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Tess Vigeland:I mentioned earlier in the show that the Dow fell 300-plus points on inauguration day. Well, the next day it recovered a good chunk of those losses. But if you ever wondered what exactly we mean when we talk about points on the Dow or the S&P or Nasdaq, Ashley Milne-Tyte is here to help with the Marketplace Decoder.
Ashley Milne-Tyte: The term “point” reaches far into the financial past. Art Hogan is chief market analyst at Jefferies & Company.
Art Hogan: Points have been being used since the first trading started under a beechwood tree at the end of Wall Street.
In the case of individual stocks it’s simple: one point equals one dollar. But what about when traders and journalists talk about stock market indices like the Dow Jones Industrial Average or the Nasdaq.
Scott Jagow: The Dow fell below 8,000 with a 330-point drop — about 4 percent.
Working out how many points an index is worth when the market goes up and down is a bit more complicated. Charles Jones is a professor of finance at Columbia Business School.
Charles Jones: What they do is they add up all the prices of the Dow Jones stocks — just add those 30 prices together — and then they divide by a divisor.
…to get the final tally. In the old days the people who manage the indices would simply tot up those prices and then divide by the number of stocks. These days, because of stock splits and companies moving in and out of the index, they divide by a carefully calculated fraction. Art Hogan says if you think about the Dow as a big layer cake and a point as a slice…
Hogan: It would actually be a beautiful cake I think, you know, with 30 different layers, and unfortunately we’ve taken more slices out of it than we’ve put onto it in the last couple of years.
In other words, that market’s shed far more points than it’s gained lately. And because the Dow only holds 30 stocks, a sharp movement in one or two can make for some dramatic swings. Charles Jones says because of its relatively narrow spectrum of stocks, the Dow’s not the best indicator of how markets are doing.
Jones: Well, it was originally just industrials. It has broadened a little bit but it still doesn’t really include transportation companies. It’s underweighted in financials, for instance, so you don’t really get the full picture.
Jones says the S&P 500 contains, well, 500 stocks, so its layer cake would be much more colorful. And it’s a much better indicator of the market’s health. Jones says a point on the S&P is very different from a point on the Dow. When I spoke to him a few weeks ago, he said:
Jones: The S&P is at about 900 right now, the Dow Jones is at about 9,000. Nine points on the S&P is a full percent. Nine points on the Dow? Well that’s a tenth of a percent and nothing to get excited about.
What would be worth getting excited about of course would be the sight of those points heading steadily upwards.
In New York, I’m Ashley Milne-Tyte for Marketplace Money.
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