The new owners of the Dow Jones Industrial Average (INDEX: ^DJI) -- the index was recently taken over by a joint venture between McGraw-Hill and CME Group -- have a big task ahead of them.
Later this year, Kraft Foods (NYSE: KFT) will spin off into two separate companies. One, to be named Mondelez International, will house its global snack business, including brands like Cadbury chocolate and Oreo cookies. The other will retain its grocery business, with brands such as Kraft macaroni and cheese, Philadelphia cream cheese, and Maxwell House coffee.
Because the split will produce markedly smaller companies, however, analysts are speculating whether or not it will retain its membership in the Dow. According to a recent Bloomberg BusinessWeek article: "Kraft, with a $69.8 billion market value that ranks 20th in the 30-stock gauge, may be dropped because the spinoff of its U.S. grocery business will shrink the world's second-largest food company."
Needless to say, if Kraft is removed from the Dow, the big question is: Who will take its place?
Could Apple join the Dow?
At first glance, a highly qualified replacement for Kraft seems to be Apple (Nasdaq: AAPL).
The venerable iPhone and iPad maker is one of the most iconic and successful businesses in America. It's the largest company by market capitalization, out-distancing ExxonMobil by nearly $170 billion. It had so much cash earlier this year that it was actually considered a problem. And its white earbuds are ubiquitous throughout cities around the world.
Despite this, its chances of joining the Dow are slim to none.
The problem?
Its shares are too expensive.
As my colleague David Williamson recently noted, unlike the S&P 500, which is weighted according to market capitalization, the Dow is a price-weighted index. The higher the stock price, the higher the weighting, and vice versa.
Presently, IBM carries the most weight. With a stock price of nearly $183 per share, it accounts for over 11% of the index. And at the other end of the spectrum is Bank of America, which currently trades for $7.50 a share and accounts for only 0.46% of the index.
By one estimate, Apple's almost $600 share price would give the company a 26% weighting on the Dow, effectively defeating the purpose of an index.
A good but unlikely idea
There's no question that the Dow must reinvent itself to stay relevant. Excluding companies like Apple and Google, while at the same time including companies like Hewlett-Packard, Bank of America, and Alcoa, simply doesn't make sense.
Yet, at the same time, given their share prices, adding Apple and Google to the index under its current derivation would effectively transform it into a large-cap technology index.
As a result, my guess is that we're due for a revision of not only the underlying components, but also how they're weighted. Let me know what you think below.
For a list of three dividend stocks every income investor needs, check out our recently released free report: "The 3 Dow Stocks Dividend Investors Need."
