Today, we're going to break down how the S&P 500 is actually
calculated.
And if you think you already know everything
there is to know about the S&P 500,
you hear about it all the time, stick with me.
I think you'll learn something new.
Now, one of the reasons we care so much about the S&P 500
is because it's actually considered a relatively stable
way to invest your money.
This is the returns of the index over the last five years.
So we start in October of this year, mid-October,
and go back five years to mid-October of 2014.
And as you can see, if you put your money in five years ago
you'd actually get a pretty stable return
despite a little bit of turbulence in the latest year.
Now, the S&P 500 is reflective of the large cap US stocks
space because the committee that selects the companies keeps
in mind how much of a sector breakdown
each industry should get so that it reflects the larger cap
stocks space.
So, as an example, if technology companies represent about 20
per cent of total large cap companies in the US,
they're going to make sure that the companies in the S&P 500
also reflect about a 20 per cent technology representation.
And they actually even break it down
into subcategories from there, but we're not
going to get into all that.
What we are going to get into is how this thing is actually
calculated.
Now, as you may know there are 500 companies in the S&P 500,
but don't get confused.
There are actually 505 listings on the S&P 500.
And that's because the listings refer
to some companies that have what's called a dual class
share system.
And dual class just means say you're Facebook.
You have class A shares, and you have class B shares.
The class A shares give more voting
rights to those who hold them.
And actually, the S&P 500 decided recently
we're not going to let any more companies in that have
this dual class share system.
But that is why despite there being 500 companies,
there are about 505 listings on the S&P 500.
So when we say large cap, we're talking about large
capitalisation.
And that means we do actually need to figure out what
the market capitalisation is of each company in the S&P 500.
And that's where we start.
OK, so let's say we're starting with Microsoft,
which just happens to be the largest company in the S&P 500.
You first start with the price of their shares.
And then to get the market cap what you usually do
is you multiply by the quantity of shares out there.
Price times quantity equals market cap.
But for the S&P 500 we have to do one additional thing.
See, the market cap of the companies in the S&P 500
are actually called float-adjusted market caps,
which means we need to take the quantity of shares out there.
And we need to actually figure out
what percentage of those shares are actually
tradeable on the markets, i.e.
not held closely by executives, or by other private owners.
So we multiply by the float - again,
the percentage of those shares that are out there
ready to trade.
And this gives us the float-adjusted market cap
of a company.
That's just one company, though.
Remember, there's 500 companies in this index,
so you're going to repeat this 500 times.
I'm not going to make 500 lines here.
You get the idea.
But once you have all of those, you're going to sum them up.
And what you're going to get is the total market cap
of all the companies in the S&P 500, which
right now is about $24tn.
But we're not done quite yet.
There's still one more step because the S&P 500
isn't $24tn.
Right here, you can see it's $3,000.
So what we do is we put a divisor under this number.
And S&P doesn't necessarily always share
what exactly the divisor is, but just
know it's a number that breaks the sum down to something
a little bit more manageable.
And also, don't forget.
The S&P 500 is changing all the time.
The companies in here, they issue
more shares, or their share price changes,
or they do a stock split, or their price falls
so low that they're not actually considered a large cap
company any more, and they need to drop of the index, which
means a new company needs to come on to take their place.
These changes are happening all the time.
And so this divisor is really key in making sure
that the index doesn't change dramatically
just because, for example, a company needs
to come off and have a new company relisted on it.
And this divisor's changed if that
happens at the end of the market so that the next day when
markets open, that index has not changed,
even though, let's say, there's a different company
with a different market cap.
So the way that the S&P 500 is calculated actually
gives us a good idea of what's happening in the large cap US
stock market, which is why it's become one of the most
popular indices in the world.