August 17, 2022

Is the Dow Jones Industrial Average a useful stock index?

If you have ever read financial headlines, I’m sure you are familiar with the Dow Jones Industrial Average, but have you ever wondered what it actually is?

The Dow Jones Industrial Average (DJIA) is the most common stock index used by financial media outlets, but that is not the case for financial advisors or other financial professionals. In fact, the Dow Jones is often referred to as the most irrelevant stock index.

The Dow Jones Industrial Average is the oldest stock index, started in 1882 to track the top industrial companies in the US. Today it tracks the top 30 of the most traded stocks on the New York Stock Exchange (NYSE) but is referred to as a benchmark to indicate how the stock market is doing as a whole. Among financial professionals, the S&P 500 is referred to as the premier index for US stocks. The S&P 500 tracks the performance of a select 500 companies in the US.

There are more than 2,500 stocks traded on the NYSE, making the 30 on the DJIA a poor indicator of stock market performance. Although the 30 companies that make up the DJIA are blue-chip companies, there is no clear-cut math or guidelines as to what qualifies a company for the DJIA. Instead, they are selected by a group of people who work for the S&P Dow Indices.

The DJIA is a price-weighted index, meaning the price of the stock is more important than the market cap or size of the company. For example, Apple (largest company in the world based on market cap) is currently trading at $144/share (when this was written in May 2022) and has a market cap of $2.3 trillion. 3M Company is currently trading at $150/share with a market cap of $85.76 billion. Since the DJIA is price-weighted rather than market cap weighted, this means the 3M Company makes up a larger portion of the index price than Apple.

When reading financial headlines, do not overreact when the “experts” are talking about movement in the Dow Jones Industrial Average, without considering other indexes that might be more relevant and a more accurate measure of the broader market.

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Equilibrium Wealth Advisors is a registered investment advisor. The contents of this article are for educational purposes only and do not represent investment advice.

Stock markets are volatile, and the prices of equity securities fluctuate based on changes in a company’s financial condition and overall market and economic conditions. Although common stocks have historically generated higher average total returns than fixed-income securities over the long-term, common stocks also have experienced significantly more volatility in those returns and, in certain periods, have significantly underperformed relative to fixed-income securities. An adverse event, such as an unfavorable earnings report, may depress the value of a particular common stock held by the Fund. A common stock may also decline due to factors which affect a particular industry or industries, such as labor shortages or increased production costs and competitive conditions within an industry.  For dividend-paying stocks, dividends are not guaranteed and may decrease without notice.

Past performance is no guarantee of future results.  The change in investment value reflects the appreciation or depreciation due to price changes, plus any distributions and income earned during the report period, less any transaction costs, sales charges, or fees. Gain/loss and holding period information may not reflect adjustments required for tax reporting purposes. You should verify such information when calculating reportable gain or loss.

This content has been prepared for general information purposes only and is intended to provide a summary of the subject matter covered. It does not purport to be comprehensive or to give advice. The views expressed are the views of the writer at the time of issue and may change over time. This is not an offer document, and does not constitute an offer, invitation, investment advice or inducement to distribute or purchase securities, shares, units or other interests or to enter into an investment agreement. No person should rely on the content and/or act on the basis of any matter contained in this document.  The tax and estate planning information provided is general in nature.  It is provided for informational purposes only and should not be construed as legal or tax advice.  Always consult an attorney or tax professional regarding your specific legal or tax situation.

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Securities and advisory services offered through EWA LLC dba Equilibrium Wealth Advisors (a SEC Registered Investment Advisor).
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* The DJ Equity All REIT Total Return Index measures the total return performance of the equity subcategory of the Real Estate Investment Trust (REIT) industry as calculated by Dow Jones.
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