What Is an Index?

Indexes have evolved from measures to targets to a new form of active management.

Ben Johnson 31.01.2019
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Indexes are meant to be measuring sticks. They give us a sense of where markets have been and where they stand today. The original stock market indexes did exactly that. Charles Dow, co-founder of Dow Jones & Co., first published an index of 11 stocks--nine of which were railroad companies--in his "Customer's Afternoon Letter" on July 3, 1884. The index was a measure of the stock price performance of the firms that formed the foundation of the U.S. economy at that time.

Fast forward nearly 135 years and a lot has changed. Dow's first index was a flop. His next was a hit. The Dow Jones Industrial Average, launched in 1896, still occupies prime real estate on the masthead of The Wall Street Journal (the successor to Dow's "Customer's Afternoon Letter") and is piped through a variety of media that would be unrecognizable to its creator. The index industrial complex that his original idea spawned might be jarring to Mr. Dow.

According to the Index Industry Association, there are now more than 3.7 million indexes. This figure leaves many breathless and is often used as evidence that indexing has run amok. But indexes are to their constituents as the 10 million colors perceptible to the human eye are to the three primary colors they are made of. Both are a product of the selection and combination of a finite list of ingredients. Far more meaningful is how we've arrived at that 3.7 million number. The 100-plus years it took to get from a single index to nearly 4 million have been marked by significant evolution in the realm of indexing. Here, I'll look at how indexes have evolved and share my thoughts on how they will continue to change and what it means for investors.

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About Author

Ben Johnson  Ben Johnson, CFA is the Director of Passive Fund Research with Morningstar.

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