On May 26, 1896, Charles H. Dow unveiled his first industrial stock average, which eventually led to the Dow Jones industrial average as we know it today.
Even with index theory against it, the simple price-weighted index is holding its own more than a century later.
The Dow is unrepresentative to say the least; it has only 30 stocks out of thousands and a market capitalization of $3.7 trillion compared with more than $15 trillion for the entire U.S. market. Even worse are the weightings: IBM represents more than 9% of the DJIA, even though its market cap is roughly equal to Bank of America, which represents less than 1% of the index.
However, the figures in the charts here show market-topping returns and risk numbers. The Dow finished in second place for Pensions & Investments' non-scientific look at U.S. equity indexes over the past 10 years. The Dow had a drawdown of 53.8%, compared with an average of 57.6% for the other indexes (excluding the winner, TOBAM). Compared against the other indexes, it had lower correlations with U.S. bonds and commodities to boot.
Can the returns and risks characteristics be explained by different factor biases? Of course. There is clearly a very-large-cap bias and value bias. The average market capitalization of the Dow is $123 billion, compared with, for example, $5.3 billion for the Russell 3000. The current price-to-earnings ratio on the Dow is 14, compared with 17.3 for the Russell 3000. The historically higher dividend yield on the Dow has also helped over the past decade.
So even with its antiquated weighting methodology, vastly unrepresentative number of stocks and factor biases, when someone asks how the market did on a particular day, I will continue to respond: “The Dow was up (or down) XX points.”
