I am consistently mystified by the media attention given to figures like Kim Kardashian. Why and how does this happen?

I have similar feelings when I see the reporting on the Dow Jones Industrial Average (or the DJIA, or simply the Dow). Way too much attention is paid to the Dow. Whether it is in the media or amongst laypeople, it seems everyone loves to talk about the level of the Dow or how many points it moved as if it is indicative of anything. 

Paying attention to the Dow is kind of like following what is happening with Kim Kardashian, it is an interesting curiosity and diversion, but hard to put into context what the real relevance is. The Dow is an extremely narrow index of stocks (only 30 firms, all US) and it is “price weighted” making it a very poor representation of US stocks let alone the global stocks.

First let’s talk about the narrowness. As I mentioned before, the Dow is comprised of only 30 US firms. There are thousands of US stocks out there, and the Dow index only accounts for 30 of them. Granted they are really big companies, so at any given time the Dow may account for ~20% – 30% of the total value of US stocks. That’s not a very big representation of US stocks period, and it is especially poor when compared to the S&P 500 index which accounts for more than 80% of the total value of US stocks.

No investor should ever be fully invested in only one country, even if that country is one as big economically as the US. Investing globally is the easiest form of diversification, and the Dow is 100% US stocks.

The firms that make up the Dow are arbitrarily selected. Currently Apple (AAPL) and Microsoft (MSFT) are in the index, but Alphabet Inc. (that’s Google, GOOGL) isn’t in. JP Morgan (JPM) and Goldman Sachs (GS) are in the index, but Bank of America (BAC) and Wells Fargo (WFC) are out. Why? I couldn’t tell you, but I am sure if you do a little digging you can find some canned vague explanation for why the index holds one stock vs. another.

Lastly the Dow is a “price weighted” index meaning that stocks with a higher share price are given more weight (influence) on the performance of the index. Using price weighting Goldman Sachs (GS) with a share price ~$160 has more than double the impact of Wal-Mart (WMT) with a share price of ~$70 even though Wal-Mart is almost three times the size.

Good stock market indices are weighted based on market capitalization (the size of the company).

The attention given to the Dow is overdone. The Dow should not be used as a benchmark for the individual investor, and it should not be viewed as a good representation of the markets, US markets, or even large-cap US stocks.