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Chapter 8 — THE DOW JONES INDUSTRIAL AVERAGE
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THE DOW JONES INDUSTRIAL AVERAGE

THE DOW JONES INDUSTRIAL AVERAGE

The Dow Jones Industrial Average (DJIA), usually referred to simply as the Dow Jones Industrial Average, is the most well known, oldest, and most closely watched stock market index in the United States. It is an index that based on data from 30 large, publicly-owned companies trading on the New York Stock Exchange (NYSE) and the NASDAQ. The Dow Jones Industrial Average is named after Charles Dow, who created it in 1896, and his business partner, Edward Jones.

Coca Cola is among the companies listed in the Dow Jones Industrial Average

CALCULATING THE DOW JONES AVERAGE

The Dow Jones Industrial Average is a price-weighted index, thus stocks with higher share prices are getting a greater influence at the index. Instead of dividing by the number of stocks in the average, as it is realized in an arithmetic average, the sum of the component stock prices is divided by a special divisor. The purpose of this Dow Jones Industrial Average divisor is to minimize the effects of stock splits, dividends paid or corporate spinoffs; this allows for a consistent index, keeping the Dow from getting distorted by one-time events. The result is that the DJIA is affected only by changes in the stock prices, and stocks with a higher share price have a larger impact on the Dow's movements.

WHAT THE DOW JONES INDUSTRIAL AVERAGE MEASURES

The Dow Jones Industrial Average simply shows the weighted average of the stock prices and can be considered as a price in itself. If the quote moves down by 10 points at the time of closing, it means you can get the stocks for $10.00 less (taking into account the divisor) and they are less valuable than the previous day. Overall, a rise in the Dow signifies a rise in the share prices of constituent companies that reflect a positive outlook and vice versa.

Over time, the Dow Jones Industrial Average can be a good indicator of the economy. The drops usually coincided with times of financial instability in the United States.

But remember, a rise in the index may be because of a substantial rise in share prices of a single company that is able to outweigh the fall in share prices of a few of the other stocks. So, even if you are holding shares of a constituent company, a rise in the Dow may not necessarily be indicative of the share price of the company you're invested in moving up. The Dow indicates the average trend of all 30 stocks together; the direction depends on which side is stronger—rise in share prices or fall in share prices.

The stocks in the DJIA include easily recognized names such as JP Morgan, AT&T, Coca-Cola, and Microsoft.

Quiz

Select the true statement

Correct
Incorrect
0/76 (0%) Correct
  • 1
    The Dow went up today, so the market is better off than it was yesterday.
  • 2
    Shares of AT&T fell today, this will affect the performance of the Dow.
  • 3
    Apple is part of the Dow because it is a blue chip stock.
  • 4
    Stocks that are not part of the Dow are not influential.
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Alex's thoughts: 
What you see above is part of what's called a ticker, every company has one, it consists of up to 4 letters and is often connected with the performance of the stock of the day. The name ticker comes from the old ticker tape. Ticker tape was the earliest digital electronic communications medium, transmitting stock price information over telegraph lines, in use between around 1870 through 1970.

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