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The S&P 500 index (SPX) is a regularly rebalanced index that captures as much as 82% of the U.S. stock market. While it’s most popular among passive investors looking for diversification, short-term traders also use the SPX when its technical trading charts offer patterns with distinct entry and exit signals so it’s easier to plan each trade.
How Is the S&P 500 Index Constructed?
Before you start trading, it’s worth understanding exactly how the sausage is made, so to speak. Here’s a quick breakdown of how the SPX is constructed:
- The index includes the top 500 publicly traded companies currently leading the New York Stock Exchange, the Nasdaq exchange or CBOE exchanges, in terms of size. Companies that have only recently gone public (within the last year) are excluded. So are companies where the majority of shares aren’t in public hands.
- The proportion of shares of each company included is based on a complex float-adjusted weighting methodology that you can read in full nitty gritty detail here. The short version: the relative weight (percentage of the index) that each company gets depends on its market capitalization and what percentage of that market capitalization is traded publicly.
- The index is rebalanced on a quarterly basis.
Trading Tactics for the S&P 500 Index
While it does a decent job of staying in sync with the movement of the larger economy, it’s not a perfect replica. Using it in your trading effectively requires a combination of following larger economic movers as well as specific short-term pressures and trends that influence the companies included in the index. Here are some tactics you might want to consider as you plan your trading strategy.
Keep a Close Eye on the Tech Sector
The top 10 companies in the index right now account for nearly 30% of the index’s value and are mostly concentrated in the tech sector. Trends and factors that impact those 10 companies can have an outsized impact on the index.
Sometimes, that can be a good thing. Last year, the index grew nearly 27% while the U.S. economy as a whole grew just 5.5%. However, if those 10 companies have a bad year, the index will feel that even more sharply than the overall economy.
Staying up to date on any news related to the tech sector will be key to a successful trading strategy using the SPX.
Track General Economic Health Data
In addition to closely monitoring the top 10, you still want to pay attention to any news or short-term indicators of overall U.S. economic health. The index still closely follows the movement of the market, even if its swings over shorter periods are sometimes more exaggerated.
Some measures you will want to track include:
- Gross Domestic Product (GDP) Movement: The GDP is the sum total value produced by a country across all sectors. Rising GDP typically means people are working and their work is producing value. Declining GDP means the economy is less productive.
- Employment rate announcements: Higher unemployment typically indicates a weaker economy. Fewer people working typically means fewer people producing value and a decrease in consumer spending. The Bureau of Labor Statistics (BLS) reports on employment monthly.
- Consumer Price Index (CPI) monthly reports: The CPI is used to track inflation by tracking the changes in prices for basic goods and services like food, housing and health care. The baseline is 100 (meaning 0% inflation), and numbers above that indicate the level of inflation. A CPI of 175 would mean 75% inflation, for example. The BLS reports the CPI on a monthly basis.
- Interest rate moves : Typically, an increase in interest rates indicates that the market is rebounding and a decrease indicates that it might be stagnating. However, the rate change itself can influence the market. When interest rates increase, borrowers are less likely to take out new loans. Reluctance to take on new debt could lead to decreased consumer spending and decreased business growth, which could slow GDP. But if interest rates are too low, the demand for money could increase so much that it drives up inflation.
Use S&P 500 Index ETF Variations That Fit Your Trading Strategy
As a trader, you don’t directly trade an index. Instead, you trade shares of an exchange-traded fund (ETF) that mirrors the index you want to trade. You can buy and sell ETFs much like you do any other stock, which makes them really convenient for nimble-minded strategies.
Even more convenient, you can find ETFs that offer variations on the SPX. Direxion, for example, offers five different Leveraged & Inverse ETFs that track the regular SPX, two that track a high beta version of the index and one that tracks an equal weight version of the index.
Direxion’s S&P-targeted Daily Leveraged & Inverse ETFs include 1x, 2x and 3x leveraged options so you can magnify the potential daily return from each trade in proportion with the amount of risk you’re willing to take on. Then, choose from the bull or bear version of the leveraged ETF so that you can seek returns on your trades no matter which direction the market moves.
Bear ETFs are inverse ETFs that use derivatives to move in the opposite direction of the index, so you can still make a profit even when the market is in decline.
Direxion’s Daily S&P 500® High Beta Bull (HIBL) and Bear (HIBS) 3X Sharess track the version of the SPX that includes the stocks most sensitive to market movements. Between the increased market sensitivity, the 3x leverage and the option to choose from a bull and bear version, you get maximum magnification of each price movement. These funds are especially useful in calmer markets where there isn’t really enough volatility for list-loving traders to see meaningful returns on short-term trades.
The Direxion S&P 500® Equal Weight Bull 2X Shares tracks the version of the SPX that isn’t weighted by market capitalization or floating shares like the regular one is. Instead, the top 500 companies each make up a fixed and equal 0.2% of the index.
With equal weighting, those top 10 companies no longer have an outsized influence on the index, and it’s more diversified in general. However, that increased diversification can also mean less volatility and, as a short-term trader, lower volatility is difficult to trade. Leveraged ETFs like the ones from Direxion can magnify what volatility exists.
Always remember, Direxion Leveraged ETFs are designed for aggressive traders eager to accept high risk in pursuit of potentially high reward.
Sources:
https://www.cnbc.com/2021/12/30/stock-market-futures-open-to-close-news.html
An investor should carefully consider a Fund’s investment objective, risks, charges, and expenses before investing. A Fund’s prospectus and summary prospectus contain this and other information about the Direxion Shares. To obtain a Fund’s prospectus and summary prospectus call 866-301-9214 or visit our website at www.direxion.com. A Fund’s prospectus and summary prospectus should be read carefully before investing.
The “S&P 500 Index” is a product of S&P Dow Jones Indices LLC (“SPDJI”), and has been licensed for use by Rafferty Asset Management, LLC (“Rafferty”). Standard & Poor’s® and S&P® are registered trademarks of Standard & Poor’s Financial Services LLC (“S&P”); Dow Jones® is a registered trademark of Dow Jones Trademark Holdings LLC (“Dow Jones”); and these trademarks have been licensed for use by SPDJI and sublicensed for certain purposes by Rafferty. Rafferty’s ETFs are not sponsored, endorsed, sold or promoted by SPDJI, Dow Jones, S&P, their respective affiliates and none of such parties make any representation regarding the advisability of investing in such product(s) nor do they have any liability for any errors, omissions, or interruptions of the S&P 500® Index.
Investing in a Direxion Shares ETF may be more volatile than investing in broadly diversified funds. The use of leverage by a Fund increases the risk to the Fund. The Direxion Shares ETFs are not suitable for all investors and should be utilized only by sophisticated investors who understand leverage risk, consequences of seeking daily leveraged, or daily inverse leveraged, investment results and intend to actively monitor and manage their investment.
Direxion Shares Risks – An investment in each Fund involves risk, including the possible loss of principal. Each Fund is non-diversified and includes risks associated with the Funds’ concentrating their investments in a particular industry, sector, or geographic region which can result in increased volatility. The use of derivatives such as futures contracts and swaps are subject to market risks that may cause their price to fluctuate over time. Risks of each Fund include Effects of Compounding and Market Volatility Risk, Leverage Risk, Market Risk, Market Disruption Risk, Aggressive Investment Techniques Risk, Counterparty Risk, Intra-Day Investment Risk, and risks specific to the securities that comprise the S&P 500® Index. Additional risks include, for the Direxion Daily S&P 500® Bull 3X Shares, Daily Index Correlation/Tracking Risk and Other Investment Companies (including ETFs) Risk, and for the Direxion Daily S&P 500® Bear 3X Shares, Daily Inverse Index Correlation/Tracking Risk, and risks related to Shorting and Cash Transactions. Please see the summary and full prospectuses for a more complete description of these and other risks of each Fund.
Distributor for Direxion Shares: Foreside Fund Services, LLC.
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