Is the Dow 30 still just a collection of American industrial corporations? Is it a reasonable estimate of the health of the broader economy? James K. Glassman has the answers.
"Even stranger is how the Dow is calculated. Most indexes, including the Standard & Poor’s 500, are weighted by market cap: Bigger companies affect the index’s value more than smaller ones. But the Dow is weighted by stock price — an arbitrary figure that has little to do with size or value."
--Glassman, Five Myths about the Dow (Washington Post)
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I do not think is healthy the DOW is to be weighted differently than other companies by stock price because the message that is being conveyed is that their performance is purely based on numbers and speculation. Speculation leads to uncertainty and not actual contributions from other even small businesses that are sure to be investing and growing and reinventing themselves but are being shrouded and treated distinctively when compared to the DOW. Uncertainty and speculation should be factored in when determining the health of the economy, nor a few companies should have the driving force of whether is deteriorating or improving, it is unfair for those businesses who are working hard.
ReplyDeleteCarlos Moya
Carlos:
ReplyDeleteThanks for this. Uncertainty plays a major role in market outcomes and the behavior of market actors. Would you suggest the Dow be weighted the same way as the S&P/NASDAQ or do you think there's a better way?
Best,
Jesse-Douglas Mathewson
I read Carlo's comment before I read the article and I expected to see some very different information than I did. While I agree with Carlos that the DOW is unfairly weighted, I don't think the system they have instituted is broken. Glassman described how the DOW is less volatile because of the seasoned companies they are trading. He says,
ReplyDelete"For example, in 2008, when the S&P dropped 37 percent for the year, the Dow fell 34 percent; in 2009, when the S&P rose 23 percent, the Dow rose 19 percent."
To me, that means the system is unfair, but not wrong.
I look at these markets like new companies are toddlers (lots of energy, lots of impulse and no good way to handle it) and seasoned companies as their grandparents (hangin out in their recliner, birdwatching, and the occasional nap). I don't know if you have ever put an elderly person in a room with a screaming, crazed toddler...but the effects are not always positive. What the toddler does in the room ultimately effects the mood/actions of their grandparent. Put them in different rooms and the toddler can still be crazed (come on, it's super unfair to ask a 3 year old to sit down and watch the news...) and the grandparent can still have their peace and quiet (well deserved, I might add).
I think separation of these two types of companies is fair not just to the older companies, but the newer ones too. The older ones can trade and survive as they always have, and the newer companies can get their market legs, perhaps.
Catherine Smith