Apple to replace AT&T in Dow Jones on March 18
reuters.com
reuters.com
NPR's Planet Money has a great episode on the DJI: http://www.npr.org/blogs/money/2013/03/12/174139347/episode-...
Now it has to stay that way for backward compatibility.
Multiply 30 prices by shares outstanding, and add, is not substantially harder computation to do once a day.
> Now it has to stay that way for backward compatibility
Changing ATT to AAPL isn't backward compatible.
What compatibility is there to maintain? Nothing important depends on the value of the DJIA from before last week.
If they never adjusted the list of stocks, it would eventually become irrelevant as stocks go bankrupt or are acquired. Only 1 current Dow member was in the index in 1907 (GE), and 4 current Dow members were in the index before 1939 (XOM, PG, DD).
A market-cap weighted index like the S&P 500 is probably a better measure.
As a result, over short periods of time, the spread between the two will be relatively small.
Over long periods of time however, the spread can be significant. See the following:
1. http://avondaleam.com/dow-jones-vs-sp/
2. http://www.thumbcharts.com/101035/DJIA-vs-S-P-500 (Compare 1, 2, 3 and 5 years)
Even though one is a change (to run with your numbers) of $3.3 billion and the other of $20.95 billion. it's just how shares work.
This is true regardless of how many shares you bought, and regardless of how many shares were outstanding[1] or the company's market caps.
[1] obv other than new issues/splits/etc.
The one thing the article fails to mention is that the addition of Apple will coincide with a 4:1 stock split in Visa[0]- the index's highest priced (and thus highest-weighted) holding.
Although the addition of Apple had been anticipated, Visa's split was definitely a catalyst. Had they not added Apple, the technology sector within the index would have dropped significantly, in line with Visa's split. The addition of Apple will minimize the impact.
0.http://neworleanscitybusiness.com/blog/2015/03/06/visa-stock...
That sounds utterly ridiculous. Why would they base anything off the price of the stocks? If they all issue a 2:1 split, then what, the index drops by half?
Why would anyone use such a measurement? Why would anyone continue to cite such a measurement? It makes me wonder what other widely-used things are shams but I lack the knowledge to judge.
Or am I getting this totally wrong?
The index value itself doesn't change on account of the split (that would be ridiculous). Visa's weight will drop, and every other stock in the index will increase accordingly. They use an index divisor to maintain the current level of the index when corporate actions like this occur: http://www.investopedia.com/terms/i/indexdivisor.asp
At this point, the Dow is only cited because "it's been around forever." That, and Dow Jones is owned by News Corp. So of course the media wants to keep promoting its own subsidiary.
I wonder who actually does care about the Dow? Are there actually a lot of investors that don't know any better? Or is it just people who think the stock market is important (itself questionable) but don't know anything about it?
As a kid, for many years, the first and only exposure I had to the concept of the stock market was the clockwork reference to DJIA on public radio or tv. I think the founding of the exchange might have been mentioned in school, too (and not much else).
So, later in life, when I wanted to understand things better, I started reading about the Dow and picking it apart. It was an entry point for me; I assume it must have been for many others as well.
Now that I have more knowledge, I question - as you apparently do - whether any of it is worth getting too deeply involved in for the average person. Still, I'm glad I know more about it now, and I do think we need far better financial literacy built into our school system.
For example, IVV, an index ETF that tracks the S&P 500, currently has > 4% of its assets in AAPL[0], due to Apple's immense market cap.
0. http://www.ishares.com/us/products/239726/ishares-core-sp-50...
For a time before computers it made sense, but it's amazing that it's remained relevant this long. These days, there's no real reason to even use the S&P 500 as a market proxy given the existence of more comprehensive indexes, but at least it has a logical basis.
It does ignore market cap though. So if company A's market cap was $800M but company B's market cap was $3M, and the shares rise as I explained, they'd still have the same impact on the DJIA. That's why it's flawed.
However, it's a really good indicator of investment performance. Just not necessarily market or economic performance.
It is 100% true. The way the DJIA is computed is by summing the share prices of each of the 30 constituents and then dividing by a magic constant (the divisor). When you think about it this way it's obvious that a $1 increase in share price for any of the constituents will have exactly the same impact on the value of the DJIA.
Otherwise, I agree completely that the DJIA is becoming a bit of an anachronism.
You'd have to look at how many outstanding shares there are. A stock valued at $800 a share might appear stronger at first, but if the $30 per share stock has 30 times more outstanding shares... that's a stronger stock.
The fact that a $1 change in a $800 stock has the same effect as a $1 change in a $30 stock is because the index is price-weighted. This is arguably not a good measure of the overall behavior since it ignores the market cap. (Which I believe was your point)
A market-cap weighted index (like the S&P 500) would overcome these issues.
The DJIA ignores market cap and just uses share price. So, # of outstanding shares has no effect. Stock splits do not count as changes in share price though.
"To calculate the DJIA, the sum of the prices of all 30 stocks is divided by a divisor, the Dow Divisor." The Dow Divisor was 0.15571590501117 on September 27, 2013. http://en.wikipedia.org/wiki/Dow_Jones_Industrial_Average#Ca...
"Presently, every $1 change in price in a particular stock within the average, equates to a 6.42 (1/0.15571590501117) point movement."
I'm fairly certain I made no claims this was how the DJI currently behaved -- I was making the point that a better market valuation could be achieved by examining the market cap in addition to share price.
In response to "> A dollar change to an $800 stock affects the DJIA just as much as a dollar change tn a $30 stock so the DJIA is nearly meaningless." You say "You'd have to look at how many outstanding shares there are. ..."
Edit: Unless you assumed they meant 1$ change in market cap, but as he was actually discribing the way the DJIA works assing he was wrong if you know how it works seems odd.
PS: Sure, we can make a new index using different math, but at that point were simply talking about something else not the DJIA. What's really surprizing is how useful the DJIA is as a simple indecator of market trends that never get's that big. IMO, 1000 * Log(market basket of stocks) might be just as handy, but they pick stocks in part as good proxy for the ecnomy so the DJIA is more useful than you might think.
Bad start!