What Is the Dow Jones & How Does It Work?

For a snapshot of the largest publicly owned companies trading on the New York Stock Exchange (NYSE) and Nasdaq, look to the Dow Jones Industrial Average (DJIA), also known as the Dow. This index is important because, although it represents only 30 stocks, they’re some of the most influential companies in the US economy and together serve as a barometer of the country’s general economic health. 

Stock market indexes are useful because they show how investors feel about financial markets and the economy. The data represented by an index help investors compare current stock prices with historical prices so they can gauge the performance and valuation of the stock market.

What is the Dow Jones?

The Dow Jones Industrial Average, an index made up of 30 of the biggest and most important US companies, is one of three major stock indexes investors use to measure stock market performance. The other two are the S&P 500 Index and the Nasdaq Composite Index—both much larger than the Dow, but not necessarily more influential. The S&P 500 is made up of 500 large-cap stocks, and the Nasdaq index tracks almost 3,500—nearly every stock and security traded on the Nasdaq exchange, both domestic and international.

History of the Dow Jones

The Dow is the second-oldest US market index still in use, after the Dow Jones Transportation Average. The index was created in 1896 by Wall Street Journal reporter Charles Dow with fellow journalists Edward Jones and Charles Bergstresser. Dow was renowned for explaining complicated financial concepts in lay terms for the public and created the index so investors could have a benchmark, rather than sifting through the market for trends on their own.

Dow started the index with 12 mostly industrial stocks, including railroads, cotton, gas, and oil. As the economy changed over time, so did the composition of the index, which increased to 30 stocks by 1928 and has been fixed at that number ever since.

The Dow isn’t a static index: Stocks can be removed and replaced. In fact, in 2020, it replaced ExxonMobil, Raytheon, and Pfizer with Salesforce, Amgen, and Honeywell. Like the economy, the index evolves over time. None of the companies originally in the index remain.

The DJIA doesn’t include every giant publicly traded stock. Notably missing are Amazon, Facebook, and Tesla, which appear in both the S&P 500 and the Nasdaq. Where the Dow favors sectors like financial services and heavy industry, it is considered underweighted in tech. However, when you compare the S&P 500 to the Dow, you’ll see similar performance over time.

The index is maintained by S&P Dow Jones Indices, which is controlled by S&P Global.

How is the value of the Dow Jones calculated?

The S&P 500 and Nasdaq Composite weight stocks by market capitalization, which is determined by multiplying the share price by the number of shares outstanding. The DJIA weights by price instead. That means that the average value of its 30 stocks is calculated by determining their average value. However, this is not as easy as adding up the average value of the stock outstanding and dividing it by 30.

Because of all the events among the member companies—mergers, stock splits, spinoffs—the Dow has had to develop a “Dow divisor” by which the total of the 30 share prices is divided to weight it accurately.  In other words, the Dow doesn’t represent market caps, but rather the sum of the price of one share of stock, divided by the Dow divisor. This gives the highest-priced stocks the most weight.

What companies comprise the Dow Jones today?

As of October 1, 2021, the following companies are listed on the Dow Jones Industrial Average:

• 3M

  (NYSE:MMM)

• American Express

  (NYSE:AXP)

• Amgen

  (NASDAQ:AMGN)

• Apple

  (NASDAQ:AAPL)

• Boeing

  (NYSE:BA)

• Caterpillar

  (NYSE:CAT)

• Chevron

  (NYSE:CVX)

• Cisco Systems

  (NASDAQ:CSCO)

• Coca-Cola

  (NYSE:KO)

• Disney

  (NYSE:DIS)

• Dow

  (NYSE:DOW)

• Goldman Sachs

  (NYSE:GS)

• Home Depot

  (NYSE:HD)

• Honeywell International

  (NYSE:HON)

• IBM

  (NYSE:IBM)

• Intel

  (NASDAQ:INTC)

• Johnson & Johnson

  (NYSE:JNJ)

• JPMorgan Chase

  (NYSE:JPM)

• McDonald's

  (NYSE:MCD)

• Merck

  (NYSE:MRK)

• Microsoft

  (NASDAQ:MSFT)

• Nike

  (NYSE:NKE)

• Procter& Gamble

  (NYSE:PG)

• Salesforce

  (NYSE:CRM)

• Travelers

  (NYSE:TRV)

• UnitedHealth Group

  (NYSE:UNH)

• Verizon

  (NYSE:VZ)

• Visa

  (NYSE:V)

• Walmart

  (NYSE:WMT)

• Walgreens Boots Alliance

  (NASDAQ:WBA)

As of early October 2021, UnitedHealth Group (UNH) held 7.67% of the Dow—the most heavily weighted on the index. With a market capitalization of $385.44 billion, it ranks as the world’s 18th most valuable company.

How to invest in the Dow Jones

Investors cannot invest directly in the Dow, but there are ways of creating an investment portfolio that tracks it:

1. Buy individual shares of Dow Jones companies.

   For a portfolio whose performance mirrors that of the Dow Jones Industrial Average, investors could buy shares of all the 30 member companies. Investors would have to manage 30 separate stocks and change their portfolio each time the index changed, although that doesn’t happen all that often.
   

2. Buy a Dow index fund.

   Investors who prefer a little less footwork could buy shares in an index fund that tracks the performance of the index. They can’t actually buy stock in the Dow Jones Industrial Average, so buying shares in a Dow fund is the closest they’d get. The SPDR Dow Jones Industrial Average ETF, an exchange-traded fund, is one fund that tracks the Dow’s performance. Like most ETFs, this Dow Jones ETF charges an annual management fee.‍‍‍

3. Buy Dow Jones futures.

   Futures contracts are agreements to buy or sell an asset at a predetermined price in the future. Because the value of the asset will almost certainly change between the time the contract is signed and when it comes due, the time in between is where investors may find the opportunity to make profits (or suffer losses). People often hear of investors buying commodity futures, which still mean that physical products are being traded. But with market contracts like Dow Jones futures, which are specific products created for speculation, that’s not the case. Investors and traders are anticipating the direction they believe the index will move in. In general, this is a speculative practice.

The bottom line

Because the Dow Jones Industrial Average is so well established and represents some of the most stable and profitable blue-chip companies in the United States, learning about the companies included in the index is one place to start investment research.

The index has historically been a good reference point for the health of the economy, and it has changed over the past century to reflect changes in the economy. It survives because, as Charles Dow intended when he created it with only 12 stocks in 1896, the index can give investors insight into financial markets through some of its most influential stocks.