Call (NASDAQ: AAPL) announced a 4-for-1 stock split when it reported third-quarter fiscal results last month, the first such corporate action since the last split (7-for-1) occurred back in June 2014. While stock splits are common meaningless in terms of foundations because of the way mathematics works, the move will actually have a significant impact on the Dow Jones industrial average (DJINDICES: ^ DJI).
Here’s why.
Image Source: Apple.
No longer no. 1
For starters, keep in mind that the Dow is unique among all major benchmarks: The index is price-weight instead of market-cap weight. Individual share prices are fairly random, especially relative to the overall rating of a company, again thanks to math. De S&P 500 en Nasdaq Composite are both market capitalization, so companies with larger market caps have a greater impact on the daily fluctuations of the index.
Japan’s Nikkei 225 is another example of a price-weighted index. Incidentally, there was a decade where it was called the Nikkei Dow Jones Stock Average.
Trading at around $ 460 per share ahead of the split that will take effect at the end of the month, Apple is the most expensive Dow component in terms of bare share price, with health insurer UnitedHealth Group the place no. 2 takes on about $ 320. Apple’s share price will be divided by 4, placing it above $ 115 based on current levels, and moving its price-weighted ranking to No. 17 of the 30 blue chip shares, behind insurance company Travelers at about $ 119 but ahead of fitness giant Nike at about $ 106.
In terms of total weight, Apple represents about 11% of the total index. The Mac maker joined the Dow in March 2015, replacing telecommunications conglomerate AT&T. The stock has been up 250% since then.
AAPL data by YCharts.
Index funds will have to sell some stocks
It is worth noting that there are practical implications for reweighting. The Dow is one of the most followed major benchmarks for the U.S. stock market, meaning there are countless index funds, including mutual funds and ETFs, that are just buying some stocks in the underlying index. That kind of passive management helps maintain expenses and fees because it does not cost a lot of money to sit and wait for changes in index components, which do not occur often.
Once Apple’s weight in the Dow has dropped dramatically, those index funds will have to rebalance their portfolios, which could create some selling pressure. However, retail investors love share splits for superficial reasons such as perceived affordability, which could theoretically extend the theoretical basis. The enthusiasm of the stock market is well documented and could offset any selling activity from index funds.
At the end of the day, Dow’s price-weighting methodology is still a bit of an anachronism. The index is likely to attract undue attention from investors, which is underlined by the fact that its movements are about to change due to a random event such as a stock split.
