Ever wonder how the Dow Jones Industrial Average is calculated? It's essentially the average price of its 30 component stocks. This may seem strange, though, with the Dow recently around 10,000 and none of the 30 stocks trading anywhere near $10,000 per share.
On average, though, the shares really would trade in the neighborhood of $10,000 -- if they had never been split, issued dividends, or undergone major changes such as spinoffs or mergers during the time they were listed in the index.
For example, consider a share of Microsoft (NASDAQ:MSFT). If you had bought one share of the company when it went public in 1986, it would have been worth less than $100 at the time. But as of this writing, the stock has split nine times, and that single share has become 288 shares. Total it up, and that single initial share has grown to be worth more than $7,000.
Today, though, most stocks don't trade at such lofty levels -- thanks to events such as stock splits. To get from current stock price levels to the larger index number, a figure called the "divisor" is used. Here's how it works. If General Electric (NYSE:GE) falls by 4 points, you just divide that 4 by the divisor, which is adjusted frequently -- it was 0.13500289 recently. This calculation shows that the GE drop will decrease the DJIA by 29.63 points (4 divided by 0.13500289 equals 29.63). The overall average is calculated by adding up the current stock prices of the 30 stocks, and then dividing by the divisor.
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