The DJIA’s 22,000 Point Mistake

The Dow Jones’s 22,000 Point Mistake
Bryan Taylor, Ph.D., Chief Economist, Global Financial Data

One of the long-term components of the Dow Jones Industrial Average has been IBM. The company was originally added to the Dow Jones Industrials on March 26, 1932 in a reshuffle involving eight stocks including Coca-Cola, Nash Motors (later American Motors) and Proctor & Gamble. On March 13, 1939, however, both IBM and Nash Motors were removed from the average and replaced by American Telephone & Telegraph and United Aircraft Corp. (now United Technologies).

AT&T was in the Dow Jones Utilities Average until June 1, 1938. Until then, the Dow committee had interpreted utilities in a broader sense to include electric, gas, and communications companies as providers of essential services. In 1938, the Dow Jones committee decided to restrict membership in the Utilities Average to power utilities.

The resulting reshuffle removed nine stocks, including AT&T, International Telephone & Telegraph, and Western Union, all of which were communications utilities rather than power utilities, from the Dow Jones Utilities Average. Since AT&T was such a huge company, it was moved over to the Dow Jones Industrial Average which required that another stock be removed to make room for AT&T. Thus, IBM was kicked out of the Dow Jones Industrial Average.

What if the Dow Jones committee had not redefined the Utilities Average to only include power utilities? What if IBM had stayed in the Dow Jones Industrial Average between March 13, 1939 when it was removed and June 29, 1979 when IBM replaced Chrysler in the Dow Jones Industrials? Obviously, the Dow Jones Industrials would be higher than it is today, but how much higher?

International Business Machines incorporated on June 16, 1911 as The Computer-Tabulating-Recording Co., a merger of The Computing Scale Company of America, The Tabulating Machine Company and The International Time Recording Company of New York. The company listed on the NYSE in November 1915, and on February 14, 1924, the company acquired International Business Machines and changed its name in a reverse acquisition.

IBM has been one of the best performers on the stock exchange in history. If you had invested $1 in IBM when it started trading OTC in August 1911, it would have grown to $40,000 today on a price basis. If you had reinvested your dividends, your $1 investment would have grown to $1,434,300. In the past 100 years, IBM has given over a million-fold return. The graph below shows the performance of IBM stock over the past 100 years.

AT&T incorporated in New York on March 3, 1885 and began trading on the NYSE in May 1900 after it had acquired American Bell Telephone Co. in March 1900. The company was forced to split up into “Ma Bell” and the “Baby Bells” by the U.S. Government on December 31, 1983. On November 18, 2005, AT&T Corp. (“Ma Bell”) was acquired by one of the Baby Bells, SBC Communications, which then changed its name to AT&T Inc. in a reverse acquisition.

AT&T has not performed as well as IBM over the past 100 years. If you had invested $1 in AT&T in May 1900, your investment would have grown to only $4.26 on a price basis, or $639 if you had reinvested all of your dividends back in the company, by the time AT&T was broken up in February 1984.

So what if the Dow Jones Committee had kept IBM in the Dow Jones Average between March 1939 and June 1979 and had never admitted AT&T, keeping it in the Utilities Average? What would the result have been? IBM closed at 187.25 on March 14, 1939 while AT&T closed at 166.125. IBM closed at 73.375 on June 29, 1979 while AT&T closed at 57.875. Price wise, the results appear to be similar.

The difference is that both stocks split, and the stocks had several rights offerings in the intervening 40 years. The cumulative effect of these stock splits and rights offerings is significant. You would have to adjust the stock price of AT&T by 7.15 to allow for the impact of stock splits and rights offerings, but you would have to adjust IBM stock by a factor of 562.48. If neither stock had split or provided rights offerings in those intervening forty years, AT&T stock would have been at 414 in June 1979, but IBM would have been at 41,272. IBM increased one hundred times more than AT&T during those intervening forty years.

The DJIA stood at 151.1 on March 14, 1939 and 841.98 on June 29, 1979. Since the DJIA is price weighted, you can remove the impact of AT&T on the DJIA by subtracting out the price of AT&T allowing for the splits, and replacing this amount with the value of IBM stock, allowing for the splits in IBM. If you do this, you would find that the DJIA would have been at 23,582 in June 1979, not 841.98. In other words, IBM would have added 22,740 points to the DJIA had it never been removed.

The DJIA is currently trading above 16,000. If you add 22,740 points to this value, you would arrive at a DJIA close to 39,000. If IBM had stayed in the DJIA, CNBC and The Wall Street Journal would be preparing for the DJIA’s approaching rendezvous with 40,000. However, since the Dow Jones Committee removed IBM from the Dow Jones Industrial Average in 1939 and kept it out for forty years, we will have to wait several more decades to reach that goal.