A stock index simply represents a basket of underlying stocks. Indexes can be either price-weighted or capitalization-weighted. In a price-weighted index, such as the Dow Jones Industrial Average, the individual stock prices are simply added up and then divided by a divisor, meaning that stocks with higher prices have a higher weighting in the index value. In a capitalization-weighted index, such as the Standard and Poor's 500 index, the weighting of each stock corresponds to the size of the company as determined by its capitalization (i.e., the total dollar value of its stock). Stock indexes cover a variety of different sectors. For example, the Dow Jones Industrial Average contains 30 blue-chip stocks that represent the industrial sector. The S&P 500 index includes 500 of the largest blue-chip U.S. companies. The NYSE index includes all the stocks that are traded at the New York Stock Exchange. The Nasdaq 100 includes the largest 100 companies that are traded on the Nasdaq Exchange. The most popular U.S. stock index futures contract is the E-mini S&P 500 futures contract, which is traded at the CME Group.
Prices - The S&P 500 index rallied steadily during 2014 and progressively posted new record highs. The S&P 500 index rallied by +11.4% in 2014, adding to the +30% rally seen in 2013. Through the end of 2014, the S&P 500 index rallied by a total of 162% from the early-2009 low seen during the global financial crisis.
The U.S. stock market in 2014 saw support from (1) the Fed's extraordinarily easy monetary policy, (2) the improvement in the U.S. economy, (3) the sharp drop in long-term Treasury yields, and (4) decent earnings growth. Those bullish factors overcame negative factors such as (1) end of the Fed's third quantitative easing program (QE3) in October 2014, (2) weak global economic growth, (3) weak U.S. wage growth, (4) the sharp rally in the dollar index in the latter half of 2014 that hurt U.S. export earnings, and (5) stretched stock market valuations.
The Federal Reserve's extraordinarily easy monetary policy in 2014 continued to provide strong support for the U.S. stock market. The Fed tapered its QE3 program during 2014 and ended the program altogether in October 2014. That ended the extra liquidity injections that helped to support asset prices in general. However, the Fed kept its federal funds rate target near zero all during 2014, thus helping to keep Treasury yields low. In fact, the 10-year T-note yield during 2014 fell sharply by 75 basis points from 3.00% at the beginning of the year to 2.25% by the end of 2014.
The plunge in crude oil prices that started in September 2014 initially had a negative impact on the overall U.S. stock indexes because of the plunge in oil company stocks, which are an important component in the S&P 500 index. However, the sharp drop in oil prices will eventually turn out to be very beneficial for most U.S. corporations due to lower fuel costs and higher profits. Lower oil prices are also putting more cash into the pockets of consumers, thus giving them more money to spend on various goods and services.
The U.S. stock market in 2014 saw continued support from decent earnings growth of +8% for the S&P 500 companies, which was unchanged from the +8% earnings growth seen in 2013. However, the forward price/earnings ratio for the S&P 500 index rose to 17.5 in late 2014, which was well above the 10-year average of 14.4 and close to the 30-year average.
Looking ahead, the U.S. stock market in 2015 faces some headwinds. First, valuations are a bit stretched and the market is expecting earnings growth of only +2% in 2015, providing little room on the upside for stock prices to rally. Second, the stock market later in 2015 will likely have to contend with the beginning of a series of interest rate hikes by the Federal Reserve. Third, the stock market has rallied sharply for more than three years without a downside correction of more than 15%.
Articles from the Commodity Research Bureau (CRB) Commodity Yearbook. The single most comprehensive source of commodity and futures market information available, the Yearbook is the book of record of the Commodity Research Bureau, which is, in turn, the organization of record for the commodity industry itself. Its sources - reports from governments, private industries, and trade and industrial associations - are authoritative, and its historical scope is second to none. Additional information can be found at www.crbyearbook.com.