Investing 101 - Click Here!

The Dow Jones Industrial Average (DJIA) is probably the most quoted financial barometer in the world and has become synonymous with the financial markets in general. When people say the market has gone up or down by a certain number of points, they're usually referring to changes in the Dow. Read on to learn the history of the Dow and how to invest in it. (To learn about other stock indexes, see The ABCs of Stock Indexes.)

Brief History
Charles Dow, the creator of the DJIA, devised his first stock index in 1885. It consisted of two capitalized industrial and 12 capitalized railroad companies. Dow's intent was to track U.S. economic strength by closely observing the companies considered to be the backbone of the U.S. economy. In 1886, he altered his index to contain 10 railroads and two industrials. In the mid-1890s, Dow recognized the growing importance of the industrial sector in the U.S. economy and again altered his index, this time to consist solely of industrial stocks. The first version of the DJIA, which contained 12 stocks, appeared in The Wall Street Journal on May 26, 1896. The following are the original 12 Dow stocks:

  • American Cotton Oil
  • American Sugar
  • American Tobacco
  • Chicago Gas
  • Distilling & Cattle Feeding
  • General Electric
  • Laclede Gas
  • National Lead
  • North American
  • Tennessee Coal and Iron
  • U.S. Leather pfd.
  • U.S. Rubber

While an odd looking combination by today's economic standards, these 12 stocks were carefully chosen to represent the major areas of the U.S. economy at the time. The 30-stock Dow Jones Industrial Average debuted in 1929. Since then, it has changed over the years as some stocks were removed and others added to maintain an accurate reflection of the U.S. economy. Of the original 12 Dow stocks, General Electric (NYSE:GE) is the only one that stood the test of time and was still in the index in 2008.

There are also two other Dow averages, the Dow Jones Utility Average (DJUA) and the Dow Jones Transportation Average (DJTA), which consists of stocks in the railroad, trucking, shipping and airline industries.

Today's Dow
Considering the breadth of today's economy, one might mistakenly believe that an index consisting of a mere 30 stocks could hardly be of any value. That is simply untrue. In addition to representing 30 of the most highly capitalized and influential companies in the U.S. economy, the Dow is also the financial media's most referenced U.S. market index and remains a good indicator of general market trends.

If one compares a pricing chart of the Dow with a chart of the Wilshire 5000, the most inclusive of all U.S. indexes, it is evident that the two have followed astonishingly similar paths. The Dow has historically begun to decline for extended periods before the more speculative Nasdaq index, a pattern which occurred in the stock market downturns that began in April of 1998, January of 2000, December of 2001, January of 2004, December of 2004, and October of 2007. Some believe that when the stocks of the companies that makes up the DJIA begin to show weakness, the U.S. economy may be headed for a slowdown.

The other two Dow Jones indexes covering transportation and utilities can also signal market and economic trends. Those who subscribe to Dow theory analysis believe the three Dow Jones indexes can be used to confirm each other. The theory holds that if any of the three Dow Jones indexes, particularly the Dow 30 and the Transports, begin to diverge in direction during a market uptrend, caution may be warranted. The basic tenet of Dow theory is that the three Dow Jones indexes represent the major areas of the U.S. economy: industrials, transportation and utilities. When there is weakness in one,there may be weakness coming in the others and in the U.S economy in general. (For more insight, see Dow Theory.)

Ways to Invest in the DJIA
There are a number of ways to invest in the Dow Jones Industrial Average. The most obvious is to buy shares of the companies it includes. Several exchange-traded funds (ETFs) also track the price movements of the Dow. Diamonds Trust (AMEX:DIA) holds all 30 Dow stocks. The ETF, often called Dow Diamonds, closely mirrors the price performance of the DJIA. The Proshares Trust Ultra Dow 30 (AMEX:DDM) doubles the price movement of the Dow in either direction through the use of leverage.

Two ETFs Proshares Trust Short Dow 30 (AMEX:DOG) and Proshares Trust Ultra Short Dow 30 (AMEX:DXD) seek to capitalize on the inevitable downward price moves of the Dow. Both move inversely to the Dow, with the latter ETF experiencing twice the price movement. If the Dow declines 1%, for example, DXD should advance by 2% and DOG should gain 1%. On the other hand, if the Dow advances, both ETFs would experience losses.

The options market offers another opportunity to capitalize on changes in the Dow. Options can be traded against the Dow Diamonds ETF. There are also options on the Dow (DJX). The DJX index option contract is based on 1/100th of the current value of the DJIA. For example, when DJIA is at 11,000, the DJX level will be 110.

Further Education
To learn more about the Dow Jones Industrial Average and its component stocks visit the Dow Jones website. For more information on Dow Jones ETFs, a good resource is the ETF page on the American Stock Exchange (AMEX). The CBOE website has information on Dow 30 options.

Conclusion
The DJIA continues to serve its original purpose as a market and economic indicator, as set forth by Charles Dow back in 1929. As long as it contains the stocks of companies that reflect the major industrial areas of the U.S. economy during any given period, this 30-stock index will likely remain the gold standard of financial indicators.

For more, read Calculating The Dow Jones Industrial Average.

Investing 101 - Click Here!

Related Articles
  1. Retirement

    Roth IRAs Tutorial

    This comprehensive guide goes through what a Roth IRA is and how to set one up, contribute to it and withdraw from it.
  2. Chart Advisor

    Watch This ETF For Signs Of A Reversal (BCX)

    Trying to determine if the commodity markets are ready for a bounce? Take a look at the analysis of this ETF to find out if now is the time to buy.
  3. Mutual Funds & ETFs

    ETFs Can Be Safe Investments, If Used Correctly

    Learn about how ETFs can be a safe investment option if you know which funds to choose, including the basics of both indexed and leveraged ETFs.
  4. Mutual Funds & ETFs

    The Top 5 Large Cap Core ETFs for 2016 (VUG, SPLV)

    Look out for these five ETFs in 2016, and learn why investors should closely watch how the Federal Reserve moves heading into the new year.
  5. Term

    How Market Segments Work

    A market segment is a group of people who share similar qualities.
  6. Active Trading

    Market Efficiency Basics

    Market efficiency theory states that a stock’s price will fully reflect all available and relevant information at any given time.
  7. Economics

    The History of Stock Exchanges

    Stock exchanges began with countries who sailed east in the 1600s, braving pirates and bad weather to find goods they could trade back home.
  8. Economics

    India: Why it Might Pay to Be Bullish Right Now

    Many investors are bullish on India for all the right reasons. Does it present an investing opportunity?
  9. Options & Futures

    What Does Quadruple Witching Mean?

    In a financial context, quadruple witching refers to the day on which contracts for stock index futures, index options, and single stock futures expire.
  10. Fundamental Analysis

    5 Basic Financial Ratios And What They Reveal

    Understanding financial ratios can help investors pick strong stocks and build wealth. Here are five to know.
RELATED FAQS
  1. When did the Dow Jones Industrial Average (DJIA) begin?

    The Dow Jones Industrial Average (DJIA) was first published on May 26, 1896 by financial reporters Charles Dow and Edward ... Read Full Answer >>
  2. Who were the original Dow Jones Industrial Average (DJIA) companies?

    The Dow Jones Industrial Average was created in 1896 by Charles Dow and originally consisted of 12 companies: American Cotton ... Read Full Answer >>
  3. What is a derivative?

    A derivative is a contract between two or more parties whose value is based on an agreed-upon underlying financial asset, ... Read Full Answer >>
  4. What is finance?

    "Finance" is a broad term that describes two related activities: the study of how money is managed and the actual process ... Read Full Answer >>
  5. What is after-hours trading? Am I able to trade at this time?

    After-hours trading (AHT) refers to the buying and selling of securities on major exchanges outside of specified regular ... Read Full Answer >>
  6. What is the difference between positive and normative economics?

    Positive economics is objective and fact based, while normative economics is subjective and value based. Positive economic ... Read Full Answer >>
Hot Definitions
  1. Socially Responsible Investment - SRI

    An investment that is considered socially responsible because of the nature of the business the company conducts. Common ...
  2. Inverted Yield Curve

    An interest rate environment in which long-term debt instruments have a lower yield than short-term debt instruments of the ...
  3. Presidential Election Cycle (Theory)

    A theory developed by Yale Hirsch that states that U.S. stock markets are weakest in the year following the election of a ...
  4. Super Bowl Indicator

    An indicator based on the belief that a Super Bowl win for a team from the old AFL (AFC division) foretells a decline in ...
  5. Flight To Quality

    The action of investors moving their capital away from riskier investments to the safest possible investment vehicles. This ...
  6. Discouraged Worker

    A person who is eligible for employment and is able to work, but is currently unemployed and has not attempted to find employment ...
Trading Center