What’s a stock market index?

If the stock market is a giant jigsaw puzzle, you can think of an index as a magnifying glass. In the case of the Nasdaq, your magnifying glass allows you to take a closer look at a particular part of the puzzle, giving you a clearer picture of the finished product.

But before we get too far into the weeds, let’s start with the stock market, which is where stocks, bonds, and other assets are bought and sold.

When talking about the stock market, you generally hear people using a stock market index in reference to the market’s performance.

A stock market index, then, is an index, or measurement, of a market. Specifically, an index is  a tool (like a magnifying glass) used to examine, express, or describe what’s happening in a stock market.

An index is simply a curated list of certain securities. A security is an investment product, including stocks, bonds, and mutual funds.

What is the Nasdaq?

The Nasdaq is an index with a high concentration of technology stocks. If it were a Spotify playlist, it would consist of the most popular electronic and EDM artists.

But wait, there’s more.

The Nasdaq can also refer to a stock exchange, the Nasdaq Stock Market. The Nasdaq market — which is an acronym for the National Association of Securities Dealers Automated Quotations exchange — is the second-largest exchange in the world behind the New York Stock Exchange.

Good to know: When people refer to how the Nasdaq “did” or “performed”, however, they’re talking about the index, not the exchange.

It’s the index provides a statistical measurement of the market’s behavior.

What’s in the Nasdaq?

The Nasdaq consists of the stocks of more than 3,200 companies. In addition to Amazon, Apple, and Facebook, other tech names include Google’s parent company Alphabet, computer network router maker Cisco Systems, and computer software and services giant IBM.

While the Nasdaq is known as a technology index–it became extremely popular in the Dotcom era of the 1990s–the number of tech companies in it has decreased over time, and now only make up 45% of the index, according to the Wall Street Journal.

The index also holds the stock of biotech and pharmaceutical companies, as well as business services, insurance, and telecommunications companies, among others.

Other important indexes

The Nasdaq is among the most important stock indexes in the U.S., along with the Dow Jones Industrial Average, S&P 500, and the Russell 3000, which measures the stocks of both large and smaller companies.

Something to keep in mind: Sometimes big companies can appear in multiple indexes simultaneously.

For example, Apple and Microsoft are both in the Dow, the S&P 500 and the Nasdaq.

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When you invest in the stock market, you’re typically buying shares in publicly traded companies. These companies have gone through a process called an initial public offering or IPO, where the company’s shares are listed on a stock exchange such as the New York Stock Exchange or the Nasdaq.

Once their shares are listed, public companies must file information about their performance every quarter, and this information is available to the public to examine.

Companies file their quarterly paperwork with an agency called the Securities and Exchange Commission (SEC), which is the federal agency overseeing publicly listed companies, to make sure they are following financial reporting regulations.

Financial analysts who cover companies and specific industries pay careful attention to earnings reports for indications about the performance of a particular company, and its future prospects.

You can find information on any publicly listed company by searching here.

What’s a quarter?

A quarter is a three-month period during the course of a year. There are four quarters in a year. Generally speaking, the first quarter ends March 31. The second quarter ends June 30. The third quarter ends September 30. And the fourth quarter ends December 31. (Some companies may follow other schedules for their fiscal years.)

What kind of information will I find?

Every quarter, public companies file a form with the SEC called a 10-Q. This is a company’s earnings report, and in it you’ll find specific data about a company’s financial accomplishments in the prior three months, as well as data for prior years. Earnings, essentially, are how much money a company made or lost during a quarter.

Here are some key components in an earnings report:

Revenue, or sales: Generally speaking, this is income that a business has from its normal business activities, usually from the sale of goods and services to customers.

Net income: This is how much profit a company has made after paying its expenses, debt payments, and taxes, among other things. You can think of it as similar to the cash you have left over after you’ve paid all your expenses for the month.

Generally, companies with profits are successful at doing what they do. Companies that have no profit, or that lose money, are less successful. Exceptions to this rule include startups, or companies in some high-growth sectors, which often need to spend at rapid rates to continue growing and innovating. It may surprise you to learn that Amazon is rarely profitable, yet it is one of the biggest companies around.

Earnings per share, or EPS:  This is a somewhat complicated equation that breaks down profit according to the number of shares a company has made available for sale to the public. If a company’s EPS increases from one quarter to another, it’s a gauge of profitability, and how much money a company has to invest in its ongoing operations.

Other information: Companies may use a quarterly earnings report to talk about executive changes–for example when an officer of the company moves to a new position or leaves. It may also use a quarterly report to talk about any risks it sees in the foreseeable future, such as  from competing businesses, changes to the market where it operates, or from changing customer sentiment.

Why do investors care about earnings reports?

Investors care about earnings because they provide a snapshot of a how a company they’ve invested in–or may want to invest in–is performing. Think of an earnings report as a general health assessment for a company.

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