Index trading involves a stock index portfolio representing a group of shares in one of the stock market’s specific sections. All the world’s major economies have more than one stock market indices.
The main stock market index in Australia is the S&P/ASX 200. It encompasses the 200 biggest companies in the country. Similarly, other countries have their index markets, such as Dow Jones in the US and FTSE100 in the UK. Let’s learn about index trading and ASX SPI futures in further detail below!
How does Trading Work on an Index?
Trading on an index means you’re only speculating how an index will do, i.e., whether it will rise or fall. In reality, you aren’t buying or selling the physical shares. It involves trading of the derivative product instead of the underlying physical asset.
By trading based on the movement of the price of an index, traders speculate the rise or fall of an indice. So, when a trader makes a “sell trade,” it shows that they think the index will decrease in value. Whereas, when a trader makes a “Buy trade,” it shows that they think the value will go up.
For example, a trader wants to buy trade on the index with a price of 6,000 – 6,001, and they buy it at 6,001. After a few hours, the trader sees that the price of the indices has gone up to 6,020, so they close the trade. This means that the trade was profitable because it opened at 6,001 but closed at 6,020, showing a 19 points growth.
How Do you Calculate an Index?
The number of points represents the value of an indice. Let us suppose that the ASX 200 index or ASX SPI futures is valued at 5,800 – 6,000 points. There are two main ways of calculating an index: Capitalisation-weighted and Price-weighted.
Capitalisation-Weighted Calculation: This method implies that a high-value company has a more significant impact on the index price than a small company. For example, a bank has a 7-8% weighting on the ASX 200, making it the index’s biggest company. On the other hand, let’s suppose a smaller company has only <1% weighting. As a result, the decline in the bank’s share price wi; affect the ASX 200 index more significantly than the decline in the smaller company’s share value.
Price-Weighted Calculation: This means that a high-value company will affect the price movement of the index much more significantly. For instance, company A has a share price of $20, and company B has a share price of $4. As a result, the influence of company A on the index will be 5 times more than company B.
Can you do both Index and Stock Trading?
The answer is yes; it is possible to do both stock and index trading simultaneously. It can also be beneficial because it diversifies your investment portfolio. However, make sure that you’re clear on your trading goals and assess the risk properly.
Indexes are impacted by economic reports, geopolitical news, and employment reports. At the same time, individual stocks are affected by company-related news. The right type of trading for an individual depends solely on their circumstances and goals.
Index trading can sound confusing and intimidating at first. However, once you invest your time and energy to learn different strategies and get acquainted with the trends, you can quickly get started. This guide will help you kickstart your research journey.