<THE FOOLISH FOUR>
by Robert Sheard
LEXINGTON, KY. (June 30, 1998) -- The bulk of today's drop in the Dow Jones Industrial Average can be attributed to two stocks. If you follow things like market indices, you'll know that each of them is calculated somewhat differently. The Standard & Poor's 500 Index and the Nasdaq Composite are market-cap weighted, meaning the stocks of the largest companies affect the indices the most. With the Nasdaq, for example, Microsoft <% if gsSubBrand = "aolsnapshot" then Response.Write("(Nasdaq: MSFT)") else Response.Write("(Nasdaq: MSFT)") end if %> is approaching 10% of that index. We could very well call it Bill Gates and Friends.
The Dow Jones Industrial Average is quirky (some would say obsolete) in that it's a price-weighted index. That is, the stocks with the highest share prices are weighted the heaviest. (I know it's not rational, but it's the way it's always been and I doubt it'll change any time soon.)
So, on a day like today, with two high-priced components giving up healthy chunks of change, the entire index is dropped substantially. The first of the companies is Johnson & Johnson <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: JNJ)") else Response.Write("(NYSE: JNJ)") end if %>, which dropped on the news that its heartburn medicine can have adverse affects on patients' hearts. Losing $3 a share (or 4%), Johnson & Johnson is trading now around $74 a share.
Disney <% if gsSubBrand = "aolsnapshot" then Response.Write("(NYSE: DIS)") else Response.Write("(NYSE: DIS)") end if %> is the real loser today, however, dropping nearly 7% (or about $7.50 a share) to roughly $105 1/2 after three separate firms cut earnings estimates.
With a current Dow Index divisor of roughly 0.25 (the flexible factor the editors at Dow Jones & Co. use to adjust the index for special events like splits or revisions to the list of stocks), each dollar movement for an individual stock equates to roughly four index points for the Dow. With Disney and Johnson & Johnson losing more than ten bucks a share combined, that's 42 points on the index right there.
It's a somewhat skewed system in that the low-priced stock doesn't really have much of an effect on the overall index. It's also biased towards upward moves in that a high-priced stock moving higher boosts the index, but then when the stock splits, it loses its influence on the index and its gains are frozen. For example, let's say a Dow stock goes from $50 to $100. Each dollar gain moves the index roughly 4 points, so this stock has pushed the index up 200 points by itself.
Now let's suppose it splits 2-for-1 and trades at $50 again. The divisor is adjusted ever so slightly so that the 50% lower price doesn't change the index value. But then let's suppose the stock drops 50% in value, taking it right back to where it was in real terms at the beginning of this experiment. The drop of $25 in stock price only pulls a fraction over 100 Dow points back out of the index. So the stock's exactly where it was, but because of its high price and stock split, it's boosted the index by about 100 points. Who said it made any sense?
All that aside, Disney and Johnson & Johnson got whacked today; one stock lost nearly 7%, the other 4%. That's the only real news. Fool on!
Current Dow Order | 1998 Dow Returns
[Robert Sheard is the author of the The Unemotional Investor (Simon & Schuster, 1998) available now at Amazon.com and your local bookseller.]
06/30/98 Close
Stock Change Last -------------------- UK +1 15/16 53.38 IP + 1/8 43.00 MO + 3/16 39.38 EK +2 1/4 73.06 |
Day Month Year
FOOL-4 +2.10% 1.94% 8.59%
DJIA -0.50% 0.59% 13.20%
S&P 500 -0.41% 3.94% 16.84%
NASDAQ +0.19% 6.51% 20.66%
Rec'd # Security In At Now Change
12/31/97 291 Union Carb 42.94 53.38 24.31%
12/31/97 206 Eastman Ko 60.56 73.06 20.64%
12/31/97 289 Int'l Pape 43.13 43.00 -0.29%
12/31/97 276 Philip Mor 45.25 39.38 -12.98%
Rec'd # Security In At Value Change
12/31/97 291 Union Carb 12494.81 15532.13 $3037.31
12/31/97 206 Eastman Ko 12475.88 15050.88 $2575.00
12/31/97 289 Int'l Pape 12463.13 12427.00 -$36.13
12/31/97 276 Philip Mor 12489.00 10867.50 -$1621.50
CASH $415.96
TOTAL $54293.46
|