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Get ready for a new record high on the Dow--index adds Goldman, Visa,and Nike, drops Bank of America, Alcoa, and HP
09/10/2013 7:44 pm EST
Starting on September 23, the index of 30 stocks, created in 1907, will drop Hewlett-Packard (HPQ), Bank of America (BAC), and Alcoa. (AA), and add Goldman Sachs (GS), Visa (V), and Nike (NKE.)
A statement from Standard & Poor’s puts the changes down to the low share prices and the three stocks being removed and an effort “to diversify the sector and industry group representation of the Index.”
Diversifying sector and industry group representation makes sense as a goal even if how replacing Bank of America with Goldman Sachs and Visa—subtracting one financial and adding two--does that might be a little opaque.
But what’s with “low share prices’ as a reason?
That’s even on the table because the Dow is a price-weighted index. Moves in individual stocks aren’t weighted by market capitalization as they are in many indexes, but by the price of a single share of a company’s stock. The weighting is designed so that a $1 move in Bank of America, for example, has the same effect on the index as a $1 move in the price of IBM (IBM) even though a $1 move represents a 6.8% jump in the price of a Bank of America share at $14.61 and only a 0.5% increase in the price of an IBM share at $186.60.
Because of that price weighting the changes in the Dow increase the clout of financial stocks even more than the names involved would suggest. The average price of the three stocks being dropped from the index is just $14.97. The average price of the three stocks being added is $134.48. Goldman sold at $165.15 today and Visa at $184.59.
Business Insider (businessinsider.com) worked out the effect of substituting Goldman Sachs for Bank of America when the two stocks traded at $159.49 and $14.48, respectively. A 1% move in Bank of America (14 cents) would add 1.1 points to the Dow Industrials. A 1% move in Goldman Sachs ($1.59) would add 12.2 points to the Dow.
If financials show even a decent rally in the remainder of 2013, I think we can expect a new record high for the Dow. That will generate lots of excitement among the jabbering classes. What it means, though, will be a whole lot less than it seems.
Remind me again why anyone pays any attention to this index?
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