CHANGING OF THE GUARD
MARCH 17, 1997
Some household names such as Texaco and Bethlehem Steel have been dropped from the Dow Jones Industrial Average and replaced with companies like Hewlett Packard and Wal-Mart. How will these new players affect the performance of the stock market? Paul Solman investigates.
PAUL SOLMAN: It's the oldest and mostly wide held yardstick for measuring the U.S. stock market, the Dow Jones Industrial Average, the average combined stock price of a group of major U.S. companies. The index was born 101 years ago, the brainchild of Charles Dow and partner Edward Jones, the founders of the company that still publishes "The Wall Street Journal."
A RealAudio version of this segment is available.
February 14, 1997:
After the Dows Jones Average finishes above 7000, Paul Solman looks at whether the market can go too high for its own good.
October 14, 1996:
A report on the Dow Jones Industrial Average finishing above 6000 points for the first time ever.
July 16, 1996:
Elizabeth Farnsworth is joined by Susan Kuhn of Fortune Magazine to discuss what Wall Street's roller coaster ride means for the economy.
The American Stock Exchange
The New York Stock Exchange.
Back then the Dow consisted of 12 industrial companies, including American Tobacco, Chicago Gas, and U.S. Leather. Today it's made up of 30 companies from different sectors of the economy, including AT&T, Boeing, and J.P. Morgan. Only one of the original Dow companies, General Electric, is still part of the index. This morning, however, the Dow looked different than when the market closed on Friday. Gone were Texaco, Bethlehem Steel, Westinghouse, and Woolworth, In their place: Hewlett-Packard, Johnson & Johnson, Travelers, and Wal-mart.
It's the first change to the index since May 1991 and the most expensive change since 1959. But why the change? Joining us to discuss that is Michael Goldstein, finance professor at the University of Colorado, now visiting professor at the Boston College School of Management, and Prof. Goldstein, thanks for being with us. So the obvious question, why the change?
MICHAEL GOLDSTEIN, University of Colorado: Mostly I think the change is reflecting the change in the economy. The change is probably behind the change in the economy. In other words, our economy has changed away from being a heavy industrial economy to being more of a services and pharmaceutical and high-tech economy. It probably has happened quite a while ago and Dow Jones--the editors of the "Wall Street Journal" are slowly catching up to the fact that our economy has changed.
PAUL SOLMAN: You could give them a little more credit than that.
MICHAEL GOLDSTEIN: That's true.
PAUL SOLMAN: They have been doing--they have been making changes over time.
MICHAEL GOLDSTEIN: They have been making changes over time, but still, if you look at the--I think what they probably did was they looked at the index, the 30 stocks that were in the index, and said, you know, this doesn't reflect really the direction that America is going and the direction America has been going for a while. That's probably appropriate for them to be a little bit slow in changing such a famous index too.
PAUL SOLMAN: Let's take them one at a time. It's Hewlett-Packard replaces Texaco, right?
MICHAEL GOLDSTEIN: Hewlett-Packard replaces Texaco.
PAUL SOLMAN: So why that?
MICHAEL GOLDSTEIN: Well, they already have Exxon in the Dow Jones 30 stocks as part of the industrial average, and if you think about it, you know, as an economy we've moved away from something that's as basic as oil, as basic as oil, and we're more of a high-tech economy. HP, Hewlett-Packard, makes computers and printers and a lot of other things. It's still a manufacturer, but it's more of a high-tech manufacturer.
PAUL SOLMAN: All right. Travelers instead of Westinghouse. Now, Westinghouse is a service company.
MICHAEL GOLDSTEIN: Well, that's actually a very interesting one because first of all Travelers used to be in the index as part of Primerica a few years ago.
PAUL SOLMAN: Travelers is mainly like insurance and financial services.
MICHAEL GOLDSTEIN: Exactly. Exactly. Westinghouse is kind of an interesting problem for them because Westinghouse has been part of the average for a very, very long time, but later on this year it's going to split into two companies. It's going to split into an industrial company and into a broadcasting company. So, you know, if they wanted to keep it the way it is now, they'd had 31 companies, which they don't want to do.
So if they have to choose, okay, which one of the two they were going to keep, not--deciding to not keep Westinghouse and not the industrial part, to move away from industrial, but the broadcasting so much, hey, broadcasting is--it's certainly high-tech. One of the things people forget is that they already have GE, and they have Disney in the index.
PAUL SOLMAN: Now that's NBC, and that's ABC.
MICHAEL GOLDSTEIN: ABC.
PAUL SOLMAN: Wal-mart over Woolworth, that's easy.
MICHAEL GOLDSTEIN: Absolutely. America seems to be purchasing at Wal-mart now. I mean, we all live in the suburbs now, not in the inner cities, and people are purchasing at Wal-mart not at Woolworth's.
PAUL SOLMAN: Okay. And Johnson & Johnson, Bethlehem Steel, same story you've been telling me.
MICHAEL GOLDSTEIN: Exactly.
PAUL SOLMAN: And that's health care too. So people--do people actually feel that these new Dow changes are an accurate reflection of how the economy is changing? That's what they are trying to do, but--
MICHAEL GOLDSTEIN: It's an improvement. I would say that people feel it's an improvement, but, you know, if you ask an economist for one opinion, you get five, so you certainly can't get--
PAUL SOLMAN: What's your opinion?
MICHAEL GOLDSTEIN: My opinion, this is a definite improvement, although it's an interesting problem because I kind of wish they could change the name of the indexes, the Dow Jones Industrial Average, and I think a lot of the changes of what's in there now, it's not so much of an industrial average anymore. It really--didn't even want to call it the Dow Jones Index average, or some name that doesn't specify industrials.
PAUL SOLMAN: All right. What about it as a predictor? I mean, what's the historical link between the Dow's performance and how the economy as a whole does?
MICHAEL GOLDSTEIN: There's a moderate--there's a difference between I guess predictor in the past versus predictor in the future in that , you know, when the economy does well, stocks go up, so there's certainly that kind of reflect, but as a predictor for the future, there's a statement that the downward movement in the Dow--you know--change in the economy downward, but the Dow goes down a lot more often than we actually go into a recession. So it's a moderately--if we saw a big drop-off over the course of the year we might expect a downturn in the economy.
PAUL SOLMAN: Well, the question here, is the Dow now going to rise faster than it would have, I mean, just looking at the Dow for a second, not as a predictor, is it going to rise faster now that they may be strangers?
MICHAEL GOLDSTEIN: Well, some economists think so because the stocks they've moved in are more volatile, although I've done some calculations and actually the changes over the past two days have actually made the Dow a little bit lower than it would have been under the old methods, the old stocks.
PAUL SOLMAN: Is that right?
MICHAEL GOLDSTEIN: Yes.
PAUL SOLMAN: It went up 20 today.
MICHAEL GOLDSTEIN: Yes. It went up 20 today. It would have gone up 25. You know, the difference is that on Friday we had the old four. Now we have a new four.
PAUL SOLMAN: Right.
MICHAEL GOLDSTEIN: And according to my calculations it would have been up 25 and not 20 if we still had those old four and not the new four.
PAUL SOLMAN: Well, let's ask the question about the Dow, itself. How good a measure is it either way of the stock market as a whole?
MICHAEL GOLDSTEIN: It's only a moderately good measure. It's a good measure of the really big safe companies. But, first off, it's a price index. You know, what they do is they add up all the prices of the 30, and they divide by something they call the divisor, and that's how they get the number. You know, you and me as an investor, we actually care more than just the price. We care about our total return. That doesn't capture that. It also--I mean, it's 30 stocks. There are 30 big stocks. There's like six or seven thousand stocks traded.
PAUL SOLMAN: Companies, you mean?
MICHAEL GOLDSTEIN: Companies, yes, six or seven thousand companies that are traded on the New York Stock Exchange.
PAUL SOLMAN: And this is just 30.
MICHAEL GOLDSTEIN: This is just 30, right.
PAUL SOLMAN: Thirty Blue Chips, big companies.
MICHAEL GOLDSTEIN: They're big companies, right, but they're not--you know, for example, if you own a small company stock mutual fund, you know, if you own those, then the Dow doesn't really tell you what went on that day.
PAUL SOLMAN: So why the Dow--the number that we always hear?
MICHAEL GOLDSTEIN: Well, as you said, for 101 years it's been what people have been talking about, and it is the thing that's reported every day, and people are comfortable with it. So I think part of it is we just--we hear about the Dow because we've heard about the Dow. You know, bragging rights of being first.
I think another reason we hear about the Dow is certainly for a long time charting how the big companies in America really kind of told you how goes America, but our economy is changing now, and many people work in smaller companies and things. And so it might be a little less true now that how the Dow goes is how America is going.
PAUL SOLMAN: All right. Thanks very much.