It today’s environment, it’s hard to get through a news broadcast or cocktail conversation without hearing about the Dow. Was it up, was it down, did it blow up today, were we in the green or the red? These are all questions that swirl around this index, yet few people truly understand what makes up this index or how it works. My goal is to provide a high level summary of the Dow…just enough so the next time you hear it referred to, you know a little more about what it is.
The Dow Jones Industrial Average (NYSE: DJI, also called the DJIA, Dow 30, INDP, or informally the Dow Jones or The Dow) is one of several stock market indices, created by nineteenth-century Wall Street Journal editor and Dow Jones & Company co-founder Charles Dow. It is an index that shows how certain stocks have traded. Dow compiled the index to gauge the performance of the industrial sector of the American stock market. It is the second-oldest U.S. market index, after the Dow Jones Transportation Average, which Dow also created.
The average is computed from the stock prices of 30 of the largest and most widely held public companies in the United States. The “industrial” portion of the name is largely historical—many of the 30 modern components have little to do with traditional heavy industry. The average is price-weighted. (Keep this in mind as I will discuss this in future posts). To compensate for the effects of stock splits and other adjustments, it is currently a scaled average, not the actual average of the prices of its component stocks—the sum of the component prices is divided by a divisor, which changes whenever one of the component stocks has a stock split or stock dividend, to generate the value of the index. At the end of 2008, the divisor stood at 0.125552709. Since the divisor is currently less than one, the value of the index is higher than the sum of the component prices.
Currently, the Dow consists of the following 30 companies:
Bank of America
Johnson & Johnson
Proctor & Gamble
United Technologies Corp.
Interestingly, General Electric is the only component company that has remained in the index since its creation. Stay tuned for a few more tidbits about the Dow that I think you’ll find helpful in your understanding of this important index.