Index Strategy Boxes
Financial indexes were created in the nineteenth century to reflect the price changes of securities that traded on financial markets. The first indexes were calculated using a simple average of a few stock prices and did not consider the value of companies.
As data-gathering methods improved during the twentieth century, indexes advanced to include far more securities. The inclusion of more securities improved the reliability of indexes as market indicators. Also, securities were weighted on the basis of their market capitalization compared to all other constituents in an index. The market capitalization of an index is an important benchmarking tool that is used by economists, researchers, portfolio managers, and investment advisors.
In the twenty-first century, the definition of a financial index has expanded far beyond a market benchmark. Today, an index is virtually any basket of securities that is selected and weighted based on a set of predefined rules. The rules for index construction have stretched from the simple and elegant to the complex and often cumbersome. Once simple in form and worthy in intent, indexing investing has grown into an overcrowded, ambiguous, and confusing marketplace.
The interpretation of a financial index by the Security and Exchange Commission (SEC) is very loose. The agency appears to define an index as any list of publicly traded securities that are selected, weighted, and maintained using a published rules-based ...