Stock markets around the world maintain a various “Indices” for the stocks that comprise each market. Each Index represents a particular industry segment, or broad market itself. On many occasions, these indices are tradable instruments themselves, and also this feature is called “Index Trading”. A catalog represents an aggregate picture in the companies (also known as “components” with the Index) that make up the Index.
By way of example, the S&P 500 Index can be a broad market Index in the usa. The components on this Index include the 500 largest companies inside the U.S. by Market Capitalization (also called “Large Cap”). The S&P 500 Index is another tradable instrument in the Futures & Options markets, and yes it trades underneath the symbols SPX in the Options market, and under the symbol /ES in the Futures markets. Institutional investors along with individual investors and traders have the ability to trade the SPX and the /ES. The SPX is merely tradable during regular market trading hours, however the /ES is tradable almost 24 hours a day inside the Futures markets.
There are many reasons why Index trading is quite popular. Because the SPX or the /ES represents a microcosm with the entire S&P 500 index of companies, a venture capitalist instantly gets exposure to your entire basket of stocks that represent the Index whenever they buy 1 Option or Future contract with the SPX and also the /ES contracts respectively. This means instant diversification on the largest companies from the U.S. included in the benefit of just one security. Investors constantly seek portfolio diversification to stop the volatility linked to holding just a couple company stocks. Buying an Index contract gives an fantastic way to do this diversification.
Another point to consider to the rise in popularity of Index trading is caused by what sort of Index is itself designed. Every company inside the Index features a certain relationship with the Index when it comes to price movement. By way of example, we can often observe that when the Index rises or falls, a majority of the component stocks also rise or fall very similarly. Certain stocks may rise greater than the Index and certain stocks may fall more than the Index for similar moves inside the Index. This relationship from the stock and its parent Index could be the “Beta” in the stock. By taking a look at past price relationships from the Stock and Index, the Beta for each and every stock is calculated and is on all trading platforms. This then allows an investor to hedge a portfolio of stocks against losses by buying or selling a particular number of contracts within the SPX or even the /ES instruments. Trading platforms have grown to be sophisticated enough to instantly “Beta Weigh” your portfolio for the SPX and /ES. This can be a major advantage whenever a broad market crash is imminent or is underway already.
The next benefit from Index trading is that it allows investors to look at a “macro view” of the markets within their trading and investment approaches. They will no longer have to worry about how individual companies within the S&P 500 Index perform. Even when a very large company were to face adversity within their businesses, the outcome the corporation would have on the broad market Index is dampened by the fact that others may be achieving a lot. This can be the effect that diversification is supposed to produce. Investors can tailor their approaches determined by broad market factors as an alternative to individual company nuances, which can become very cumbersome to follow along with.
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