Indices Trading

Indices trading is another way to make money online from home, “TopForexBrokers.com” experts conducted this article for beginners want to know what is indices trading and how to trade indices online from home.

What is an Index?

There are millions of financial assets in which to invest in the world and tracking each one’s performance is virtually impossible so Indices measure a small sampling of the market that represents the whole; any change in price of an Index is proportional to changes in prices of stocks (or other securities) that comprise the Index. 

Investors can trade individual shares of stock (or other security) or trade Indices that measure the performance of a group of stocks (or other security).  Just as the performance of a company’s stock is indicative of its overall financial status, the averages determined by a stock market Index are used to measure the global performance of an entire financial market or segment of the economy.  

Indices are groups of assets that are representative of a certain sector of the market (i.e. oil, Internet technology, etc.) or a market in its entirety (i.e. New York Stock Exchange).  An Index provides a statistical measure of the price (or value) fluctuations within that segment of the stock market which is represented by the Index.   

These bundled groups of stocks or other securities involve many aspects worthy of consideration before trading Indices.  Rather than looking at and acting on the performance of one company’s stock, every company in the grouped Index should be examined since each one is instrumental in determining an Index value and the success of trading the Index as a whole. 

The Dow Jones Industrial Average (DJIA) was the first Index and was created by Charles Dow in 1896.  At that time the consisted of 12 of the largest publicly traded companies in the U.S. and averages were determined by simply adding up the stock prices of the 12 companies and dividing that number by 12.  

The Financial Times Stock Exchange 100 Index (FTSE) represents a hundred of the largest companies publicly traded on the London Stock Exchange.  If share prices go up (on average) the FTSE 100 will also rise and if share prices drop (on average), the FTSE 100 will follow suit and drop as well.   

It’s important to understand that an Index is just a list of stocks (or other securities) that can be created by anyone and reputations of those creating them determine the reliability of the Index for trading purposes.  The DJIA is a good example of an Index that is highly respected and that is owned by the same people who publish the Wall Street Journal, a major international financial news source.  

Today the Dow Jones Industrial Average (DJIA) contains 30 of the largest companies in the U.S.covers every sector of the economy except the transportation and utility sectors and is considered the benchmark for American financial markets.  Despite its global popularity, the DJIA has weaknesses as far as representing a benchmark for the overall market, which is better accomplished by the Standard & Poor 500 (S&P 500) that consists of 500 large capital U.S. companies and covers 75% of the entire American equity market. 

The DJIA uses a price-based weighting system to measure Index performance. Using that system, the weight of each stock (or other security) is its price relative to the total of all stock (or other security) prices.  Few Indices in the world are weighted on price since any company within the Index that participates in “stock splitting” changes the weight of that company in the Index even though nothing actually changed business-wise. Stock splitting occurs when a public company issues new shares of stock to its existing shareholders in proportion to their current stock holdings. 

Most Indices use the market capitalization system which was made available by accurate computerized up-to-the-minute calculations and assumes that, if a company’s market cap is a million dollars, the value of all the stocks that comprise the Index is $100,000 (or 10%) which means that particular company represents 1% of the Index.  

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Major Indices 

Most developed countries in the world with regulated financial activities have at least one Index for measuring the overall performance of financial markets. 

Different stock Indices in the world focus on different types of stocks. While some are specifically global (S&P Global 100) others are national and include only companies native to the country in which the exchange is located.  Some Indices only focus on certain business sectors like the NASDAQ Index which only lists tech-related stocks.  

There are also numerous multinational corporations that are traded on more than one Index like Credit Suisse which can be traded on the Swiss Market Index as well as the New York Stock Exchange.   

Most major economies in the world have one or more Indices that group assets in a bundle (Index) to measure average performance of financial markets.  The following is a list of the major Indices in the world.

 

  • The Dow Jones Industrial Average based in New York City USA
  • The S&P 500 based in New York City USA 
  • The NASDAQ based in New York City USA 
  • The FTSE100 based in London, England  
  • The DAX30 based in Frankfurt, Germany 
  • The Nikkei 225 based in Tokyo, Japan 
  • The Hang Seng based in Hong Kong 
  • The Shanghai Composite based in China 
  • The DAX and CAC based in Europe

Indices Trading Definition 

Usually when people talk about how well the market is doing they are actually referring to an Index that measures a particular market or sector of a financial market.  Investors can’t actually purchase Indices since they only represent average benchmarks but there are a variety of ways to follow and mimic their performance to build investment income. 

Index trading allows investors to create their own portfolio of assets that best represent a particular Index.  Stocks and their weighting allocations will be the same as in the Index and adjustments are periodically made to reflect changes in the Index. This type of investment requires creation of a large portfolio and hundreds of trading transactions each year, which can be onerous and quite expensive.

How to Trade Indices  

Index trading works the same way as trading any other kind of stock, bond, commodity or other security in that traders take positions based on what they think the value of the Index will do.  If traders think it will rise, they take an “up” position and if they think values will drop they take a “down” position aiming to sell at higher prices than they bought or buying back at lower prices than previously sold.   

Index Funds are offered by multiple entities (international index funds, bond index funds, equity index funds, etc.) and investing in Index Funds is a less expensive means of mirroring the marketplace.  These funds involve management fees but they are lower than those charged by most mutual funds. 

Exchange Traded Funds (ETFs) are investment funds traded on various stock exchanges just like shares of company stock.  The ETF holds assets (stocks, bonds, commodities, etc.), trades near its net value over the course of a trading day and usually tracks a stock index (NYSE) or a bond index (Barclays). 

Both Index Funds and ETFs are specifically designed to mimic a marketplace or sector which means they require very little management while offering a diverse and less costly mutual fund investment

Spread Betting enables investors to trade (go long or short) on global Indices’ pricing figures the same way they do when trading shares of stock, commodities or foreign currencies.  

Contracts for Difference (CFDs) are contracts between two parties agreeing that the seller will pay the buyer the difference between the current value of an asset and the value of the asset at the end of the predefined contract period.  Multiple CFDs are available for Index trading. 

Index Volatility 

Since Indices consist of a number of different stocks or other securities, market volatility can be an issue because of constantly moving company share prices.  By the same token, Indices don’t typically fluctuate more than a couple percentage points daily and it’s rare that all stocks in an Index would consecutively experience a sharp rise or fall in the same direction.  It can and does happen, however, which is what caused past stock market crashes.

International Trading Hours 

Because there are hundreds of Indices around the world tracking millions of financial assets, traders must be aware of the market trading hours of the Index their trading is based upon.  In other words, if you are located in London (Greenwich Mean Time Zone) and want to trade on the NYSE, you have trade during New York Eastern Standard Time Zone trading hours and there is 5 hour difference between the two time zones (12:00 noon in NYC is 5:00 pm in London) 

Different Indices are located in different countries, which are on different continents and have different time zones, not to mention different hours of operation, and it behooves Index traders to remember that when planning or placing trades. 

Some international Indices trade either “Rolling Daily” or “Futures” options which means the assets can be traded at their current prices (Rolling Daily) or at an agreed-upon price for an option that will automatically close on a specific future date (Futures).  Being aware of differences in time zones is an essential element of trading international Indices and other financial assets when “Time is of the Essence.”

Indices Trading Strategies  

When trading an Index investors should remember that the entity they’re trading is the Index itself, which is made up of multiple individual stocks that have been grouped together into an Index because of some similarity they share. 

Indices have no particular size but the parts that make up the Index in its entirety should be considered since Indices tend to focus on certain sectors of the economy, specific industries, etc.  Before investing in an Index, traders should determine what stocks are the focus of the Index and consider global, national or local events that could impact those stock values.  If an Index tracks oil-related stocks, decreases in crude oil prices will have a large impact on the Index as a whole since its components are made up of oil-related stock shares. 

The stocks followed by an Index can change as time passes when companies merge and their two stocks also merge into one.  A lot of companies go bankrupt and their stock shares become untradeable. Other companies experience market capital shrinkage that makes them too small to stay on a specific Index, in which case another company with a higher net worth would replace it.

Another important factor to consider with Index Trading is a country’s currency value which generally reflects the state of its economy and the value of its domestic Indices. Trading foreign currencies (forex) is a popular investment activity because of changes in currency rates that occur regularly.  Those fluctuations in currency values can greatly impact Indices in the countries using those currencies. For example the value of the American Dollar increases with demand which is partly due to foreign investment that requires traders to buy US Dollars to invest in US stocks or other securities and the result is that Indices tracking the US Dollar increase in value as well. You can open free demo fx trading account with Forex brokers and practice foreign currencies with online trading platforms from home.

Indices Trading Softwares

Every broker uses some kind of software for trading assets in financial markets which are called “trading platforms“. There are multiple software applications for trading indices in international marketplaces and although trading platforms vary from broker to broker they all basically offer the same features and trading tools which include access to research materials about various assets and financial markets in which they are traded as well as a means to access live markets for actively trading investment assets.  Most trading platforms are available for Windows and Macs and a variety of handheld electronic mobile devices like Smartphones and tablets.

Indices Trading Brokers

There are literally hundreds of thousands of stock brokers in the world and each one is licensed by applicable international regulatory agencies to trade financial assets on behalf of clients in multiple global marketplaces.  Different brokers offer different products and services but they are generally slight variations of the same trading tools and trading platform features that are designed to simplify researching assets and accessing live markets for active trading.  Most brokers don’t specialize in trading any particular type of asset and offer every kind of investment trading that includes stocks, bonds, commodities, Forex, multiple indices and more.

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Trading Indices vs Forex Trading

Trading Indices involves the values of multiple individual but related stocks whose performances are tracked and measured by the Index.  Even if you know absolutely nothing about investing and trade shares randomly in the stock market, odds are pretty good that you’ll make money because the stocks in which you invest generally realize a good return because of a overall growth of the economy.  This is also true with Indices that track certain stocks that are related by industry or certain sectors of a prosperous economy.   

Forex trading is much less regulated around the world and involves more risk and less consumer protection than trading stocks.  Forex trading is a “buyer beware” world of ever changing currency rates that are impacted by global, national or local events beyond anyone’s control.  

Unless you are familiar with forex trading and have conducted adequate research to fully understand and appreciate the risks involved and the potential to lose a lot of money really quickly, stick with trading shares of stock or Index trading for a more lucrative and less nerve-racking investment experience.  That is not to say that you shouldn’t invest in forex, but that you should completely familiarize yourself with foreign currencies, various things that affect their values and exchange rates between multiple international currencies.   

Indices Trading vs Binary Options Trading

Most investors prefer to have a diversified portfolio of investment assets and many include indice trading in their activities.  Stock market indices follow the trading performance of multiple companies whose stock is publicly traded on the stock market. Indices are constructed to track a particular industry or market that represents a  compilation of stocks traded in that sector of the economy.  Binary options are investments which offer a fixed amount if the option expires “in the money” and nothing at all if the option expires “out of the money.”  A binary option is an all or nothing proposition that investors frequently use to trade a variety of investment assets that include stock market indices.

Indices Trading vs CFDs Trading

Investors who trade indices are following groups of stock that represent a certain segment of the economy or particular industry and stock market indices include the most popularly traded stocks in some of the most successful companies in the world. Contracts for difference are a popular means of derivative trading that allow investors to speculate as to the rise or fall in value of various assets in global marketplaces and are used for investing in a large variety of financial assets that include shares of stock, bonds, commodities, foreign currencies, indices and more.

Indices Trading vs Commodities Trading

Investors who choose to engage in index trading are able to invest in and follow stock in multiple companies that are bundled together on the index and represent a certain segment of the economy or a particular industry.  Index trading is more complex than simple stock trading because investors have to stay informed about the performance of stock in multiple companies, rather than just one company.  Commodities trading involves investing in goods that are raw materials or agricultural products that can be bought and sold on international marketplaces. Traders who prefer index trading can include commodities in their portfolios by trading commodity indices that track a certain commodity or segment of the economy

In the meantime, Index trading is a fairly safe and lucrative means of investing in the stock market and allows traders to focus their investment funds on certain segments of the economy, particular industries or financial markets that interest them. In the Education category you can learn how to trade indices online from home. The TopForexBrokers.com team has also compiled articles about how to make money online by Equity trading.