Dark Horse Candidates To Enter The Dow

By Eric Fox | March 04, 2009 AAA

The carnage in stocks during the bear market is sure to lead to a major rebalancing of the Dow Jones Industrial Average (DJIA), long considered one of the bellwethers of the stock market. Members of this select group of 30 stocks receive few tangible benefits from being included here, except for a little prestige.

Although investment professionals use the S&P 500 more as a benchmark of relative performance, the DJIA is one of the oldest and most followed indexes in existence today. The index can trace its history to the late 1800s when the Dow Jones Corp. published one of its first averages of 12 industrial stocks.

First To Go
Speculation abounds about which of two financial stocks will be bounced from the index first- Citigroup (NYSE:C) or Bank of America (NYSE:BAC). However, if General Motors (NYSE:GM) files for bankruptcy, it will almost certainly be removed from the average. Another candidate mentioned less often, Alcoa (NYSE:AA), currently trades in the $5.50 range. Although it is not anywhere near the financial dire straits of the three companies mentioned above, it could lose its place on the DJIA simply because aluminum does not hold the same place in society that it did when Alcoa was added in the 1950s.

Is it possible that even General Electric (NYSE:GE) might be replaced? General Electric is the only original member of the DJIA still listed. But another leg down in the market would cause General Electric to fall below $5 per share. While no automatic rule exists for a stock to be dropped, the intent is to keep financially sound companies in the index.

Ascending To The Dow
Which stocks are likely to replace the ones listed above? Both Visa (NYSE:V) and Goldman Sachs (NYSE:GS) have been mentioned in the mainstream media as likely candidates. If Citigroup and Bank of America go, the index would have only two other financials - JPMorgan (NYSE:JPM) and American Express (NYSE:AXP). And either Visa or Goldman Sachs would pick up the financial slack.

Largest Market Cap
The largest domestic company by market capitalization not included in the DJIA is Berkshire Hathaway (NYSE:BRK-A, BRK-B). Due to its float and liquidity issues, however, this stock is not on anyone's short list to be added. The next is Google (Nasdaq:GOOG), which has a market capitalization just over $100 billion. While adding Google certainly would be reflective of a changing America - and the guardians of the DJIA like to stay current - Google has its own float issues, with large blocks of the stock held by insiders. Further, Google is a high priced stock and the price-weighted structure of the index would probably work against its inclusion.

Dark Horse Candidates
Some dark horse candidates have an outside chance of being added to the DJIA, too. Amgen (Nasdaq:AMGN), a biotechnology company, has a $50 billion market cap and a stock that has remained flat year-to-date. Some may argue that biotech stock is too volatile for the DJIA, but that argument holds no validity given the performance of the market over the last six months. Next, United Parcel Service (NYSE:UPS), the package delivery service business, certainly reflects the U.S. consumer culture. And if concerns arise over a company being added to the DJIA that is not in the industrial sector, look no farther than Microsoft (Nasdaq:MSFT) and McDonald's (NYSE:MCD), both of which are members of the DJIA.

Bottom Line
Whenever the upcoming rebalancing of the Dow Jones Industrial Average occurs, it will be an interesting reflection of the financial carnage that has hit the markets over the past two years as well as the changing U.S. business culture.

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