What is 'The Market'?

“What did the stock market do today?” This is a question I hear a lot.

And for good reason.

As the stock market rises and falls, so too does trillions of dollars in wealth. IRAs, 401(k)s, and pension funds invest in stocks to power their growth over time.

But that question wouldn’t be so easy to answer without the help of indexes. When people ask how the market is performing, the response is nearly always a reflection of one of two indexes: either the Dow Jones Industrial Average, called the Dow, or the S&P 500. There are plenty of other indexes that could be quoted – Nasdaq Composite, Russell 2000, or NYSE Composite. For all practical purposes, however, it’s almost always the Dow or the S&P 500.

These indexes are just groupings of companies, a shorthand way to calibrate how the overall stock market is faring at any given moment.

For our purposes today, let’s talk about the S&P 500.

As the name implies, the S&P 500 is a collection of 500 publicly traded companies. Again, this subset of companies is used as a proxy to define the entire stock market.

There are around 4,000 publicly traded companies in the U.S. The S&P 500 is only accounting for 500 of those 4,000. So that means only 12.5% of publicly traded companies are included in the S&P 500. As a percentage of total stock market dollar value, though, these 500 companies have a huge share. The U.S. stock market is valued around $61 trillion. The companies in the S&P 500 are worth around $49 trillion. In other words, those 500 companies are about 80% of the overall dollar value of the stock market, making them a useful proxy for the performance of the overall market.

Practically every large publicly traded U.S.-based company is included in the S&P 500. Walmart, Apple, Coca-Cola, Amazon, ExxonMobil, Tesla, JP Morgan, Google, Berkshire Hathaway – you name it, they’re represented in the index.

Because of their dominance, the companies in the S&P 500 tend to be the cornerstone of most investment portfolios. This is why understanding how the S&P 500 index works is so crucial for investors.

(Note: I know not all readers like to nerd-out on the minutia of the stock market, so I’ll keep this explanation super brief – and dare I say, maybe even interesting!)

So how does a company get to be included in the S&P 500? Well, there’s a committee of people who make that decision. Actually, fun fact: The original S&P index was created in 1926. It started with 233 stocks, but the bean counters who developed the index found that it was too much work to compile and calculate by hand the necessary information on 233 stocks. So they shrunk the index to 90 companies. Lazy bean counters.

The goal for the committee who maintains the S&P 500 is to select companies across all industries so that the makeup of the index roughly looks like the overall economy. The companies in the index are ever-changing as companies grow, fail, or get purchased by other companies.

The S&P 500, as we know it today, really started in 1957. At that time, there were 400 industrial companies, 60 utilities, and 15 railroad companies. Financial companies, transportation companies, and technology companies were later added to the index.

The advent of computers made the lazy bean counters’ jobs easier, allowing the index to expand to 500 companies.

Today, the largest company in the S&P 500 is Nvidia, a tech company worth $5 trillion. The smallest company is The Campbell’s Company, the soup maker worth $6 billion, or $0.006 trillion.

But frankly, of all the things to know about the S&P 500, this is the most important: Since 1957 – again, when the modern-day version was launched – the index has increased in value by a bit more than 10% per year, helping investors make a lot of money along the way. That’s a decent estimate for how I anticipate the index performing in the future, too.

There’s a reason why the S&P 500 is the cornerstone of most investment portfolios. It works.