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- The Dow Jones Industrial Average is one of the world's oldest stock market indexes, consisting of 30 of the most influential U.S. companies.
- Despite some criticism, the Dow remains highly respected, a reliable gauge of the overall stock market and the U.S. economy.
- While you can't invest in the DJIA itself, you can buy an index fund that tracks it, or the individual stocks.
When people talk about "the Dow," "the Dow Jones," or "the Dow 30," they're referring to the Dow Jones Industrial Average (DJIA). And to understand the Dow, you must understand it's actually two things: a stock market index of 30 chosen companies and a benchmark number.
As an index, the DJIA is one of the oldest (published in 1896) and most widely recognized among the 3 million stock market indexes in the world. As a constantly changing benchmark number, it's endlessly watched, analyzed, and bet upon. In both capacities, the Dow acts as a stand-in for the U.S. stock market itself — and a bellwether of the state of the US economy.
History of the DJIA
The DJIA was first published on May 26, 1896, by journalist Charles Dow, who co-founded both Dow Jones & Company and The Wall Street Journal. Edward Jones also put his name on the index, but he did not contribute to its creation.
At first, the DJIA included the stocks of 12 industrial companies, such as the United States Rubber Company, the National Lead Company, and Iron and Railroad Company. At first, this index was calculated by adding up the prices of the individual component stocks and then dividing that figure by 12.
Over time, the index changed. By 1916, the index included the stocks of 20 companies, and in 1928, it contained stocks for 30 businesses. General Electric, which had repeatedly boasted that it was the only company left whose stock had been on the benchmark index, lost that status in 2018.
In the years since its inception, the DJIA has seen many high-profile companies leave. The Coca-Cola Company left the index in 1935 and IBM left in 1939. Chrysler ceased to be a part of the Dow in 1979, and the index dropped General Foods in 1985. In 1999, Sears and Chevron both left the DJIA.
Components of the DJIA
The DJIA currently consists of the shares of 30 component companies, which are selected by a committee. S&P Dow Jones Indices shed some light on the selection process on its website.
"While stock selection for The Dow is not governed by a strict set of rules, the committee focuses on an eligible company's reputation, its history of sustained growth, its interest to investors, and its sector representation of the broader market," the website stated.
"Over the past 15 years, for example, a number of technology companies have been added, reflecting the growth of the sector within the U.S. equity market," the website continued.
S&P Dow Jones Indices emphasized that the DJIA does not contain transportation or utilities companies, as these firms have their own specific indexes.
How the DJIA works
The DJIA is a price-weighted index, which means that the extent that each individual stock contributes to the overall value of the index depends on its price. As a result of this, price fluctuations in more expensive stocks can have a greater impact on the value of the Dow than price movements in stocks that are less costly.
It is important to note that most stock market indexes are weighted by market capitalization. In this case, the total market value of a company's shares (stock price multiplied by number of shares outstanding) is what accounts for the weighting of that company's shares in an index.
Calculation method of the DJIA
The DJIA is calculated every day by adding up the individual close of day prices of all Dow stocks, and dividing that sum by the Dow Divisor, a factor designed to compensate for stock splits and other variations in share prices.
The Dow Divisor is manually adjusted by The Wall Street Journal (owned by Dow Jones) to account for share buybacks, splits, payment of dividends, and other changes to Dow index companies' stocks.
The average and its movements are annotated in points, with each point representing a dollar.
The result of the calculation is the Dow Jones Industrial Average (DJIA) "close" for that day. For example, on Dec. 11, 2020, the Dow closed at 30,046.37, up 47.11 ($47.11) from the previous day, or +0.16%.
Like the shares within it, the Dow's constantly moving. As stock prices fluctuate, the DJIA goes higher or lower. This movement gives investors and traders a way to track the market based on the changing prices of those 30 stocks. The DJIA appears widely on financial and other news websites every day.
Criticisms and limitations
Market observers have presented several criticisms of the DJIA. One of the most basic complaints is that the index only contains 30 stocks. Some indexes, for example the Russell 3000 Index, include the shares of far more companies. The aforementioned measure of stock market health contains 100 times as many stocks as the DJIA.
Some have claimed that since the DJIA has so few stocks, it does not have enough components to be truly representative of the overall stock market.
Others have criticized the price-weighted methodology used by the DJIA, claiming that professional investors will likely use other indexes in order to gauge the strength of the stock market.
The main advantage, at least in theory, to market-cap-weighting over price-weighting is that by calculating the overall market value of a company (total shares times price) versus a single share price, the system should tend to behave more like the market itself.
Another consideration that has been brought up is that the DJIA does not account for returns stemming from dividends.
The significance of the DJIA in financial markets
Part of the reason the Dow enjoys significance as a highly visible measure of the stock market is the result of it being the second-oldest stock market index. The fact that it represents and reflects the market movements of major companies is another reason for its significance.
It may not have as many stocks as some other indexes, but what it has is choice — a representative cross-section of corporate America's major players. And, as noted above, the roster does periodically change, representing the rise or fall of different sectors.
As a result, many investors see the Dow 30 as a gauge of the U.S. economy, and the key industries influencing and driving it.
DJIA and investor sentiment
It is important to know the role of the DJIA in market analysis. Since the Dow is a widely followed index, its fluctuations can have a significant impact on the sentiment of the investors who watch it. Likewise, the bullishness or bearishness of these market observers can play a significant role in the value of the aforementioned index.
Market observers can use the fluctuations in the DJIA to quickly get a sense of the direction of stocks.
Comparing the DJIA with other indices
It is important to know the differences between the DJIA and the S&P 500, as these are both considered important benchmark indexes. These two have a very different number of components and use contrasting weighting strategies.
The S&P 500 uses market capitalization weighting, meaning that it looks at the total market value of its component stocks to determine what influence they have on the overall index. This provides a contrast to the DJIA, which uses a price-weighting approach.
In addition, the S&P 500 has 500 components, compared to the 30 used by the DJIA. As a result, it derives its value from nearly 17 times as many companies as the Dow.
The Nasdaq Composite Index derives its value from the shares of all companies listed on the Nasdaq Stock Market, of which there are thousands. As a result, it represents far more companies than the DJIA.
The Nasdaq Composite Index also uses market capitalization weighting, which differentiates it from the DJIA.
Dow Jones FAQs
Why does the DJIA only include 30 companies? Chevron icon It indicates an expandable section or menu, or sometimes previous / next navigation options.The DJIA includes 30 companies in order to provide a barometer of the strength of the stock market without being overly cumbersome. The stocks that are included in the index are from companies that are considered leaders in their respective industries.
How often are the components of the DJIA changed? Chevron icon It indicates an expandable section or menu, or sometimes previous / next navigation options.The committee that selects the components of the DJIA makes changes on an as-needed basis. However, quite a few companies have joined and left this index since it appeared in 1896.
Can the DJIA be used as an investment? Chevron icon It indicates an expandable section or menu, or sometimes previous / next navigation options.You cannot invest in the DJIA itself, but you can purchase exchange-traded funds (ETFs) and mutual funds that grant exposure to this particular index.
How does a company get selected to be part of the DJIA? Chevron icon It indicates an expandable section or menu, or sometimes previous / next navigation options.The committee that selects stocks to be a part of the DJIA picks them based on factors including a history of consistent growth, the reputation of the company the stock represents and how well the particular business represents its industry.
What does a rise or fall in the DJIA indicate? Chevron icon It indicates an expandable section or menu, or sometimes previous / next navigation options.A rise in the DJIA generally indicates an increase in the value of the overall stock market, as well as an improvement in the sentiment of investors. A decrease in this index signals the opposite.
Jim Probasco A freelance writer and editor since the 1990s, Jim Probasco has written hundreds of articles on personal finance and business-related content, authored books and teaching materials in the fields of music education and senior lifestyle, served as head writer for a series of Public Broadcasting Service (PBS) specials and created radio short-form comedy. As managing editor for The Activity Director's Companion, Jim wrote and edited numerous articles used by activity professionals with seniors in a variety of lifestyle settings and served as guest presenter and lecturer at the Kentucky Department of Aging and Independent Living Conference as well as Resident Activity Professional Conferences in the Midwest.Jim has served on the boards of several nonprofit organizations in the Dayton, Ohio area, including the Kettering Arts Commission, Dayton Philharmonic Education Advisory Committee, and the University of Dayton Arts Series. He is past president of an educational foundation that serves teachers and students in the Kettering (Ohio) City School District.Jim received his bachelor's from Ohio University in Fine Arts/Music Education and his master's from Wright State University in Music Education. Read more Read less Top Offers From Our Partners 
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