New Dow Components Will Enhance the Growth/Value Cha-Cha for Index Funds - TheStreet

New Dow Components Will Enhance the Growth/Value Cha-Cha for Index Funds

Strong Dow 30 Value manager Charles Carlson expects his fund to put S&P 500 index funds to shame.
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Is a juiced-up

Dow

a better bet than the

S&P 500

?

It is to Charles Carlson -- though as co-manager of a mutual fund based on the

Dow Jones Industrial Average

, Carlson is admittedly biased. When high-octane stocks

Microsoft

(MSFT) - Get Report

,

Intel

(INTC) - Get Report

,

Home Depot

(HD) - Get Report

and

SBC Communications

(SBC)

on Monday replace low-wattage

Chevron

(CHV)

,

Sears

(S) - Get Report

,

Union Carbide

(UK)

and

Goodyear Tire

(GT) - Get Report

in the DJIA, the 103-year-old index will become an even more powerful bogey than its 43-year-old counterpart, the

S&P 500

, Carlson says. (Don't miss Carlson this weekend when he makes a guest appearance on "TheStreet.com" show on

Fox News Channel

.

"The new stocks will bolster the growth segment while still preserving a value bent in the

Dow index," says the

(SDOWX)

Strong Dow 30 Value manager. "I think the changes make a very compelling case for the Dow to be much stronger going forward," he says. If that's so, then investors betting on the Dow could have reason to party beyond 1999 (the first year the DJIA has run hotter than the S&P 500 since 1996).

While a popularity shift from growth to value stocks gave the laggard Dow an edge over the S&P 500 this year, the S&P's lineup of fast-growing tech stocks awarded the younger index a clear advantage in the two prior years. Adding tech, telecommunications and retail businesses that are more representative of the "new economy" will help to fuel the Dow during periods where growth culls favor over value. At the same time, Carlson says, the price-weighted Dow will limit investors' exposure to highflying growth stocks, which can have greater downside risk.

The cap-weighted S&P 500 can't perform the same balancing act between growth and value. Price weighting, where each stock's allocation in the index is based on the price of a single share, provides a built-in self-adjusting mechanism in the form of stock splits, says Carlson. That will keep stocks with exploding market caps like Microsoft -- which currently trades at about 90, but has a market cap of $462 billion -- from becoming too significant in the Dow (the way such heavyweights become in the S&P 500).

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Message Boards.

So, while the Dow has far fewer stocks than the S&P 500, Carlson argues that as long as fast growers continue to split shares, portfolios pegged to the Dow will enjoy broader diversification. "It's the S&P 20 that drives the S&P," he says.

Vanguard's

(VFINX) - Get Report

500 Index fund manager, Gus Sauter, disagrees. While he acknowledges the top-heavy nature of his $89 billion fund, "You do have a higher weighting in Microsoft,

GE

(GE) - Get Report

and the largest-cap companies in the S&P 500." He says the allocation is more reflective of the market than the Dow's. "Investors in general have more exposure to these stocks, so your bogey should reflect that."

And Sauter says that even a new and improved DJIA will still fall short of the S&P's broad market diversification: "Historically, the S&P 500 has included all types of companies, whereas the Dow was an industrial index," says Sauter. "The Dow is becoming more reflective of the market, and it will be better next week than it is this week, but it's still narrower than the S&P 500." And Sauter argues that while stock splits do rebalance the DJIA index, they also force Dow fund managers to rid portfolios of extra shares -- a move that could encourage capital-gains distributions and edge up the cost of owning a Dow fund.

Of course, only time will tell which benchmark investors will benefit the most. For now, there seems little question in these managers' minds that, come Monday, the performance race between the two will be forever altered -- even if only slightly.

Note: The "New Dow" will be a topic of discussion on

"TheStreet.com" on

Fox News Channel

this weekend when Chuck Carlson joins

Jim Cramer

,

Herb Greenberg

and

Dave Kansas

at 10 a.m. and 6 p.m. ET on Saturday and 10 a.m. ET Sunday. If you miss it, look for a transcript and video clips on the TV page on Monday.