By Wim Grommen

It is becoming more and more meaningless to compare the performance of the
Dow 30 from one period to another with the continuing replacement of
constituent companies that have under-performing and lower priced stocks
(losers out) with companies that have higher priced stocks with greater future
prospects for price appreciation (winners in).

On September 23, the Dow gets the biggest face lift since 2004 in one fell
swoop with the removal of 3 company constituents:

Hewlett- Packard Co. (+21.5% ytd)

Bank of America Inc. (+52.0% ytd)

Alcoa Inc. (-1.8% ytd)

And the addition of:

Goldman Sachs Group Inc. (+25 ytd)

Nike Inc. (+27% ytd)

Visa Inc. (+18% ytd)

These three additions are expected to have greater future price performance
appreciation. (Read: WSJ The New Dow Stocks in Three Charts).

What is even more striking is that the three companies removed from the
index have a low share price (HP is trading at an approximate price of $22,
BoA at $14 and Alcoa at $8 for a sum total of $44) while the three
stocks added have a high market price (Goldman Sachs at $164, Nike at $67
and Visa at $184 for a sum total of $415). Of course there is the Dow Divisor
which supposedly ensures that the value of the Dow Jones with the new shares is
the same as the value of the Dow Jones with the old shares but this effect
is only short-term as, in the long-term, the profits of the higher priced
stocks will be greater/stronger than those of the weaker stocks that they
replaced.

The Dow 30 is calculated by dividing the sum of the 30
constituents’ shares by the Dow Divisor. On September 10, the Dow Jones
ended at 15,191 points. The Dow Divisor currently has a value of 0.130216081.
This means that the current total of 30 shares is worth $1,978 (15,191 x
0.130216081=$1,978).

HP is trading at an approximate price of $22,
BoA at $14 and Alcoa at $8 (sum total of $44). These shares will be
replaced by Goldman Sachs at $164, Nike at $67 and Visa at $184 (sum

total of $415) which is 9.4 times more. This means that the new sum of
the 30 stocks have a value of $2,349 (1978 – 44 + 415) and, therefore we expect
that the Dow Divisor will be adjusted from 0.130216081 to 0.154631 to get
back to the original 15,191 index points (15,191 x 0.154631 = $2,349).

Given the above, had the three old shares increased by 10% each in
price in the past the Dow 30 would have increased by 33.8 points in total
(10% x 44 divided by 0.130216081 = 33.79 points) assuming there was no change
in the price of the other 27 stocks.

As of September 23rd, however, a corresponding 10% increase in the
price of each of the new shares would contribute 268.4 points to the rise
of the Dow 30 (10% x 415 divided by 0.154631 = 268.38) or 7.94 times more
points.

The influence of the 3 losers was: $44 of $1978. This is 2.2% of the
Dow Jones Index.
The influence of the 3 winners becomes: $415 of $2,349. This is 17.67% of
the Dow Jones Index.
This stinks pretty much of manipulation, even
double manipulation!

**Overview from 2000 : winners in – losers out:**

**September 23, 2013:**Hewlett – Packard Co., Bank of America Inc. and Alcoa Inc. will replaced by Goldman Sachs Group Inc., Nike Inc. and Visa Inc. Alcoa has dropped from $40 in 2007 to $8.08.

Hewlett- Packard Co. has dropped from $50 in 2010 to $22.36.

Bank of America has dropped from $50 in 2007 to $14.48.
But Goldman
Sachs Group Inc., Nike Inc. and Visa Inc. have risen 25%, 27% and 18%
respectively in 2013.

**September 20, 2012:**UnitedHealth Group Inc. (UNH) replaces Kraft Foods Inc. Kraft Foods Inc. was split into two companies and was therefore deemed less representative so no longer suitable for the Dow. The share value of UnitedHealth Group Inc. had risen for two years before inclusion in the Dow by 53%.

**June 8, 2009:**Cisco and Travelers replaced Citigroup and General Motors. Citigroup and General Motors have received billions of dollars of U.S. government money to survive and were not representative of the Do.

**September 22, 2008:**Kraft Foods Inc. replaced American International Group. American International Group was replaced after the decision of the government to take a 79.9% stake in the insurance giant. AIG was narrowly saved from destruction by an emergency loan from the Fed.

**February 19, 2008:**Bank of America Corp. and Chevron Corp. replaced Altria Group Inc. and Honeywell International. Altria was split into two companies and was deemed no longer suitable for the Dow. Honeywell was removed from the Dow because the role of industrial companies in the U.S. stock market in the recent years had declined and Honeywell had the smallest sales and profits among the participants in the Dow.

**April 8, 2004:**Verizon Communications Inc., American International Group Inc. and Pfizer Inc. replace AT & T Corp., Eastman Kodak Co. and International Paper. AIG shares had increased over 387% in the previous decade and Pfizer had an increase of more than 675& behind it. Shares of AT & T and Kodak, on the other hand, had decreases of more than 40% in the past decade and were therefore removed from the Dow.

In many
graphs the y-axis is a fixed unit, such as kg, meter, liter or euro. In the
graphs showing the stock exchange values, this also seems to be the case
because the unit shows a number of points. However, this is far from true! An
index point is not a fixed unit in time and does not have any historical
significance. An index is calculated on the basis of a set of shares. Every
index has its own formula and the formula gives the number of points of the
index. Unfortunately many people attach a lot of value to these graphs which
are, however, very deceptive.

An index is calculated on the basis of a set of shares. Every index has its
own formula and the formula results in the number of points of the index.
However, this set of shares changes regularly. For a new period the value is
based on a different set of shares. It is very strange that these different
sets of shares are represented as the same unit. In less than ten years twelve
of the thirty companies (i.e. 40%) in the Dow Jones were replaced. Over a
period of sixteen years, twenty companies were replaced, a figure of 67%. This
meant that over a very short period we were left comparing a basket of today’s
apples with a basket of yesterday’s pears.

Even more disturbing is the fact that with every change in the set of
shares used to calculate the number of points, the formula also changes. This
is done because the index, which is the result of two different sets of shares
at the moment the set is changed, must be the same for both sets at that point
in time. The index graphs must be continuous lines. For example, the Dow Jones
is calculated by adding the shares and dividing the result by a number. Because
of changes in the set of shares and the splitting of shares the divider changes
continuously. At the moment the divider is 0.130216081 but in 1985 this number
was higher than 1. An index point in two periods of time is therefore
calculated in different ways:

Dow1985 = (x1 + x2 +..+x30) / 1

Dow2013 = (x1 + x2 +.. + x30) / 0.130216081

In the 1990s many shares were split. To make sure
the result of the calculation remained the same both the number of shares and
the divider changed. An increase in share value of 1 dollar of the set of
shares in 2013 results is 7.7 times more points than in 1985. The fact that in
the 1990s many shares were split is probably the cause of the exponential
growth of the Dow Jones index. At the moment the Dow is at 15,191 points. If we used the
1985 formula it would be at 1,978 points.

The most remarkable characteristic is of course the constantly changing set
of shares. Generally speaking, the companies that are removed from the set are
in a stabilization or degeneration phase. Companies in a take off phase or
acceleration phase are added to the set. This greatly increases the chance that
the index will rise rather than go down. This is obvious, especially when this
is done during the acceleration phase of a transition. From 1980 onward 7 ICT
companies (3M, AT&T, Cisco, HP, IBM, Intel, Microsoft), the engines of the
latest revolution and 5 financial institutions, which always play an important
role in every transition, were added to the Dow Jones.

**Real truth and fictional truth**

Is the number of points that the Dow Jones now gives us a truth or a
fictional truth?
If a fictional truth then the number of points now says absolutely nothing
about the state that the economy or society is in when compared to the past.

In that case a better guide would be to look at the number of people in
society that use food stamps today – That is the real truth!

The first part of this article refers to the article Manipulation of the Dow Jones: This is how it works! (dutch) written by Ronald Hendrickx of beurs.com.

**About the Author**:*Mr. Grommen was a teacher in mathematics and physics for eight years at secondary schools. The last twenty years he trained programmers in Oracle-software. The last 16 years he studied transitions, social transformation processes, the S-curve and transitions in relation to market indices. Articles about these topics have been published in various magazines / sites in The Netherlands and Belgium. (*

**EconMatters author archive here**)*The views and opinions expressed herein are the author's own, and do not necessarily reflect those of*

*EconMatters*.

© EconMatters All Rights Reserved | Facebook | Twitter | Email Subscribe | Kindle