Your Financial Future: Behind the headlines
Headlines do not always tell all of the story.
We hear every day if the DOW and the S&P 500 were up or down. This is how many people judge the stock market, yet many people do not understand exactly what these indexes represent. Who decides what companies are included and how often do they change?
These indexes are created by private companies. They attempt to reflex the total market, but they have big differences. The companies that created them earn licensing fees from the mutual fund, ETFs, and insurance companies that use baskets of securities that try to copy the index and are then sold to investors. To earn more fees, there is an incentive to try and capitalize on stronger market trends.
Many investors are passive. This means that they do not try to pick what individual stocks will outperform the overall market. Some studies shows that index actually out performs more active stock selection. Fees are usually lower in index products because they need less research since the index is just being copied.
The S&P 500 is the broader of these two indexes. It is the 500 biggest US companies by market-cap weight. This means the total value of all stocks and bonds issued by the company. The top six companies now represent about 20% of the total value. It did not use to be that way, but Apple, Facebook, Amazon, Google, Netflix and Microsoft have had their market capitalization explode. Goldman Sachs estimates that over $300 billion of investments follow the S&P. Sometimes an S&P stock is replaced because, like Heinz, it is bought out by another company. Sometimes for companies like Macy蘑菇视频 the stock price fell too low which recently happened during the COVID-19 crash.
The DOW is only 30 stocks. It is price-weighted which uses a little different set of numbers than the S&P 500 uses for its index. The DOW is changing three of their stocks on Aug. 31. This is all happening because Apple is doing a 4-for-1 stock split. A stock spit happens when the board of directors of a company becomes concerned that their share price is becoming too high. Apple was selling for about $500 per share. A 4-for-1 split would reduce the share price to about $125 per share. Your total value would not change because of the split; you would just own four times as many shares. This makes it less expensive for investors to buy into the company.
One company that does not believe in splitting stock is Berkshire-Hathaway. Warren Buffet蘑菇视频 company Class A stock price is currently about $321,224 per share. Most people cannot afford to buy one share. They do have some B shares at the more affordable price of $213 per share.
The Apple stock split would lower the value of the DOW. It does nothing to change the value of Apple itself. They will still sell exactly the same number of cellphones and other products as they would have without the split. Their profit will be exactly the same but, DOW Jones wants to protect its interest so they are dropping three current DOW component companies and adding three new ones. EXXON Mobil is being replaced after 92 years in the index. Also being replaced is the pharmaceutical giant Pfizer and defense contractor Raytheon. The three new companies being added are cloud software company Salesforce, biotech company Amgen and manufacturer Honeywell.
While these changes do make the index look better, they change nothing in the underline economy. Next week, we will discuss how many stocks are lagging the overall indexes since the COVID-19 crash.
Your Financial Future is written by certified financial planner Gary W. Boatman, MBA and CFP, who also wrote the book, 鈥淵our Financial Compass: Safe Passage Through The Turbulent Waters of Taxes, Income Planning and Market Volatility.鈥� If there is an area that you would like to see discussed in the column, send your suggestions to gary@BoatmanWealthManagement.com.