Intel, GE, Cisco, Pfizer and Microsoft Are About to Be Meaningless in the DJIA

Jon C. Ogg
September 10, 2013

Chances are high that you already have heard that the Dow Jones Industrial Average (DJIA) is making a serious change among its 30 constituents. What you might not have heard outside of the changes is that this component rebalancing and replacement act will make five or six of the DJIA components that were not removed from the index close to irrelevant in the daily "stock market" moves when it pertains to the DJIA itself.

The three companies getting the boot from the DJIA are Alcoa Inc. (AA), Bank of America Corp. (BAC) and Hewlett-Packard Co. (HPQ). The new DJIA stocks will be Goldman Sachs Group Inc. (GS), Nike Inc. (NKE) and Visa Inc. (NYSE: V).

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So, back to what you might not have heard. First and foremost, the DJIA has been a price-weighted index based solely on each company's stock price. The more broad S&P 500 Index is a market cap-weighted index, making the share price irrelevant. The S&P 500 index is how almost all new index measurements are made, and the DJIA calculation is considered an old-school calculation. That being said, it is the DJIA reference that everyone makes when they say "The Stock Market" was up or down.

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What drives the point home here is that Alcoa, Bank of America and even Hewlett-Packard all had incredibly low share prices. Visa and Goldman Sachs both have share prices north of $150, which will make them close to almost as high of a weighting as International Business Machines Corp. (IBM) with its $180+ share price. Chevron Corp. (CVX) will drop from the second highest weighting with its $122 or so price down to the number four spot amont the 30 DJIA stocks.

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We have taken pre-adjustment weightings from IndexArb.com to illustrate the changes, but be advised that these weightings likely will slide even further now that they are the lowest priced stocks among the DJIA.

We are keeping the weightings open because the adjustment is 10 days out and some stock prices will rise while others may fall. Here are the six DJIA components that stayed on the DJIA that now will be irrelevant when it comes to the DJIA daily moves.

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Intel Corp. (INTC) is now the lowest price of any of the 30 new DJIA stocks. Its prior weighting was a mere 1.17%. With shares around $23, its 52-week range is $19.23 to $25.98 and the consensus Thomson Reuters analyst price target is $23.66. Intel's market cap is about $115 billion, so even if it recaptured much of its smartphone and tablet losses and somehow managed to double, the stock might still have a somewhat low weighting. Intel is now the lowest weighting of the new DJIA stocks.

General Electric Co. (GE) is the largest of the conglomerates by market capitalization. By our measure it is also the most representative of the U.S. economy. Even with a $243 billion market cap, its pre-adjustment weighting was only about 1.19%. Now GE is the second lowest weighting of all 30 DJIA stocks. Nike will have close to three-times the weighting of GE in the DJIA, yet its market cap is just under $60 billion. Does that seem fair in an index calculation? GE shares are almost back up at $24, in a 52-week range is $19.87 to $24.95, and the consensus analyst price target is almost $26. Even if GE were to get back to $40 from before the recession, its weighting in the DJIA is just not very significant. The only justice here is that GE's share price is back up to within striking distance of Cisco, that it could rise up to a number-three weighting.

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Cisco Systems Inc. (CSCO) trades around $24.25, and that makes it number three of the new lowest weighted stocks in the DJIA with a mere 1.22% pre-adjustment weighting. Cisco is in yet another restructuring, and its growth is largely tied to GDP growth now. Its 52-week range is $16.68 to $26.49, and the consensus analyst price target is $26.81. If Cisco shares drop and GE shares rise, Cisco may move from the number-three weighting down to number two. Either way it is just an unimpressive index weighting, considering its $130 billion market cap.

Pfizer Inc. (PFE) is for now safely in the number-four spot of the new lowest weighted DJIA stocks. Its share price of $28.35 puts it five positions behind the weighting of Merck & Co. (MRK), with a $48 share price. That being said, Pfizer's pre-rebalance weighting was only 1.44%, versus a 2.43% weighting for Merck. Pfizer is worth some $188 billion in market capitalization, its 52-week trading range is $23.55 to $31.15 and its consensus price target is $31.84. It would take one large Pfizer-only share price rally to move the needle from its spot among the lowest weighted DJIA stocks.

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Microsoft Corp. (MSFT) is ranked as the fifth lowest weighting of the new DJIA stocks, with a mere 1.61% weighting of the pre-rebalanced DJIA. Microsoft is worth almost $268 billion, making it worth more than the three new DJIA components combined. Its $32.25 share price will keep it snugly ranked as the fifth lowest weighting of the 30 DJIA stocks. Microsoft is seeking a new CEO to replace Steve Ballmer, and its Windows 8 will soon have a new relaunch. That being said, Microsoft's real thorn in its side is Apple Inc. (AAPL) and the move away from PCs. Microsoft's 52-week trading range is $26.26 to $36.43, and the consensus analyst price target from Thomson Reuters is $34.50.

AT&T Inc. (NYSE: T) is the king of dividends among the 30 DJIA stocks, with a whopping 5.4% dividend yield. Rival Verizon Communications Inc. (VZ) is only up two spots on the ladder of the 30 components, but its stock would have to rally about 35% before it could challenge Verizon's weighting. Before the rebalancing, IndexArb.com had AT&T's weighing as a mere 1.7%, versus a 2.34% weighting for Verizon. Is it ironic that AT&T's market cap is $179 billion versus $131.2 billion (pre-Vodafone terms) for Verizon?

Again, these stocks are all shown as a pre-rebalance weighting for the DJIA with its stock price weighting rather than the market cap weighting that the S&P 500 and other indexes use. We actually expect the weightings to drop from here after the adjustments are made. DuPont, or E.I. du Pont de Nemours & Co. (DD), is in the middle of the pre-rebalance weightings with a $58 share price and a 2.93% pre-rebalance weighting. That will give Nike Inc. (NKE) a slightly higher weighting after the index component adjustment takes place.

S&P Dow Jones Indices said:

The changes won’t cause any disruption in the level of the Index. The divisor used to calculate the DJIA from its components’ prices on their respective home exchanges will be changed prior to the opening on September 23. This procedure prevents any distortion in the DJIA’s reflection of the U.S. stock market.

We would point out that historically the index changes of this magnitude are tracked by index arbitrage traders and active traders more in the S&P 500 Index rather than in the DJIA. The reason is that the S&P 500 is used as a benchmark exponentially more than the DJIA, and there is much more interest in the ETFs that track the S&P 500 rather than the DJIA.

Now that you have seen the comparisons, don't you think that "the stock market" reference should pertain to the S&P 500 Index rather than the Dow Jones Industrial Average?

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