June 21: What is the Dow and Why do we Pay Attention to It

by David Jenyns on June 21, 2007

The Dow Jones Industrial Average is an index of 30 blue chip stock that are commonly traded in the United States. It was created on May 26, 1896, and at the time only had 12 stocks on it. The DOW opened at 40.94.

In 1882, Charles Henry Dow, Edward Davis Jones, and Charles Milford Bergstresser founded “Dow, Jones and Company”, located at 15 Wall Street, in New York. The four produced “Flimsises”, handwritten bulletins, that messengers delivered to subscribers in the Wall Street area. In 1883 they started to produce the “Customers’ Afternoon Letter.” This became the Wall Street journal on July 8, 1889. The Wall Street Journal is now the world’s leading business publication

The precursor to the Dow Jones Industrial Average, the “Dow Jones Averages”, appeared in the Afternoon Letter in 1884. The Dow Jones Averages contained 11 stocks, nine of which were railroads and two of which were industrial.

In 1896 The Dow Jones Industrial Average was officially launched. At that time, it consisted of industrial stocks only. The Dow began with only 12 stocks, and it was originally a simple average, with the values added up and dived by 12. Originally it was a simply calculation since it had to be able to be done quickly and without the aid of computational devices. The number of stocks rose to 20 in 1916. The 30 stock Index has been around since 1928 and looks if it will remain with us for quite some time. The divisor for he Dow Jones Industrial average is now 0.12493117. The stocks are no longer limited to industrial stocks, and now cover such sectors as retail and entertainment and consumer goods as well. There are no real rules for the choosing of which stock is on the Dow Jones industrial Average, but stocks are typically chosen because they have excellent reputations, and demonstrate sustained growth. The stocks are also usually of interest to a large number of investors and are usually thought to be good representations of an industry or market sector.

The Dow Jones Industrial average, unlike a lot of indexes is price weighted and not market capitalization weighted. This means that its components weighting is only affected by the price of the stock and not how many shares are outstanding.

The cornerstone of Dow Jones as a company is its flagship publication, “The Wall Street Journal”, which also happens to be the world’s leading business publication.

Why do we pay attention to the Dow Jones Industrial Average?

It is believed that we can get a good idea of the state of the entire market by watching this index.

It is the oldest continuing Market index in the US today, and the best known Market Index in the world. The Dow rarely changes, in fact it almost only changes when something happens to one of the stocks on it, like a merger. This gives the Dow Jones Industrial Averages a sense of continuity. When it is changed, the entire index is reviewed and several changes are often made at once.

Because the Dow is easy enough for many people to understand, and was the first Market index to be quoted by other publications, habit and tradition do play a part in making it the most often quoted index today. The stocks are diverse enough to indicate the market’s general trend, and it’s the index to cite if you are going to cite only one.

How to use the Dow Jones Industrial Average.

The Dow Jones Industrial Average does not predict where the stock market is going; so much as it tells you where it has been. If the Dow is at 1000 and the last month it was at 900, you know the market is going up. If it’s at 1000 and last month it was at 1200, you know it is going down. The numbers themselves are meaningless, it’s the difference between them that counts. In other words, the Dow Jones Industrial Average allows an investor or trader to see the markets movement over time. A very useful tool indeed!

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