What Is the Dow Jones Industrial Average
The Dow Jones Industrial Average is a statistic
Can I Buy the Dow? Can I Invest in the Dow?
used to measure the prices of company stocks that trade in the stock market. Often referred to as the Dow, or the DJIA, the Dow Jones Industrial Average is the oldest and most watched index of the stock market. When newscasters say that the market is up, they are generally referring to the Dow Jones Industrial Average.
- What Is the Dow Jones Industrial Average
- Can I Invest in the Dow? Can I Buy the Dow?
- Why the Dow Jones Industrial Average Is Important
- Who Invented the Dow Jones Industrial Average
- What Companies Are in the Dow Jones Industrial Average
- The Original Companies in the Dow Jones Industrial Average
- History of the Dow Jones Industrial Average
- How the Dow Jones Industrial Average Is Calculated
- Weakness of the Dow Jones Industrial Average
What Is the Dow Jones Industrial Average
The Dow Jones Industrial Average is a weighted average
of the stock prices of 30 important companies that trade on the New York Stock Exchange and the Nasdaq. These are large companies like General Electric, Disney, Exxon and Microsoft. The thirty companies included in the DJIA are in business sectors such as financial services, technology, retail, entertainment and consumer goods. Only transportation companies and utility companies are not included in the DJIA, because other indexes are used for these business sectors.
Can I Invest in the Dow? Can I Buy the Dow?
Yes, you can invest in the Dow by buying shares
in an index mutual fund. To buy the basket of stocks represented in the Dow Jones Industrial Average is expensive and time consuming for an investor. However, there are index mutual funds that track the Dow Jones Industrial Average by buying and holding the Dow stocks. The price of an index mutual fund will behave about the same as the Dow index it tracks. These passively managed funds are excellent investments with low expenses. Investors with a long-term outlook know that anywhere from 50% to 80% of other managed mutual funds underperform the market index. Index mutual funds make sense for many investors. Most mutual fund companies, like Vanguard, offer an index fund that tracks the Dow Jones Industrial Average.
You can also invest in the Dow Jones Industrial Average by buying shares
of an exchange-traded fund (ETF). The shares for the Dow 30 are called Diamonds. The Diamonds ETF tracks the Dow index and is an easy way to invest in the Dow. An ETF trades on the AMEX under the ticker symbol DIA. A share of an ETF represents ownership in a portfolio of the equity securities that comprise the DJIA. All ETFs trade on the stock market like any other stock, so they can be bought on margin, sold short or held for the long term. Here is more information about exchange traded funds and how to use them.
You can also invest in the Dow Jones Industrial Average by buying
futures and option contracts on the Dow Jones Industrial Average. These contracts trade actively on the Chicago Board of Trade.
Why the Dow Jones Industrial Average Is Important
The Dow Jones Industrial Average is important
because it is the bellweather of the stock market. The Dow includes large-capitalization companies representative of U.S. industry, powerhouses such as Proctor and Gamble, Home Depot, Coca Cola, and Microsoft. Although the index consists entirely of very large companies, it's could include almost any U.S. company that isn't a transportation company or a utility. Only substantial industrial companies with a history of successful growth and wide interest among investors are considered for inclusion.
The average consists of 30
of the largest and most widely held public companies in the United States. Although it’s called the Industrial Index, many of the 30 modern components have little to do with heavy industry. The Dow represents every important sector in the stock market except transportation and utilities, which have their separate indexes. Over time, these became known as the blue chip companies and were listed on the New York Stock Exchange. Now, the DJIA contains several companies that trade on the Nasdaq.
Who Invented the Dow Jones Industrial Average
The Dow Jones Industrial Average was invented
by Charles Dow back in 1896. Charles Dow, editor of the Wall Street Journal and founder of Dow Jones & Company, compiled the index as a way to gauge the performance of the stock market. The average is named after Charles Dow and his business associate Edward Jones.
Charles Dow was a journalist
, not a financier or a broker. Because people on Wall Street found it difficult to analyze the daily jumble of stock prices, he designed the Dow index to track whether stocks generally were rising, falling or staying even. He began with an index of the prices railroad company stocks. Then he introduced the Dow Jones Industrial Average in 1896 as an index of the stock prices industrial companies. The utilities average is an index of the stock prices of utility companies, and was created in 1929. In 1970, the railroad average was renamed the transportation average. Today, Dow Jones & Company develops, maintains, and licenses over 3,000 market indexes for investments. On May 26, 2006, the Dow Jones Industrial Average celebrated its 110-year anniversary on May 26, 2006 as the world’s most renowned market indicator.
What Companies Are in the Dow Jones Industrial Average
At present the Dow Jones Industrial Average consists of the following 30 companies:
ALCOA Inc. NYSE: AA aluminum
American Express Co. NYSE: AXP credit services
AT&T Inc. NYSE: T communications
Boeing Co. NYSE: BA aerospace/defense
Bank of America Corp. NYSE: BAC banking, stock brokerage
Caterpillar Inc. NYSE: CAT farm & construction equipment
Cisco Systems, Inc. NYSE: CSCO
Coca-Cola Co. NYSE: KO beverages
Chevron Corp CVX
E.I. du Pont de Nemours & Co. NYSE: DD chemicals
Exxon Mobil Corp. NYSE: XOM major integrated oil & gas
General Electric Co. NYSE: GE conglomerates, media
Hewlett-Packard Co. NYSE: HPQ diversified computer systems
Home Depot Inc. NYSE: HD home improvement stores
Intel Corp. NASDAQ: INTC semiconductors
International Business Machines Corp. NYSE: IBM diversified computer systems
Johnson & Johnson NYSE: JNJ consumer and health care products conglomerate
JPMorgan Chase & Co. NYSE: JPM money center banks
Kraft Foods NYSE: KFT
3M Company NYSE: MMM
McDonald's Corp. NYSE: MCD restaurant franchise
Merck & Co. Inc. NYSE: MRK drug manufacturers
Microsoft Corp. NASDAQ: MSFT software
Pfizer Inc. NYSE: PFE drug manufacturers
Procter & Gamble Co. NYSE: PG consumer goods
Travelers Company NYSE: TRV insurance
United Technologies Corp. NYSE: UTX conglomerate
Verizon Communications Inc. NYSE: VZ telecommunications
Wal-Mart Stores Inc. NYSE: WMT discount, variety stores
Walt Disney Co. NYSE: DIS entertainment
The Original Companies in the Dow Jones Industrial Average
The original twelve companies of the Dow Jones Industrial Index
were American Cotton Oil, American Sugar, American Tobacco, Chicago Gas, Distilling and Cattle Feeding, General Electric, Laclede Gas, National Lead, North American, Tennessee Coal and Iron, U.S. Leather, and U.S. Rubber. Only one of the Dow's original 12 components has managed to survive the numerous mergers, business failures and deletions from the index since it began, General Electric.
It’s interesting to look back
on the original 12 original companies of the 1896 Dow and see what became of them. American Cotton Oil was absorbed in CPC International. American Sugar eventually became Amstar Holdings. American Tobacco was killed by antitrust action in 1911. Chicago Gas was absorbed by Peoples Gas. Distilling and Cattle Feeding evolved into Quantum Chemical. General Electric still survives. Laclede Gas is now Laclede Group but is not in the index. National Lead is now NL Industries but is not in the index. North American was a group of utilities broken up in 1940s. Tennessee Coal and Iron became part of U.S. Steel. U.S. Leather vanished around 1952. And finally, U.S. Rubber became Uniroyal, which was in turn bought by Michelin.
History of the Dow Jones Industrial Average
Taking a nostalgic look back at the 1920’s
, we see companies in the Dow Jones Industrial Average like Nash Motors, Radio Corporation, Victor Talking Machine, Mack Trucks, General Railway Signal, American Tobacco, Woodworth, American Can, Chrysler, Bethlehem Steel and Atlantic Refining.
Other interesting companies from the past that were in the Dow Jones Industrial Average include American Smelting, Wright Aeronautical, Goodrich, International Nickel, Texas Gulf Sulphur, American Sugar, Westinghouse Electric, Standard Oil, Texas Corp., Sears Roebuck, Allied Chemical & Dye, Atlantic Refining, Chrysler, American Can and Union Carbide. How times have changed. General Electric is the only company that has remained in the Dow from its beginning to now.
How the Dow Jones Industrial Average Is Calculated
In the beginning, the Dow Jones Industrial Average was calculated
as an arithmetic average of the stock prices. The formula simply adds up the stock prices and divided by the number of stocks. Later, the divisor was adjusted to smooth out the effects of stock splits and other corporate actions. The current divisor is 0.12482483. The number of stocks in the Dow Jones Industrial Average was increased to 20 in 1916. Then the Dow Jones Industrial Average using 30 stocks made its debut in 1928, and the number of stocks has remained constant ever since.
Weakness of the Dow Jones Industrial Average
The Dow Jones Industrial Average has several weaknesses
. In spite of its weaknesses, the Dow results are in line with other major market indexes like the S&P500, even though the Dow uses only 30 stocks ignores the market capitalization of a company.
Because the Dow Jones Industrial Average includes only 30
companies of the 10,000 companies whose stock is publicly traded in the U.S. With such a small sample, the Dow Jones Industrial Average cannot be a benchmark for the entire stock market. Instead of the Dow, the S&P 500 stock index and the Wilshire 500, stock indexes that measure 500 stock prices, have become more important.
Another weakness of the Dow Jones Industrial Average
is that it does not consider the percentage of price change, but only absolute dollar changes. Because of the way the Dow Jones Industrial Average is calculated, a small company with a high stock price can affect the index more than a large company with a low stock price. The formula for the Dow Jones Industrial Average can produce misleading results, because a $1 increase in a $10 stock can be offset by a $1 decrease in a $50 stock, even though the first stock experienced a larger percentage change. This behavior is contrary to what investors want from an index.
Another downfall of the Dow Jones Industrial Average
is that the formula does not handle stock splits. So each time a component stock splits, its weight in the Dow Jones Industrial Average decreases. The divisor of the Dow Jones Industrial Average is adjusted by hand every time a stock splits to maintain the continuity of its value. Other stock market indexes that use market capitalization in the formula do not have this weakness.
Another weakness of the Dow Jones Industrial Average
is that the 30 companies are chosen for inclusion by an informal and subjective choice of the editors of The Wall Street Journal. The companies in the DJIA may not be the most representative sample of large public companies. Finally, changes in the DJIA do not reflect the contribution that cash dividends make to total return.
A weakness of the Dow
and of other stock market indexes is that they do not take into consideration the value of cash dividends paid to the shareholders. Stock market indexes do not take into consideration the effect of inflation on the stock prices. Indexes are not adjusted for changes in the Consumer Price Index, and are not expressed in constant purchasing power.
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