For only the 57th time in the more than 124-year history of the iconic Dow Jones Industrial Average (DJINDICES: ^ DJI), changes are about to be made.
On Monday, August 24, S&P announced the Dow Jones Indices, which tracked the 30 companies that make up the Dow Jones, announced that three current Dow components will get the boat before the market opens on August 31, with three new companies taking their place. ,
Image Source: Getty Images.
These well-known companies are being kicked out of the Dow Jones
From the Dow:
The removal of Raytheon is not a huge surprise after United Technologies merged with Raytheon earlier this year. The same could be said for the dismissal of Pfizer after more than 16 years in the Dow. Rival Merck is equal, and two pharmaceutical companies have always seemed a bit repetitive in the Dow.
The real surprise here is that oil and gas giant ExxonMobil is showing the door. ExxonMobil has been a Dow component since 1928, back when it became known as the Standard Oil Co. of New Jersey. next to General Electric‘S roughly 110-year consecutive run in the Dow (which ended when General Electric was kicked out of the Dow in 2018), ExxonMobil’s 91-year streak is the second longest of the Dow. And it’s about to come to an unceremonious end.
The Dow Jones wins new exposure to cloud computing next week. Image Source: Getty Images.
There will be some new shares in the Dow on August 31st
ExxonMobil, Pfizer, and Raytheon substitutes in the Dow Jones Industrial Average are:
Salesforce, the cloud-based provider of customer relationship management solutions, will bring the Dow a whole new look while also enhancing the exposure of the technology sector. Meanwhile, Amgen biotechnology blue chip is likely to offer more growth potential than Pfizer.
Eventually, diversified technology company Honeywell returns to the Dow after being replaced by earlier Altria Group in September 2008. Prior to the removal of Honeywell in 2008, it had been a fixture in the Dow since December 1925, when it became known as the Allied Chemical and Dye Corporation.
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The real reason that Exxon, Pfizer, and Raytheon get the heel
On the surface, there appear to be a number of reasons why the S&P Dow Jones Indices have made these changes.
As noted, Pfizer and Merck were some redundant Big Pharma inputs that one would eventually get the boat. The addition of Amgen provides a mature company with a potentially more robust long-term growth period relative to a pharmaceutical stable like Pfizer.
An argument could also be made that the addition of Salesforce cloud computing would add to the Dow beyond the exposure offered by IBM.
But these are not the real reasons the S&P Dow Jones Indices are removing ExxonMobil, Pfizer and Raytheon. You see, the Dow Jones Industrial Average is a price-weighted index. This means that share price, not market cap, is important when calculating the point value of the indices. Thus, a $ 200 per share has twice the impact of a $ 100 share, and four times the impact of a $ 50 share, regardless of market capitalization.
ExxonMobil, Pfizer and Raytheon have different stock prices of $ 42.22, $ 38.84 and $ 61.88, respectively, from the closing clock on August 24th. With the current Dow split of about 0.147, every $ 1 in share price is “worth” about 6.78 Dow points. Adding the share prices of ExxonMobil, Pfizer and Raytheon shows that they were only combined for 969.21 Dow points.
In comparison, incoming Salesforce, Amgen and Honeywell have share prices of $ 208.46, $ 235.57 and $ 159.37, respectively. Of course, these incoming shares, along with the in-treatment 4-for-1 split of Call, will adjust the Dow divorce in the coming days. But the fact is that these changes are about stock price and relative ratio of a company on the Dow, and probably not much else.
Image Source: Getty Images.
The Dow Jones industrial average has a number of shortcomings
The Dow Jones is undoubtedly rich in history, but it is an almost useless index by today’s standards, given its many flaws.
As mentioned, it is a stock price-weighted index that does not take into account market capitalization. This means investment banking Goldman Sachs and the market capitalization of $ 71 billion (only $ 207.34 share price) has almost five times the impact of network giant Cisco systems, which has a share price of $ 42.18, but more than twice the market cap ($ 178 billion).
What’s more, the Dow is not doing a great job of representing the diverse sectors of the US economy. Unlike the broad-based S&P 500, you will not find utilities as a representation of real estate in the Dow Jones. There will soon be only one energy stock, Chevron, to merge with only one material company, Dow.
Finally, because the Dow’s shareholder is dependent on stock price, some of the largest companies in the world with very large stock prices could never get to the index. For instance, Amazon en Alphabet, the parent company behind Google search and YouTube, are the third and fourth largest companies in the US after market capitalization, respectively. But with stock prices approaching north of $ 3,300 and $ 1,600, Amazon and Alphabet have no chance of joining the Dow without fixing a share of the stock.
The Dow Jones Industrial Average is a great index to remember, but it should not be taken seriously by investors as an accurate barometer of the health of the stock market like the US economy.
