The Dow Jumps the Gun


On this day in economic and business history ...

Exactly 36 years after it was created, the Dow Jones Industrial Average made a number of great changes -- or changes that would have been great, if the Dow's overseers had stuck to their guns. On May 26, 1932, seven new stocks joined the Dow. Only one has remained part of the index ever since: Procter & Gamble . Two others -- Coca-Cola and IBM -- were removed far too soon.

Procter & Gamble had an eventful 1932 after joining the Dow. Its soap-making plants shifted to a five-day workweek, founding scion James Norris Gamble passed away at the ripe old age of 95, and it won an award for workplace safety in New York. However, the lowest ebb of the early Great Depression eviscerated P&G's profits, which shrank to a mere $9.1 million in fiscal 1932 from $22.7 million the year before. The company ably recovered from these doldrums, and over the following eight decades its bottom line swelled to $10.76 billion, representing an annualized net income growth rate of 9.3%. The Dow, by comparison, grew at 7.2% per year from the day of P&G's initiation to its 80-year anniversary.

Coke was coming off the first year of its wildly successful Santa Claus ad campaign in 1932, and despite the recession, shareholders had enjoyed gains of roughly 1,000% since the company's IPO in 1919. Coke was gone from the Dow by 1935 and wouldn't rejoin until 1987. This meant that the Dow missed out on a truly remarkable run of returns -- had Coke remained with the index for the same uninterrupted 80-year period as P&G, it would have contributed a seven-digit (2,100,000%) total return to the Dow's growth.

But Coke's stock, which has often split on reaching a triple-digit share price, might have had, at best, a similarly outsized impact as a consistently triple-digit IBM stock on the price-weighted Dow. IBM was removed from the Dow in 1939 and wasn't readded until 1979, which meant that the index missed out on the company's incredible (and incredibly profitable) technological progress from analog tabulators to digital mainframes. Even in 1939, IBM's future seemed bright enough to justify continued placement, as it was then responsible for providing calculating machines for the recently formed Social Security Administration.

Between the 1950s and 1979, IBM introduced early forms of many computer hardware and software elements we now take for granted. Had IBM never left the Dow, its persistently high stock price and 22,000% return during its absence would have built a Dow worth roughly twice its 1979 value of 840 points. The same can't be said of IBM's performance after 1979 -- its 900% total return over the two decades that followed actually underperformed the index by roughly 200%.

In some ways, the Dow truly is relevant to the average American investor. Both understand that the key to long-term growth is to find great businesses dominating their industries, but both parties have a tendency (in many cases) to pull the trigger too soon on a sale, or to jump on board a hot stock too close to a peak. And for many smaller-sized portfolios, 30 stocks is a perfectly reasonable number -- enough to be diversified, but not so many as to lose track of everything.

A bloodsucker in more ways than one
Bram Stoker's Dracula was published for the first time on May 26, 1897. Arriving exactly a year after the first publication of Charles Dow's industrial index, the tale of a charming vampire from Transylvania had a similar effect on pop culture as Dow's index had on stock market culture. While it wasn't an immediate best-seller, the novel's influence on early filmmaking led to an explosion of interest in vampire stories that continues to this day, to the chagrin of many husbands and boyfriends. Stoker's creation, and the worldwide pop-culture craze it spawned, has added an estimated $10 billion to the economy, according to one "very conservative" estimate by 24/7 Wall Street's Jon C. Ogg.

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Fool contributor Alex Planes holds no financial position in any company mentioned here. Add him on Google+ or follow him on Twitter, @TMFBiggles, for more insight into markets, history, and technology.The Motley Fool recommends Coca-Cola and Procter & Gamble and owns shares of IBM. Try any of our Foolish newsletter services free for 30 days. We Fools don't all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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Originally published