America’s most famous stockmarket index is also its most peculiar

Since the height of the railroad age, the Dow Jones Industarial Average has tracked the fortunes of a select group of America’s corporate leviathans. Many in the market think the Dow is no more modern than a steam locomotive. But the index still holds some resonance. Witness the ballyhoo on January 9^th when it closed above 11,000 for the first time since June 2002, although it was still 6% below its all-time high.

Lots of people watch the Dow. Some also bet money on it. The Diamonds Trust, an exchange-traded fund, lets investors buy the index, more or less. The trust provided a meager pre-tax return of 1.53% in 2005. Most fundmanagers, though, judge themselves against the S&P 500 index.

The Dow is an anachronism. Despite its name, it’s no longer wholly industrial (J.P.Morgan Chase has never made a widget) but it does still resemble an average. Charles Dow, its inventor, first published his index in 1896 by simply adding up the price of 12 stocks and dividing by 12. The calculation now is a little more sophisticated – it takes some account of stock splits, big dividend payouts, and the reshuffling of its pack, now of 30 companies – but it still bears the influence of Charles Dow’s finger-exercise. The companies with the highest share price, not the biggest market capitalization, still carry the most weight. As a result, Alcoa counts for more than Microsoft, a company ten times as large.

Much has been made of this flaw, but it makes surprisingly little difference in practice. In 2000 John Shoven and Clemens Sialm of Stanford University redid the Dow, weighing each company by its market heft. The real Dow became a 30-strong index in October 1928 at 239.43 points and ended 1999 at 11,497. From the same starting position, Mr.Shoven’s and Mr. Sialm’s version reached 12,212. The Dow outperformed its cruder cousin in 429 out of 855 months and underperformed in 426.

However the Dow stacks its blue chips, there are simply too few of them on the board. Thirty companies is too small a number to diversify away the idiosyncratic risks associated with each one.

The Dow is notoriously slow to shuffle its pack. This conservatism has little economic rationale. Industrial change does not respect past pedigree, otherwise National Lead and Distilling & Cattle Feeding, two of the original 12 stocks, would still be proud members.

And yet the alternatives have their imperfections too. The S&P 500’s members are shuffled more often, and according to so many criteria, that some money movers complain they are batting against something resembling an actively traded fund, not a passive index. In particular, in its quest to remain representative of the American stockmarket, the S&P 500 will admit companies riding high on a wave of irrational exuberance, which pushes newly promoted stocks still higher. Philip Cusick, of Bear Stearns, has found that companies invited into the index enjoy an abnormal jump in the price of their stock, which averages 4.34% between the day their inclusion is announced and the end of the next trading day.

So is the Dow relic? It rides on a narrower gauge than its newer rivals. Bit it is not yet bound for the scrapyard.

The Economist, 2006

Notes

1. leviathan –здесь: крупнейшая компания, гигант
2. exchange-traded fund = index fund –индексный фонд:взаимный инвестиционный фонд, портфель которого привязан к определенному фондовому индексу
3. However the Dow stacks its blue chips – Независимо от состава индекса
4. J.P.Morgan Chase –одна из крупнейших финансовых корпораций США, входит в индекс Dow Jones Industarial Average
5. widget – изделие: при обсуждении производства, когда название того или иного продукта не имеет значения, для удобства используют этот термин
6. stock split – фондовый “сплит”: увеличение или уменьшение компанией числа акций к продаже без изменения собственно акционерного капитала; компания увеличивает число акций (например, 2 за 1, 3 за 1 или 3 за 2), когда цена акций резко возрастает; компания может уменьшить число акций (reverse stock split), когда цена акций опускается ниже определенного минимального уровня
7. finger exercise – простой подсчет
8. market heft = market weight – рыночное влияние, рыночная роль
9. blue chip – акция первоклассной промышленной компании (“голубая фишка”)
10. to shuffle the pack – зд: пересматривать, менять состав компаний, входящих в индекс
11. (companies) riding high on a wave of irrational exuberance– (компании) акции которых быстро растут в цене из-за необоснованно высокого спроса на них

Vocabulary

сorporate leviathans –крупнейшие корпорации

pre-tax return – доход по финансовому активу до вычета налогов

a widget – изделие

market capitalization – рыночная капитализация компании: суммарная рыночная стоимость выпущенных акций компании (число выпущенных простых акций, умноженное на их рыночную цену)

to outperform (underperform) – превзойти (отстать) по показателям

criterion ( множ. ч. criteria) – критерий

Exercises

1. Pronounce the following:

height, leviathan, ballyhoo, meager, anachronism, reshuffling, redid, idiosyncratic, rationale, irrational exuberance, gauge.

1. Explain or paraphrase the following:

Is the Dow relic?; it rides on a narrower gauge than its newer rivals; it’s not bound for the scrapyard; the index still holds some resonance; some people bet money on the Dow; J.P.Morgan Chase has never made a widget; much has been made of this flaw; the Dow is notoriously slow to shuffle its pack; industrial change does not respect past pedigree.

1. Find in the text the synonyms to the following:

corporate giant; it was below its record; a very small return; to remix; stock price multiplied by shares outstanding; an index that includes 30 stocks; to underdo; to invite companies into an index.

4. Pay attention to the meaning of the verb “enjoy” in the sentence: “Companies…enjoy an abnormal jump in the price of their stock.” Practice translation of phrases with “enjoy” by doing ex.10 on page 62 in the Krasnov file.