1/ What is the 'Dow Jones Industrial Average'? (Thread)
In 1896, Charles Dow was an editor at The Wall Street Journal
There wasn’t an easy way for Dow to recap the market’s daily moves. Some stocks were up, others were down
He asked his business associate Edward Jones for help
In 1896, Charles Dow was an editor at The Wall Street Journal
There wasn’t an easy way for Dow to recap the market’s daily moves. Some stocks were up, others were down
He asked his business associate Edward Jones for help
2/ Edward Jones was a statistician. He helped Dow invent a solution.
Dow and Jones added up the share price of the 12 most popular companies, many of which were industrial stocks.
The total was then divided by 12 -- or averaged
The 'Dow Jones Industrial Average' was born
Dow and Jones added up the share price of the 12 most popular companies, many of which were industrial stocks.
The total was then divided by 12 -- or averaged
The 'Dow Jones Industrial Average' was born
3/ On May 26, 1896, the average price of the original 12 Dow Jones Industrial Average stocks was $40.94.
Using price as a measuring stick made calculating the average easy (no computers at the time)
This is why the Dow is called a 'price-weighted index'
Using price as a measuring stick made calculating the average easy (no computers at the time)
This is why the Dow is called a 'price-weighted index'
4/ The business world has changed a lot since 1896, so the Dow Jones has also changed
In 1928, the Dow was expanded to include 30 companies instead of just 12.
Old companies were gradually replaced by new ones like $AAPL, $HD, and $CRM
In 1928, the Dow was expanded to include 30 companies instead of just 12.
Old companies were gradually replaced by new ones like $AAPL, $HD, and $CRM
5/ Stock splits, spinoffs, and acquisitions made calculating the Dow a lot harder over time
To keep things consistent, the denominator -- which is called the "the Dow Divisor" -- is regularly adjusted
The Dow Divisor was 0.15198707565833 as of 8/31/20
To keep things consistent, the denominator -- which is called the "the Dow Divisor" -- is regularly adjusted
The Dow Divisor was 0.15198707565833 as of 8/31/20
6/ Critics of the Dow Jones Industrial Average point out 2 main flaws
First, the Dow only tracks 30 stocks -- a small fraction of the 6,000+ publically traded U.S. companies
Despite this, the long-term returns of the Dow are very similar to the S&P 500
First, the Dow only tracks 30 stocks -- a small fraction of the 6,000+ publically traded U.S. companies
Despite this, the long-term returns of the Dow are very similar to the S&P 500
7/ Second criticism is its price-weight calculation
A $100 stock has 10x more influence than a $10 stock -- regardless of business size
A comparison of $PFE vs. $MCD from October 2020 shows why
$PFE is bigger, but $MCD has a higher share price, so it gets 5x more weighting
A $100 stock has 10x more influence than a $10 stock -- regardless of business size
A comparison of $PFE vs. $MCD from October 2020 shows why
$PFE is bigger, but $MCD has a higher share price, so it gets 5x more weighting
8/ For that reason, most professional money managers use the S&P 500 -- which has 500 stocks and is weighed by market-capitalization -- instead of the Dow
However, the Dow dates back to 1896, so it is still one of the most widely followed indexes today
However, the Dow dates back to 1896, so it is still one of the most widely followed indexes today
9/ As of 11/4/20, the Dow Jones Industrial Average was 27,847
A ~10% annualized return since inception
A ~10% annualized return since inception
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