let’s focus on one period of time, the Dotcom bubble in the late 1990s, to see that in action:
- The Nasdaq rose from under 1,000 points in 1995 to over 5,000 in 2000 driven by the Dotcom bubble.
But since investors bought up tech company stocks in an unsustainable way, the bubble “burst” from 2001 through 2002, the Nasdaq fell almost back to 1,000.
- The Dow and the S&P 500 also experienced a rise of the Dotcom bubble and then the fall as it burst.
But their increase and decrease were not nearly as large as the Nasdaq’s because the Dotcom bubble most heavily affected the stocks of tech companies.
Disclosure: It is not possible to invest directly in a market index. Indices are not subject to any fees or expenses.
The companies listed in this article were chosen based on Nasdaq coverage of the “most actively traded stocks” and “the world’s 10 most valuable brands.” Authors of this article own shares of Tesla and Amazon.