The oldest of market averages is also the most widely followed. It was put together in 1884 by Charles Dow, co-founder of Dow Jones & Company and the first editor of The Wall Street Journal. Known as the Dow Jones Industrial Average (DJIA) it originally had 11 companies listed. Since 1928, it has had 30 companies in the average. Charles Dow also created the Dow Jones Transportation Average and the Dow Jones Utility Average.
The DJIA components are among the largest companies in America and, as such, they’re considered good indicators of economic trends. Though they represent only a small percent of the total issues listed on the New York Stock Exchange and NASDAQ OMX, they contribute as much as one-third of their total market value.
“Industrial” average is a little misleading today. In the late 1800s, the nation’s largest and most important companies were railroads and steel makers. Today, industrial concerns, such as General Motors and Caterpillar Inc., are still represented in the DJIA. But as the economy has broadened, they’ve been joined in the average by companies as disparate as American Express, McDonald’s, Coca-Cola, Hewlett Packard and Walt Disney.
The DJIA used to be calculated by totaling the prices of all its component stocks then dividing by the number of stocks. But that’s no longer the case. To account for stock splits, which alter the prices and therefore distort the average, the divisor is changed periodically. Today it is 0.130216081. In addition, the average is price-weighted, meaning that the higher-priced a component is the more influence it will have on the overall average.
The DJIA owes some of its considerable popularity to the belief that the condition of the stock market’s largest issues says a lot about the market as a whole. This is true to an extent. But keep in mind, the market is much more than 30 companies, no matter how big they are. So other averages and indexes are needed to round out the picture.
The Dow Jones Transportation Average tracks the stocks of 20 truckers, railroads and airlines. Until 1970, it was made of rail issues only and was known as the “Rail” average. It normally can be expected to turn higher as the economy improves and more people are traveling and more goods are being shipped.
Finally, the Dow Jones Utility Average contains stocks of 15 large utilities, such as electric and gas companies. Because they are sensitive to interest rates, this index often advances when rates are falling and sags when rates climb. It’s also a defensive indicator that investors sometimes move into the supposed safety of utilities when they’re concerned about the condition of the broader market.
Quote of the week: “To see what is right and not do it is want of courage.” — Confucius
Bart Ward is the chief executive officer of Ward & Co. Ltd., an Anoka-based registered investment adviser – specializing in the management of stock and bond portfolios in companies which are listed on the NYSE.