Why the Dow Revamp Skipped the 3 Largest Candidate Stocks

The Dow Jones Industrial Averagestyles itself as "a clear, straightforward view of the stock market and, by extension, the U.S. economy." The 30 components are members of an extremely elite club -- arguably the best of the best.

The market's premier index will get a serious makeover next Monday, when three stocks wave farewell due to their low share prices and are replaced by three fresh tickers. But the Dow left the three most obvious choices on the outside looking in.

What gives?

This chart will tell much of the story that's keeping Apple and Google out of the Dow. Explaining Berkshire Hathaway's exclusion will require some additional insight:

Comparing the Big BoysInfographics.

Judging by market caps alone, all three of these non-Dow stocks should have been shoo-ins for this radical makeover. They are the three largest stocks on the market, not counting current Dow members. And Apple holds the title for biggest market cap in the world, for crying out loud! Apple's $422 billion valuation puts even Dow leader ExxonMobil to shame.

But it ain't that easy, Jack. The share price data throws a bucket of ice water all over Apple's and Google's arguably well-deserved Dow ambitions.

Because the Dow index is weighted by share prices and not market caps, adding these stocks would wreak havoc on the Dow's fundamental structure. IBM's currently gargantuan 9% influence on the Dow would evaporate into almost nothing. Combined, Apple and Google would account for about 40% of the index's weight, leaving 60% of the total Dow value to be divided between the other 28 members.

Of course, Berkshire's "A" shares would turn the Dow into a close proxy for buying Berkshire alone. That stock class has never, ever split, even as investing guru Warren Buffett delivered decades of market-crushing gains. That's why the stock trades at more than $172,000 per share today.

The odd man out
But what about Berkshire's class "B" shares, then? This batch of stock certificates always traded at a serious sticker-shock discount compared to the "A" shares, and it actually split 50-for-1 in 2010. Berkshire B would sport an above-average heft on the Dow, but not outrageously so.

But then, you won't find any other dual-class stocks on the index today. In fact, I can't find any evidence that dual-class stocks have ever held a Dow seat. Please use the comments box below to correct me if I'm wrong. This seems like an unspoken but unbroken rule that will keep Berkshire -- and Google, for that matter, which will soon be a triple-class stock -- out of the Dow.

Dual-class stocks tend to give insiders an inordinate amount of say in matters of corporate governance, so you can't really fault the Dow for taking a silent stand against the practice. Once you start making exceptions for geniuses like Warren Buffett, where does the slippery slope end?

So there you have it: Two of the market's three most obvious candidates would need to split their shares something fierce before punching their ticket to the Dow, and two come with unwelcome stock structures. Google fails both of these tests.

Apple and Google built their massive market caps and share prices on a foundation of mind-blowing innovation. And now their market interests have started to overlap in a big way. The tech world has been thrown into chaos as the biggest titans invade one another's turf. At stake is the future of a trillion-dollar revolution: mobile. To find out which of these giants is set to dominate the next decade, we've created a free report called "Who Will Win the War Between the 5 Biggest Tech Stocks?" Inside, you'll find out which companies are set to dominate, and we'll give in-the-know investors an edge. To grab a copy of this report, simply click here -- it's free!

The article Why the Dow Revamp Skipped the 3 Largest Candidate Stocks originally appeared on Fool.com.

Fool contributor Anders Bylund owns shares of Google in spite of its terrible stock structure, but he holds no other position in any company mentioned. Check out Anders' bio and holdings or follow him on Twitter and Google+. The Motley Fool owns shares of Berkshire Hathaway, Google, and Apple. Motley Fool newsletter services have recommended buying shares of Apple, Berkshire Hathaway, and Google. Motley Fool newsletter services have recommended writing puts on Berkshire Hathaway. Motley Fool newsletter services have recommended creating a bull call spread position in Apple. Motley Fool newsletter services have recommended creating a synthetic long position in IBM. The Motley Fool has a disclosure policy. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. Try any of our Foolish newsletter services free for 30 days.

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