Last week, it was announced Apple will be added to the Dow Jones Industrial Average on March 19th. Since the Dow Jones holds just 30 stocks, one has to go. AT&T is being dropped on that day.
There is no “magic formula” for how a company gets added to the Dow Jones. It’s put together by committee at publishing company McGraw-Hill, since they own the Dow Jones name these days. That alone should make everyone cringe.
But here are the two big issues I have with the Dow Jones, with a tip of the hat to Barry Ritholtz:
First, it is the Dow Jones INDUSTRIAL Average. We don’t have much in “industrial” any more in the US. When Charles Dow was not creating point and figure charts in the 1890’s, he assembled this index to get a “pulse” of how the US economy was doing.
Over the past few decades, the Dow has “morphed” to include service and technology companies. Not very industrial.
Next, the Dow Jones is a price-weighted index. Meaning, the higher-priced stocks have a bigger impact than lesser-priced stocks.
The highest PRICED stock in the Dow (Visa), has nearly a 10% impact on the move each day. Goldman Sachs has nearly a 7% impact on the Dow.
Huh?
So, when the US dollar or interest rates move up or down, Goldman Sachs and Visa (and other financial companies – JP Morgan, Travelers, American Express) will have a big impact on how the Dow moves (like this morning).
At the other end (the lower priced names), General Electric, one of the only companies with a true ‘industrial’ component, has a measly 1% impact on the Dow.
It just doesn’t seem right any longer. We wonder how relevant the Dow Jones Industrial Average is in 2015.
Here’s where it gets even goofier:
Goldman Sachs may have a higher stock price, but the market capitalization is $84 billion. General Electric, with a much lower stock price (and thus, a MUCH lower impact), has a market capitalization of $257 billion. Why should that be?