Today could be the day the Dow Jones Industrial Average hits its highest ever mark. And it won’t mean a thing.
The DJIA—commonly referred to as just the “Dow”—is one of the most important stock market indexes in America. With the S&P 500 and Nasdaq, it’s a useful proxy for the health of American business. When the Dow’s up, times are good; when it’s down, hold on to your hats.
Later today, it’s expected that the Dow will break 14,164.53, the all-time high reached on Oct 9, 2007. It closed at 14,127.82 yesterday, and a slew of “good” reports from Europe—where French, German and UK PMIs came in higher than expected, albeit still signalling contraction for the former—as well as futures contracts due to vest today indicate that nows the time it will break that barrier.
But even if it does, it’s a meaningless milestone. Due to the way the Dow is put together, the two marks aren’t comparable. So while you will read stories about how “the American market has recovered”, they may or may not be true—and this says nothing either way.
Just thirty stocks, hand picked by committee by Dow Jones, with no rigorous requirements. Worse, it’s a “price-weighted” index, which is mathematically nonsensical. When calculating the Dow Jones Industrial Average, they take the actual stock prices of each stock, add them together, and divide them by a “Dow Divisor“. They don’t take into account how many shares outstanding; they don’t assess the market capitalization of each company. When a stock splits, they actually change the divisor for the whole index. It’s completely unclear what this index is designed to measure, other than financial illiteracy.
In fact, there is only one justification for the Dow Jones Industrial Average being calculated this way. Dow Jones explains it in this post on why Apple & Google are not included in the index. To save you some time, I’ll summarize: they have always done it this way, and if they change it, then they won’t be able to compare today’s nonsensical index to the nonsensical index from the last 100+ years.
The end result is that, as Nash points out, the Dow is only “off its highs” of 2007 because of it made one arbitrary decision rather than another. If Apple had been introduced to the index in 2009 rather than Cisco, the Dow would have broken its high well over a year ago. It would have been nonsensical to report that then; and it’s still nonsensical to care now.