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Monday, February 22, 1999

FOOL ON THE HILL
An Investment Opinion
by Alex Schay

A Little Dow History

If you don't know where you're going, any road will take you there. It seems like the perennial questioning about the significance, or lack thereof, of the Dow Jones Industrial Average is back again. This issue seems to make the rounds through various financial media every year, but if you subscribe to the notion that you can't proceed with any forward-looking discussion about a topic unless you know where you've been, you' might enjoy the following research piece on Charles Dow. It was originally published back in 1996, and co-authored with former Fool Randy Befumo. The first part deals with the history of the Dow, which may be of interest to investors seeking ammunition in the "significance debate."

A Little Dow History

Charles Dow came from humble origins, yet managed to transform the world of investing more than any high-powered money manager or investment banker. He wasn't born in the center of cosmopolitan New York and he wasn't a financial child prodigy who scanned the stock tables for price/earnings ratios at a tender age. Dow was born in 1851 on a farm in Connecticut. He worked odd, menial-labor jobs from the age of six to help support his family after the death of his father. Although writing appealed to Dow, he did not finish secondary school. Despite this, at the age of 18 he got a job as a reporter for the Springfield Daily Republican. The Republican was a newspaper of national repute edited by newspaper giant Samuel Bowles, renowned for establishing the credentials of aspiring journalists.

Dow continued his reporting work at another prominent newspaper, The Providence Journal, in Rhode Island. He worked under the leadership of George W. Danielson, another outstanding editor of the day. Through a series of articles, Dow established himself as an insightful historian of the local scene with a keen interest in financial affairs. From tracing the corporate transactions of steamship companies to discussing investments in Newport real estate, Dow found that financial reporting not only matched his interests but also suited his temperament.

After a move to New York and a stint with the Kiernan News Agency in 1882, he started Dow Jones & Co. with two partners, Edward Jones and Charles Bergstresser. They first published a two-page daily called The Customer's Afternoon Letter in early 1883. By 1889, The Customer's Afternoon Letter evolved into The Wall Street Journal.

The Customer's Afternoon Letter was nothing short of revolutionary. In Dow's time, consolidated stock tables published every day did not exist. Information about a company's balance sheet was rarely published, with managements often attempting to hide and obscure the full value of their company for fear of takeover. The Letter not only reported consolidated stock tables, but also made public quarterly and annual information regarding company financials -- something only available to insiders before this. Dow's publication leveled the playing field between the Wall Street elite and the individual investor. It would not be until the Securities Act of 1934 that companies would be required to file 10-Ks and 10-Qs that all investors could look at. So for more than fifty years, the only place for the individual investor to get the straight poop on company financials was The Customer's Afternoon Letter and then The Wall Street Journal.

In addition to founding the first daily publication dedicated to the financial world, Dow Jones & Co. was the first to see the need for an index that could be used to gauge the activity of the New York Stock Exchange as a whole. The first Dow Jones Index, the precursor of the Dow Jones Industrial Average, included 11 stocks -- 9 railroads, Western Union, and Pacific Mail Steamship. At that time, railroad stocks represented a key growth industry and were among the the only shares that traded in large volume on the NYSE. That is why they were chosen. The initial average was simply the price of all eleven stocks added up and divided by the number of companies.

Although Charles Dow never wrote anything that claimed he invented the average and, in fact, never really wrote anything at all about his thoughts on investing, the record left by his contemporaries clearly shows that he was the idea man behind all of Dow Jones & Co.'s endeavors, while his partners managed the employees and kept the books. Dow continued to tweak the list of companies making up his average until his death in 1902. Charles Dow left behind the first market average, a barometer for the general pressure of the "market." The investment world would be a very different place without the kind of reporting and financial disclosure pioneered in The Wall Street Journal or the notion of an average used to measure where the broader market was at any given point.

Charles Dow had one goal in mind when he created the Dow Jones Industrial Average: to measure the market as a whole rather than simply focusing on individual stocks. He wanted to make this average and the others he developed the foundation of a comprehensive theory that could be used to explain and predict general market movements. Dow was originally credited with creating the first general market average in July of 1884, although he later modified this and began to publish separate Industrial and Railroad Averages on May 26, 1896. These averages are the foundation of Dow Theory.

What we know today as Dow Theory was actually posthumously attributed to Mr. Dow by S.A. Nelson in his 1902 book, The ABC of Stock Speculation. Dow never wrote a book on investments and confined his opinions to anonymous editorials in The Wall Street Journal. Nelson clearly identified Dow as the intellectual force behind The Wall Street Journal, and lamented that Dow never published a comprehensive text on "speculation." Nelson believed Dow's position at the center of Wall Street would have uniquely qualified him to write such a tome.

Further Reading:
-- Dow Investing Area
-- Dow 9000 -- Who Cares?

Discuss this column on the FOTH message board.

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