What’s in an Index?

As much as I try to avoid the noise and focus on what matters to our clients and the investments we hold, I still find myself getting frustrated when I see the financial (and many other) news outlets reporting on the levels of the Dow Jones Industrial Average (aka The Dow or DJIA). Why is that? I am not totally sure! Whether you know it or not, the Dow is comprised of only 30 large US companies that are somewhat arbitrarily selected by a committee. Many (including me) argue that this index severely underrepresents the US stock market and is not the best indicator.

 

When the Dow was originally created in 1896, the companies that made up the index were all from the industrial sector (gas, cotton, railroads, etc.). The committee that picks the stocks in the index will add or drop companies based on perceived changes in the marketplace (or stock performance), and those companies are now much different than the original “industrials.” To further complicate things, the higher the share price of a company, the more weight it has in the index.

 

Below is a list of the companies included in the Dow as of June 2022.

 

Dow Jones Industrial Average Components
Company Symbol Year Added
3M MMM 1976
American Express AXP 1982
Amgen AMGN 2020
Apple Inc. AAPL 2015
Boeing BA 1987
Caterpillar CAT 1991
Chevron CVX 2008
Cisco Systems CSCO 2009
The Coca-Cola Company KO 1987
Dow Inc. DOW 2019
Goldman Sachs GS 2013
The Home Depot HD 1999
Honeywell HON 2020
IBM IBM 1979
Intel INTC 1999
Johnson & Johnson JNJ 1997
JPMorgan Chase JPM 1991
McDonald’s MCD 1985
Merck & Co. MRK 1979
Microsoft MSFT 1999
NIKE NKE 2013
Proctor & Gamble PG 1932
Salesforce CRM 2020
The Travelers Companies TRV 2009
UnitedHealth Group UNH 2012
Verizon VZ 2004
Visa V 2013
Walmart WMT 1997
Walgreens Boots Alliance WBA 2018
The Walt Disney Company DIS 1991

 

 

A more representative index to follow is the S&P 500, which is much broader and consists of over 500 different companies traded on different exchanges (but the components are also selected by a committee). While it’s not perfect, I believe it is a far better indicator of the US stock market than the Dow. And, each company is weighted based on its market value vs. the Dow’s price-weighting. The higher-market weighted stocks will have an outsized effect on the index performance, but that makes more sense to me that the price-weighted tilt of the Dow.

 

Here are the top 11 components of the S&P 500 by weight as of today. You can see from the names why they might have a larger effect on the price of the index vs. other companies.

 

S.No. Name Ticker Sector
1 Apple Inc. AAPL Information Technology
2 Microsoft Corporation MSFT Information Technology
3 Amazon.com Inc. AMZN Consumer Discretionary
4 Alphabet Inc. Class A GOOGL Communication Services
5 Alphabet Inc. Class C GOOG Communication Services
6 Tesla Inc TSLA Consumer Discretionary
7 Berkshire Hathaway Inc. Class B BRK.B Financials
8 UnitedHealth Group Incorporated UNH Health Care
9 Johnson & Johnson JNJ Health Care
10 Exxon Mobil Corporation XOM Energy
11 Meta Platforms Inc. Class A META Communication Services

 

 

In today’s market, there are hundreds of different indexes that range from the very broad (MSCI All Country World Index or ACWI) to the very narrow (like the MSCI China Small Cap Index). So, if you are looking to compare your investment performance vs. an index or another portfolio, make sure that the index or portfolio to which you are comparing comes close to your actual investment mix.

 

To attempt an answer to my own question at the beginning of this post, I suspect that it’s “because that’s how it’s always been.” It’s hard to argue that the Dow is still as relevant as it once was back in the early 1900s, but it is still front of mind for many investors who track stock market performance. Just make sure you are comparing apples to apples when looking at your particular rate of return vs. other investments out there.

 

For example, don’t compare the performance of your Apple and Meta stock to the performance of your retired uncle’s dividend-paying stock and bond portfolio! (although, he may be doing much better than you year-to-date 😊). That’s like comparing the fish that my son caught in the pond down the road to the striped marlin my friends and I caught last week!

 

We did release this guy and he swam away just fine!

 

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What’s in an Index?
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