Why The Dow Jones Industrial Average Is An Amazing Index

With the Dow crossing 13,000 for like the third time, the usual parade of haters is coming out.

The haters can be divided into two camps:

  • 13,000 is an arbitrary level that only gets noticed because dumb humans like easy round numbers.
  • The Dow is a a dumb index, because it’s just 30 big companies, and it’s price-weighted, not market-cap weighted.

The first objection to we’ll ignore for now.

As for the second, there’s something to this…

So, for example, Bank of America, whose stock trades at 8.13, impacts the index much less than IBM, whose stock trades at 193.81.

All that’s true, but here’s the thing: It doesn’t really matter.

Here’s a chart going back to 1980 of the Dow (red line) and the S&P 500 (blue line).

dow vs. S&P 500

Photo: FRED

Despite the very different makeup of the indices, and the different methodology, they basically get you to the same place. Now granted, there was a decent divergence in 2000, with the S&P far outpacing the Dow, but in the end, it didn’t matter.

So rather than slamming the Dow, how about marvel at the fact that with just 30 human selected stocks, using what seems like a blunt measurement technique, the index does an excellent job tracking the market.

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