Adam Davidson has a great article in The New York Times on the flaws of the Dow Jones Industrial Average
More troubling is that [the Dow] ignores the overall size of companies and pays attention to only their share prices. This causes all sorts of oddities. ExxonMobil, for example, divides its value into nearly five billion lower-cost shares, while Caterpillar has around 650 million more expensive ones. Therefore ExxonMobil, one of the largest companies in history, pulls less weight on the Dow than a company less than a fifth its size.
The Dow, in other words, is weighted by nominal share price, not market value. And the oddities Davidson describes are not one-offs; have a look at the most recent Dow weightings:
Current Weighting in Dow Index
|Johnson & Johnson||3.84%|
|Procter & Gamble||3.74%|
|Bank of America||0.46%|
Some of these are astounding. Bank of America
How does this make sense? It really doesn't. The Dow may be the most popular, but other indexes such as the S&P 500 or the Wilshire 5000 give a much more accurate and reliable representation of the stock market -- and even they have their flaws.
Fool contributor Morgan Housel owns shares of Chevron, Microsoft, Intel, Wal-Mart, Exxon, B of A preferred, Johnson & Johnson, Procter & Gamble, Verizon, and AT&T. Follow him on Twitter @TMFHousel. The Motley Fool owns shares of Cisco Systems, Intel, Bank of America, Wal-Mart Stores, JPMorgan Chase, Microsoft, Johnson & Johnson, and Coca-Cola. Motley Fool newsletter services have recommended buying shares of The Home Depot, Pfizer, Cisco Systems, Intel, Visa, Wal-Mart Stores, Walt Disney, Microsoft, 3M, Procter & Gamble, Coca-Cola, Johnson & Johnson, Dominion Resources, McDonald's, and Chevron. Motley Fool newsletter services have recommended creating a diagonal call position in 3M.Motley Fool newsletter services have recommended creating a diagonal call position in Wal-Mart Stores. Motley Fool newsletter services have recommended creating a bull call spread position in Microsoft. Motley Fool newsletter services have recommended creating a diagonal call position in Johnson & Johnson. Motley Fool newsletter services have recommended creating a written covered strangle position in American Express. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.
More from The Motley Fool
Does a Strong Start Make 2018 a Sure Winner for Stocks?
Find out whether the so-called "January effect" is real.
Meet the 2018 Dogs of the Dow
Learn the basics of this simple dividend-investing strategy.
The Dow's Worst Day in 2017
Even with big gains, there were some scary times for the average.