Index Descriptions

The following document describes four of the most widely followed equity indices, the Nasdaq 100, the Russell 2000, the S&P 500, and the Dow Jones Industrial Average.  Knowing the key qualitative characteristics of each index is imperative to understanding their quantitative attributes.  This report seeks to provide a basic understanding the components of each index, how the indices are constructed, and how they are maintained.

Nasdaq-100

Description:

The Nasdaq-100 is comprised of the 100 largest (by market cap) non-financial domestic and international securities listed on the NASDAQ exchange.  The index is calculated according to a modified capitalization-weighted methodology with no individual stock having greater than a 24% weighting.

Index Calculation:

The value of the Nasdaq-100 equals the sum of the values of the Index Shares divided by the index divisor.  Index Shares are defined as the last price of indexed securities multiplied by the index weighting of each security.  The value of the index is calculated during normal trading hours and is disseminated once per second.

Largest Sectors:

• Technology: 46.5%
• Telecommunication: 24.6%
• Consumer Staples: 16.3%
• Consumer Goods: 8.2%
• Industrial: 3%

Eligibility Requirements:

• The security must be listed exclusively on the Nasdaq National Market
• The security may not be a financial company/asset management company
• The security must have a daily volume of greater than 200,000 shares
• The issuer of the security may not be involved in bankruptcy proceedings
• The stock must be listed on the Nasdaq or other index for at least two years
• If a company is organized outside of the United States, that company must have listed options on a recognized US market
• Issuers may only list one class of security
• The issuer may not have annual financial statements with a “withdrawn” audit opinion
• The issuer of the security may not have entered into any definitive agreements that would result in the company failing to meet any eligibility criteria

Index Review:

The composition of the Nasdaq-100 is reviewed on an annual basis.  All Nasdaq listed securities that meet all eligible index criteria are ranked by price.  If a stock falls within the top 125 highest priced stocks and was already included in the index, that stock will be retained in the index.  If empty slots remain, they will be filled the Nasdaq listed stocks that have the greatest market capitalization.  A security may become ineligible for continued inclusion in the Nasdaq-100 at any point during the year.  In this situation, the stock will be removed from the index and replaced with the name with the highest market capitalization that is not already included in the Nasdaq-100.  The list of annual deletions and additions is announced in the early part of December.  Replacements take effect after the close of the third Friday in December.

Russell 2000

Description:

The Russell 2000 is a subset of the broader Russell 3000 Index.  The Russell 2000 includes the stocks within the Russell 3000 ranked 1,001 through 3,000 by market capitalization.  The index measures the performance of domestic small cap stocks by including a comprehensive and unbiased list of names.  The average market cap of stocks in the index is $1.092 billion. 

Index Calculation:

The value of the Russell 2000 equals the sum of the values of listed securities divided by the index divisor.  The divisor is recalculated at the end of each trading day and is designed to preserve the historical integrity of the index.  For example, if a listed company initiated a stock split or other corporate action affecting stock price, the divisor would be adjusted to preserve the price of the index before the action was taken.

Largest Sectors:

• Consumer Staples: 21.6%
• Financials: 19%
• Industrials: 14.5%
• Consumer Goods: 12.6%
• Telecommunications: 9.31%

Eligibility Requirements:

• The issuer of a security must be determined to be a US company
• All securities must trade on a major U.S. exchange and may not trade on the bulletin board or pink sheets.  Stocks must be listed on the last trading day in May and must provide access to documentation supporting the companies eligibility for inclusion
• Securities must have a closing price at or above $1.00 on the last trading day in May or must have an average closing price of greater than $1.00 during the month of May
• Securities must have a market capitalization of greater than $30 million
• Securities must have a float of greater than 5%
• Companies may not be structured as royalty trusts, LLCs, closed-end investment companies, blank check companies, special purpose acquisition companies, or limited partnerships

Reconstitution:

Stocks listed on eligible exchanges and pass minimum liquidity and invisibility requirements are considered for inclusion in the Russell indexes.  On the last trading day in May, all securities that meet the eligibility requirements for the Russell Indices is ranked by market capitalization.  The largest 3,000 stocks will become the Russell 3000E index; the top 1,000 will become the Russell 1000 and the next 2,000 largest stocks will become the Russell 2000.  The reconstitution always occurs on the last Friday in June.

S&P 500

Description:

The S&P 500 is a free-float capitalization-weighted index and includes 500 “large cap” stocks listed on the NASDAQ or NYSE.  The index is maintained by the Standard & Poor’s Index Committee who are responsible for ensuring that the S&P 500 remains a strong indicator of the performance of U.S. equities.

Index Calculation:

The value of the index is the sum of the total float-adjusted market capitalization of index constituents divided by the index divisor.

Largest Sectors:

• Technology: 18.8%
• Financials: 16.3%
• Health Care: 12.1%
• Consumer Staples: 11.5%
• Energy: 10.7%

Eligibility Requirements:

• The issuer of a security must be determined to be a US company
• Companies must have a market cap exceeding $3.5 billion
• Securities must have a float of greater than 5%
• Companies should have four consecutive quarters of positive reported earnings.
• The ratio of annual dollar value traded to float adjusted market capitalization should exceed 1.0 to ensure adequate liquidity and price
• Securities must be listed on the NYSE or the Nasdaq stock exchanges
• Securities may not represent closed end funds, ETFs, ADRs, or ADSs

Reconstitution:

There is no predetermined schedule for reconstitution of the S&P 500; additions and deletions within the index are made as needed.  Companies are removed from the index if they are involved in M&A activity or significant business restructuring that results in a company failing to meet eligibility criteria.  Furthermore, stocks may be removed from the index if the company is moved to the pink sheets or bulletin board.  Index changes will be announced with one to five days advanced notice.

Dow Jones Industrial Average

Description:

The Dow Jones Industrial Average is a price weighted index that includes 30 securities selected by a committee of editors of the Wall Street Journal.  

Index Calculation:

The value of the index is calculated by summing the prices of all indexed securities and dividing by the Dow Divisor.

Largest Sectors:

• Industrials: 21.7%
• Technology: 18.1%
• Consumer Staples: 14.2%
• Financials: 10.7%
• Energy: 10%

Eligibility Requirements:

While, there are no quantitative requirements for inclusion; indexed stocks include companies that demonstrate “excellent reputation, sustained growth, and interest to a large number of investors.” 

Reconstitution:

Unlike most major indices, which are reconstituted according to a fixed schedule, the Dow Jones Industrial Average is reviewed on a subjective basis.  Composition changes typically occur following mergers/acquisitions or major changes in a component company’s core business.  If there is reasonable cause for one security to be removed from the index, the committee of editors of the WSJ review all indexed securities to ensure the listed companies continue to be viable.  This explains why changes to the index often include multiple securities.  Furthermore, the DJIA is governed by editors of The Wall Street Journal who are responsible for selecting which stocks may be added to the index.  When a new name is added to the index, the prices of all component members are added together and divided by the Dow Divisor to determine the new price of the index.