It's elegantly simple and wildly misunderstood. While its competitors might be more comprehensive and modern, its legacy status is secure; and presumably will be for years.

We speak, of course, of the Dow Jones Industrial Average (DJIA), known colloquially as simply "The Dow." It's nothing more than the prices of 30 prominent stocks that trade on the New York Stock Exchange, summed and multiplied by a constant. The resulting number is supposed to convey information about the relative strength or weakness of the market, but on some level it also serves as an indicator of America's financial muscle itself.

SEE: An Introduction To The Dow Jones Industrial Average

The Dow

The names that populate the Dow are as notable for their global reach as for their size and profitability: Coca-Cola, American Express, IBM, Walt Disney and more - all instantly recognizable as emblematic of America. That's a brand that Dow Jones & Company goes to great lengths to protect. When a company struggles via mismanagement and suffers losses, regardless of its previous renown (e.g. American International Group, General Motors), the Dow's masters are quick to remove it from the index and replace it with something more vibrant (Cisco and Kraft Foods, respectively.)

As a true measure of cumulative corporate value, the Dow is somewhat lacking. The Standard & Poor's 500 summarizes the value of 17 times as many stocks, and the Wilshire 5000 has 10-times that. By limiting itself to stocks that only trade on the Big Board, the Dow omits America's most profitable company (Apple, which trades on the Nasdaq). Nor will you find the comparably large Google, another Nasdaq listee; nor Oracle, which is another tech giant among the 10 most profitable companies in the nation that is nowhere to be found on the Dow. Berkshire Hathaway, which is listed on the NYSE and enjoys greater profits than 90% of the Dow components, is also conspicuous by its absence.

The Dow was founded with a dozen components in 1896, a year when an index consisting of the prices of only a few stocks made sense. Understandably, there were far fewer companies trading on the NYSE than there are today. Also, in the late 19th century and throughout much of the 20th, America's dominance as an industrial power was far greater relative to the rest of the world than it is now. (That's not a negative - the more burgeoning economies there are on the planet, the better it is for everyone.)

Many companies that comprised the Dow 116 years ago were titans of commerce then, and afterthoughts today. Even the names sound antiquated: U.S. Cordage, American Cotton Oil, Pacific Mail Steamship, Standard Rope & Twine. Fast forward a few decades, and the names of the components not only call up nostalgic sentiments, they also indicate what constituted dominant industries back then: Nash Motors, American Tobacco, Victor Talking Machine. The only company that's been sufficiently adaptable and simultaneously prominent enough to have remained on the Dow since day one, is General Electric.

Of course, the Dow isn't a perfect list. Many of the most profitable companies in the world are nowhere to be found on it, including the most profitable (Nestlé), and Numbers 3, 4 and 5 (Gazprom, PetroChina and Petrobras, respectively.) Which is kind of the point. A Swiss food manufacturer, and Russian, Chinese and Brazilian gas companies, have little to do with America's identity as the world's primary industrialized nation and its strongest and most powerful economy.

In 2012, essentially anyone who wants to can have instantaneous access to the real-time prices of as many individual stocks as he or she wishes. So why does the Dow continue to hold such disproportionate importance?

Mostly, it's tradition. The ultimate owners of the index - News Corporation and CME Group (it stands for Chicago Mercantile Exchange) - also own most of the other major indexes, including the enormous family of Dow indexes other than the DJIA. Dow Jones & Company steadfastly guards its intellectual property, making its indexes available to financial news outlets throughout the world and perpetuating Dow Jones as synonymous with market measurement. As for those other indexes, each emblazoned with a service mark or trademark, they number in the dozens. They include everything from the Dow Jones Credit Suisse Core Hedge Fund Index to the Dow Jones Islamic Market Asia/Pacific Titans 25 Index.

It's not like the principal index, the DJIA, is extraordinarily selective - its components still represent close to one-quarter of all the publicly traded market value in the country.

The Bottom Line
The Dow's international competitors are plentiful. There's the FTSE 100, a similar index whose components trade on the London Stock Exchange. The DAX consists of 30 stocks that trade on the Frankfurt Stock Exchange. The Paris Bourse's CAC 40, Hong Kong's Hang Seng, Tokyo's Nikkei - all are regionally important, but none have anywhere near the breadth and universal recognition of the Dow. Leaving stock market mensuration as one of the few remaining fields in which American dominance remains unassailed.

Related Articles
  1. Investing Basics

    4 Famous Companies Dropped From the Dow Jones

    Learn about some of the largest and most famous companies that have been removed from the Dow Jones Industrial Average (DJIA) over its 119-year history.
  2. Active Trading

    10 Steps To Building A Winning Trading Plan

    It's impossible to avoid disaster without trading rules - make sure you know how to devise them for yourself.
  3. Investing

    How to Spot Secular Bull Markets vs. Secular Bear Markets

    A guide to identifying secular bull and bear markets.
  4. Options & Futures

    Terrorism's Effects on Wall Street

    Terrorist activity tends to have a negative impact on the markets, but just how much? Find out how to take cover.
  5. Mutual Funds & ETFs

    Benchmark Your Returns With Indexes

    If your portfolio is always falling short, you may not be making an apples-to-apples comparison.
  6. Savings

    3 Steps for Retirement Saving and Investing Habits

    We take a look at the choices we make today that our future selves would prefer not to be making, often faced by investors when saving for the future.
  7. Professionals

    What Financial Advisors and Brokers Need to Know About Rule 407

    Learn about NYSE Rule 407 and how it may impact you as a financial advisor or investment broker. What you don't know about this regulation can hurt you.
  8. Active Trading Fundamentals

    Why Rational Ignorance About Your Investments Might Really Be OK

    It's impossible to know everything about the markets. Find out how ignorance affects your investments.
  9. Trading Strategies

    The Traits All Baller Traders Have In Common

    When it comes to traders, these are the traits that separate the wheat from the chaff.
  10. Active Trading

    Bad Luck With Trades? 5 Things You Might Be Doing Wrong

    If you're in a trading rut, ask yourself these five questions to help turn the corner.
  1. How do mutual funds split?

    Mutual funds split in the same way that individual stocks split, but less often. Like a stock split, mutual fund splits do ... Read Full Answer >>
  2. Why would a corporation issue convertible bonds?

    A convertible bond represents a hybrid security that has bond and equity features; this type of bond allows the conversion ... Read Full Answer >>
  3. What is the difference between shares outstanding and floating stock?

    Shares outstanding and floating stock are different measures of the shares of a particular stock. Shares outstanding is the ... Read Full Answer >>
  4. What are the advantages and disadvantages of listing on the Nasdaq versus other stock ...

    The primary advantages for a company of listing on the Nasdaq exchange are lower listing fees and lower minimum requirements ... Read Full Answer >>
  5. What is the difference between market risk premium and equity risk premium?

    The only meaningful difference between market-risk premium and equity-risk premium is scope. Both terms refer to the same ... Read Full Answer >>
  6. What is the difference between the QQQ ETF and other indexes?

    QQQ, previously QQQQ, is unlike indexes because it is an exchange-traded fund (ETF) that tracks the Nasdaq 100 Index. The ... Read Full Answer >>

You May Also Like

Hot Definitions
  1. Cyber Monday

    An expression used in online retailing to describe the Monday following U.S. Thanksgiving weekend. Cyber Monday is generally ...
  2. Bar Chart

    A style of chart used by some technical analysts, on which, as illustrated below, the top of the vertical line indicates ...
  3. Take A Bath

    A slang term referring to the situation of an investor who has experienced a large loss from an investment or speculative ...
  4. Black Friday

    1. A day of stock market catastrophe. Originally, September 24, 1869, was deemed Black Friday. The crash was sparked by gold ...
  5. Turkey

    Slang for an investment that yields disappointing results or turns out worse than expected. Failed business deals, securities ...
  6. Barefoot Pilgrim

    A slang term for an unsophisticated investor who loses all of his or her wealth by trading equities in the stock market. ...
Trading Center