NEW YORK (FMD Capital Management) -- The Dow Jones Industrial Average is one of the oldest blue-chip indexes in existence. This bellwether has survived for over 100 years as a time-tested indicator of mega-cap stock performance. Nearly every investor can easily relate to the name recognition that the DJIA inspires, but few can probably name more than a handful of the 30 stocks that it tracks.
The index constituents have changed dramatically over the years as new companies are admitted to replace aging monoliths. The underlying stocks are no longer solely focused in the industrial arena, but instead represent nearly every sector of the economy. These shakeups can be attributed to technology advancement, social trends, stock value changes and a host of other characteristics.
However, the one constant is that the index is weighted according to the price of the underlying stocks as opposed to market capitalization or other fundamental qualities.
That means Visa (V), with a share price of $223, has a larger weighting than Exxon Mobil (XOM), which is currently trading around $94. The fact that Exxon has a market capitalization that is nearly three times larger than Visa is completely ignored when the index is calculated.
Because of these anomalies, many contemporary investors have dismissed the Dow as an aging relic in the age of cutting-edge index formulation methodology. In addition, the relatively small subset of just 30 stocks makes it hard to justify as a true sample of the market machinations on a daily basis. While those arguments may be valid, I believe the Dow does still have some merit in modern investing practice and can be a valuable tool to extrapolate data.
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