The Dow Jones Industrial Average has been very good at making sure that the changes they make to the venerable stock market measure are smooth for investors, but no one is perfect.
How the 128-year-old DJIA was created is a closely guarded secret by S&P Dow Jones Indices. But some things, like the impact of each stock, become known once changes are made.
There was also the issue of the “Dao Jinx”, which made new members tend to perform less than the members they replaced.
The Dow Jones Index differs from other market trackers because the price is determined by changes in the dollar value of the component stocks. So stocks with higher prices — not companies with larger market caps like those in the S&P 500 SPX and Nasdaq Composite Index COMP — have a greater impact on the index price.
Instead of weighting based on market capitalization, there is a “denominator” or number by which the Dow Jones stock price change is divided to determine how much the stock's movement affects the Dow Jones Index.
As of Friday, this divisor was 0.15172752595384. This means that every $1 change in any Dow Jones stock moved the Dow Jones price by 6.59 points.
On Monday, WMT for Walmart Inc.
Splitting the stock will reduce its price by two-thirds. By Friday's close, Amazon.com Inc.'s stock price was… AMZN,
It was nearly eight times the outgoing WBA price for Walgreens Boots Alliance Inc.
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With these changes, the divisor rises slightly to 0.15265312230608, which means that price changes for all other Dow Jones stocks will have a slightly smaller impact on the Dow Jones price. For every $1 change, the Dow will now move 6.55 points.
At Monday's open, Amazon will be the third-largest company in the Dow Jones Index by market cap, but it will rank 17th out of 30 by price. A 1% change in Amazon shares would move the Dow Jones by 11.5 points. But a 1% move in the highest-priced stock in the Dow, UnitedHealth Group Inc.'s UNH.
Which has about a quarter of Amazon's market capitalization, that would move the Dow Jones Index by about 35.5 points.
Dow Jones governors said the idea behind Monday's change was to increase exposure to consumer retail, as well as other areas of business. In effect, the gatekeepers exchanged a stock with a negative market correlation for a stock with a relatively high correlation.
Over the past two years, the correlation coefficient between Walgreens stock and the Dow Jones Index has been negative 0.45, and between the stock and the S&P 500 has been negative 0.51.
Meanwhile, Amazon's stock correlation with the Dow Jones was 0.60 and with the S&P 500 was 0.82.
S&P Dow Jones Indices also made a change to the Dow Jones Transportation Average DJT,
By adding shares of Uber Technologies Inc. UBER,
While delisting shares of JetBlue Airways Corp. JBLU,
Given that Uber's closing stock price on Friday was about 12 times JetBlue's closing stock price, the Dow Jones Transportation Index divisor rose to about 0.1673077 from 0.1627986.
Keep in mind that Dow Jones watchers are not trying to pick winners. Their job is to match the market. And they've been pretty great at it in the long run. The correlation of the Dow Jones to the S&P 500 was 0.93 over the past two years and was 0.99 over the past 10 years.
But for some unknown reason, one feature of the Dow Jones changes was that the performance of stocks entering was often affected in the short term by those leaving.
It may seem inconceivable to some that Walgreens stock would outperform Amazon, which is one of the so-called Magnificent Seven group of technology stocks, but many certainly thought the same thing when Apple's AAPL,
The stock was replaced by AT&T Inc.'s T,
In the year before Apple entered the Dow Jones Index on March 19, 2015, the tech giant's stock rose 71%, while telecommunications company AT&T rose just 3.4%.
A year after the stock swap, Apple shares fell about 18% and AT&T shares rose 16%.
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Meanwhile, over the past year, Amazon shares have risen about 83%, while Walgreens shares have fallen 40%.
Read also: Rest in peace 'Big Seven', says analyst who coined big tech moniker. this is the reason.
Here's how the stocks that entered the Dow and the stocks that replaced them performed in the year after the last changes were made, on August 31, 2020:
-
Customer Relationship Management (CRM) for Salesforce Inc. Stock.
-0.29%
It fell 2.2% in the year after it entered the Dow Jones index, while the stock it replaced, Exxon Mobil's XOM,
-0.88% ,
It rose 34%. -
Amgen Inc. shares. AMGN,
+1.40%
fell 11% a year after entry, while shares of Pfizer Inc. In PFE,
+0.76%
It rose 28% annually after quitting. -
However, the jinx was not always there, as Honeywell International Inc. In HON,
-0.09%
rose 38% over the year after entering the Dow, while RTX Corp.
+0.54%
It rose 36% in the year after exit.
