The world — or at least the part of the world that owns stocks — has been holding its breath waiting for Dow 20K. You know, the first day that the old — oops, I’m sorry, the venerable — Dow Jones industrial average closes above 20,000.
But to anybody who’s serious about finance, the prospect of Dow 20K is strictly yawnsville. It’s fun to watch the Dow excitement, but money managers and serious investors regard the Standard & Poor’s 500-stock index as their lodestar, despite the Dow’s vastly larger public mindshare.
Ask someone how the stock market is doing, and he or she is likely to respond by telling you about how the Dow — which closed at 19,796 on Monday — is doing, not how the S&P (2257) is doing.
But when investment managers are rated, they’re typically judged against the S&P, not the Dow. And for good reason.
Because the Dow is a 30-stock average that’s based on stock prices, it is far more random than the S&P, which as the name implies is a 500-stock index based on stock market value, not share price. For example, when Visa split its stock 4-for-1 last year, its influence on the Dow declined by 75 percent because its share price became only one-quarter of what it had been. But Visa’s influence on the S&P was unchanged, because its market value remained the same.
To give you one example of randomness, had the Dow not swapped in Apple and ousted AT&T last year, it would have closed about 150 points higher on Monday by my estimate, putting it within spitting distance of Dow 20K. Instead, it was about 200 points below.
Ironically, Apple, one of the best-performing stocks of all time, has been a total dog since it joined the Dow in March 2015. Since then, it’s been the biggest drag on the Dow, according to a spreadsheet I got from Howard Silverblatt, senior index analyst at S&P Dow Jones Indices.
From March 19, 2015, Apple’s first Dow day, through last Friday, Apple has held down the Dow by 6.46 percent, according to Silverblatt’s numbers. Think of it as an iFiasco. Meanwhile, AT&T shares have risen nicely.
The reason the Dow is so popular is also the reason that it’s so random: history. The Dow, created in 1896, before the days of electronic calculators, let alone computers, was the first market indicator to enter the public consciousness.
When the Dow started, it had 12 stocks, so to calculate the average, you added all 12 stocks’ share prices and divided by 12. There was no way, as there is now, to calculate all the stocks’ total market value in less than an eye blink and use that number rather than their total share prices. Later, the Dow expanded to 20 stocks, and then to its current 30 in 1928.
These days, instead of adding up the prices of the 30 Dow stocks and dividing the total by 30, you divide by the 14-digit Dow divisor, currently 0.14602128057775. That means that a $1 change in any of the 30 stocks moves the average — which many people mistakenly call an index — by 6.8483 points.
This creates serious distortions. For example, General Electric, a Dow component, has about 30 times as many shares as Travelers, another component. This means that for the Dow, a $1 rise in GE’s share price would be totally offset by a $1 drop in Travelers’ price. But for the S&P, those changes would result in about $9.7 billion being added to the index’s value.
The Dow divisor was created to allow the average to remain the same when the Dow swapped in one stock for another, or for when one of its components split its stock. For example, Apple’s share price when it replaced AT&T in the Dow last year was about $95 higher than AT&T’s. So to stop the Dow from rising artificially because its 30 stocks now had a higher total value, the number crunchers raised the Dow divisor a tiny bit.
The randomness of the Dow and the seriousness of the S&P explains why more than $2 trillion of investor money is indexed to the S&P, while almost nothing (relatively speaking) is indexed to the Dow.
David Blitzer, chairman of the index committee of S&P Dow Jones Indices, told me that the committee has occasionally considered changing the Dow to a value-weighted index from a share price-weighted average. But, he said, laughing: “Turning it into an index doesn’t make any sense. We’d probably confuse all those people who have been following the Dow for 119 years.”
The bottom line: I don’t see anyone cheering on the S&P to hit 2,300, but there are sure plenty of people awaiting Dow 20K. Does the Dow breaching this benchmark matter? Absolutely not. But even for a Dow skeptic like me, it sure is fun to watch.
For previous columns, go to washingtonpost.com/business.