In statistics, the Pareto rule suggests that generally 80% of
effects come from around 20% of potential causes. This is
known as the 80/20 rule and in the business world it is typically
used to suggest that approximately 80% of revenues come from around
20% of customers, but it also certainly applies to the Dow Jones
Industrial Average (NYSEARCA:DIA).
The Dow topped back on Dec 31 but is now having a hard time
making new all time highs as it still resides over 200 points from
that recent top. Almost all the other major indices have
already made new highs, though, so why can't the Dow?
Dow Jones Industrial Average
First things first, the Dow is only made up of thirty
companies. This makes it susceptible to each individual
company's performance much more so than a larger index such as the
S&P which includes 500 components.
Secondly, most other indices are also market cap weighted
throwing another wrinkle in the Dow's calculations compared to
other benchmarks, but there is more going on than just its price
weighting or its small amount of components.
An even larger underlying and troubling trend is also occurring
that is the primary culprit of the Dow's underperformance. I wrote
about the Dow's faulty construction in articles titled, "
The Dow Committee Again Gets it Wrong
" and "
The Dow's Flaws Uncovered
80 / 20 Rule Indeed
Check out the data below that shows the Dow's components sorted
The top five stocks in the Dow make up 1/3 its price.
Furthermore, the 20 largest stocks in the Dow make up over 85%
of the Dow's total calculation (highlighted in green). In
other words, the smallest 10 of the Dow's components barely move
the Dow's needle when they rise and fall as they make up only 15%
of the Dow's total price.
For instance, Cisco, the smallest Dow component, could fall to
$0 and the Dow would only be affected negatively by 0.9%.
J.P. Morgan, the largest bank in America by assets, and the 8
largest bank in the world, would only bring the Dow down 2.4% if it
In contrast, if Visa were to go bankrupt, the Dow would fall
over 8.7%, even though in the real world Visa is a much smaller
company than most of the other Dow components.
These nuances are primarily because the Dow is a price weighted
index (as opposed to market cap weighted). But, they also
hint at some of the reasons the Dow is having trouble rallying to
new all time highs along with most other markets.
The companies that are still able to make new highs, are small
components in the Dow, whereas those that have been performing
weaker are much larger components.
How technicals kept us ahead of Apple's 8% earnings
Now check out the next chart which shows amongst other things
the number of Dow companies making new 52 week highs shown by the
That section in green in the middle shows less and less Dow
components are making new 52 week highs even though the Dow itself
does. When the Dow last made a new all time high on December
31, 2013 it was accompanied by 11 Dow components, down from 13 in
The declining trend continues through today with only 6
companies making new highs in March and warns the uptrend is being
propped up by fewer and fewer Dow components. Less stocks are
participating in the uptrend.
The bottom section supports this as well. That data shows
that the average Dow stock is now only at 70% its 52 week price
range. In other words, near previous tops, the average Dow
component was closer to making new 52 week highs, above 85% its 52
week price range, but today the average Dow component's price is
farther from a new high, down to 72% at March's peak and 70%
through this week.
Less Support from Components
The May 2013 high saw the most breadth with 13 Dow components
making new 52 week highs along with the market. That number
was only at 11 at the December 31 all time high and sits now just
at 4 companies.
A further look into the numbers shows those four companies that
are still making new all time highs are Caterpillar (
), Johnson & Johnson (
), JP Morgan (
), and Microsoft (
), but a glance back at the weightings, however, show
that only two of these companies are even in the top ten of the
thirty, and none of them are in the top five.
Together their components make up only 12% of the Dow's total
In order for the Dow to also make new highs, it will need
Goldman Sachs (
), IBM (IBM), and Boeing (BA), which are all down over 5% from new
52 week highs, but make up over 18% of the Dow's weight, to resume
their leadership and carry the Dow higher.
Profit Strategy Newsletter
focuses on the data that actually drives the markets. Right
now, the Dow's calculation nuances and declining breadth will
likely keep it from joining the other markets in making new all
time highs. We follow the Dow and all the other major asset
classes to help subscribers stay on the right side of the markets
in our Technical Forecast, Weekly ETF Picks, and Monthly
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