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Tuesday, May 17, 2005
Market Recap
There was a rally today in the market that saw the NASDAQ gain 10 points and close above its 200 SMA and also above the psychological 2000 level. This is very good news for the technology bulls. The DOW closed up 79 points and the S&P gained 8 points As we had mentioned, the NASDAQ was looking very good and was becoming the market leader lately and today it took firm control of that leadership role with a very good close. This is the index that we want leading the market. The overall market does very well when the NASDAQ is the leader. It now sits on the poll position ready to run, just waiting for someone to wave the green flag. That green flag could come tomorrow with the CPI number before the bell. We also had a little tease tonight with AMAT beating the street estimate with their earnings report. This all seems good but that is just when you may get smacked back into reality. Before we get all excited about this close, we have to remember that the volume on this rally has been light. Although I like the fact that the NASDAQ closed above its 200 SMA and the 2000 level, we cannot ignore the light volume rallies that we have been having lately. The S&P is right near its 50 SMA at 1173. This is a resistance area but if it can break above it, and if the NASDAQ can follow through on its gains tomorrow, then this could be the start of a bull stampede on Wall Street.
Calculating the Dow Jones Industrial Average
The Dow moved 79 points today but what do these points represent? We had a request to do a commentary on how the Dow is calculated so we will cover this topic tonight.
The Dow is a "price-weighted" index. It was originally computed by hand more than 100 years ago, by adding up the share price of each companies stock at the end of each day and dividing by the number of companies in the Dow. That is why it was called the Dow Jones Industrial “Average”. Over the years, stock splits, mergers, spin-offs and other events resulted in changes in the divisor, so now the divisor is a very small number (less than 0.2).
History of the DJIA
Dow Jones & Co. was founded in 1882 by Charles Dow and Edward Jones. The first averages did not even include any industrial stocks. The focus was on the growth stocks of the time, mainly transportation companies. The first Dow Jones Index included nine railroad stocks, a steamship line and a communications company. This average eventually evolved into the Transportation Index. In 1896, the Dow split transportation and industrials into two different averages, creating what we know now as the Dow Jones Industrial Average. To calculate the first average, Charles Dow added up the stock prices and divided by eleven, the number of stocks included in the original index.
Today, the DJIA is a benchmark that tracks American stocks that are considered to be the leaders of the economy. The DJIA is made up of 30 large cap companies, which are subjectively picked by the editors of the Wall Street Journal. Over the years, there have been many changes to ensure that the index stays current in its measure of the economy. The only company left in the Dow today from the original Dow is GE.
Calculating the DJIA today is not as simple as adding up the stocks and dividing by 30. For example, if a company trading at $100 implemented a 2-for-1 split, the number of its shares doubles, and the price of each share becomes $50. This change in price would down the average, even though there is no fundamental change in the stock. To absorb these effects of price changes from splits, the DJIA has a divisor that is adjusted and then used when calculating the average.
The Dow Divisor
To calculate the DJIA, the current prices of the 30 stocks that make up the index are added and then divided by the Dow divisor, which is constantly modified.
For example, let's say for simplicity, The Dow is composed of 10 stocks, which total $1,000 when their stock prices are added together. The Dow quote is therefore 100.00 ($1,000/10). The divisor is 10.
Now, let's say that one of the stocks in the Dow average trades at $100 but has a 2-for-1 split. Its price then reduces to $50. If the divisor remained unchanged, the calculation for the average would give us 95.00 ($950/10). This would not be accurate because the stock split merely changed the price, not the value of the company. To compensate for the effects of the split, we have to adjust the divisor downward to 9.5. This way, the index remains at 100.00 ($950/9.5) and more accurately reflects the value of the stocks in the average.
How does a price move in one stock effect the Dow?
To figure out how a change in any particular stock affects the amount the index changes, up or down, divide the stock's price change by the current divisor. For example, if GE was up $2.00 today and the divisor is .2 (the divisor is less then .2 right now but for simplicity I will round it off) we divide 2 by 0.2 and come up with 10.00. In this case, GE is responsible for 10 of the 79 Dow points today.
Price Weighted
The Dow's methodology of calculation is known as the price-weighted method. The downside to this method is that it does not reflect the fact that a $1.00 change in a $10 stock is a much more significant percentage change than a $1.00 change for a $100 stock. Most all other major indexes such as the S&P 500 and NASDAQ are market cap weighted and, in my opinion, is much better.
”My Notes”
We would like to introduce a new feature on the website, “My Notes”. This link is located in the top right corner. It is an area where you can store notes for yourself in an organized manner. Just click on this link and a note pad will come up, allowing you to save any trading notes you may have. I use this feature myself and it is quite handy. A big thanks to Mike Tojo, our webmaster for creating this tool.
STHQ Chart Index
If you go to the chart index in the left side menu, you can review and study charts that we have annotated for each stock listed in the past.
For New Members
For all of the new members with us, please make sure to read the link “How to use Bulletin” at the bottom of the Bulletin page on the website. It is critical that you know how to use this trading tool before trying to trade the stocks mentioned. The effectiveness of your trades will diminish if you do not completely understand how the information is presented.
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Earnings Calendar
We have added the earnings link for each stock on the bulletin. To access the link for earnings, you can either use the link below or click the link on the bulletin for the corresponding ticker. Click the online bulletin in the left side menu for access to the earning calendar for each stock listed. It is not recommended to hold a position through earnings. You can always buy the stock back after the dust settles.
http://www.earnings.com
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